I've been debating myself for a week about how and when to write my first diary on DK4. Should I write about the revolutionary wave overtaking North Africa and, now, Wisconsin? Should I write about the shame and disgrace of cuts to the LIHEAP program being proposed by the Administration for FY2012 (which have been characterized, incredibly, as "misunderstood", indicating a complete lack of knowledge about the history of LIHEAP or the Administration's prior proposals on it). Or should I instead write something quasi-meta, discussing the increasing clarity with which I perceive that the mine canary is dead and the camel's nose is firmly under the tent when it comes to what may be the last chance in our lifetime to defend any semblance of the American dream for regular working people in this country and pointing out the singular ineffectiveness of screaming at each other and calling each other names on blogs when people are out there suffering day to day and we have at least some of the means at our disposal to do something about it on the ground where it really matters?
Unfortunately, on Friday afternoon a California appeals court issued a decision that helped make my decision about my first diary at DK4. I decided to write this diary as a cautionary tale because of how often diaries misunderstanding the legal issues involved in the securitisation crisis embodied by the use of MERS by lenders, and what any particular legal decision means, or doesn't mean, get published here at DailyKOS. In particular, I am posting it because it is an example of what can happen when folks assert in court things that they read in the paper or blogs without really understanding them (such as the 1999 MERS memo that there have been many diaries written about, or the legal impact - or lack thereof outside the state of issuance - of any particular decision that is homeowner-favorable where there is even so much as a mention of MERS.)
On Friday, right before the start of the holiday weekend, the Appeals Court for the 4th Appellate District of California issued its ruling in a very closely-watched case, Gomes v. Countrywide Home Loans, Inc. et al. The case arose out of San Diego, brought by a homeowner against (a) what the court called his mortgage servicer, Countrywide Home Loans; (b) the foreclosing trustee company, ReconTrust; (c) his original lender, KB Home Mortgage and (d) MERS following issuance of a notice of default. This was the first California state court (as opposed to federal court) case fully briefed and argued which directly challenged MERS' standing to foreclose upon a California residence.
In Gomes the loan at issue was originated in 2004 by KB Home Mortgage, the lending arm of a well-known home construction company. This is a critical fact - we were dealing in Gomes with what is called a "purchase money" mortgage. This is the type of mortgage that is the most favorable to borrowers here in California. A lender in California holding only purchase money "paper" is sharply limited in its ability to collect the full value of a mortgage on an underwater/upside down property by the intertwining of three different legal rules: the "one action" rule, which allows a person trying to collect a debt to elect which legal remedy for a legal claim they wish to pursue; the "security first" rule, which requires a secured real estate lender to first pursue recovering his debt from the security, aka the home, itself, before seeking any other remedy; and the "anti-deficiency" rule, which provides that as it relates to a purchase money loan, once the security is sold pursuant to the security first rule, a lender cannot seek to recover any balance owing from the homeowner.
In a state like California, where it is estimated that almost 1/3 of all residential property in this state is underwater, that protection against deficiency is a big deal.
As part of buying his new home, Mr. Gomes apparently signed, in favor of KB, both a promissory note for his $330K mortgage and a deed of trust containing the power to sell the property at auction if the mortgage went into default. The deed of trust, however, named MERS as KB's nominee and provided that
"Borrower [i.e., Gomes] understands and agrees that MERS holds only legal title to the interests granted by Borrower in this Security Instrument, but, if necessary to comply with law or custom, MERS (as nominee for Lender and Lender's successors and assigns) has the right: to exercise any or all of those interests, including, but not limited to, the right to foreclose and sell the Property . . . ."
Afterward, Mr. Gomes' mortgage/promissory note was placed, just so many others, into an investment trust and became part of one or more pools of mortgages underlying a mortgage backed investment vehicle. It appears that the note, as appears to be the case throughout the country, was eventually sold to another lender, Countrywide. As is also customary for MERS transactions, no formal assignment of the deed of trust to Countrywide or anyone else from KB accompanied that sale. Certainly, none was recorded, as the appellate court notes in its decision.
5 years after he bought his home, Mr. Gomes defaulted on his mortgage. A Notice of Default (the first step in the foreclosure process here in California was recorded and served by ReconTrust. That notice contended that ReconTrust was pursuing remedies on behalf of MERS. In defense, Mr. Gomes filed an affirmative lawsuit against his lender KB, the lender's likely successor (but identified as only a "servicer") Countrywide, the trustee ReconTrust, and MERS, contending (on information and belief, legal shorthand for "I have reason to think because I heard, but don't have any direct information right now") that the KB loan had been resold into the secondary market, that MERS had no beneficial interest in the note and could not prove that the legal owner of the note had otherwise authorized it to proceed with foreclosure.
(There were other legal causes of action asserted that are not relevant to this diary but all flowing from this central defense.)
In other words, Mr. Gomes asserted the "show me the note" defense that has been at the center of the news for well over 18 months now. Specifically, he claimed that the process of naming MERS as a nominee of the original lender so that the mortgage (evinced in California by a promissory note) could be sliced and diced into mortgage-backed securities funds had likely left it orphaned from the security instrument (in California, a "deed of trust") that granted the right to foreclosure, such that the foreclosing entity (MERS) could not prove that it had the right to proceed.
The defendants responded by filing a demurrer -- the California state equivalent to the federal motion to dismiss for failure to state a legal claim. Their motion was based on three primary arguments. First, they contended that the non-judicial foreclosure process did not require proof of the beneficial owner's having granted permission to to the foreclosing entity MERS. Second, they contended that even if it did, that requirement was met by MERS, which had been expressly delegated authority to act under the deed of trust. Third, they contended that to the extent that Gomes was demanding that MERS Countrywide, ReconTrust or KB produce the original, signed note prior to foreclosure, that defense had been uniformly rejected in California (aka a copy is just fine.)
(The additional defense, that Mr. Gomes had not tendered - aka paid or offered to pay - the amount due under the mortgage and therefore lacked standing to challenge the foreclosure until he did, won't be discussed here. It is not clear that most states currently have this requirement - although there have been federal proposals to impose such a requirement following the emergence of the "MERS crisis.")
The trial court granted the demurrers, denying Mr. Gomes his right to defend against the foreclosure court because they said that he had not stated a valid legal claim in his complaint. The trial court also granted the demurrers without "leave to amend." Without belaboring the point, suffice it to say that the law favors trials on the merits - at least on paper - so when a complaint is deemed legally insufficient following a demurrer/motion to dismiss, the plaintiff usually gets at least one chance to fix the problem by amending the complaint.
Because denial of leave to amend resulted in the homeowner's complaint being dismissed, Mr. Gomes immediately appealed this result.
On Friday, he lost. Definitively.
The appeals court held that the show the note defense -- i.e. MERS has no standing to proceed -- has no viability in California as it relates to the use of non-judicial foreclosure (aka trustee's sale), the vehicle through which more than 90% of residential foreclosures are accomplished here and which previously accounted for 99% of all residential foreclosure proceedings (see below for why that figure has gone down recently.) It held that in this state, because any agent of the lender can proceed to trustee's sale, MERS standing was valid whether or not there had been a proper assignment of the note within the meaning of California real estate transfer law.
But, more ominously, the court also held that if all someone challenging a foreclosure has is the belief that their loan might not have been transferred properly as part of the securitization process, that homeowner has nothing at all and cannot come into court to challenge the sale of their residence. Effectively, this decision sharply reduces the ability of California homeowners, who normally don't have access to the internal files of their lenders, to get the foothold they need to actually prove they are right -- the foothold called "discovery." This part of the ruling not only affects non-judicial foreclosure, it is likely to bleed over into judicial foreclosures as well.
So, what happens next? Well, given the high-profile of this particular issue (loss of lender standing by virtue of using MERS as a nominee of the original lender) nationwide, it is almost certain that Mr. Gomes will appeal to the California Supreme Court for a definitive ruling. Our Supreme Court has a decent chance of granting the petition for review. But that is not certain: Right now, there is no "split" between the appellate districts to resolve. The California Supreme Court, like the US Supreme Court, often allows the lower appellate courts to flesh out disputes before taking things on.
This means that at least for now, the show the note defense is now likely dead here in California.
There are two (tiny) silver linings in Gomes although they may not be apparent to a non-California lawyer. First: In California, starting about 2 years ago many lenders were foregoing non-judicial foreclosure (i.e. trustee's sale on the courthouse steps) in favor of their other option, a judicial foreclosure. Judicial foreclosure is when a lender sues the borrower in court to get the right to foreclose instead of selling the house at auction straight away through a trustee. As is the case with any lawsuit, pursuing judicial foreclosure is an expensive process that takes a very long time. So, why were lenders doing this, when non-judicial foreclosure is quick, easy and (comparatively) cheap for a lender? It is because with judicial foreclosure, a lender does not have to write off anything that is owed by the borrower in most cases in this state so long as the mortgage being foreclosed is not a purchase money mortgage. (That covers the overwhelming majority of mortgages in California.) Judicial foreclosure sale gets around those otherwise quite stringent limitations on a lender's ability to recover any losses they take, for the majority of loans.
That is why I almost cried when I saw about 10 months ago for the first time pro bono clinic intake client that was facing a collection demand from a collection agency for $310,000: it was the difference between the mortgage balance on his foreclosed home and what the lender ultimately sold it for (plus costs.) The lender had proceeded in judicial foreclosure, won, and then turned the balance over to a collection agency. It is believed that no small number of Californians do NOT have purchase money mortgages on their homes because they have been refinanced at least once -- even for something as innocuous as lowering the original interest rate (with no cash out, so no bleating about using homes as an ATM please) back when it was financially the right thing to do for folks who bought a home at much higher interest loans than existed at the peak of the bubble.
So the first (tiny) silver lining is this: Gomes may encourage California lenders to reverse the trend of resorting to the judicial foreclosure process as a way of keeping with the downtrodden homeowner 100% liability for an inflated mortgage debt (And no, I don't blame homeowners completely for this, for reasons I've discussed in comments to many a diary), with the lender having suffered nothing despite having written risky paper just to get another mortgage to securitize. There is no longer any question that the entire scheme which undermined the US economy through mortgage paper has been sanctioned by at least one precedential court here in California for the non-judicial foreclosure process and lenders do not have to fear loss of rights because of it. Since, too often, as goes California so goes the nation, this may stem the tide of lenders electing judicial foreclosure, and the evil of deficiency judgments against homeowners, that goes with it in the 24 (23?) states which use non-judicial foreclosure proceedings as their primary vehicle.
The second (tiny) silver lining is that Gomes is not binding upon any other California appellate district. As we all know from many legal diaries, equal courts cannot bind each other. There may be a different California appellate district, such as the 1st or 6th here in Northern California, for example, that concludes differently than the 4th out of San Diego. One can only dream.
But despite these (tiny) silver linings, the unfortunate reality is that Gomes will go into the books and create some real complications for other Californians.
First, only the federal courts had taken a position on MERS's standing and the failed transfer/"endorsement in blank" situation here in California. Thus, federal bankruptcy courts were free to interpret the law for themselves, and effectively force lenders into a corner to resolve how a defaulted mortgage would be handled. Many did on terms that were much more favorable to the homeowner than otherwise, given the other bankruptcy courts that were sticking a fork in lenders through tying them in knots over MERS. Now, however, a California appeals court has ruled that in this state, at least as it relates to non-judicial foreclosure, MERS has a right to proceed, and therefore any nominee or agent' has a right to proceed, under our law, without regard to the formalities of real estate title and secured lending transfers. That court's word will almost certainly inform how both state and federal courts dealing with California property should handle borrower challenges to foreclosure (since real estate law is STATE substantive law and federal courts are required to follow it if it is precedential if dealing with California.)
Second, while the Gomes case addresses strictly only non-judicial foreclosure, and thus is distinguishable, the unfortunate reality is that Gomes is likely to be cited by lenders in judicial foreclosure actions going forward as well, as persuasive authority. This matters because to proceed in judicial foreclosure a lender must affirmatively prove standing - that was the rule here in California before Gomes same as the majority of states that don't have non-judicial foreclosure processes at all. This decision undermines what previously was very real legal uncertainty about MERS and the right of a successor lender who had not recorded an actual assignment of the mortgage in the public records to foreclose in this state. And, to me more importantly, it eliminates the ability for a homeowner to affirmatively sue in the hopes of being able to prove that his or her lender really hasn't properly transferred their note through the discovery process.
Finally, I wouldn't be the person I am if I did not note that because Gomes was dealing with purchase money, he might have lost the home but would have otherwise been free and clear upon foreclosure. I do understand his motivations for suing, believe me. I have seen the devastating emotional impact of foreclosure on real lives and hearts. Back when I myself worried day to day about how to pay the mortgage on the home I've lived in for more than 2 decades, I'm not sure that I had ever felt any despair or terror quite like it. Now, however, Mr. Gomes has lost the home anyway, but he now is also faced with paying the attorney's fees of the defendants (I've never seen a mortgage that didn't provide that in litigation the losing party pays the winning side's attorney's fees) These are likely to be in the millions of dollars given the players. He'll no doubt be forced into Chapter 7 bankruptcy, now sooner rather than later.
So he loses, all the way around.
Which leads me to end this diary with an important safety tip. This homeowner was represented throughout this litigation by a solo attorney who, if I go by the license date shown for him at the California Bar website, was not practicing all that long when he took this case. In all likelihood, this attorney was hired because he agreed to do cheaply a case that (a) most major law firms that might otherwise take such a complex case pro bono are conflicted out because they represent the lenders against who these suits are being brought; (b) those law firms without an actual conflict are hiding behind positional conflicts to avoid pissing off those lenders, who actively withhold business from lawyers who have represented homeowners in these cases; and (c) few solo attorneys or small law firms are able to undertake because they are extremely labor and cost intensive: the lenders inevitably go with scorched earth litigation tactics and any motion that can be filed will be filed, so that the lawyer is quickly buried under a sea of paper.
In other words, a lawyer that does not have the ability to both finance extensive discovery and either shift to an affiliated lawyer or let go of a lot of other work is not the right choice if you are a homeowner and need to get into a pissing match over your house being foreclosed.
So please, please please, Make absolutely sure, if you retain a lawyer, that it is someone who can demonstrate that they have been litigating both real estate title issues and securitization issues for at least a few years IN YOUR STATE. I don't care what you read in USA Today, the New York Times, legal blogs, or even non-legal blogs like DailyKOS about MERS and "show the note." You need a lawyer's advice from within your state - one with expertise in this area.
If you can't find one, and I know it is hard, you would be far better off seeking help from organizations such as NACA or the successor organizations to ACORN -- in California it is called the Alliance of Californians for Community Empowerment (ACCE) -- than to pay money (and you will, because NOBODY worth hiring is going to take these types of cases on contingency) to a lawyer that does not know what they are doing. Gomes highlights the real danger of hiring a lawyer who truly doesn't understand both procedure (you cannot bring a lawsuit just because you think something might be true; you actually have to have something more than supposition as the foundation for the facts in your legal complaint even if you don't have all the details) and real estate documents (in this case, MERS' right to proceed was expressly stated in the deed of trust the homeowner signed. While the homeowner might not have been expected to understand that document fully - his lawyer should have.)
Otherwise, you might find yourself and your lawyer making some very, very bad, legal precedents - like this case.