Ibanez case

21 Jan

The full story of the Ibanez case in Pictures

The full story of the Ibanez case

Posted by Tracy Alloway on Jan 18 19:04.

Back in 2005 in Springfield, Massachusetts…

What happened next currently has the mortgage and housing market palpitating.

US Bank filed a foreclosure complaint on the above loan, but soon found itself embroiled in a legal battle which would become known as the ‘Ibanez’ case.

There’s a second mortgage — the LaRace mortgage — involved in the various court cases too but for simplicity’s sake, we’ve focused on Ibanez in the above graphics.

Is the outcome of the legal wrangling a positive?

Is it housing market catastrophe risk?

The truth, as ever, probably lies somewhere in between.

Skip this if you know what a mortgage note is

First a technical note. A mortgage loan actually consists of two parts; the note and the mortgage. The note is a legal obligation between borrower and lender, with the borrower promising to pay back a specific principal and interest amount over a certain amount of time. The mortgage is the security interest in property held by the lender.

When mortgage loans are securitised — turned into Residential Mortgage-Backed Securities (RMBS) — the notes are assigned to the securitisation trust, either in endorsed (signed) or blank (unsigned) form. Both the Ibanez and LaRace loans had assignments in blank to the MBS trustees, US Bank and Wells Fargo, respectively.

Cue the problems.

About a week and a half ago, the Massachusetts (MA) High Court judge sided with earlier rulings by the MA Land Court, and said the two trustee banks had not proven they have the right to foreclose on either the Ibanez or the LaRace loans.

One of the issues is the so-called ‘mortgage in blank’ procedure. In the Ibanez case, for instance, the last mortgage assignment with a full set of names on it is from Rose Mortgage to Option One. After that, the mortgage is assigned in blank throughout the securitisation. There’s no assignment with ‘US Bank’ on it anywhere, though the bank did try to go back and finish off the assignment after it moved to foreclose.

This, according to SNR Denton lawyer Stephen Ornstein, is pretty standard practice in Massachusetts — it’s called “confirmatory assignments” done “after the fact,” which in this instance would be foreclosure. (Interestingly, we don’t think the judge invalidated assignment in blank/confirmatory assignment altogether — it looks like the problem was confirmatory assignments done without prior assignment.)

But moving swiftly on…

The PSA fallback

Normally, a trustee might be able to overcome such an assignment issue by providing the schedule to the Pooling & Service Agreements (PSAs) which accompanied the securitisation of the relevant mortgages. These are part of the documentation made for every MBS transaction, and — it was hoped by the trustee banks — they could help prove that the mortgage note transfer took place before foreclosure.

But with the Ibanez mortgage, the PSA for the relevant MBS couldn’t be found. All they had was something called a Private Placement Memorandum (PPM), which was basically the marketing document for the deal. Not quite the same thing.

And with the LaRace mortgage, all Wells Fargo had was a redacted PSA schedule, without names, which had been sent to the SEC as part of the deal requirements.

Unsurprisingly, perhaps, the High Court judge ruled that the Ibanez PPM and the LaRace PSA only demonstrated “an intent” to transfer the mortgages to the MBS trusts, not legal evidence that they had actually done so.

Case closed

What we have in the Ibanez case, then, is a curious combination of a stricter interpretation of existing MA state law and extremely sloppy paperwork.

Unfortunately the latter is not likely to be unique — more on which later.

As for the wider impact — think ever-increasing timelines to foreclosure, not necessarily the collapse of the foreclosure process altogether. Massachusetts is one of 30 ‘title theory’ states (and non-judicial to boot), which means the lending bank holds the legal title to the property, in order to secure the debt. (By contrast in a lien theory state, the borrower keeps the legal title and the lender gets an interest)

This legal difference tends to lead to faster foreclosure times in title theory states, as the below from Deutsche Bank’s Ying Shen shows. The MA ruling, however, might end up pushing the foreclosure rate in title states closer to their lien counterparts.

It also pretty much destroys the concept put forth by the American Securitization Forum (ASF) that the mortgage follows the note, at least in title theory states. So it’s also a timely reminder that US real estate is still a hodge podge of state and local law.

As Deutsche’s Ying Shen and Steven Abrahams note:

Although the ruling focused on the narrow issues surrounding rights for a securitization trustee to foreclose loans in Massachusetts, it reveals a major weakness of the residential mortgage securitization framework: a one-size-fits-all securitization process may not conform with the documentation requirements governed by local real estate laws.

Indeed.

Sorting out the mess

This is the big one. CNBC’s John Carney rightly notes that foreclosing on the Ibanez and LaRace mortgages could still be extremely difficult for the trustees. In the Ibanez mortgage, for instance, one of the players in the securitisation chain (Lehman Brothers) doesn’t even exist anymore. Will US Bank be able to fix the chain of title given that part of it is now defunct? At what cost and/or length? Will they bother?

As Adam Levitin also points out, many PSAs will not be able to meet the standards set forth by the MA High Court. You know, things like stating names (ahem).

Meanwhile, we wonder if fixing the chain of title could invalidate the so-called Remic structure of mortgage trusts? Remics get tax-free status, but only if they do not acquire any new assets after the trust closes. Mending the chain of title could violate that condition, in which case MBS investors would see their investment distorted.

And finally, let’s go back 148 years

We’ll end with a very old (from a US perspective, anyway) warning.

It’s worth, after all, considering why all these standard securitisation practices — like assignment in blank — became standard in the first place. Unfortunately, and like many things, it usually boils down to time and money. Assignments in blank can help banks save on some paperwork and also avoid fees at real estate record offices.

But there is a trade-off.

Here’s a nice bit of 1863 MA law that’s quoted in an Ibanez Amicus brief:

The convenience which men might occasional find in leaving blanks in scaled instruments to be filled after delivery, would be but a slight compensation for the evils which would follow the abrogation of the ancient rule of the common law.

The end.

Related links:
Ibanez and securitization fail – Credit Slips
A court case to challenge securitisation standards – FT Alphaville
The MBS mess from the beginning – the deal docs – FT Alphaville

This entry was posted by Tracy Alloway on Tuesday, January 18th, 2011 at 19:04 and is filed under Capital markets. Tagged with , , , , , , , , , . Edit this entry.

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