Sunday, October 24, 2010

The Banks Lost the Notes: This is no Joke!

What kind of banker loses promissory notes? "A damn careless one," according to Law Professor Douglas Whaley, who spent 40 years teaching Commercial Paper at Ohio State University.

What kind of banker destroys promissory notes? A "really stupid" one, says Professor Whaley.

And yet, it is now clear that promissory notes underlying mortgage backed securities were lost or destroyed on a systematic basis, in what can only be termed yet another exhibition of the infinite recklessness (or corruption) of the bankers running the US economy. How bad was it?

The Florida Bankers Association told the Florida Supreme Court that banks routinely destroyed notes after e-recording the notes to "avoid confusion." The Florida bankers told the Supreme Court that this was the "industry standard." Professor Katherine Porter wrote a 2008 Texas Law Review article that looked at the loan documentation from 1700 bankruptcy cases. A stunning 41.1 % of the files reviewed lacked a promissory note to support the mortgage claim. Yves Smith, the high profile author and economics blogger, states that her sources indicate the notes were "never" transferred to the MBS trust. This certainly will prove to be a major problem, as demonstrated by the recent rescission claim being pressed by (among others) the New York Fed which claims that MBS were plagued by "shoddy paperwork."

On some levels losing the note is worse than blowing the mortgage (due to MERS Madness, for example). Because promissory notes are negotiable instruments generally only the original (and not any copy) is enforceable against the borrower. Under the UCC (a uniform commercial code in place in most all jurisdictions in one form or another), section 3-309, a lost note may not be fatal to recovery by the owner of the note. But the requirements of proof under this section are quite demanding; most notably, the section requires that possession and ownership of the promissory note be vested in the plaintiff at the time of loss. It appears that many MBS notes disappeared before transfer to the trust that now holds the note, which would defeat recovery under this section. Moreover, in order to enforce a lost note under the UCC, the court must assure that "the person required to pay the instrument is adequately protected against loss that might occur by reason of a claim by another person to enforce the instrument." That sounds like an indemnity bond to me (particularly given the transitory nature of the banks holding these notes, as I will show in my next post). And, that could prove costly. These are serious impediments to enforcement of lost promissory notes in this context.

Moreover, analysis of the ability to enforce lost notes is made more difficult by the fact that each state may have quirks in their version of the UCC. Some states have amended their UCC statutes like this version in Florida which is less demanding than most states. It could take years for the courts across the country to work out these issues.

Again, these issues are not technicalities. Instead, they are integral parts of a statutory scheme designed to balance commercial certainty and enforcement of contracts against protecting the borrower from multiple claims. The ultimate protection of the borrower is an original canceled note. Once a borrower pays a note obligation he is entitled to a canceled note. If the lender loses the note he has in a real sense deprived the borrower of this basic right. So courts are rightly suspect of efforts to enforce lost notes, and courts should take appropriate steps to give borrowers that same level of protection--i.e., an indemnity bond or better. Thus, courts have not hesitated to refuse to enforce lost notes despite efforts by claimants to avail themselves of 3-309, as illustrated in this case, and those cited therein.

Even if courts allow enforcement of missing and lost notes, therefore, this will require more proof and costly hearings, not to mention the cost of indemnity bonds. It is probably true that few have been wrongfully subject to foreclosure proceedings; on the other hand, it appears very likely that many, many homeowners were evicted through flawed proceedings where the bank failed to prove its entitlement to foreclosure properly. Figuring out how to manage these grim outcomes will also require extensive litigation--largely due to the ineptitude of the banks and their failure to follow the law. At best, from the point of view of the banks, this will slow down foreclosures, increase foreclosure costs, and further impair the value of MBS, leading to more bank losses.

So, here we go again. The banks failed to see to it that this reckless subprime lending entailed any semblance of basic and prudent documentation practices. I can think of no more powerful indicator of gross ineptitude than this: they lost and destroyed promissory notes. These are the bankers that we bailed out and left in control of a huge chunk of our financial sector.

13 comments:

  1. Over the past few weeks, I have posted a couple of times regarding the housing crisis. Although I am lucky enough not to be a home owner during this crisis, my good friend and roommate was not so fortunate. The bank has done just what this blog post discusses; it has misplaced or destroyed the note on my friend/roommates home. Even without the note, the bank has continued with litigation. The foreclosure process has proven to be more of bear than either side would have expected. Without the note, numerous questions have been raised as to the interest rate, the validity of the note, and even the address as to what property is being foreclosed. With all of this being said, the rights of the borrower are being tested. With the demand for more information and thorough investigations, the litigation costs to the borrower have increased even more; causing most borrowers faced with foreclosure to also be faced with the possibility of bankruptcy.

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  2. In response to Mr. Bosso's post earlier: I'm surprised the court has even raised questions regarding the validity of the note, etc. Did your friend have a good attorney? The reason I ask is because I worked at a law firm that specialized in foreclosure work (a.k.a: one of the large "foreclosure mills") last year for a regrettable six months on behalf of the banks, and the amount of lost-note problems we encountered were innumerable. However, these were easily resolved in most cases. All we had to do was have one of the bank executives complete and execute a sworn "Affidavit of Lost Note," and all was well in the world. We were able to fully complete the foreclosure process as if the note were actually in our possession - no questionsd asked. In some Florida jurisdictions, judges strictly required this note, and the bank executive would have to personally appear before the court to testify as to why this note was missing. This, of course, made it more difficult for us because most of our bank executives weren't even in Florida. Still, the vast majority of the judges we dealt with would simply accept our affidavit, and before we knew it, we had a sale date in hand...and we never had to utter another word about the note. After working at that office, and personally having to help my own family members with their own foreclosure process that was initiated by the bank this February, I must say that the entire foreclosure process is flawed - the banks and the courts alike have some changes to make. These "missing" notes are just the tip of the ice berg. Although the investigation regarding the note does generate more litigation costs for the borrower, I'm glad the court at least took the initiative to ask questions for your friend...and not just accept a little affidavit in its place.

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  3. "The ultimate protection of the borrower is an original canceled note. Once a borrower pays a note obligation he is entitled to a canceled note. If the lender loses the note he has in a real sense deprived the borrower of this basic right."
    As the quote above shows, I feel that the main concern in this situation is the borrower. As Steven Ramirez mentions, the borrower loses a level of protection that he/she is entitled to. Could this turn against the borrower once they satisfy the note and because the original is not available then approriate proof of payment is never really given? Would the borrower be able to "get away with it" as the bank seems to manage to do in this case?
    Caridad mentions in her comment that in her experience, a bank executive had to appear before the court or complete an "Affidavit of Lost Note." When a particular bank holds hundreds of promissory notes and they are destroyed i.e. lost, how can the bank continue to be credible after hundreds of affidavits or appearances.
    This system is highly flawed and again, in the end, it affects the little guy, the end consumer, the families, the individuals that have less ressources...

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  4. The entire foreclosure process is so flawed, that it goes just beyond lost original notes. I was a Real Estate/Transactional Paralegal for approximately 7 years and I worked on both ends of the transaction and the litigation. From a large institutional lender's perspective, lost notes were an all too common occurrence and just came with the territory of having hundreds of thousands of mortgages under your belt. From a borrower’s perspective, the corners cut by large institutional lenders was almost sickening. Like Caridad references a lost note affidavit was and still is the norm and judges never even give them a second look.

    Having personally assisted someone close to me in a mortgage modification and subsequent foreclosure being filed against her, I have seen from a firsthand perspective how frustrating it is to work with a large mortgage lender and their all-too incompetent foreclosure mill attorneys that contribute to the lost note affidavit norm. David J. Stern’s office is a recent example of how attorneys have become accomplices to these mortgage foreclosure fraud cases. See link below for the Sun Sentinel article that outlines the firm’s fall.

    http://www.sun-sentinel.com/business/fl-foreclosure-stern-developments-20101104,0,2802167.story

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  5. It really does not make a penny of sense that banks are "losing" or even destroying notes when they transfer them into an electronic system. Where are the back-up copies? These banks have a professional responsibility to be diligent in their transactions for the benefit of their clients. Where is it here???

    If banks are transitioning from paper to electronic, the paper forms should definitely not be destroyed they should be kept as back-up in a separate storage facility. Just as electronic data is easier and takes an instant to input so too can the electronic data can be erased or lost in an instant. Banks should have the responsibility of ensuring that they keep a paper back up...and if not they should be held strictly liable in court for any sort of negligence or recklessness.

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  6. With the magnitude of information that is kept on electronic files or in a computer-based system, it seems absurd that a bank could lose not only a few promissory notes, but such a substantial amount. If the bank was using the proper back-up software to keep this information safe, this problem would have never occurred. What makes this even more suspicious. is that this potential problem must have been known by those using the system, or those who created it. Therefore, as a precaution, notes should have never been destroyed. If there was even a small chance of this happening, the proper procedure would be to keep hard copies as well.

    The banks are clearly not faced with the severe penalties that should be implemented in such cases. If they were, this problem would quickly disappear. There should be no leeway given in situations where bankers are nothing short of careless with such important information. This diminishes the level of trust that borrowers have in their lenders, meanwhile borrowers are held to much higher levels of liability. Both parties should be equally liable in maintaining their respective ends of the transaction.

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  7. Greed played a huge role in the mortgage mess. As long as everyone was getting something they wanted, no one gave much thought to the consequences of default. The developer was happy selling real estate property and given the demand raising prices every so many homes sold. The broker and appraiser were getting paid commission and fees for acting as intermediares. The banks made money in fees without regards to applicants income or debt ratio and they sold off most morgages within a few months to larger banks of financial securities. These created new market instruments that were sold off ot international investors and the cycle started again.
    When the bubble burst many banks went under and later acquired by other banks. I am sure no envisioned the logistics of this mess with promissory notes and the high rate of foreclosures. Practices varied from regional to national banks. The drive to put promissory notes in electronic format and the later bankruptcy of banks has created a huge problem in establishing the right to collect from the holder of the loan against an individual without a promissory note. I am not sure much can be done for what's already done, but rules had to be in place to eliminate this from future loans.
    It is on everyone's interest to resolve most foreclosures in a timely manner. The longer the market stays stagnant the lower the prices of property will continue to drop causing more defaults. However, it's important that an individual not be foreclose unless some sort of instrument protects him against future claims.

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  8. The burden to prove the debit should be completely on the banks. The problems culminated into this giant mess becuase of their irresponsibility. They should be held accountable for the notes or prove that the debt is valid.

    If the notes are not recorded, again, the burden to prove that they existed and are legtimate should be borne by the banks.

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  9. my lender lost my note and sold to bac which now sold to bank of america na. if they can provide the note what can happen.. in another web they said i can file declaratory judgement negligence/and slander of title claim in the state court.can anyone tell me if this is possible...you can email me atmasunacca1@yahoo.com i had an attorney that said i had a case for predetory practices in my loan,but he dropped my case ,after also filing bankcrupcy withhim to,first he said i had a case than he said he didnt want to continue with the case .and showed me a big stack of papers if i wanted to continue i would have to do have of the papers and he would complete the other, i dont know before he had told me my bank lost my note and we had a case but later he didnt want to continue,he said to much work and he needed more money .so i decided to yes drop the case can i open another case indeclaratory judgement negligence...sorry my name is maria

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  10. What are the chances my note is lost? I closed with a independent mortgage broker. The lender was a investment group set up by the mortgage broker. MERS is mentioned in the mortgage. The loan was sold prior to the closing and transferred to Ohio Savings within 90 days. Ohio Savings was taken over by AM TRUST. AMTrust went under and was in receivership with the FCIC. Some where Bank Of New York cam ino play. Now I am being Residential Credit solutions. Throughout this we stopped making payments. We do have an attorney. Am Trust started the foreclosure and it had the clause about the lost note. e responded with a demand of the note....this went on....the judge gave them 30 days to respond....thier response was to abate the law suit. Stern has withdrawn and in March was replaced. We have yet o get a response to our demand for the note and we are just living waiting for something..have no idea what exactly we are waiting for. Also what is a defense when you loan application is taken the same day as it is closed? NO VOE, we singed the application at closing December 13, 2007! 30 days after we received a FAX asking us to back date the Disclosures. We signed and dated them correctly. Was that not a violation of Federal Housing Law?

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  11. Never attribute to malevolence what can be adequately described by stupidity. Nevertheless, the consequences can be indistinguishable. The Property and Casualty (PNC) insurance companies long ago went to all digital imaging. Banks have droves so in droves for checks. How can the servicers and ilk be so incompetent they can't image and track one simple document? They deserve what happens next just for being so stupid. Apparently malevolence during foreclosure is not enough for them to compensate. Poor dears.

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  12. ANONYMOUS, I HAVE ENJOYED READING YOUR COMMENTS.....I DO HAVE A QUESTION, I HAVE READ SEVERAL COMMENTS REGARDING BANKS LOSING LOAN DOCUMENTS, IF THEY DID AND YOU ARE REFINANCING/SELLING, HOW DO YOU GET THE BANK TO RELEASE THE TITLE, IF IT WAS RECORDED? IF YOU HAVE PROOF THAT YOU CONTACTED THEM ABOUT WHY THEY STOPPED SENDING STATEMENTS, ETC. AND THEY SAY YOU ARE MISTAKEN THAT THE LOANS THEY HAVE WITH YOU ARE PAID CAR LOANS (THOSE WERE EVEN OLDER THEN THE NOTE) IT ISNT SHOWING UP ON CREDIT REPORTS AND THEY LOST IT DURING A MERGE WITH ANOTHER LARGE BANK..... 5/6 YEARS AGO. WE HAVENT PAID IT, THINKING IT WAS AN ANSWER TO PRAYER, OR SOME RICH FRIEND PAID IT OFF ANONYMOUSLY DURING OUR CRISIS!! ALSO, IS THERE A LEGAL TIME FRAME IN WHICH A LENDER HAS TO ACKNOWLEDGE YOUR NOTE? WE HAVEN'T BEEN THREATENED OR CALLED, NOTHING, THEY SAY THEY DON'T HAVE IT??????? BUT OUR 15 YR BALLOON 1ST, NEEDS TO BE REFINANCED OR THE RATE IS GOING TO SKYROCKET. ANY ADVISE, WOULD BE MUCH APPRECIATED!!

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