As a homeowner begins research into the lending and foreclosure crisis, there will be many unfamiliar terms, names and companies that come to their attention. Chief among these will be MERS.
MERS is the acronym for Mortgage Electronic Registration Systems. It is a national electronic registration and tracking system that tracks the beneficial ownership interests and servicing rights in mortgage loans. The MERS website says:
“MERS is an innovative process that simplifies the way mortgage ownership and servicing rights are originated, sold and tracked. Created by the real estate finance industry, MERS eliminates the need to prepare and record assignments when trading residential and commercial mortgage loans. “
In simple language, MERS is an on-line computer software program for tracking ownership.
MERS was conceived in the early 1990’s by numerous lenders and other entities. Chief among the entities were Bank of America, , Fannie Mae, Freddie Mac, and a host of other such entities. The stated purpose was that the creation of MERS would lead to “consumers paying less” for mortgage loans. Obviously, that did not happen.
This article will attempt to explain MERS in very general detail. It will cover a few issues related to MERS and foreclosure, in order to introduce the reader to the issue of MERS. It is not meant to be a complete discussion of MERS, nor of the legal complexities regarding the arguments for and against MERS. For a more in depth reading of MERS and findings coming out of courts, it is recommended that the reader look at Hawkins, Case No. BK-S-07-13593-LBR (Bankr. Nev. 3/31/2009) (Bankr. Nev., 2009) . It gives a good reading of the issues related to MERS, at least for that particular case. Though in Nevada, it is relevant for California.
(Please note. I am not an attorney and am not giving legal advice. I am just reporting arguments being made against MERS, and also certain case law and applicable statutes in California.
The MERS Process
Traditionally, when a loan was executed, the beneficiary of the loan on the Deed of Trust was the lender. Once the loan was funded, the Deed of Trust and the Note would be recorded with the local County Recorder’s office. The recording of the Deed and the Note created a Public Record of the transaction. All future Assignments of the Note and Deed of Trust were expected to be recorded as ownership changes occurred. The recording of the Assignments created a “Perfected Chain of Title” of ownership of the Note and the Deed of Trust. This allowed interested or affected parties to be able to view the lien holders and if necessary, be able to contact the parties. The recording of the document also set the “priority” of the lien. The priority of the lien would be dependent upon the date that the recording took place. For example, a lien recorded on Jan 1, 2007 for $20,000 would be the first mortgage, and a lien recorded on Jan 2, 2007, for $1,500,000 would be a second mortgage, even though it was a higher amount.
Recordings of the document also determined who had the “beneficial interest” in the Note. An interested party simple looked at the Assignments, and knew who held the Note and who was the legal party of beneficial interest.
(For traditional lending prior to Securitization, the original Deed recording was usually the only recorded document in the Chain of Title. That is because banks kept the loans, and did not sell the loan, hence, only the original recording being present in the banks name.
The advent of Securitization, especially through “Private Investors” and not Fannie Mae or Freddie Mac, involved an entirely new process in mortgage lending. With Securitization, the Notes and Deeds were sold once, twice, three times or more. Using the traditional model would involve recording new Assignments of the Deed and Note as each transfer of the Note or Deed of Trust occurred. Obviously, this required time and money for each recording.
(The selling or transferring of the Note is not to be confused with the selling of Servicing Rights, which is simply the right to collect payments on the Note, and keep a small portion of the payment for Servicing Fees. Usually, when a homeowner states that their loan was sold, they are referring to Servicing Rights.)
The creation of MERS changed the process. Instead of the lender being the Beneficiary on the Deed of Trust, MERS was now named as either the “Beneficiary” or the “Nominee for the Beneficiary” on the Deed of Trust. This meant that MERS was simply acting as an Agent for the true beneficiary. The concept was that with MERS assuming this role, there would be no need for Assignments of the Deed of Trust, since MERS would be given the “power of sale” through the Deed of Trust.
Black’s Law Dictionary defines a nominee as “[a] person designated to act in place of another, usually in a very limited way” and as “[a] party who holds bare legal title for the benefit of others or who receives and distributes funds for the benefit of others.” Black’s Law Dictionary 1076 (8th ed. 2004). This definition suggests that a nominee possesses few or no legally enforceable rights beyond those of a principal whom the nominee serves……..The legal status of a nominee, then, depends on the context of the relationship of the nominee to its principal. Various courts have interpreted the relationship of MERS and the lender as an agency relationship.
The naming of MERS as the Beneficiary meant that certain other procedures had to change. This was a result of the Note actually being made out to the lender, and not to MERS. Before explaining this change, it would be wise to explain the Securitization process.
Securitizing a Loan
Securitizing a loan is the process of selling a loan to Wall Street and private investors. It is a method with many issues to be considered, especially tax issues, which is beyond the purview of this article. The methodology of securitizing a loan generally followed these steps:
· A Wall Street firm would approach other entities about issuing a “Series of Bonds” for sell to investors and would come to an agreement. In other words, the Wall Street firm “pre-sold” the bonds.
· The Wall Street firm would approach a lender and usually offer them a Warehouse Line of Credit. The Warehouse Credit Line would be used to fund the loans. The Warehouse Line would be covered by restrictions resulting from the initial Pooling & Servicing Agreement Guidelines and the Mortgage Loan Purchase Agreement. These documents outlined the procedures for creation of the loans and the administering of the loans prior to, and after, the sale of the loans to Wall Street.
· The Lender, with the guidelines, essentially went out and found “buyers” for the loans, people who fit the general characteristics of the Purchase Agreement,. (Guidelines were very general and most people could qualify.” The Lender would execute the loan and fund it, collecting payments until there were enough loans funded to sell to the Wall Street firm who could then issue the bonds.
· Once the necessary loans were funded, the lender would then sell the loans to the “Sponsor”, usually either a subsidiary of the Wall Street firm, of a specially created Corporation of the lender. At this point, the loans are separated into “tranches” of loans, where they will be eventually turned into bonds.
Next, the loans were “sold” to the “Depositor”. This was a “Special Purpose Vehicle” designed with one purpose in mind. That was to create a “bankruptcy remote vehicle” where the lender or other entities are protected from what might happen to the loans, and/or the loans are “protected” from the lender. The “Depositor” would have once again been created by the Wall Street firm or the Lender.
Then, the “Depositor” places the loans into the Issuing Entity, which is another created entity solely used for the purpose of selling the bonds.
Finally, the bonds would be sold, with a Trustee appointed to ensure that the bondholders received their monthly payments.
As can be seen, each Securitized Loan has had the ownership of the Note transferred two to three times at a minimum, but, no Assignments of Beneficiary are executed under most circumstances. If such an Assignment occurs, it will usually occur after a Notice of Default was filed.
(Note: This is a VERY simplified version of the process, but it gives the general idea. Depending upon the lender, it could change to some degree, especially if Fannie Mae bought the loans. The purpose of such a convoluted process was so that the entities selling the bonds could become a “bankruptcy remote” vehicle, protecting lenders and Wall Street from harm, and also creating a “Tax Favorable” investment entity known as an REIMC. An explanation of this process would be cumbersome at this time.)
As mentioned previously, Securitization and MERS required many changes in established practices. These practices were not and have not been codified, so they are major points of contention today. I will only cover a few important issues which are now being fought out in the courts.
One of the first issues to be addressed was how MERS might foreclose on a property. This was “solved” through an “unusual” practice.
· MERS has only 44 employees. They are all “overhead”, administrative or legal personnel. How could they handle the load of foreclosures, Assignments, etc to be expected of a company with their duties and obligations?
When a lender, title company, foreclosure company or other firm signed up to become a member of MERS, one or more of their people were designated as “Corporate Officers” of MERS and given the title of either Assistant Secretary or Vice President. These personnel were not employed by MERS, nor received income from MERS. They were named “Certify Officers” solely for the purpose of signing foreclosure and other legal documents in the name of MERS. (Apparently, there are some agreements which “authorize” these people to act in an Agency manner for MERS.)
This “solved” the issue of not having enough personnel to conduct necessary actions. It would be the Servicers, Trustees and Title Companies conducting the day-to-day operations needed for MERS to function.
As well, it was thought that this would provide MERS and their “Corporate Officers” with the “legal standing” to foreclose.
However, this brought up another issue that now needed addressing:
* When a Note is transferred, it must be endorsed and signed, in the manner of a person signing his paycheck over to another party. Customary procedure was to endorse it as “Pay to the Order of” and the name of the party taking the Note and then signed by the endorsing party. With a new party holding the Note, there would now need to be an Assignment of the Deed. This could not work if MERS was to be the foreclosing party.
Once a name is placed into the endorsement of the Note, then that person has the beneficial interest in the Note. Any attempt by MERS to foreclose in the MERS name would result in a challenge to the foreclosure since the Note was owned by “ABC” and MERS was the “Beneficiary”. MERS would not have the legal standing to foreclose, since only the “person of interest” would have such authority. So, it was decided that the Note would be endorsed “in blank”, which effectively made the Note a “Bearer Bond”, and anyone holding the Note would have the “legal standing” to enforce the Note under Uniform Commercial Code. This would also suggest to the lenders that Assignments would not be necessary.
MERS has recognized the Note Endorsement problem and on their website, stated that they could be the foreclosing party only if the Note was endorsed in blank. If it was endorsed to another party, then that party would be the foreclosing party.
As a result, most Notes are endorsed in blank, which purportedly allows MERS to be the foreclosing party. However, CA Civil Code 2932.5 has a completely different say in the matter. It requires that the Assignment of the Deed to the Beneficial Interest Holder of the Note.
CA Civil Code 2932.5 – Assignment
Where a power to sell real property is given to a mortgagee, or other encumbrancer, in an instrument intended to secure the payment of money, the power is part of the security and vests in any person who by assignment becomes entitled to payment of the money secured by the instrument. The power of sale may be exercised by the assignee if the assignment is duly acknowledged and recorded.
As is readily apparent, the above statute would suggest that Assignment of the Deed to the Note Holder is a requirement for enforcing foreclosure.
The question now becomes as to whether a Note Endorsed in Blank and transferred to different entities as indicated previously does allow for foreclosure. If MERS is the foreclosing authority but has no entitlement to payment of the money, how could they foreclose? This is especially important if the true beneficiary is not known. Why do I raise the question of who the true beneficiary is? Again, from the MERS website……..
* “On MERS loans, MERS will show as the beneficiary of record. Foreclosures should be commenced in the name of MERS. To effectuate this process, MERS has allowed each servicer to choose a select number of its own employees to act as officers for MERS. Through this process, appropriate documents may be executed at the servicer’s site on behalf of MERS by the same servicing employee that signs foreclosure documents for non-MERS loans.
Until the time of sale, the foreclosure is handled in same manner as non-MERS foreclosures. At the time of sale, if the property reverts, the Trustee’s Deed Upon Sale will follow a different procedure. Since MERS acts as nominee for the true beneficiary, it is important that the Trustee’s Deed Upon Sale be made in the name of the true beneficiary and not MERS. Your title company or MERS officer can easily determine the true beneficiary. Title companies have indicated that they will insure subsequent title when these procedures are followed.”
There, you have it. Direct from the MERS website. They admit that they name people to sign documents in the name of MERS. Often, these are Title Company employees or others that have no knowledge of the actual loan and whether it is in default or not.
Even worse, MERS admits that they are not the true beneficiary of the loan. In fact, it is likely that MERS has no knowledge of the true beneficiary of the loan for whom they are representing in an “Agency” relationship. They admit to this when they say “Your title company or MERS officer can easily determine the true beneficiary.
To further reinforce that MERS is not the true beneficiary of the loan, one need only look at the following Nevada Bankruptcy case, Hawkins, Case No. BK-S-07-13593-LBR (Bankr.Nev. 3/31/2009) (Bankr.Nev., 2009) – ”A “beneficiary” is defined as “one designated to benefit from an appointment, disposition, or assignment . . . or to receive something as a result of a legal arrangement or instrument.” BLACK’S LAW DICTIONARY 165 (8th ed. 2004). But it is obvious from the MERS’ “Terms and Conditions” that MERS is not a beneficiary as it has no rights whatsoever to any payments, to any servicing rights, or to any of the properties secured by the loans. To reverse an old adage, if it doesn’t walk like a duck, talk like a duck, and quack like a duck, then it’s not a duck.”
If one accepts the above ruling, which MERS does not agree with, MERS would not have the ability to foreclose on a property for lack of being a true Beneficiary. This leads us back to the MERS as “Nominee for the Beneficiary” and foreclosing as Agent for the Beneficiary. There may be pitfalls with this argument.
When the initial Deed of Trust is made out in the name of MERS as Nominee for the Beneficiary and the Note is made to ABC Lender, there should be no issues with MERS acting as an Agent for ABC Lender. Hawkins even recognizes this as fact.
The issue does arise when the Note transfers possession. Though the Deed of Trust states “beneficiary and/or successors”, the question can arise as to who the successor is, and whether Agency is any longer in effect. MERS makes the argument that the successor Beneficiary is a MERS member and therefore Agency is still effective. But does this argument hold up under scrutiny?
The original Note Holder, AB Lender, no longer holds the note, nor is entitled to payment.
Furthermore, the Note is endorsed in blank, and no Assignment of the Deed has been made to any other entity, so who is the true beneficiary and Note Holder?
It is now the contention of many that the Agency/Nominee relationship has been completely terminated between MERS and the original lender, so MERS has no authority to foreclose, or even to Assign the Deed.
In Vargas, 396 B.R. 511, 517 (Bankr. C.D. Cal. 2008) (”[I]f FHM has transferred the note, MERS is no longer an authorized agent of the holder unless it has a separate agency contract with the new undisclosed principal. MERS presents no evidence as to who owns the note, or of any authorization to act on behalf of the present owner.”);
Saxon Mortgage Services, Inc. v. Hillery, 2008 WL 5170180 (N.D. Cal. 2008) (unpublished opinion) (”[F]or there to be a valid assignment, there must be more than just assignment of the deed alone; the note must also be assigned. . . . MERS purportedly assigned both the deed of trust and the promissory note. . . . However, there is no evidence of record that establishes that MERS either held the promissory note or was given the authority . . . to assign the note.”).
Separation of the Note and the Deed
In the case of MERS, the Note and the Deed of Trust are held by separate entities. This can pose a unique problem dependent upon the court. There are many court rulings based upon the following:
“The Deed of Trust is a mere incident of the debt it secures and an assignment of the debt carries with it the security instrument. Therefore, a Deed Of Trust is inseparable from the debt and always abides with the debt. It has no market or ascertainable value apart from the obligation it secures.
A Deed of Trust has no assignable quality independent of the debt, it may not be assigned or transferred apart from the debt, and an attempt to assign the Deed Of Trust without a transfer of the debt is without effect. “
This very “simple” statement poses major issues. To easily understand, if the Deed of Trust and the Note are not together with the same entity, then there can be no enforcement of the Note. The Deed of Trust enforces the Note. It provides the capability for the lender to foreclose on a property. If the Deed is separate from the Note, then enforcement, i.e. foreclosure cannot occur.
MERS, actually the servicer, will Assign the Deed to the Note Holder, almost always after the Notice of Default has been filed. This will be an attempt to reunite the Deed and Note. But, as noted previously, MERS would likely no longer have the ability to Assign the Deed, since the Agency/Nominee status has been terminated. This could pose major issues, especially if the original lender is no longer in business.
When viewing a MERS loan, the examiner or attorney must pay careful attention to the following issues.
* The recorded history of the Deed to determine not just the current Deed Holder, but also who the Note Holder is. Are they one and the same, or are they separated, leading to an inability to foreclose unless reunited.
* When the Notice of Default was filed, were the Note and Deed separated, which would suggest that the Notice of Default was potentially unlawful.
* Did MERS have the authority to Foreclose, or even to make Assignments? There are a number of court cases suggesting otherwise.
* Who is signing for MERS? Is it a person with the Title Company, Trustee, or Servicer?
* Does the signer have legitimate authority to sign? Is the person holding factual knowledge of the homeowner being in default?
The entire subject of MERS is fraught with controversy and questions. Certainly, at the very least, MERS actions pose legal issues that are still being addressed each and every day. As to where these actions will ultimate lead, it is anybody’s guess. With some courts, the court sides with the lender, and others side with the homeowner. However, there does appear to be a trend developing that suggests, at least in Bankruptcy Courts, MERS is losing support.
I would like to point out that there is significant case law developing in other states regarding MERS. However, these are actions in other jurisdictions that do not necessarily apply in California. As a matter of fact, these arguments are generally not being accepted by most judges.
Currently, the state of California litigation is confused to say the least. Most judges are accepting the the California Foreclosure Statutes, Civil Code 2924, is all encompassing with regards to foreclosures. But 2924 only covers the procedural process. It does not take into account other relevant statutes related to Assignments of Beneficiary and Substitution of Trustee. Until such concerns are addressed and there is effective case law to cite, there will continue to be issues.