Doublethink: “…the power of holding two contradictory beliefs in one’s mind simultaneously, and accepting both of them. … To tell deliberate lies while genuinely believing in them, to forget any fact that has become inconvenient, and then, when it becomes necessary again, to draw it back from oblivion for just so long as it is needed, to deny the existence of objective reality and all the while take account of the reality which one denies—all this is indispensably necessary.” (George Orwell, 1984)
Introduction. To understand MERS® requires an exercise in Doublethink. On the one hand, one must acknowledge that MERS® is not a product of any law, statute or ordinance found in this country. It is an entirely fictional construct, inspired, designed and implemented by the U.S. lending industry. On the other hand, one must believe that the MERS® system of electronically “registering” mortgages and trust deeds (collectively, “mortgages”), is a perfectly acceptable modern day substitute for the age-old system of recording documents. This post asks whether MERS® solves the problems it purports to address, and, if so, is that a good thing?
How MERS® Describes Itself. “MERS®” stands for “Mortgage Electronic Registration Systems, Inc.” It is little more than a massive, online database, where member banks “register” their multiple transfers of mortgages between themselves. They go to great lengths to say that they are merely “…acting solely as a nominee for Lender and Lender’s successors and assigns.” Their registered trademark includes the phrase: “Process loans, not paperwork.” MERS®’ website describes themselves as follows:
“MERS® was created by the mortgage banking industry to streamline the mortgage process by using electronic commerce to eliminate paper. Our mission is to register every mortgage loan in the United States on the MERS® System.
Beneficiaries of MERS® include mortgage originators, servicers, warehouse lenders, wholesale lenders, retail lenders, document custodians, settlement agents, title companies, insurers, investors, county recorders and consumers. ” [Underscore mine – PCQ]
Elsewhere on their site, they are more specific about their mission:
“To eliminate the need for assignments and to realize the greatest savings, lenders should close loans using standard security instruments containing language approved by Fannie Mae and Freddie Mac which name MERS® as Original Mortgagee (MOM).” [Underscore mine – PCQ]
Background. Most big banks today are not the simple depository institutions of years past, where customers received a fixed rate of interest on their savings accounts, and the banks loaned these funds out to borrowers at a higher rate. It used to be that loans, once made, remained with their originating bank. They were carried on the banks’ books until paid off. So, when a borrower had trouble meeting their payments, they contacted the same lender from whom they first borrowed their funds.
Not so today. Primarily due to the process of securitization, the lending industry bears little resemblance to its forerunner of a few years ago. The main advantage in securitizing loans (besides the opportunity for many participants to make prodigious amounts of money) was that the loans were effectively paid off upon their resale into the marketplace. This resulted in banks being able to lend their money over and over again.
A direct consequence of the rampant securitizations that occurred between 2004 – 2007, was the creation of a “private label” secondary market. Since GSEs (Fannie and Freddie) could only purchase “conforming loans,” which were subject to more rigid underwriting requirements, the private label secondary market came into existence. It soon began to purchase what we now refer to as “toxic” loans, i.e. those loans, that due to poor or nonexistent underwriting standards, were almost doomed to failure. And they did not disappoint. But rather than these toxic loans being a lending banks’ problem, they became the investors’ problem. And since the lenders actually lending money in the private label market were being promptly repaid by investors, banks had no significant long term risk. In today’s vernacular, they had “no skin in the game.” In an article entitled “Mortgage Backed Securities: How Important is ‘Skin in the Game?'” authored by Christopher M. James, a visiting scholar at the Federal Reserve Bank San Francisco, he writes:
“Many analysts believe that, during the housing boom of the 2000s, the widespread securitization of residential mortgages fundamentally altered the incentives of key players in the loan origination and funding process. A basic problem with the originate-to-distribute model of lending is that mortgage originators and the sponsors of mortgage-backed securities (MBS) have too little “skin in the game,” these critics argue. In contrast to traditional lending, in which vertically integrated lenders own and service the loans they originate, securitization involves different agents performing different services, often for fees that are unrelated to the performance of the securitized mortgage loans. A resulting danger is that originators and sponsors pay too little attention to the riskiness of the mortgages they originate or place into pools they sponsor.”
One of the major repositories of pooled loans in the GSE and private label markets, were the Real Estate Mortgage Investment Conduits, or “REMICs”, which acquired the pooled loans as securities and then sold bonds or certificates to large investors. It was these investors’ monies that flowed back into the coffers of the many lenders and investment banks who participated in the securitization process.
Of course, the rest is history. The credit markets collapsed because the ratings agencies – yes, the same ones assuring investors they were buying AAA bonds – decided in the late summer of 2007 that these bonds were actually junk. Almost immediately following the rating downgrades, the dominos began to fall: Large institutional investors dumped their bonds, credit markets seized up, home purchases fell to a trickle for lack of financing, homeowners could not refinance out of their risky loans – much less resell their homes – the housing market collapsed, the commercial market followed suit, municipal and state revenues slumped and failed to meet budget, mass unemployment followed as public and private employers tightened their belts, housing-related industries collapsed, confidence eroded, and voila, the country found itself in “the Great Recession.” But I digress….
The Lending Process. When taking out a loan, borrowers must sign two major documents:
- The mortgage – or its functional equivalent, the “trust deed.” The trust deed is used in non-judicial foreclosure states, such as Oregon, Washington and California. In non-judicial states, foreclosure does not require a court filing. Mortgages are used in the states where the foreclosure process requires filing a complaint in court. They are referred to as “judicial foreclosure states.”
- The second document is the promissory note (or “note”), which is the borrower’s “IOU,” promising repayment to the lender. It is rarely, if ever, recorded.
Together, the note and mortgage is the sin qua non of all loans. The mortgage acts as “security” for the promissory note. This means that if the note is not paid according to its terms, the mortgage authorizes the property to be foreclosed, usually through public auction. A promissory note that has no companion mortgage is said to be “unsecured.” An unsecured note is enforceable against the signer, but the right to collect is limited to a legal action for recovery of the unpaid balance due. The unsecured note gives the lender no special rights to foreclose on any of the borrower’s property – for that, the accompanying mortgage is necessary. Conversely, a mortgage without a note is an unenforceable piece of paper, since one cannot foreclose on property whose owner has no written duty of repayment. For purposes of this post, it is best to think of the note and mortgage as being functionally “connected at the hip.” Where one goes, so should the other.
What Banks Do With Your Loan. Banks frequently sell their loans between each other. What they are really selling is the right to receive a stream of income. Whenever a loan is sold between lenders, both the note and mortgage are supposed to move from the seller of the loan to the buyer of the loan. The generic name of the legal document used to transfer a mortgage or trust deed is an “Assignment.” If the state where the property is located is a non-judicial state (i.e. they use trust deeds, rather than mortgages) the document is called an “Assignment of Trust Deed.” In judicial foreclosure states, it is called an “Assignment of Mortgage.” Unfortunately, through negligence or design, it now appears that banks frequently failed to sign the necessary assignments, either between each other or when they were supposedly depositing the pooled loans into the REMIC trusts.
It is important to understand that the process of transferring ownership of a promissory note is significantly different than the assignment of a trust deed or mortgage. While one “assigns” a mortgage or trust deed, subject to certain exceptions, one transfers ownership of a promissory note through a written endorsement, much like how checks are transferred – e.g. from the first party, to the second party, etc. While most people regard third party checks with suspicion, among lenders who routinely transfer promissory notes, multiple endorsements are not uncommon.
Thus, to transfer an entire loan ( i.e. both the note and mortgage) – the mortgage instrument is “assigned” from one bank to another via an assignment document, while the actual promissory note is contemporaneously “endorsed” (or “indorsed” per Article 9 of the UCC) over to the receiving bank. [Note: This is admittedly an oversimplification. – PCQ]
Recording of a mortgage provides significant legal protection to lenders. In Oregon and most states, subject to limited exceptions, the first to record the mortgage has “priority” (i.e. superior rights to the proceeds at the time of the foreclosure auction) over subsequently recorded mortgages or other liens. Thus, a first mortgage has greater protection in the foreclosure process than the holder of the second mortgage, and the holder of the second has priority over the third, and so on. Since there are only a limited amount of proceeds generated from a foreclosure sale, in today’s depressed housing market, most lenders in a second or subsequently recorded position get little or nothing. It is for this reason that almost immediately after a loan is closed, it is recorded on the public record, thus establishing its priority over all other subsequently recorded lenders or other lien holders.
Life Before MERS®. Before the advent of MERS®, when one checked the public records at the county courthouse, they could track the successive assignments (if any) from the original lender all the way to the present owner. Thus, the continuous, unbroken recorded chain of successive transfers left little question who the true owner of the mortgage was. However, as noted above, a bare mortgage, without the accompanying promissory note, means nothing, and is therefore impossible to foreclose, since there is no underlying debt. But, if the promissory note is transferred by successively signed endorsements along with successively assigned mortgages, the owner or holder of both instruments has the legal right of foreclosure.
Life After MERS®. MERS® is the child of the mortgage industry’s biggest players. Its current owners include: Fannie Mae, Freddie Mac, Wells Fargo, AIG, GMAC, Citigroup, HSBC, and Bank of America. Today, MERS®’ members consist of almost all 3,000 mortgage lenders in the country. According to the recent Congressional testimony of its President, R. K. Arnold, MERS® tracks approximately 31,000,000 active loans. MERS® is essentially the alter ego of the biggest players in the lending industry. As explained below, it is not unreasonable today to conclude that the free-wheeling lender secondary market securitizations during the easy credit years of 2004 – 2007, was the ‘raison d’être for MERS®.
The MERS® Registry. MERS® gives its members one of two options for registering mortgages through them rather than placing them on the public record. One method is to have MERS® named as the “nominal” owner of the loan on the mortgage document itself. Thus, upon recording of the mortgage at close of escrow, the holder of the mortgage is shown as MERS®. Although MERS® goes to great lengths to explain that it is only the “nominal” owner of the mortgage (in place of the bank), in reality, its permissible functions go far beyond those of a mere agent or nominee, which has not gone unnoticed by some courts recently.
The other method banks may register their mortgages through MERS® is for the original lender to keep its own name on the original mortgage as of the date of closing the loan, and then promptly assign the mortgage to MERS® – again, as merely the “nominal” owner of the loan. As noted above, this system of electronically “registering” a mortgage on the MERS® system is not a statutorily recognized method of recording documents. The term “strawman” seems closer to the truth. The definition of “strawman” found in Black’s Law Dictionary is the following:
“n. 1) a person to whom title to property or a business interest is transferred for the sole purpose of concealing the true owner and/or the business machinations of the parties. Thus, the straw man has no real interest or participation but is merely a passive stand-in for a real participant who secretly controls activities. ***”
Once a mortgage becomes “registered” with MERS®, all future assignments of the mortgage are “off the public record.” [Note, once a lender’s priority is established by publicly recording the mortgage at the time of closing, all subsequent off-record assignments of that mortgage still retain their original priority. – PCQ]
According to its website, if one is a member of MERS®, by using the “…powerful MERS® iSearch tool…” subscribers may “…submit customized, pinpointed queries to retrieve same-day information from the MERS® System.” This would seem to suggest that the MERS® registry could serve the same purpose as public recording, by tracking the travels of a mortgage over its lifetime. However, this is not necessarily the case for several reasons : (a) MERS® Members may fail to register their own assignments; (b) If the original lender is not a MERS® member, no assignments of their mortgage is ever registered – at least until it gets assigned to a MERS® member; (c) Access to the “powerful MERS® iSearch tool” is for “subscribers” not members of the public. Thus, the MERS® model appears to work for its members – on paper – though not in reality, especially when foreclosure becomes necessary.
MERS® Foreclosures. At the time of foreclosure, there are some very problematic consequences of MERS®’ private registry process: First, by eliminating the need to publicly record all assignments after the original mortgage is recorded, no one readily knows who owns that mortgage at any point in time. If foreclosure becomes necessary, the MERS® program provides two options: (1) If MERS® appears as the original record owner of the loan, it may foreclose in its own name – a rather surprising task for a mere “nominal” owner of the mortgage; or, (2) MERS® may assign the mortgage to the “real” owner of the loan, who then proceeds with the foreclosure process. For a summary of the requirements now imposed by MERS® before it will foreclose, click here. In most cases today, MERS® assigns the mortgage to its member bank to pursue the foreclosure in their own name.
The MERS® Parallel Universe. This is where things get surreal. When foreclosure becomes necessary (oftentimes years after the loan was actually made) and MERS® appears as the record owner of the mortgage, it transfers the mortgage to the foreclosing bank, but ignores all of the intervening off-record assignments by completing a “Hail-Mary Pass” to that lender. And MERS® is not alone on the playing field when it comes to foreclosures. Virtually all originating lenders of record are guilty of making the “Hail-Mary Pass” by assigning the mortgage to a designated foreclosure bank, while ignoring all prior unrecorded assignments. Lest one think this is “no big deal,” it is important to know that in many states, including Oregon, foreclosure law require that all successive transfers of the mortgage (and appointments of successor trustees) be recorded prior to foreclosure. See, ORS 86.735(1). In this way, the entire chain of successive assignments from the original lender to the foreclosing lender, are accounted for, and there can be no question that the lender conducting the foreclosure is the one that has the right to do so. [This is referred to as “standing” in federal bankruptcy courts ruling on the issue. – PCQ]
However, in Oregon (and presumably other trust deed states) due to the MERS® electronic registry, the intervening off-record assignments are never recorded – except for the final assignment (ergo the “Hail-Mary Pass”) from MERS® to the current lender who purports to have the right of foreclosure. Today, it seems most borrowers in default assume that the lender foreclosing them has a legal right to do so. As discussed below, there is good reason to believe that in some cases, this simply cannot be true.
Unfortunately, since beleaguered homeowners have neither the money nor the appetite to raise the issue, this intentional subversion of ORS 86.735(1) is rarely raised. But, without the recorded “chain of title” of continuous and successive assignments, there is absolutely no proof that the foreclosing lender is the true owner of the loan. In some nationally reported cases, foreclosures have been dismissed because the lender purporting to own the note and mortgage cannot prove they have any right to do so.
And when it becomes necessary for the MERS® assignment document to be signed, the process borders on the bizarre. MERS® assignments are normally signed by a “Vice President” or “Assistant Secretary” who MERS® calls a “Certifying Officer.” However, MERS® Certifying Officers are not actually “officers” in any conventional sense. Nor are they employees or contractors hired by MERS®. They are not compensated by MERS®. In short, Certifying Officers have no direct relationship with MERS®. MERS® merely lends them an official title solely for purposes of signing the assignment of mortgage. How many such Certifying Officers does MERS® have? According to Mr. Arnold, approximately 20,000. Not bad for a company that, according to the deposition of its Secretary-Treasurer at pages 69-70, has no employees.
According to Mr. Arnold’s Congressional testimony, in order to be a Certifying Officer, one must first be an officer of the MERS® member. So what happens? The MERS® member – say the bank responsible for the foreclosure – names one or more of its own employees as “Vice President,” “Assistant Vice President” (or “AVP”), or a similar official title. This subterfuge thus entitles the MERS® member’s employee to qualify as a “Certifying Officer” for MERS®.
Lest one think that this is a simple process, Mr. Arnold explained to the Congressional Committee that MERS® Certifying Officers are required to pass a “qualifying examination” consisting of ten multiple choice or true/false questions, eight of which must be answered correctly for a passing grade. There is no explanation as to how many tries these folks are given to pass the quiz. But to limit the risk of failure, MERS®’ website provides its member’s employees with a primer and sample questions, such as “Where is MERS® incorporated?” Not exactly a Mensa membership test.
If it is possible to abuse even the appearance of legitimacy, that appears to have happened here. There is good reason to believe that some of the MERS® “Certifying Officers” actually have no direct relation to a foreclosing lender, but in fact, are affiliated, instead, with the law firm or private foreclosure companies responsible for handling the actual foreclosure process. (See deposition of MERS® Secretary-Treasurer at page 60.) [In many cases I have observed private foreclosure company employees acting in multiple capacities for multiple companies: (1) As a Vice President of MERS®; (2) A Vice President (or attorney in fact) for the foreclosing lender; and (3) As the Trustee signing the Notice of Default and Election to Sell. No conflicts of interest there….PCQ]
Then there is the “robo-signer” controversy that the lending industry has characterized as mere technical paperwork problems. However, in fact, it was almost an inevitable consequence of the opportunity MERS® gave its lender members to freely assign their mortgages and trust deeds between themselves, off the record, and with no public accountability. Whether by negligence or intelligent design, it appears that many lenders ignored certain basic commercial laws (discussed below), and may not have executed their assignments with the formality necessary for recording. The upshot is that tracking down the successive assignments of a MERS® mortgage to find the current owner of the loan is as elusive as tracking down Sasquatch. Since most states, judicial and nonjudicial alike, depend upon some evidence of a loan’s ownership before foreclosure, this meant that thousands if not millions of documents needed to be prepared and signed in order to commence foreclosures from 2007 to the present time.
In order to meet this demand, lenders and lender processing services hired lower level employees whose job it was to “robo-sign” thousands of foreclosure documents monthly. These robo-signers did not know or understand what they were signing, and never reviewed the underlying documents, as their affidavits represented. Moreover, their signatures were often notarized at different times and places than what the documents stated. Since notarization is essential for recording, the notaries appear to have been a knowing participant in the scheme. It was a direct consequence of the robo-signer scandal that several of the major banks suspended all foreclosures, while they went back to “correct” their documentation.
As if this were not enough, there is a fundamental flaw in the entire MERS® registry model, which again, has enabled lenders to play fast and loose with their paperwork. MERS® only registers the mortgage. It has nothing to do with the other essential component of all loans, the promissory note.
According to its rules, when an assignment of the mortgage occurs, the member is to notify MERS® so the transfer may be tracked. However, since MERS® only tracks the ownership of the mortgage, and ignores the note, there is no assurance that both documents are actually owned by the same entity at the same time. As noted above, these two documents are, figuratively speaking, “joined at the hip” and both essential for the lender to have, in order to foreclose. However, that does not appear to have been the case. In actuality, it does not appear unusual for these documents to have been separated at birth (i.e. at closing), one traveling one way and one going another. Where each instrument goes is a matter of conjecture, both harmless and sinister. But the fact remains that when called to produce the note with the mortgage during a foreclosure, some lenders have been unable to do so.
The problem is briefly explained as follows by Yves Smith, the nom de plume for the author of Naked Capitalism, an entertaining and authoritative economic website:
“…if MERS® is actually a mortgagee, then while it may have authority to record mortgages in its own name, both MERS® and financial institutions investing in MERS®-recorded mortgages run afoul of longstanding precedent on the inseparability of promissory notes and mortgages. Since the 19th century a long and still vital line of cases has held that mortgages and deeds of trust may not be separated from the promissory notes that create the underlying obligation triggering foreclosure rights.” [This is what has been referred to as the “split note and trust deed problem” on various websites discussing the issue. See, link. – PCQ]
But, here’s the mystery: Given MERS®’ state-of-the-art technology, why can’t their member-banks track their elusive assignments? And if they can, wouldn’t they lead to the actual owner of the loan? And, if they find the true owners of the mortgages, they should also find the holder of the promissory notes. Right?
These many flaws have not gone unnoticed by some of our local federal judges:
- Judge Elizabeth Perris, one of Oregon’s highly regarded federal bankruptcy judges, noted in an unpublished opinion, that “the relationship between MERS® and [one if it’s member banks] was “…akin to a “straw man….”
- Judge Garr King, another well respected federal judge for the Ninth District, quoting Judge Perris’ “strawman” analogy, concluded that a borrower’s argument that MERS® had created a “split note” problem, was “… at least initially persuaded the [plaintiff-borrower] has a likelihood of success on the merits.”
- Judge Michael Hogan, another long time federal judge for the Ninth District, recently concluded that the foreclosing lender’s failure to record all of the intervening assignments of trust deed, in violation of ORS 86.735(1), was fatal to MERS®’ motion for summary judgement filed against a borrower facing foreclosure.
- And most recently, In Re: McCoy, in which Chief Bankruptcy Judge Frank R. Alley, III dismissed the adversary proceeding brought by MERS and US Bank NA, holding that the beneficiary’s right to foreclose non-judicially is limited by Oregon law 86.735(1) which requires the recording of all trust deed assignments.
Finally, here’s perhaps the greatest conundrum of them all: Unquestionably, in recent years leading up to the collapse of the credit markets, billions of dollars of residential loans loans were made and promptly securitized into the private label secondary market. According to the Pooling and Servicing Agreements (“PSAs“) governing the trusts holding these pooled loans, each mortgage and each promissory note had to be irrevocably and physically transferred into them before the Cut-Off Date identified in the REMIC’s Pooling and Servicing Agreement – which is generally no longer than six months after the REMIC was created. Once in, subject to limited exceptions, that is where the mortgages must stay.
But if this is so, why do we see – shortly before a foreclosure is commenced, but years after the loan was made – the bank that first originated the loan assigning it into the REMIC today for its trustee to foreclose? If the loan was actually transferred into the trust when it was supposed to have been according to the PSA and prospectus, the originating lender has nothing to transfer today. And if it wasn’t transferred by assignment when it should have been, then the REMIC trustee conducting the foreclosure today is doing so for a mortgage over which it has no present authority (since it was not inside the trust before the Cut-Off Date). And why do we see assignments from originating lenders to other lenders who are not REMIC trustees, for purpose of handling foreclosures today, if we know that the loan had supposedly been deposited into a REMIC years before (as represented in the prospectus)? In short, loans that are legally INSIDE the trust by its Cut-Off Date may be foreclosed by the trustee, and those OUTSIDE the trust by its Cut-Off Date may not.
How can the lenders, the private foreclosure trustees, and bank attorneys, turn a blind eye to this entire charade? Or are they simply betting that they can outspend anyone who raises these issues as a defense against their own foreclosure?
Is MERS® a Good Strawman or Bad Strawman? I suppose it all depends on which side of the street you’re walking. There is no question that MERS® has “streamlined” [their word, not mine – PCQ] the process by which loans are transferred. It uses 21st century computing to replace the manual recording methods brought to this country from England centuries ago. But whether intentional or not, by ignoring the time-tested and legally recognized system of public recording, MERS® has created the opportunity for its lender-members to play fast and loose with how loans are transferred today. Remember, MERS® is nothing more than the alter ego of its members. The result is that many, if not most, of the foreclosures conducted in Oregon and elsewhere over the last few years, appear to have ignored some of the basic and fundamental legal rights of our citizens. People must speak up.