“Curses! Foiled Again!” – Snidely Whiplash, Arch Villain, Rocky & Bullwinkle Cartoon
Background. The lending industry’s response to the foreclosure problems in this country, and Oregon in particular, can best be summarized with the cliché “Like a deer in the headlights….” Frozen by the glare, the banks’ reaction has been to do nothing to correct the problem – as if the impending impact can be avoided by some miracle.
Oregon seems to be a particularly interesting example of the foreclosure problems facing lenders today. Here’s why:
Oregon’s trust deed law requires that to foreclose a homeowner, all successive assignments of the trust deed must be recorded in the courthouse – from the originating lender who actually made the loan, to the foreclosing lender.
- The banking industry has routinely ignored this requirement. [Note: Other states have mandatory recording laws similar to Oregon’s. – PCQ]
- In February of this year, Judge Frank R. Alley, III issued his ruling in the McCoy bankruptcy case, holding that a foreclosure that failed to follow Oregon’s recording requirements was invalid – i.e., a nullity.
- Shortly thereafter, many, if not most, Oregon foreclosure sales were either cancelled or rescinded.
- Title companies began to balk at insuring title on bank REO sales – that is, the banks’ sales of those homes taken back following a foreclosure. Banks have not routinely warranted title when selling their own REOs. Following the McCoy case, title companies began carving out exceptions in their policies saying that they would not insure against title defects arising because the foreclosing bank didn’t comply with Oregon’s foreclosure laws. This has placed the status of all REOs into question; how can the bank convey marketable title to a buyer if the quality of that title is in question? It appears that until this problem is resolved, many REOs may remain under bank ownership unless the bank warrants title to the buyer or gets the title company to insure it for the buyer.
- Rather than start conducting foreclosures legally, the lending industry has chosen a different path. It has tried to convince the Oregon Legislature to change the trust deed foreclosure law by deleting the provision requiring the recording of all successive trust deed assignments. It is important to understand that the lenders’ effort included trying to give retroactive application to their proposed amendment. It would have had the effect of legislatively overruling Judge Alley’s decision in McCoy, and reversed a foreclosure process that has been on Oregon’s books for over 50 years.
- The banking industry’s proposed law was not introduced in the conventional way, i.e. as a bill on the floor of the state legislature. Rather, it was surreptitiously added to a pre-existing affordable housing bill that was well on its way to passage. The process, known as a “gut and stuff” was a last minute effort to unilaterally alter the law so that banks could legally continue with their current practice of ignoring it.
- A copy of the proposed amendment can be found here. As reported in the Oregonian and Wall Street Journal, this amendment failed in the Oregon House Judiciary Committee on June 1, 2011. “Curses! Foiled again!”
- Adding insult to injury, on May 25, just as the banking industry’s amendment was under discussion in the pols’ cloakrooms, Oregon Federal District Judge Owen M. Panner, confirming the McCoy holding, ruled that Bank of America’s foreclosure in the Hooker case was invalid for also failing to follow Oregon’s recording of assignments law.
Oregon’s Foreclosure Mess. I concede that there is a problem. But it is not Oregon’s recording law. Rather, it is a backlog of housing inventory – all in various stages of default, pre-foreclosure, foreclosure, and post-foreclosure. This backlog is slowing down absorption of homes in the marketplace, and resulting in price stagnation. Let’s look at the sources:
- There is actual inventory on the market listed for sale. According to the Regional Multiple Listing Service™ (“RMLS”), in April 2011, the Portland Metro area had 7.2 months of housing inventory [calculated by dividing the active listings at the end of a specific month, by the number of closed sales for that month. – PCQ], which was down from 7.3 months for April 2010, and down from 11.0 months for April 2009. According to the Central Oregon Association of Realtors®, housing inventory for April 2010 was 6.8 months, and 8.4 months for April 2011.
The National Association of Realtors® generally considers 6 months of inventory as a good balance – meaning that there are about as many buyers as sellers. When there is too much housing inventory, it means there are more sellers than buyers, a condition that favors buyers, who then have more choices in their purchasing decisions and can drive harder bargains, thus depressing prices downward. This is what is called a “buyers market” – a condition that has existed throughout most of the United States since the housing and credit crisis of late 2007. But, the one conclusion that the RMLS and COAR numbers suggest (at least for their respective locations), is that inventory actually on the market in the Portland and Central Oregon areas is becoming more balanced, which is a good thing.
- The more insidious number, and the one less capable of quantifying, is “shadow inventory.” It can’t be accurately counted – only estimated. Nor is it entirely clear how it is counted. For my purposes, shadow inventory consists of: (a) All the homes that are in some stage of “pre-foreclosure,” i.e. seriously delinquent, but not yet in a formal foreclosure; (b) All properties currently being foreclosed. [In technical terms, the Notice of Default has been filed, but the Trustee’s Deed has not. – PCQ]; and (c) Bank REO inventory that is not yet listed for sale. By some estimates, it would take 17 months to clear Oregon’s shadow inventory. This grouping is, metaphorically speaking, “the pig in the python,” and the most problematic issue when dealing with solutions to our current housing crisis.
The Banking Industry Solution. Now that the lenders, in Oregon at least, are back to square one, what are their alternatives? Rather than proposing realistic and viable alternatives, the industry has resorted to fear-mongering. Here’s how the argument goes: “If the courts and the legislature won’t give us our way – i.e. permit us to conduct non-judicial foreclosures without adhering to Oregon’s 50+ year old recording of assignments statute – we’ll have no alternative but to judicially foreclose homeowners. Have a nice day.”
The inference here is that judicially foreclosing homeowners – i.e. suing them in court – will somehow hurt homeowners more than banks. I humbly disagree. This is a canard of the first order. I do not mean to imply that some lenders and their foreclosure mill attorneys will not do so just to make a point. They may. However, it would make a very bad point. Here’s why:
- On the list of publicly reviled industries, lenders, servicers, and their affiliate henchmen, have achieved rock star status. From reputational risk to stock performance, it appears the bigger they are, the harder they are falling. One cannot open a newspaper or read a blog today without reading about one of the Big Banks being pilloried. If Big Banks want to start foreclosing Oregonians judicially, just to make a point, it will backfire with a vengeance. Memo to Big Banks: “What goes around comes around.”
- There are a very small portion of homeowners who will fight a foreclosure – probably less than one percent. If someone wants to fight the bank today on a non-judicial foreclosure in Oregon, there is nothing preventing the bank from rescinding the trustee’s sale and –re-filing the foreclosure in court where the mandatory recording of assignment law does not apply. In other words, there is no need for banks to file, en masse, all foreclosures in court. Memo to Big Banks: “Pick your battles.”
- It is far easier to contest a judicial foreclosure that has been filed in court, than a non-judicial foreclosure that is not. The Florida foreclosure fiasco has borne this out. Homeowners wanting to stop a non-judicial foreclosure in states such as Oregon, must go to court and file a temporary restraining order. They may even have to post a bond. A showing of imminent harm must be made. A court may or may not halt the foreclosure sale. And if they lose at that level, the homeowner may be required to pay the bank’s attorney fees. In a judicial foreclosure, the bank must not only file a complaint, but they must also their establish “standing,” i.e. their right to foreclose. This invites the defense occasionally referred to as “show me the note” – a demand that triggered the robo-signing and forged document scandals in 2010. Borrowers can make broad document requests in discovery which can force the banks to establish their right to foreclose. As we’ve learned from Florida – it will result in more litigation, more cost, and more delays. Memo to Big Banks: “This is a briar patch you really don’t want to be thrown into.“
- Besides the additional cost and time of a judicial foreclosure, Oregon law allows the foreclosed borrower a statutory “right of redemption.” This is the right to purchase the property back after sale for a period of 180 days. The buyer’s right of redemption applies to the bank – should it recover the property after foreclosure (if there is no 3d party purchaser) – and to a purchaser at the foreclosure sale. If the property is foreclosed non-judicially – a four month statutory process – there is no right of redemption. Thus, jumping into court to complete a foreclosure will cost the bank many months, in addition to another half year while the title to the property remains in limbo until the borrower’s right of redemption expires. Memo to Big Banks: “You want delay? Here’s delay!”
The point here is that the Big Banks really don’t want to judicially foreclose. In time, money, and reputational cost, it is not a viable option.
So What’s The Real Problem? As discussed at the outset of this post, Oregon’s housing problem today is not too much inventory on the market. Actually, it is shadow inventory that demands the most attention – especially those homes queuing up to be foreclosed, those in foreclosure, and those already foreclosed but not yet listed.
But the problem of delay is not something the Big Banks and their servicers really want to avoid. In fact, it appears that part of their silent strategy is actually based on delay. Here’s why:
- The “inconvenient truth” is that banks and servicers are not really motivated to foreclose. I’ve addressed in an earlier post the reasons servicers don’t want to quickly foreclose [i.e. the servicers’ business model is based on building up fees and other costs during default before pushing the borrower over the foreclosure abyss – PCQ].
- The issue I have not yet addressed is also business-model related. In the August 7, 2010 issue of the American Banker, a leading magazine (since 1835) and online site (since 1996) serving the banking and financial services industry, an article appeared entitled “Procrastination on Foreclosures, Now ‘Blatant,’ May Backfire.” Here’s the gist of the article:
“The industry as a whole got into a panic mode and was worried about all these loans going into foreclosure and driving prices down, so they got all these programs, started Hamp (sic) and internal mods and short sales,” said John Marecki, vice president of East Coast foreclosure operations for Prommis Solutions, an Atlanta company that provides foreclosure processing services. Until recently, he was senior vice president of default administration at Flagstar Bank in Troy, Mich. “Now they’re looking at this, how they held off and they’re getting to the point where maybe they made a mistake in that realm.”
The authors conclude that the “…stalling on foreclosures will cause worse pain in the future — and *** the reckoning may be almost here.”
- There is another financial explanation that relates to the relaxation in the FASB mark-to-market accounting rules. Banks are now able to carry their existing loans at their initial (pre-crisis) values. As homeowners know only too well, you can’t carry your home on your balance sheet at its initial price if it’s lost 50% from that value. But in the rarified atmosphere of corporate accounting, banks are able to do so until the foreclosure occurs – at which time the loss is recognized. As a result, for some banks, there is no rush to foreclose, even though the loan has remained in default for months. Until foreclosure, the banks’ books do not need to reflect the real loss in value. Inaction not only makes their balance sheets look better, but it delays any negative impact on regulatory capital requirements when the loss is recognized. A better balance sheet translates into a better stock value and better market cap – even though it is unrealistic in today’s dollars. By controlling the foreclosure spigot, lenders can prop up their books with artificially high numbers.
- Another explanation also relates to the foreclosure spigot. Big Banks fear undermining their own REO prices by flooding the market with homes. The result is a “controlled burn.”
- Add to this list the mind-numbingly slow kabuki dance of faux loan modifications performed with dual track foreclosures, as homeowners become unwitting players in the banks’ version of foreclosure roulette, never quite knowing when the trigger will be pulled.
The Real Problems. Despite what the lenders and servicers may say publicly or privately, Oregon’s requirement that foreclosing banks record their trust deed assignments is not the problem. Other states have similar requirements for non-judicial foreclosures. To my knowledge, state legislators are not rushing to change state law anywhere else.
There are very good reasons to require lenders in non-judicial foreclosure states to record their assignments: If a bank conducting the foreclosure did not have to show, on the public record, how it acquired the note and trust deed, any bank could conduct a foreclosure with no proof of its entitlement to do so.
In judicial foreclosure states, banks must routinely prove their entitlement to bring the foreclosure lawsuit. [It’s called “standing” or “real party in interest” – PCQ]. Accordingly, the legislatures in states such as Oregon, are merely telling banks that if they want to conduct foreclosures outside of the courthouse, they must record evidence of their “standing” so that everyone can see how they came into possession of the trust deed they now want to foreclose.
So moving from Oregon’s foreclosure process and the Big Banks’ efforts to bend the rules, what are the real problems contributing to our housing crisis and how might we effectively deal with them? I will address these issues in my next post. Stay tuned!
