MERS Standing: Its Impact on Title Insurance

As long as most title underwriters ' the individuals, not the companies ' can remember, mortgages have always been assigned and the assignments were always recorded in the Office of the Clerk or City Register for the county in which the real property is located. With the advent of the Mortgage Registration System (MERS), this procedure changed. Instead of recording mortgage assignments in the local land records, lenders started recording assignments within the MERS computer system, thus eliminating the need for paper assignments with signatures and notaries, a public assignment chain and most of all, recording costs. Within a few years, MERS became a huge success with lenders. Currently, millions of mortgages and their assignments are in the MERS system. Title underwriters (the companies this time) went along and continued, albeit reluctantly, to insure transactions where the mortgage assignment chain was within MERS and not on the public record.

When the Bubble Burst

Then came the bursting of the real estate bubble of the mid 2000s. During the bubble, mortgages were assigned, packaged and securitized so quickly that lenders had no time to pay attention to the paperwork. The assignment process became haphazard and secondary to moving the mortgages out of the door. Then the foreclosures started, thousands of them. It soon became apparent to the courts that lenders were coming before them to foreclose loans with no proof that they owned the mortgages or the notes being foreclosed. Courts, nationally and in New York, resurrected the concept of standing; in order to be able to foreclose a mortgage the lender had to have proof that it held title to the actual mortgage and note. If a lender was unable to meet its burden of proof, the courts then began to dismiss the lender's foreclosure action, usually without prejudice, until it came back with proof of ownership of the mortgage and note.

The Standing Issue

The standing issue not only affected lending institutions, but quickly grew to infect the title industry as well. Title underwriters mainly become involved in a foreclosure action at the end of the proceeding. After the court enters the judgment of foreclosure and sale and therein appoints the referee, the referee auctions the property off to the highest bidder. A title insurance underwriter will insure the winning bidder's fee title to the property as well as the lien priority of the mortgage which the new buyer takes out, that is, the titles “coming out of” the foreclosure action. Therefore, the validity of the foreclosure action itself is of extreme importance to the title underwriter. If a court, after the conveyance of title by the referee to the property's new owner, later invalidates the foreclosure action for, let's say, the lender's lack of standing to bring the action, then the deed of conveyance and the mortgage and note coming out of the foreclosure action thereby become void and of no force and effect. As a result, the title underwriter will face a claim in the amount equal to the face amount of its policies, which is referred in the industry as a full or total loss.

Since the title industry insured the validity of the foreclosure actions as well as issuing a new owner's policy to the purchaser coming out of foreclosure and a new loan to the new lender, the standing issue morphed into a problem for the title industry as well. Very quickly, the title companies issued bulletins stating that they would no longer insure title coming out of foreclosure actions where the foreclosing lender did not hold record title to the mortgage and note before the lender started its foreclosure action, that is, when the lender filed its notice of pendency. Unfortunately, this rear-guard action quickly was overcome by events. The fact that the record chain of title began and ended with MERS attracted the attention of the borrower's bar. The problem, quite simply, was that while Chase assigned the mortgage to MERS, Citimortgage alleged that through MERS, it had received title to the mortgage and it had the legitimate right to commence the foreclosure action.

Lower courts disagreed and began to hold that when MERS assigned a mortgage out of its system to a foreclosing lender, the foreclosure would be invalid because MERS lacked the authority to assign the mortgage. Therefore, the foreclosing lender had no standing to foreclose and the lower court would dismiss the action. Lenders and title underwriters took notice, but panic did not ensue. Then came the Appellate Division, Second Department's decision in Bank of New York v. Silverberg, 17464-08, NYLJ 1202497066916 (June 7, 2001).

Bank of New York v. Silverberg

In October 2006, Stephen and Frederica Silverberg borrowed $450,000 from Countrywide. In April 2007, the Silverbergs borrowed additional funds from the same lender. The two loans were consolidated into a $479,000 mortgage in favor of MERS as mortgagee and nominee for Countrywide. A year later, MERS, as Countrywide's nominee, assigned the consolidated mortgages to Bank of New York (BNY). Shortly thereafter, the Silverbergs defaulted and BNY started a foreclosure action. In defense, the Silverbergs argued that BNY lacked standing to foreclose because neither MERS nor Countrywide ever transferred or endorsed the notes to BNY as required by the Uniform Commercial Code. The issue before the court was whether MERS, as nominee and mortgagee for purposes of recording, could assign the right to foreclose the mortgage to BNY despite the fact that MERS did not have possession of, and hence lacked the ability to assign the underlying promissory note. First, the court held that under New York case law, a foreclosing party had standing only when it was the holder or assignee of the underlying mortgage and note. The court found that Countrywide in the consolidation agreement had given MERS, as nominee, the right to assign the mortgage, but not title to the note. Nor according to the court was there any evidence that the note was ever delivered to MERS. As a result, court held that the assignment of the mortgage to BNY was a nullity and BNY lacked standing to foreclose. The court dismissed the complaint against the Silverbergs.

Effect on the Mortgage Industry

The Second Department noted the impact that its decision could have on the mortgage industry; that is, forcing the lending industry to ensure the reliability of the chain of title on the public record by recording assignments for possibly millions of mortgages where the paper instruments may have disappeared as well as the assignors. However, it is the title industry that insures based upon the chain of title. Therefore, to title insurers, the issue of standing for all foreclosing lenders and of MERS in particular is of vital importance. In holding that MERS lacked title to the mortgage note and thereby lacked the standing to foreclose, the Silverberg court facially placed the validity of thousands of foreclosure actions involving MERS and the titles arising therefrom in jeopardy. At least one trial court has held that the court cannot even hear a foreclosure action when standing is at issue because the court “lacks jurisdiction over the subject matter when the plaintiff has no title to the mortgage at the time it commenced the action.” (Deutsche Bank v. Abbate, NYLJ, 10/26/09, p. 20). If the court had no ability to even hear a foreclosure action where the lender did not hold title to the mortgage at the time of the commencement of the action, then the actions were void as would be the new insured deeds and mortgages as well as the title policies covering the deed and mortgage. However, the title industry breathed a sigh of relief upon the discovery of a decision out of the same Appellate Division that issued Silverberg.

HSBC Bank, USA v. Howard Dammond

In HSBC Bank, USA v. Howard Dammond, 875 N.Y.S.2d 490, the court ruled that even though HSBC did not have standing to bring the foreclosure action (the assignment from MERS as nominee for First Continental was executed two months after HSBC commenced its foreclosure action) the borrowers waived their right to contest standing because they failed to answer or to demonstrate a meritorious defense in the action. Therefore, title companies no longer had to be concerned with past foreclosures actions which they had insured and the new deed and mortgage coming out of those actions, but only with future actions which were yet to be insured. (For an expansion of this argument, please see Marvin N. Bagwell and Robert F. Bedford, “What Is the Probable Effect of Defective Foreclosure Documents Under New York Law?, N.Y. Real Property Law Journal, Winter 2011, p. 8.) The title industry's response to Silverberg covered the spectrum from one extreme to the other. On one end of the spectrum, some title underwriters boldly went where no underwriter had gone before and publicly stated that they would not insure any fee or mortgage titles coming out of mortgage actions where MERS was in the chain of title. At the other extreme, some companies kept completely mum and said nothing, probably out of the fear of alerting their shareholders to a maelstrom of claims that might be brewing. However, at the end of the day, thoughtful underwriters were coming to the conclusion that good facts trumped bad law (of course, not implying that Silverberg was bad law).

If the key to Silverberg was that standing required that the foreclosing lender have possession of the mortgage and note before starting its foreclosure action, then if the lender could prove to the title underwriter that it had such possession even if MERS was in the assignment chain of title, then the foreclosure action would be valid. Therefore, in response to Silverberg, many title insurers now require an affidavit (sometimes with indemnity), from the lenders to the effect that the lender had possession of the original note and mortgage when the lender commenced the foreclosure action. At the very least, if a court later vacates the judgment of foreclosure and sale after the referee has conveyed the property to a new buyer who has taken out a new mortgage, then, the title company would have a cause of action and a means of recovery from the original foreclosing lender. For the time being, most foreclosures with MERS in the assignment chain of title are being insured so long as the foreclosing lender is willing to go on the record and assert that it has possession of the original mortgage and note. Upon that assertion, title coverage lies. Upon such dreams are empires built and sustained, until reality intervenes and they fall. For everyone involved (except the borrower), the hope and prayer is that reality is a long way off.

Marvin N. Bagwell is Vice-President and Chief New York Counsel for Old Republic National Title Insurance Company.

As long as most title underwriters ' the individuals, not the companies ' can remember, mortgages have always been assigned and the assignments were always recorded in the Office of the Clerk or City Register for the county in which the real property is located. With the advent of the Mortgage Registration System (MERS), this procedure changed. Instead of recording mortgage assignments in the local land records, lenders started recording assignments within the MERS computer system, thus eliminating the need for paper assignments with signatures and notaries, a public assignment chain and most of all, recording costs. Within a few years, MERS became a huge success with lenders. Currently, millions of mortgages and their assignments are in the MERS system. Title underwriters (the companies this time) went along and continued, albeit reluctantly, to insure transactions where the mortgage assignment chain was within MERS and not on the public record.

When the Bubble Burst

Then came the bursting of the real estate bubble of the mid 2000s. During the bubble, mortgages were assigned, packaged and securitized so quickly that lenders had no time to pay attention to the paperwork. The assignment process became haphazard and secondary to moving the mortgages out of the door. Then the foreclosures started, thousands of them. It soon became apparent to the courts that lenders were coming before them to foreclose loans with no proof that they owned the mortgages or the notes being foreclosed. Courts, nationally and in New York, resurrected the concept of standing; in order to be able to foreclose a mortgage the lender had to have proof that it held title to the actual mortgage and note. If a lender was unable to meet its burden of proof, the courts then began to dismiss the lender's foreclosure action, usually without prejudice, until it came back with proof of ownership of the mortgage and note.

The Standing Issue

The standing issue not only affected lending institutions, but quickly grew to infect the title industry as well. Title underwriters mainly become involved in a foreclosure action at the end of the proceeding. After the court enters the judgment of foreclosure and sale and therein appoints the referee, the referee auctions the property off to the highest bidder. A title insurance underwriter will insure the winning bidder's fee title to the property as well as the lien priority of the mortgage which the new buyer takes out, that is, the titles “coming out of” the foreclosure action. Therefore, the validity of the foreclosure action itself is of extreme importance to the title underwriter. If a court, after the conveyance of title by the referee to the property's new owner, later invalidates the foreclosure action for, let's say, the lender's lack of standing to bring the action, then the deed of conveyance and the mortgage and note coming out of the foreclosure action thereby become void and of no force and effect. As a result, the title underwriter will face a claim in the amount equal to the face amount of its policies, which is referred in the industry as a full or total loss.

Since the title industry insured the validity of the foreclosure actions as well as issuing a new owner's policy to the purchaser coming out of foreclosure and a new loan to the new lender, the standing issue morphed into a problem for the title industry as well. Very quickly, the title companies issued bulletins stating that they would no longer insure title coming out of foreclosure actions where the foreclosing lender did not hold record title to the mortgage and note before the lender started its foreclosure action, that is, when the lender filed its notice of pendency. Unfortunately, this rear-guard action quickly was overcome by events. The fact that the record chain of title began and ended with MERS attracted the attention of the borrower's bar. The problem, quite simply, was that while Chase assigned the mortgage to MERS, Citimortgage alleged that through MERS, it had received title to the mortgage and it had the legitimate right to commence the foreclosure action.

Lower courts disagreed and began to hold that when MERS assigned a mortgage out of its system to a foreclosing lender, the foreclosure would be invalid because MERS lacked the authority to assign the mortgage. Therefore, the foreclosing lender had no standing to foreclose and the lower court would dismiss the action. Lenders and title underwriters took notice, but panic did not ensue. Then came the Appellate Division, Second Department's decision in Bank of New York v. Silverberg, 17464-08, NYLJ 1202497066916 (June 7, 2001).

Bank of New York v. Silverberg

In October 2006, Stephen and Frederica Silverberg borrowed $450,000 from Countrywide. In April 2007, the Silverbergs borrowed additional funds from the same lender. The two loans were consolidated into a $479,000 mortgage in favor of MERS as mortgagee and nominee for Countrywide. A year later, MERS, as Countrywide's nominee, assigned the consolidated mortgages to Bank of New York (BNY). Shortly thereafter, the Silverbergs defaulted and BNY started a foreclosure action. In defense, the Silverbergs argued that BNY lacked standing to foreclose because neither MERS nor Countrywide ever transferred or endorsed the notes to BNY as required by the Uniform Commercial Code. The issue before the court was whether MERS, as nominee and mortgagee for purposes of recording, could assign the right to foreclose the mortgage to BNY despite the fact that MERS did not have possession of, and hence lacked the ability to assign the underlying promissory note. First, the court held that under New York case law, a foreclosing party had standing only when it was the holder or assignee of the underlying mortgage and note. The court found that Countrywide in the consolidation agreement had given MERS, as nominee, the right to assign the mortgage, but not title to the note. Nor according to the court was there any evidence that the note was ever delivered to MERS. As a result, court held that the assignment of the mortgage to BNY was a nullity and BNY lacked standing to foreclose. The court dismissed the complaint against the Silverbergs.

Effect on the Mortgage Industry

The Second Department noted the impact that its decision could have on the mortgage industry; that is, forcing the lending industry to ensure the reliability of the chain of title on the public record by recording assignments for possibly millions of mortgages where the paper instruments may have disappeared as well as the assignors. However, it is the title industry that insures based upon the chain of title. Therefore, to title insurers, the issue of standing for all foreclosing lenders and of MERS in particular is of vital importance. In holding that MERS lacked title to the mortgage note and thereby lacked the standing to foreclose, the Silverberg court facially placed the validity of thousands of foreclosure actions involving MERS and the titles arising therefrom in jeopardy. At least one trial court has held that the court cannot even hear a foreclosure action when standing is at issue because the court “lacks jurisdiction over the subject matter when the plaintiff has no title to the mortgage at the time it commenced the action.” (Deutsche Bank v. Abbate, NYLJ, 10/26/09, p. 20). If the court had no ability to even hear a foreclosure action where the lender did not hold title to the mortgage at the time of the commencement of the action, then the actions were void as would be the new insured deeds and mortgages as well as the title policies covering the deed and mortgage. However, the title industry breathed a sigh of relief upon the discovery of a decision out of the same Appellate Division that issued Silverberg.

HSBC Bank, USA v. Howard Dammond

In HSBC Bank, USA v. Howard Dammond , 875 N.Y.S.2d 490, the court ruled that even though HSBC did not have standing to bring the foreclosure action (the assignment from MERS as nominee for First Continental was executed two months after HSBC commenced its foreclosure action) the borrowers waived their right to contest standing because they failed to answer or to demonstrate a meritorious defense in the action. Therefore, title companies no longer had to be concerned with past foreclosures actions which they had insured and the new deed and mortgage coming out of those actions, but only with future actions which were yet to be insured. (For an expansion of this argument, please see Marvin N. Bagwell and Robert F. Bedford, “What Is the Probable Effect of Defective Foreclosure Documents Under New York Law?, N.Y. Real Property Law Journal, Winter 2011, p. 8.) The title industry's response to Silverberg covered the spectrum from one extreme to the other. On one end of the spectrum, some title underwriters boldly went where no underwriter had gone before and publicly stated that they would not insure any fee or mortgage titles coming out of mortgage actions where MERS was in the chain of title. At the other extreme, some companies kept completely mum and said nothing, probably out of the fear of alerting their shareholders to a maelstrom of claims that might be brewing. However, at the end of the day, thoughtful underwriters were coming to the conclusion that good facts trumped bad law (of course, not implying that Silverberg was bad law).

If the key to Silverberg was that standing required that the foreclosing lender have possession of the mortgage and note before starting its foreclosure action, then if the lender could prove to the title underwriter that it had such possession even if MERS was in the assignment chain of title, then the foreclosure action would be valid. Therefore, in response to Silverberg, many title insurers now require an affidavit (sometimes with indemnity), from the lenders to the effect that the lender had possession of the original note and mortgage when the lender commenced the foreclosure action. At the very least, if a court later vacates the judgment of foreclosure and sale after the referee has conveyed the property to a new buyer who has taken out a new mortgage, then, the title company would have a cause of action and a means of recovery from the original foreclosing lender. For the time being, most foreclosures with MERS in the assignment chain of title are being insured so long as the foreclosing lender is willing to go on the record and assert that it has possession of the original mortgage and note. Upon that assertion, title coverage lies. Upon such dreams are empires built and sustained, until reality intervenes and they fall. For everyone involved (except the borrower), the hope and prayer is that reality is a long way off.

Marvin N. Bagwell is Vice-President and Chief New York Counsel for Old Republic National Title Insurance Company.