Thursday, October 15, 2009

The Mess Just Keeps Getting Messier...

This Boston Herald article demonstrates how the housing mess continues to result in unintended consequences:

A real estate judge is refusing to reverse a landmark ruling that opens the door to voiding tens of thousands of Bay State foreclosures dating as far back as 1989. “The foreclosure sales (in question are) invalid because they failed to meet the requirements of (Massachusetts law),” Land Court Judge Keith Long wrote yesterday in reaffirming a decision he originally reached in March. Long denied a request from Wells Fargo and U.S. Bank to reinstate two Springfield foreclosures he invalidated in March because of flawed paperwork.

What is the specific "flaw" in the paperwork, you ask?

For many years, the bank issuing a mortgage would hold that mortgage and gladly accept the interest rate they were receiving as their return on investment. However, as the 80s turned into the 90s, more and more of these loans were packaged together and then sold as a security to investors. This new stream of incoming revenue would then allow the mortgage bank to write more mortgages and, hopefully for them, make more money.

The idea of packaging a collateralized asset into a security is really not that novel anymore. It happens with everything from car loans to student loans to, in some cases, even non-collateralized assets like credit card receivables. The problem that the Massachusetts judge is pointing out is that, during these (sometimes multiple) sales of a single mortgage, the law requires very specific documentation to be completed in order to establish a paper trail that, in turn, promotes the efficient and predictable transfer of property.

Now that foreclosures are rising to historically high levels, the issue is taking front and center under the glare of a judicial spotlight. And, under that glare, its wilting because that mandated paper trail was not completed.

Worse still, the article points out an even more interesting set of legal problems than just a bank's inability to foreclose:

Market watchers add that the judge’s ruling affects far more than just foreclosed homeowners. For instance, any consumer who owns a house foreclosed on in the past two decades must now worry that a former owner will sue to reclaim the property. Such homeowners could also find it impossible to sell or refinance because of “clouded” titles. In fact, some consumers who’ve tried to buy foreclosed homes in recent months haven’t been able to get mortgages or title insurance because of Long’s initial decision. Bank of America and other firms have even pulled some foreclosed homes off of the resale market.

As you can see, the derivative effects of this mess could cause some serious title problems for people who have been in a house, theoritically at least, for up to 20 years. Imagine receiving this type of legal notice from someone whose foreclosed house you bought in 1990 thinking you had clear title to the property.

Another issue that the article does not discuss is what about rezonings that have occurred for the property during this time. It's not uncommon in some areas for former homes to be rezoned into business uses. What's the remedy if the originally foreclosed homeowner seeks to return to the improperly foreclosed property but can no longer live there because its been rezoned to a category that does not permit residential use?

This is just one scenario that could really gum up the title and plat process for a huge backlog of current (or, for that matter, former) residential properties. One almost gets the sense that some type of monetary relief will need to be required in place of equitable permission to return home.  The disruption that the latter could cause would be overwhelming.

Chad Emerson

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