To foreclose on property in New York State, a lender must prove that it took physical possession of the mortgage note prior to the foreclosure, or that a valid assignment of the note to the foreclosing party has been made. This is easier said than done. Today’s blog includes citations to relevant case law in this area because for those of you who deal with mortgages, servicing and assignments, this is an area worthy of close scrutiny. So grab another cup of coffee to stay awake, and let’s get started.
First, let’s remember some basics. In order to foreclose on property, the lender or its assignee must possess both the mortgage and the note. The general rule is that once a promissory note is properly assigned, the mortgage transfers with it. Bank of N.Y. v. Silverberg, 86 A.D.3d 274, 280, 926 N.Y.S.2d 532 (2011).
Which brings me to the inspiration for today’s blog, the case of US Bank Trust, NA v. Morales, 54 Misc. 3d 1217(A) (N.Y. Sup. Ct. 2017), which was published in yesterday’s New York Law Journal. In 2006, the homeowners purchased a house in Monroe, NY for $403,000. They took out a 30 year mortgage, which was recorded in Orange County. The original lender, Home Funds Direct, named MERS as its nominee. MERS subsequently assigned the note to US Bank Trust. This assignment was also recorded in Orange County, NY. The homeowners defaulted in June of 2013; a foreclosure was commenced in April of 2016. The homeowners argued that the bank did not have the right to foreclose on the property, because it had not sufficiently demonstrated that it was the holder of both the note and the mortgage. It is widely understood that such standing can be established with either a written assignment of the note or the physical delivery of the note to the foreclosing party prior to the commencement of a foreclosure action, but New York courts continue to grapple with what documentation establishes that such a transfer has been executed.
In this case, US Bank Trust attached an affidavit of an employee of Caliber Home Loans; the affidavit explained that Caliber was servicing the loan on behalf of US Trust and was also acting as its attorney in fact. The servicer employee complied with NYS Regulations by personally reviewing the original note and the assignment of the mortgage. The plot thickens however, because he also explained that Wells Fargo was holding the original note as custodian. This fact was fatal to the bank’s foreclosure action. Even though the servicing agent explained that the original note could be obtained from Wells Fargo, it did not have physical possession of the note prior to commencing the foreclosure. Because Wells Fargo, not Caliber, was in physical possession of the note, the evidence failed to establish that the foreclosing party had standing to bring the foreclosure.
But wait. The plaintiffs argued that note was assigned to them from MERS to US Bank. The court’s response demonstrates just how fact-sensitive these inquiries have become. The note in this case identified Home Funds Direct as the lender and the note holder. According to the court, there was no endorsement to MERS on the note—which would give MERS the authority to assign—nor any information on the allonge indicating that MERS received an assignment of the note. This meant that MERS’ assignment of the note to US Bank Trust was invalid.
As if this isn’t complicated enough, the case law I have referenced in this blog relates specifically to New York’s Second Department. The key point is that the case law in this area remains fluid and highly fact-sensitive. As it stands right now, the better you document mortgage transfers and servicing rights, the better off you will be. This is one area where detailed procedures and an eye on case law is absolutely crucial.
Newsflash: The CIA Spies On People
This is my gut reaction to this morning’s bizarre media frenzy detailing the CIA’s efforts to compromise privacy protections for consumer technology and products. While the overreaction boarders on the absurd, it is one of three developments yesterday that underscore why congress must take decisive action if your member information is going to be protected to the fullest extent possible.
First, Wikileaks has dumped a large trove of CIA documents detailing the agency’s work to compromise a wide range of computer services and software, including Android and Apple cell phones. I haven’t used this one in a while; in the immortal words of Claude Rains, I am shocked to find out that gambling is going on in the casino.
Of course the CIA is trying to compromise these devices, and we are all safer for it. That being said, let’s not fool ourselves. In the world of data breach equipment and techniques, you can bet what the CIA is using today will find its way into the hands of hackers tomorrow. This is why Congress has to impose a national framework obligating every corporation and business to take steps consistent with its size and sophistication to guard against data breaches. This is not an issue of financial institutions verses retailers. It is a core matter of national security and economic growth. It is as if we are building roads without imposing speed limits.
Secondly, along comes the somewhat disturbing news, courtesy of the Krebs on Security blog, that “payment giant” Verifone is investigating a breach of its internal computer networks “that appears to have impacted a number of companies running its POS solutions.” According to Verifone, the breach never impacted its payment service network. Still, if you use Verifone you may want to investigate this story further.
Finally, OCC Comptroller, Thomas J. Curry, gave a speech yesterday on Financial Innovation in which he responded to critics of the OCC’s proposal to start issuing bank charters for FinTech companies. I will have more on this one in a future blog, stay tuned, but for now I just wanted to give you a heads up that the OCC is digging in its heels regarding its authority to issue such charters. It is also pushing back at critics who argue that a national FinTech charter would provide unscrupulous lenders a way around state level consumer protection laws. Instead of having a debate about the OCC’s powers, why doesn’t Congress lead a national discussion about what changes need to be made to the charters of all financial institutions to reflect 21st century realities?
I have said it before and I will say it again: With the increasing use of third-party vendors, a credit union’s compliance program is only as good as its contracts. Unfortunately, financial institutions continue to do an inadequate job of ensuring that they can exercise proper oversight over their third-party service providers. This is the key conclusion of a report issued by the FDIC’s Inspector General. I know the FDIC doesn’t have jurisdiction over credit unions, but the concerns it addresses are by no means unique to banks and could very well influence future dictates from the FFIEC, of which NCUA is a member. Even if you think your institution has no vendor issues, the report provides an excellent synopsis of privacy laws and obligations.
So what did the Inspector General conclude? Only slightly more than half the financial institutions it reviewed performed a pre-contract due-diligence review of potential vendors or mandated ongoing due-diligence reviews of existing vendors.
Additionally, slightly less than half of the contracts did not address third-party business continuity plans. This is troubling since many vendors provide services critical to the day-to-day operations of financial institutions; if they are not up and running, neither is your credit union. As for the reporting of data breaches, many of the contracts reviewed did not adequately address the responsibility of vendors to report compromises.
Furthermore, the report was critical of the use of vague contract language which did not adequately define third-party provider responsibilities. For example, it was concerned that many contracts included terms such as “adverse event” and “disaster” without defining what types of incidents would fall within these definitions. This is not surprising since, as the Inspector General noted, most contracts were prepared by the third-party provider.
So what are my takeaways from all this? First, many of you are being penny wise and pound foolish if you refuse to get a legal review of vendor contracts. Even if a third-party service provider agrees to protect and indemnify you against its mistakes, this doesn’t protect you in the eyes of your regulator. “The vendor made me do it” is not a defense.
Secondly, a contract is not the end of the process but the beginning. You must ensure that someone on your staff is responsible for monitoring a vendor’s performance on an ongoing basis.
Third, don’t be afraid to negotiate. I was talking with a banker friend the other day, and he argued that it is unrealistic to think that a small financial institution has the ability to force changes to contracts with large service providers. Fair enough, but this doesn’t mean you shouldn’t try, and your efforts should be documented for your examiner. In addition, for your most important vendor relationships, such as with core processors, the absence of key clearly defined provisions should be a deal breaker.
Finally, everything I have said varies depending on the size and sophistication of the service for which you are contracting. No one is suggesting that you need the same level of due-diligence for contracting with a cleaning service as you do for your webmaster.
Yours truly is back from GAC after a splendid time waiting with my co-workers at the airport on a two hour delay. Here are some final thoughts, many of which are worthy of stand-alone blogs in the near future. I am sure you can’t wait.
- By hook or by crook, alternative capital is going to happen. In his speech before the assembled masses, NCUA Chairman McWatters signaled that today’s ANPR will be tomorrow’s proposed rule. Please share your thoughts.
- It’s quite possible that the Temporary Corporate Stabilization Fund will be folded into the share insurance fund by the end of the year, raising the possibility of future rebates. Remember that this is all subject to unforeseen developments.
- In a victory for the bankers, the chairman mentioned, almost in passing, that new regulations will include making charter expansions subject to a comment period. This has important legal and policy implications. It is something that the bankers and/or Keith Leggett have been advocating for years.
- I have to find a cigar bar closer to the Renaissance than the one I took a group of credit union brethren to the other night. I am not sure if it was in Northwest Washington or Maryland. Either way, it felt like I was driving them to the Carolinas.
- There was more talk about preserving the tax status than I expected; then again, the one thing everyone seems to agree on is that there is going to be a major push for major tax reform, meaning that everything is on the proverbial table. The challenge for the industry is to lobby for the exemption’s preservation without letting this supersede the need for other legislative changes, such as mandate relief. Every year that goes by with Congress giving the industry nothing more than the status quo brings the bankers one step closer to their goal of mortally wounding credit unions. Credit unions can’t effectively compete in a 21st century world with 20th century laws.
- Yours truly has to get in better shape if he is going to socialize by night and blog by day. My usual 5 a.m. wake-up call went unanswered.
- When it comes to the CFPB, we must learn to love the sinner but hate the sin. The CFPB has become one of those ideological litmus tests that have come to paralyze Washington. As a result, when we meet with House members in their districts—as I am sure all of you loyal Hill-hikers are already planning to do—we have to remind them that we are not in favor of abolishing the CFPB, but simply making changes to clarify that credit unions can be categorically exempted for many of its mandates. Also, we must remind them that a bipartisan board is actually a better way of creating institutional stability than is a structure overseen by a single person who may or may not be a benign dictator. By the way, there is no truth to the rumor that Richard Cordray met with the Russian Ambassador.
- A special shout out to our Representatives who took the time to either join the meetings or stop by to say “Hi.” Many of you came a long way and took a lot of time out of the office, and it is nice to see that so many Congressional leaders took the time to acknowledge your efforts.
- At the risk of being accused of being politically incorrect, if global warming means that I can walk around DC in late February without an overcoat, I will take my chances with the flooding. It was a chilly 26 degrees in Albany this morning and felt like zero.
I am in D.C. this week and this town feels very strange. In fact, it’s kind of a cross between a jilted lover blindsided by a breakup he didn’t see coming and a Harry Potter novel in which Voldemort succeeded in killing Harry and taking over Hogwarts. You walk onto K Street and still see high-on-the-hog lobbyists and eager young people anxious to get their hands on power. But, look a little closer and you see that almost everyone is out of sorts. After all, you come to D.C. to talk politics, but for the first time in my life, people are timidly broaching the subject unsure on which side of the Great Divide their acquaintances stand. Why, last night, I found myself apologizing to someone from Iowa for talking politics at the bar!
Into this void comes the credit union industry and in many ways, it is both the best of times and the worst of times. It’s the best of times because as we talk to those anxious to scale back government, we have an agenda that does just that. Scores of credit unions have gone out of existence since 2008 and if Washington doesn’t do something soon, only the largest credit unions will be able to absorb the cost of well-intended mandates that miss the mark.
It’s the worst of times because whereas Washington is filled with a lot of well-intentioned idealistic individuals who believe in government, Trumpism is not simply a “throw the bums out” movement. It is a spasm of populist hatred for almost everything Washington stands for.
Many of the members you will be talking to on the Hill today and tomorrow are people genuinely fearful of what they see happening to their country. As a result, credit unions have to temper their message of mandate relief with the reassurance that what we are seeking is not to destroy government, but to make it better.
On that note, I’ll see some of you in a few minutes. Enjoy your day.
Credit unions understandably look at indirect lending as an attractive means of beefing up their lending portfolios, but NCUA has consistently, and in my ever so humble opinion correctly, emphasized to the industry that these relationships are trickier than they appear.
A recent case out of Arizona demonstrates why it is so important to exercise ongoing oversight over dealerships with which a credit union has an indirect lending relationship and also why it is so important to have an attorney review third party lending contracts.
Since 1975, the FTC’s “ Holder Rule”( 16 C.F.R. § 433.2) has mandated that all consumer credit contracts include provisions making any party assigned such a contract subject to all of the defenses and claims that a debtor could raise against the creditor with whom she contracted. This means that if your credit union purchases car loans from an auto dealership, it is subject to whatever claims the buyer of the car could have against the dealer. Even though the federal regulation already applies to NY lenders, the state has a similar provision N.Y. Pers. Prop. Law § 301 (McKinney).
In Hayward v. Arizona Cent. Credit Union, 241 Ariz. 350, 387 P.3d 1279 (Ct. App. 2017), a woman sued a car dealership over a car purchase gone bad. She traded in her old vehicle and financed a new purchase with a retail installment contract. The agreement obligated the dealership to pay off the balance of the trade, but the dealership neglected to do so. She successfully sued the dealership claiming that it damaged her credit and she was entitled to be reimbursed for the balance of the trade. She won a judgement for both compensatory damages for slightly less than $17,000 and $ 50,000 in punitive damages.
Fortunately for this morning’s blog, but not for Arizona’s Central Credit Union, she won her case but was unable to recover the full amount of her judgement against the subsequently bankrupt dealership. The credit union had a lending relationship with the dealership under which it purchased retail installment contracts, including Hayward’s. Because of the Holder Rule, she brought an action against the credit union seeking to recover the full amount of the judgement.
This brings us to why this case is potentially significant. At the time she brought her suit against the credit union, Hayward had already recovered from the dealership an amount in excess of her compensatory damages. The credit union claimed that, under the Holder Rule, it was not responsible to pay for punitive damages, attorney fees or costs. The court ruled however that, even if the Holder Rule does not require the credit union to pay punitive damages “neither the sales contract nor the judgement specified the order in which those judgements were to be applied.” In other words, Hayward could avoid the prohibition on collecting punitive damages against the credit union simply by claiming that the money she received from the dealership had all been applied to her punitive damage award, leaving the credit union on the hook for the outstanding compensatory damages.
Now don’t panic. If you live outside of Arizona, this case is not binding on you. But the court’s logic could be used as persuasive authority in other jurisdictions, which brings us back to the beginning of this blog. When entering into relationships similar to the one entered into by Arizona Central Credit Union, you may want to specify the order in which a dealership will pay judgements owed to wronged borrowers when reviewing your contract. More generally, the case underscores why well drafted indemnification clauses are particularly important when entering into these types of arrangements.
Last but not least, NCUA has a point. Your credit union should have a good feeling for who it is getting involved with and monitor its practices on an ongoing basis.
So ends our tale. Remember that the advice I give in this blog is not intended as, nor is it a substitute for, legal advice from your counsel.
On that note, I hope to see you all in D.C., please stop by our Let’s Connect NY event on Sunday evening and break bread with your faithful blogger.
The bankers are going to get mad as hell over NCUA’s Alternative Capital Advance Notice of Proposed Rulemaking (ANPR) as soon as they figure out what it does. That’s the gist of an article in today’s American Banker, explaining that five weeks after the proposal was issued the independent community bankers and the other usual suspects plan on voicing their opposition to the ANPR but don’t know exactly why. In fairness to the bankers, the article also points out that no credit unions have yet to submit comments on the proposal. (For the record NYCUA recently published a survey on this issue and will be commenting to NCUA).
Perhaps those of us who have chosen to pursue credit union public policy careers should be embarrassed to admit that, a day after scientists announced that they have spotted seven planets trillions of miles away as they orbit a super dwarf- I was going to get that phrase into my blog one way or another-we are struggling to understand precisely what credit unions can and can’t do with regard to alternative capital. Then again this is complicated stuff; in fact I will unabashedly admit that the more I read the ANPR the less I understand it.
First, as an Advance Notice of Proposed Rulemaking it is not a proposal but a discussion draft. This means that terms are not set in stone and subtle distinctions between supplemental and secondary capital will need to be finalized if and when a rule is actually proposed.
Secondly, federal law restricts what NCUA can do for credit unions when it comes to authorizing alternative capital. The most important limitation, as explained in the ANPR, is that “it is possible for the Board to authorize a credit union that is not low-income designated to issue alternative capital instruments that would count towards satisfying the risk-based net worth requirement—but not the net worth ratio.” This limitation is crucial because it means that “complex” credit unions, those with at least $100 million in assets are the ones that would most benefit from regulatory changes in this area.
This brings us to the fact that when all is said and done it is far from clear how many credit unions eligible to take advantage of alternative capital would decide it is worth the hassle to do so.
Like I said, this is complicated stuff which has tax implications and touches on securities law. My guess is that only the biggest of complex credit unions will be willing to take full advantage of alternative capital in whatever form it ultimately takes.
By the way, none of this is to criticize NCUA or the desire on the part of many in the industry to expand the use of alternative capital. It underscores however, that if the industry wants broad based access to alternative capital there is no way around going to Congress and getting the law changed.