Lenders Beware

California Considers Significant Changes To Residential Foreclosures

By Kenneth R. Styles

Yesterday, the California Supreme Court heard oral argument on three related foreclosure cases:

  • Yvanova v. New Century Mortgage Corporation (2014, 2nd Dist.) 172 Cal.Rptr.3d 104;
  • Keshtgar v. U.S. Bank, N.A. (2014, 2nd Dist.) 172 Cal.Rptr.3d 818, and
  • Mendoza v. JPMorgan Chase Bank, N.A. (2014, 3rd Dist.) 175 Cal.Rptr.3d 880.

In granting review of these three cases, the California Supreme Court framed the specific issue as follows: “In an action for wrongful foreclosure on a deed of trust securing a home loan, does the borrower have standing to challenge an assignment of the note and deed of trust on the basis of defects allegedly rendering the assignment void?”

Styles
Styles

In layman’s terms, the issue involves who can challenge a foreclosure. For example, as a matter of common sense, if a defendant wrongfully takes something (e.g., property) from a plaintiff, then the plaintiff has “standing” to file suit and seek either recovery of the property or damages. However, in the context of California’s detailed foreclose law, and the court decisions interpreting that law, nothing is normal. In resolving these three cases, the Court must balance technical legal concepts (“standing”) with the everyday practicalities of real property lending in California.

As background, over the years California has developed a detailed legal framework that allows secured lenders to foreclose on real property without filing lawsuits (so-called “non-judicial” foreclosure). With the exception of certain post-2008 legislation requiring, for example, that a lender attempt to negotiate a work out with the borrower prior to foreclosure, California courts have historically supported a lender’s right to non-judicially foreclosure on real property.

The general question presented in the Yvanova was whether a borrower, who lost property to foreclosure, could assert damages by alleging that the wrong entity foreclosed on the borrower’s property. With one recent exception, several prior Court of Appeal decisions have emphatically answered “NO,” the foreclosed borrower could not assert any claim.

(See Gomes v. Countrywide Home Loans, Inc. (2011) 192 Cal.App.4th 1149, 1155 [“[N]owhere does the [non-judicial foreclosure] statute[s] provide for a judicial action to determine whether the person initiating the foreclosure process is indeed authorized, and we see no ground for implying such an action.”]; Jenkins v. JPMorgan Chase Bank, N.A. (2013) 216 Cal.App.4th 497, 515.)

In each of these cases – i.e., Gomes, Jenkins, Yvanova, Keshtgar, and Mendoza – the borrower sought to challenge the validity of the assignment into a securitized trust (consisting of a pool of mortgage loans) through a pooling and servicing agreement. In each case, the borrower argued that the foreclosing entity lacked standing to foreclose on the property, and in each case the trial court ruled on demurrer (as a matter of law) in favor of the lender.

In Yvanova, the Second District Court of Appeal reasoned that even if the assignment to the securitized trust was improper, any impropriety in the assignment would affect the parties to that transaction, not the borrower (who still owes the debt to a lender). The courts of appeal in Yvanova, Keshtgar and Mendoza all reached the same conclusion. However, one court, the Fifth District Court of Appeal in Glaski v. Bank of America, N.A. (2013) 218 Cal.App.4th 1079, held the opposite, thus creating a conflict within the courts of appeal.

The questioning at yesterday’s oral argument suggests that the Court is carefully considering the real-world implications of its ultimate ruling. On one hand, standing is an important legal principle in American jurisprudence. If a party is harmed, then that party has standing to seek redress through the public court system. If the wrong entity foreclosed on your home, common sense dictates that you should have the right to seek redress in the form of damages through the court system.

On the other hand, the non-judicial foreclosure process in California is very detailed and, if followed properly, is intended to avoid the costs and delays of litigation. In each of these cases, the borrower had defaulted on their loans. In each of these cases, the lender had a right, under the power of sale in the deed of trust signed by the borrower, to pursue a non-judicial foreclosure sale of the property. Should the courts allow a defaulted borrower to allege, “on information and belief,” that an assignment of the deed of trust to a securitized trust is improper and thus potentially bog the borrower and lender in litigation that could last several years?

These cases on appeal also evidence how, at times, the courts are in continuous “catch up mode” to the changes and adaptations in the business world. Decades ago, a residential lender would make a loan and then hold the promissory note and deed of trust to receive payments from the borrower (think George Bailey in “It’s A Wonderful Life”). Then came the secondary market for deeds of trust and a differentiation between lenders, originators, wholesale lenders and loan servicers. More recently, and at issue in Yvanova, Wall Street designed securitized trusts and detailed pooling and servicing agreements. As drafted, California’s statutory structure for non-judicial foreclosures did not contemplate these market changes, and the Court must determine how they fit with both the letter of the law and the public policy behind the law.

So how will the Court rule? Given the potential to upend the non-judicial foreclosing process by allowing any defaulted borrower to allege a defective assignment to a securitized trust, as well as prior case and statutory authority, there is a good chance that the Court will answer the specific question in the negative, but will create certain exceptions, for example if the borrower can demonstrate true prejudice.

Kenneth R. Styles is a shareholder in Miller Starr Regalia’s San Francisco office, where he represents clients in litigation and regulatory/consulting matters, principally involving real estate and commercial disputes. He may be reached at ken.styles /at/ msrlegal.com.

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