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From the SelectedWorks of David J Reiss

January 2013

Dirt Lawyers and Dirty REMICs: A Debate

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DIRT LAWYERS AND DIRTY REMICS: A DEBATE

In mid-2013, Professors Bradley T. Borden and David J. Reiss published an article in theAmerican Bar AssociationsProbate & Propertyjournal (May/June 2013, at 13), about the

disconnect between the securitization process and the mechanics of mortgage assignments. The

Borden/Reiss article discussed potential legal and tax issues caused by sloppiness in mortgage

assignments.

Joshua Stein responded to the Borden/Reiss article, arguing that the technicalities of mortgage

assignments serve no real purpose and should be eliminated. That article appeared in theNovember/December 2013 issue of the same publication, at 6.

Steins response was accompanied by a commentary from Professors Borden and Reiss, which

also appeared in the November/December 2013 issue, at 8.

To follow the Borden/Reiss/Stein debate, click on the links in the left margin or on any

paragraph in the summary above.

For more information on the three authors, including contact information, click on these links:

Professor Bradley T. Borden Professor David J. Reiss Joshua Stein

For more information on ABAsProbate & Property Journal, click here.
http://www.brooklaw.edu/faculty/directory/facultymember/biography.aspx?id=brad.bordenhttp://www.brooklaw.edu/faculty/directory/facultymember/biography.aspx?id=brad.bordenhttp://www.brooklaw.edu/faculty/directory/facultymember/biography.aspx?id=david.reisshttp://www.brooklaw.edu/faculty/directory/facultymember/biography.aspx?id=david.reisshttp://www.joshuastein.com/http://www.joshuastein.com/http://www.americanbar.org/publications/probate_property_magazine_home.htmlhttp://www.americanbar.org/publications/probate_property_magazine_home.htmlhttp://www.americanbar.org/publications/probate_property_magazine_home.htmlhttp://www.americanbar.org/publications/probate_property_magazine_home.htmlhttp://www.americanbar.org/publications/probate_property_magazine_home.htmlhttp://www.joshuastein.com/http://www.brooklaw.edu/faculty/directory/facultymember/biography.aspx?id=david.reisshttp://www.brooklaw.edu/faculty/directory/facultymember/biography.aspx?id=brad.borden


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4/10

14 nMAY/JUNE2013Published in Probate & Property, Volume 27, No 3 2013 by the American Bar Association. Reproduced with permission.

All rights reserved. This information or any portion thereof may not be copied or disseminated in any form or by any means orstored in an electronic database or retrieval system without the express written consent of the American Bar Association.

This article builds on earlier dis-cussions of these issues by theauthors. See Bradley T. Borden &David J. Reiss, Wall Street Rules

Applied to REMIC Classification, Thom-son Reuters News & Insight (Sept. 13,2012), available at http://newsandinsight.thomsonreuters.com/Securities/Insight/2012/09_-_September/Wall_Street_Rules_Applied_to_REMIC_Classification, and BradleyT. Borden & David J. Reiss, Once a

Failed REMIC, Never a REMIC, 30Cayman Fin. Rev. 65 (1st Quarter2013), available at http://ssrn.com/abstract=2185420.

Modern Residential

Real Estate Finance

Before 1986, MBSs had varioustax-related inefficiencies. Mostimportantly, these securities weretaxable at the entity level, so inves-tors faced double taxation. Wall

Street firms successfully lobbiedCongress to eliminate double taxa-tion in 1986. This legislation createdthe REMIC, which is not taxed at theentity level. This one change auto-matically boosted REMIC yields overother forms of MBSs that would still

be taxed. Unsurprisingly, REMICslarglely displaced these other types ofMBSs and soon became the dominantchoice of entity for such transactions.

A REMIC allows for the poolingof mortgage loans that can then beissued as multiple-tranche MBSs. AREMIC is intended to be a passiveinvestment in a static pool of mort-gages. Because of its passive nature, aREMIC is limited on how and when itcan acquire mortgages. In most cases,a REMIC must acquire its mortgageswithin three months of its start-up.

IRC 860G(a)(3)(ii), (9). The IRC con-tains draconian penalties for REMICsthat fail to comply with applica-ble legal requirements, the REMICrules.

In the 1990s, the housing financeindustry, still faced with the patch-work of state and local laws relatingto real estate, sought to streamline theprocess of assigning mortgages fromthe loan originator to a mortgagepool. Industry players, including

Fannie Mae, Freddie Mac, and theMortgage Bankers Association, advo-cated for the Mortgage ElectronicRecording System (MERS), whichwas up and running by the end of thedecade. A MERS mortgage containsa statement that MERS is a sepa-rate corporation that is acting solelyas nominee for the Lender and Lend-ers successors and assigns. MERSclaims to be the mortgagee underthis Security Instrument. MERS isnot, however, named on any note

endorsement. This new system savedlenders small, but not insignificant,amounts of money in recording feesand administrative costs every time amortgage was transferred. The legalstatus of this private recording sys-tem was not clear, and it had not beenratified by Congress. Notwithstand-ing that fact, nearly all of the majormortgage originators participated inMERS, and it registered millions ofmortgages within a couple of years.

By 2009, MERS claimed to be thenominal mortgagee on approximatelytwo-thirds of all newly originated res-idential loans.

Beginning in the early 2000s,MERS and other parties in the mort-gage securitization industry beganto relax many of the procedures andpractices they had originally usedto assign mortgages among indus-try players. Litigation documents

and decided cases reveal how relaxedthe procedures and practices became.Hitting a crescendo right before theglobal financial crisis, loan origi-nation and securitization practicesbecame egregiously negligent.

The Rule of Law in the

Business of Real Estate

Even though some securitizers may

have complied with all of the termscontained in the applicable Pool-ing and Servicing Agreements thatgovern REMIC MBSs, the very lowtolerance for deviation in the REMICrules suggests that even a smalldegree of noncompliance could resultin a finding that individual REMICshave violated the strict requirementsof the IRC. This would cause thoseREMICs to lose their preferred taxstatus. Surprisingly, however, the IRS

appears to be unresponsive to thisissue so far, and this failure probablycontributed to the financial crisis tosome extent. See Bradley T. Borden,Did the IRS Cause the Financial Crisis?,Huffington Post, Oct. 18, 2012, avail-able at www.huffingtonpost.com/bradley-t-borden/did-the-irs-cause-the-fin_b_1972207.html.

To obtain the REMIC classification,a trust must satisfy several require-ments. Of particular interest is therequirement that within three months

after the trusts start-up date substan-tially all of its assets must be qualifiedmortgages.See IRC 860D(a)(4). Theregulations provide that substantiallyall of the assets of a trust are quali-fied mortgages if no more than a deminimis amount of the trusts assetsare not qualified mortgages. Treas.Reg. 1.860D-1(b)(3)(i). A quali-fied mortgage is an obligation thatis principally secured by an interestin real property. See IRC 860G(a)(3)

(A). Thus, to be a qualified mortgage,an asset must satisfy both a tim-ing requirement (be acquired withinthree months after the start-up date)and a definitional requirement (be anobligation principally secured by aninterest in real property).

Industry practices raise ques-tions about whether trusts satisfiedeither the timing requirement orthe definitional requirement. The

Before 1986,

mortgage-backed securities

had various tax-related

inefficiencies.


5/10 nMAY/JUNE2013 15

Published in Probate & Property, Volume 27, No 3 2013 by the American Bar Association. Reproduced with permission.


general practice was for trusts andloan originators to enter into Pool-ing and Servicing Agreements, whichrequired the originator to transfer themortgage note and mortgage to thetrust. Nonetheless, reports and courtdocuments indicate that originatorsand trusts frequently did not com-ply with the terms of the Pooling andServicing Agreements, and origina-

tors often retained possession of themortgage notes as MERS became thenominee of record on the mortgage.

The failure to properly transferthe mortgage note and mortgagecan cause a trust to fail both thetiming requirement and the defini-tional requirement that are necessaryto qualify for REMIC status. Thetrust fails the timing requirementbecause it does not acquire the requi-site interests within the three-month

prescribed time frame. It fails the def-inition requirement because it doesnot legally own the proper obliga-tions, and what the trust does legallyown does not appear to be secured byinterests in real property.

Wall Street Rules or

Legal Rules?

Although Wall Street treated theREMIC rules with disregard, they areactually pretty straightforward inbroad outline. Federal tax law does

not rely on the state-law definition ofownership, but it looks to state lawto determine parties rights, obliga-tions, and interests in property. See,e.g., Burnet v. Harmel, 287 U.S. 103,110 (1932). The tax definition of own-ership would apply to the mortgagenotes. See Bradley T. Borden & David

J. Reiss, Beneficial Ownership and theREMIC Classification Rules, 28 TaxMgmt. Real Est. J. 274 (Nov. 7, 2012).Tax law also can disregard the trans-

fer (or lack of transfer) of formal titlewhen the transferor retains many ofthe benefits and burdens of owner-ship. See Bailey v. Commissioner, 912F.2d 44, 47 (2d Cir. 1990).

Courts focus on whether the ben-efits and burdens of ownership passfrom one party to another when con-sidering who the owner of propertyis for tax purposes. Grodt & McKayRealty, Inc. v. Commissioner, 77 T.C.

1221, 1237 (1981). The analysis ofownership does not merely look tothe agreements the parties enteredinto because the label parties giveto a transaction does not determineits character. SeeHelvering v. F. & R.Lazarus & Co., 308 U.S. 252, 255 (1939).The analysis must examine the under-lying economics and the attendantfacts and circumstances to determine

who owns the mortgage notes for taxpurposes. See id. Thus, even if a trustowns a mortgage under Article 9 ofthe UCC, it would not appear to bethe tax owner.

Courts in many states have consid-ered the legal rights and obligationsof REMICs with respect to mort-gage notes and mortgages that theREMICs claim to own. Courts aresplit, with some ruling in favor ofMERS as nominee for the REMIC and

others ruling in favor of other par-ties whose interests are adverse to theREMIC and to MERS. Apparently nocourt has considered how significantthese rules are for the REMIC classi-fication for tax purposes. Standing toforeclose and participate in a bank-ruptcy proceeding will likely affectthe tax analysis of whether REMICtrust assets are secured by an interestin real property, but they probably donot affect the tax analysis of whetherREMIC trusts own obligations. (The

lack of standing should result in afinding that the mortgage note is notsecured by an interest in real prop-erty.) This analysis turns on theownership of the mortgage notes.

The practices at CountrywideHome Loans, Inc. (one of the nationslargest loan originators in terms ofvolume during the boom and nowpart of Bank of America) illustratethe behavior of mortgage securitizersduring that period of time. The court

in In re Kemp, 440 B.R. 624 (Bankr.D.N.J. 2010), documents in painfuldetail how Countrywide failed totransfer possession of a note to thepool backing a MBS, and thus failedto comply with the requirementsnecessary for that mortgage to com-ply with the REMIC rules. Numerousother filings and reports suggest thatCountrywides practices were typi-cal of many major lenders during the

early 2000s. A suit filed by the NewYork Attorney General also details inits allegations how loan originatorsand REMIC sponsors colluded to pop-ulate REMICs with mortgages thatinadvertently did not comply withthe REMIC rules. See Complaint, NewYork v. J.P. Morgan Securities LLC, No.451556/2012 (County of New York,Oct. 1, 2012). A suit filed on behalf

of Freddie Mac and Fannie Mae alsoalleges that the practices of loan orig-inators have negative implicationsfor the REMICs tax-advantaged sta-tus. See Complaint, Federal Hous. Fin.

Agency v. JPMorgan Chase & Co., No.11 Civ. 6188 (DLC), 2012 WL 5395646(S.D.N.Y. Sept. 2, 2011).

The practices of loan originatorsand REMIC sponsors have causedsevere losses and have underminedthe American property system. Sig-

nificant litigation has grown out ofthose losses. To date, hundreds ofsuits have been filed that allege arange of behaviors in the securitiza-tion industry that have consequencesfor the REMIC rules. For reports onsuch litigation, see Bradley T. Borden& David J. Reiss, REFinBlog (Feb. 26,2013, 5:00 p.m.), http://refinblog.com.The resulting tax consequences forREMICs that failed to comply withthe REMIC rules may be staggering.

Kempaddressed the issue of

enforceability of a note under the

Although Wall Street treated

the REMIC rules with disregard

they are actually pretty

straightforward in

broad outline.


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16 nMAY/JUNE2013Published in Probate & Property, Volume 27, No 3 2013 by the American Bar Association. Reproduced with permission.


UCC for bankruptcy purposes. See440 B.R. at 626. The court in that caseheld that a note was unenforceableagainst the maker of the note and themakers property under New Jerseylaw on two grounds. The court heldthat because the beneficial owner ofthe note, the Bank of New York (thetrustee of a pool of mortgages thatbacked an MBS that included the

mortgage at issue in the case) didnot have possession, and becausethe note lacked proper endorsementon sale, the note was unenforceable.Recognizing that the mortgage notecame within the UCC definition ofnegotiable instrument, the court thenconsidered who is entitled to enforcea negotiable instrument, but held thatno such person was a party in Kemp.

The flaws in the opinion docu-ments are shocking, even after the

revelations regarding industry prac-tices that have come to light since thesubprime bust. These flaws include

the originator failing to conveypossession of the note to theintended assignee, the trustee ofthe pool;

the originator failing to endorsethe note to the intendedassignee;

the originator failing to affix anallonge to the note;

the originator producing a LostNote Certification in the samefiling in which it claims to havelocated the original note;

the originator transferring thenote to the trustee only after thefiling of the proof of claim; and

the originator failing to main-

tain corporate formalities todistinguish it from its affiliates,as those formalities relate to theissue of possession of the note.

The consequences of these flaws playout for the borrower, the legal ownerof the debt, and the trustee (the benefi-cial owner) of the pool of mortgagessecuring the MBS, which includes themortgage at issue in the case.

As the Kemp court notes:

From the makers standpoint, . . .it becomes essential to establishthat the person who demandspayment of a negotiable note, orto whom payment is made, isthe duly qualified holder. Oth-erwise, the obligor is exposedto the risk of double payment,or at least to the expense of lit-igation incurred to preventduplicative satisfaction of theinstrument. These risks pro-

vide makers with a recognizableinterest in demanding proof ofthe chain of title.

440 B.R. at 631 (quotingAdams v.Madison Realty & Dev., Inc.,853 F.2d163, 168 (3d Cir. 1988)). Because theoriginator did not comply with thelegal niceties, the beneficial owner ofthe debt, the trustee, cannot file itsproof of claim, either.

The Kempcourt did not address

the third type of consequence (for thetrustee) because it was not an issuebefore the court. Nonetheless, the anal-ysis in Kempillustrates how courtscan reach results that undercut argu-ments that REMICs were the ownersof the mortgage notes and mortgagesthat were purportedly sold to them forREMIC rules purposes.

Even if the majority of jurisdictionsissue foreclosure and bankruptcy

rulings that have favorable conse-quences for REMICs, the few withnegative consequences can destroythe REMIC classification of manymortgage-backed securities that werestructured to beand promotedto investors asREMICs. This isbecause rating agencies require thatREMICs be geographically diversi-fied to spread the risk of defaults

caused by local economic conditions.Most, if not all, REMICs own mort-gage notes and mortgages from statesgoverned by laws that the courts maydetermine do not support REMICeligibility for the mortgages fromthose jurisdictions. This diversifica-tion requirement makes it very likelythat REMICs will have more than ade minimis amount of mortgages thatdo not come within the definition of aqualified mortgage under the REMIC

regulations. Professionals who helpedstructure these securitizations mayface liability if the IRS were to findthat a purported REMIC was justpurported and not truly a REMIC.

Conclusion

As lawsuits arising from the housingboom allocate liability and damagesarising from faulty securitizationsamong investors, underwriters, andsecuritization professionals, lawyersmay feel no more empowered to take

corrective action than homeownersdo. Individual lawyers might feel asif they do not have much leverageover lenders, over title companies, orover Wall Street firms. And indeed,they do not. But as members of barassociations and trade associations,as informed constituents of electedofficials, as wielders of the pen, theycan attempt to influence policy andindustry practices that they believeto be harmful to a well-ordered real

estate market.Looking back to the housing boom

in the early 2000s, at the time somesaid that things could not keep goingon like this. They were right, and theUnited States is now suffering the seri-ous consequences. Let us now committo speaking out in real time to reducethe chances that history repeats itself,at least in our lifetimes. n

The flaws in the opinion

documents are shocking,

even after the revelations

regarding industry practices

that have come to light since

the subprime bust.


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6 nNOVEMBER/DECEMBER2013Published in Probate & Property, Volume 27, No 6 2013 by the American Bar Association. Reproduced with permission.

All rights reserved. This information or any portion thereof may not be copied or disseminated in any form or by any means

stored in an electronic database or retrieval system without the express written consent of the American Bar Association.

Yes, the securitization boom leftbehind a mess. Yes, messes are bad. But

theres more to the discussion. The post-securitization residential foreclosuremess should prompt larger questionsabout how we evidence, document, andtransfer ownership of mortgage loans.

Does our system make any senseat all? Do the technical requirementsthat Borden and Reiss describenowcreating so much trouble for foreclo-suresstill serve any purpose in the21st century? They certainly createtremendous paperwork, complexity,

and legal issues, most of which seementirely spurious and unnecessary.They also create tremendous oppor-

tunities for error. As Borden and Reissshow, the mortgage origination andsecuritization industries seem to havefully seized all those opportunities. Butdo those troublesome technical require-ments give anyone any protection thatmatters?

Yes, its certainly nice for a mortgageholder to be a holder in due course. Buthow often does holder-in-due-course

status matter for todays institutionalresidential mortgages? How often doesthe purchaser of such a loan actuallybenefit by taking free of defenses basedon fraud or previous payment? Howoften has a loan purchaser been ableto enforce against the borrower a pre-viously repaid loan just because thepurchaser was a holder in due course?

Todays residential mortgages areso wrapped up with consumer protec-tions that any holder of the loan would

have trouble enforcing a mortgage loanthat was truly subject to, for example,fraud in the inducement. As a practicalmatter, in the world of residential mort-gages all defenses probably travel withthe loan, so holder-in-due-course statushas no real significance to a mortgagepurchaser. It matters for checks andcommercial transactions, but not forresidential mortgages.

Borden and Reiss point out that

traditional requirements for endorse-ment and delivery of the originalpromissory note also protect the bor-rower from the risk of having to pay theloan twice. While that risk may exist intheory, if the borrower had in fact paid

the loan, that would typically provide acomplete defense against foreclosure.

Any discussion that treats promis-sory notes as a measure to mitigate therisk of double payment relies on thefantasy that when the borrower repaysthe loan, he will demand that the lenderprove possession of the note and theright string of endorsements.

If any residential borrower actuallyasked to see the note at the time of pay-off, the servicers first response would

consist of confusion and laughter.When his laughter died down, the ser-vicer would explain that the note waslost years ago. Or perhaps the servicermight advise the borrower to speak tosomeone else in some other departmentthat never answers the phone. The bor-rower would eventually give up.

Practically speaking, in todaysworld, the main function of any originalpromissory note consists of getting lost.

If any mortgage borrower anywherein the United States had ever actually

needed to pay their mortgage loan asecond time to keep their house, wewould all have heard about it; even oneinstance would have prompted a tre-mendous outcry. But has anyone everheard of that actually happening?

Even if requirements for presenta-tion of the note could prevent the risk ofdouble payment, they wouldnt achievethat goal, for two reasons. First, as men-tioned, many notes get lost. Second,residential lenders often require the bor-

rower to sign multiple original notes.In other words, the requirement for amortgage holder to show possession ofthe note doesnt actually give the bor-rower much protection.

Outside of real estate, many loansno longer require promissory notes,nor are they burdened by the technicalrequirements of the recording systemor of negotiable instruments. No onecares about original notes, or holder in

Letters to the Editor

Dirt Lawyers versus Wall Street:

A Different View

In the securitization boom that precededthe financial crisis, people became

sloppy about the technical details oftransferring residential mortgagesfrom the originator to intermediariesand ultimately to real estate mortgageinvestment conduit (REMIC) entities forsecuritization. Bradley T. Borden andDavid J. Reiss described the magnitudeof the mess, and its possible legal, tax,and practical consequences, in the coverarticle of the May/June 2013 issue ofthis publication.

Notes were not properly endorsed.

Lenders lost them. Assignments werenever recorded, or were recorded in thewrong order or with gaps. Transfersthat should have been made werent.Notes followed one path of transfers,mortgages another. When the musicstopped, enforcement became a prob-lem because servicers couldnt figureout the paper trail. To fill gaps, those inthe back room sometimes undertook agoal-oriented creative writing program.

Because of all that sloppiness, trans-ferees of loans sometimes flunked the

basic tests to become holders in duecourse. Borrowers faced the theoreticalrisk of having to pay their loans twice.REMICs maybe failed to qualify underthe tax law, exposing their investors totax disasters.

One might add that, as a result ofall this, mortgage borrowers in defaulthave had a field day delaying or evenderailing foreclosures by claiming thatthe plaintiff lacked standing because itcouldnt prove ownership of the note

and mortgage. And when loan servicerstried to clean up the files, borrowerscried fraud and robo-signing, whileremaining in default.

Next time around, Borden and Reissargue, we should do it right. Legal tech-nicalities and niceties do matter. Whenwe move mortgages, we should getthe notes properly endorsed, the rightassignments signed, and everythingrecorded both promptly and correctly.


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All rights reserved. This information or any portion thereof may not be copied or disseminated in any form or by any means

or stored in an electronic database or retrieval system without the express written consent of the American Bar Association.

mortgage once, in favor of MERS,then any future mortgage assign-ments could take place electronically,without the paperwork, pitfalls,delays, and variationsand nowlegal issuesentailed by generatingand filing documents with thou-sands of recording systems across theUnited States.

But the same antiquated legal

notions that created so much trouble formortgage assignments have also cre-ated trouble for MERS. County clerksanxious to protect revenue, employ-ment, and the importance of theiroffices joined forces with the foreclosuredefense bar to try to derail the MERStrain. Judges seized the opportunityMERS gave them to help defaultingborrowers stay in their homes, and tocreate new lawand to achieve goodconsumer protection headlinesin an

area that suddenly assumed great pub-lic importance. The result: a MERS messwith conflicting decisions from coast tocoast, and many more months of bor-rower defaults with impunity.

That doesnt mean MERS was a badidea. Our leaders should figure outhow real estate law can accommodateand support MERS and move into the21st century. The idea of a single centralregistry for mortgage transfers makessense. It would make even more senseto expand that central registry to cover

all property-related transfers, replacinga system that often seems as outdatedas quill pens and parchment.

Any proposal to blow up and re-create our system of land records andmortgage loan assignments will face apredictable set of objections. Jobs willbe lost, though other jobs created. Taxcollectors might have trouble collectingtaxes. The transition process wont goperfectly. After the transition, real estatelawyers and paralegals will have less

work to do. Will the system adequatelyprotect and preserve online data? Will itinvade privacy? And, of course, it mightcreate new opportunities for fraud.

A better system for mortgage assign-ments would also speed foreclosures.Would that be so bad? If a borrowercan no longer afford his house and themarket wont let him sell for more thanthe mortgage balance, then he doesntreally own the house anyway. The

due course. Borrowers in those trans-actions have not faced an epidemicof double payment claims. Purchas-ers of these loans, or interests in them,havent suffered great losses for lack ofan original piece of paper or holder-in-due-course status.

Unlike mortgage assignments,corporate stock and other financialinstruments are transferred electroni-

cally with little to no documentation.The transfer system itself keeps trackof everything. If corporate stock trans-fers followed the mortgage model,every corporation would have its owndetailed set of rules, requirements,fees, filings, and forms for stock trans-fer documentation. Every transfer ofa single share of stock would requiredealing with multiple pieces of paperwith numerous signatures and couldtake weeks, with endless opportunities

for problems and mistakes. Transfer-ring 100 shares would require 100 setsof fully compliant documentation. Butnone of that happens, because thecorporate stock transfer system is sim-ple, functional, reliable, and largelyelectronic.

The 21st century is a great time torevisit the legal principles and practicesthat drive the complexity and paper-work that led to the mistakes describedby Borden and Reiss.

We could start by eliminating prom-

issory notes in mortgage transactions.Instead, we could document real estateloans as contractual promises in whichpossession of an original piece of paperhas no particular significance. A prom-issory note is not essential to evidencingan obligation to pay, secured or not.Ownership of a loan could be pre-sumptively determined based on aninstitutions books and records, and ahistory of loan payments.

We might even go a few steps further

and establish a central registrar to keeptrack of who owns mortgage loans andwho has the right to foreclose. Trans-fers could be confirmed electronically,with no paperwork at all. A registrarscertificate would evidence the right toforeclose.

The Mortgage Electronic Registra-tion System (MERS) seemed like a greatmove in that direction. MERS contem-plated that a lender would record its

mortgage holder does, for all practicalpurposes. Every month the borrowerhas the option to keep the house bymaking that months payment. Ifhe cant make those payments, orchooses not to, thats unfortunate, buthe still doesnt have any equity in thehouse. He should find a new place tolive, just as millions of other Ameri-cans do each year.

Foreclosures are part of any mort-gage finance system, one possibleoutcome when someone borrowsmoney and grants security. If we cantstomach residential foreclosures, maybethe federal government should just buyeveryone a house.

Commercial real estate is, of course,a different story. It is less fungible thanhouses. The roles of borrower andlender are more complex, nuanced,and interrelated. The identity of the

borrower matters. And commercialforeclosures do not seem to have experi-enced the same problems as residentialforeclosures.

Aside from speeding up residentialforeclosures, any attempt to fix loantransfers will also raise well-foundedconcerns that trying to change anythingwill just make it worse. But if we take agradual and careful approachperhapsmoving state by stateto bringing ourreal estate documentation and securitysystems into the 21st century, then over

time it should be possible to overcomethese and other objections. The UnitedStates did something like that, thoughnot as dramatic, when Revised Article9 became effective in 2001. Nothing toodisastrous happened.

Some would argue that todays sys-tem protects mortgage borrowers bymaking it hard for mortgage lenders tospuriously enforce a mortgage loan thatthey dont own or perhaps that isnteven in default. Todays system may do

that. Aggressively applied by the courts,it puts mortgage lenders to the test andforces them to prove they own the loanthey want to foreclose. When paper-work deficiencies prevent the lenderfrom proving standing, the lender getsthrown out of court.

In these cases, however, the borroweris still in default. And, realistically, lend-ers dont often try to foreclose on loansthey dont own or that arent in default.


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All rights reserved. This information or any portion thereof may not be copied or disseminated in any form or by any means stored in an electronic database or retrieval system without the express written consent of the American Bar Association.

When the court throws lenders out ofcourt because of issues of standing, thedefaulting borrower gets to keep herhouse, at least until the right paperworkgets lined up and submitted. In thattime, as long as four years for a residen-tial foreclosure proceeding in New York,the borrower typically doesnt pay debtservice, insurance, or real estate taxes.Once in a while the defaulting borrower

gets really lucky: the paperwork is sobad that no one actually has the right toforeclose.

All of this produces extraordinarilylong, complex residential mortgageforeclosures, destabilizing neighbor-hoods and preventing property valuesfrom recovering. When it isnt clearwho owns a property and no one hasan incentive to maintain it, and noth-ing about the foreclosure gets resolvedquickly, the mortgage collateral inevi-

tably festers and deteriorates. Todaysclumsy system for documenting mort-gage loan transfers puts propertiesinto legal limbo for years as a result ofpaperwork requirements that might bequaint and funny if they didnt createso much trouble.

Lets assume, though, that a genuinerisk exists that a mortgage lender mightin fact try to foreclose a loan it doesntown against a borrower who isnt indefault. To address that risk, one couldsay that if a mortgage borrower ever

lost his house under any such circum-stances, he should be entitled to recovertreble (or more) damages, plus attor-neys fees, from the originator of hismortgage or whoever wrongfully tookhis house. The borrower would havethe same right if she were forced to paythe same loan twice. Some state lawsmay already give borrowers rights likethese; there, no change in law would benecessary at all.

With suitable safeguards, a stream-

lined system to track mortgageassignments would give borrowersample protection.

In a separate discussion, Borden andReiss also argue that technical glitchesin transfers of mortgages may havecaused many REMICs to fail the vari-ous technical tests established under theInternal Revenue Code. The solution tothat problem, if it really is one, would bemuch easier to adopt than other mea-sures suggested earlier in this article.

Solving the REMIC problem wouldrequire nothing more than a technicalamendment to the Internal RevenueCode, which is, after all, entirely capa-ble of being amended. The Code shouldsay that as long as a REMIC directly orindirectly holds the risks and benefitsof a mortgage loan, and cleans up anytechnical imperfections in its ownershipwithin a reasonable time after learning

of them, that should be just as good as ifthe REMIC actually owned the loan.

The apparent lack of publicizedREMIC disqualifications to date maytell us that the IRS applies the REMICrequirements with the practicality and

flexibility suggested in the previousparagraph. If thats true, then perhapsnothing need be done.

The problems Borden and Reissdescribe do definitely cry out foractionbut not necessarily the actionthey suggest. Instead of exalting thetechnicalities of the current system, weshould get rid of them. We should mas-sively simplify loan transfers and revise

the law as necessary to do that.

Joshua SteinJoshua Stein PLLC

New York, New York

technical requirements give anyoneany protection that matters. Beforegoing to the substance of the question,we would first ask, would Mr. Steinwaive a strict notice requirement con-tained in a commercial lease if doing sowould harm his client? If not (and weare pretty sure it is not), why woulda different rule apply with homeown-ers? Certainly residential lenders dontroutinely waive troublesome require-ments such as the one that requires

monthly payments to be made by a cer-tain date in order to avoid a late penalty.

As to the substance of Mr. Steinsinquiry, we would answeryes, tech-nical requirements matter. As just oneexample, only certain parties can fore-close on a mortgage. Technical state lawrequirements ensure that the plaintiff isone of those parties and protect borrow-ers from defending actions by partieswithout standing to foreclose. Again,I am confident that Mr. Stein would

insist on such a technical requirement ifit were his commercial client who wasfaced with a foreclosure. What is goodfor the commercial goose is good for theresidential gander as far as we can tell.

Another example: Steins dismissalof the relevance of the holder-in-due-course status in residential mortgagefinance ignores the key role it playedin the debate over state anti-preda-tory lending legislation throughoutthe boom years in the early 2000s. See

Before setting pen to paper to draftour response to Joshua Steins Dif-ferent View, we had to look down tosee whether the shoe was on the otherfoot. A preeminent real estate lawyerwas criticizing two law professors foradvocating for strict construction ofdocuments and statutes and for think-ing too small. And that practitionerwas also advocating for a revolution inreal estate finance, for sweeping awayborrower protections that had been

developed over a millennia under ourcommon law system, and for replacingthe status quo with an efficient sys-tem designed by the financial industry,along the lines of the Mortgage Elec-tronic Recording System (MERS). Weexpect to find that kind of thinking inlaw review articles!

Because our different approachesso clearly demonstrate the opposingviews in the debate over the futureof residential real estate finance, we

will first review those differences andthen highlight where they converge. Inthe end, we hope that real estate law-yers of all stripes can come togetherwith an approach to residential realestate finance that is efficient and alsoprovides reasonable protections forhomeowners.

Those Troublesome Technical

Requirements!

Stein asks whether those troublesome

Dirty REMICs, Revisited


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All rights reserved. This information or any portion thereof may not be copied or disseminated in any form or by any means ord i l i d b i l i h h i f h A i B A i i

loans and who has the right to fore-close. As Stein acknowledges, this is alot like the Mortgage Electronic Reg-istration System (MERS). But Steindoes not acknowledge any of the con-troversy surrounding MERS, whichwas created by private interests suchas Fannie, Freddie, and the MortgageBankers Association. They did notbelieve that they needed the approval

of federal, state, or local governments,or anyone else for that matter, to dra-matically change the recording systemfor mortgages. Things appeared to goswimmingly for a few years, but theshortcuts MERS took wrought a toll onit. Steins takeaway: do it again.

Our takeaway: if we do it again, letsremember that process matters. Consultwith all of the stakeholders, includingthose representing borrowers interests.Promote efficiency, but respect the body

of law that has developed around mort-gages. Accept that consumer protectionis not only the right thing to promotebut that consumer protection also pro-motes responsible lending.

The Future of Residential

Real Estate Finance

We have poked fun at Mr. Stein a bitfor the double standard we believe he

generally David Reiss, Subprime Stan-dardization: How Rating Agencies AllowPredatory Lending to Flourish in the Sec-ondary Mortgage Market, 33 Fla. St. U. L.Rev. 985 (2006).

And another: Stein argues thatpayment would typically providea complete defense against foreclo-sure in the case of a second foreclosure

brought by the true owner of the debt.

That misstates the real issue. The realissue is whether a borrower wouldhave to defend an action to collect thedebt brought by a true owner afteranother party brought a successful fore-closure action. The clear answer is yes;they would need to pay for the defenseof such a suit. And, in Arizona at least,they might be liable for that debt tothe true owner under certain circum-stances! See William K. Akina, David

J. Reiss & Bradley T. Borden, Show Me

the Note!, Westlaw J. Bank & LenderLiability 3 (June 3, 2013) (available athttp://papers.ssrn.com/sol3/papers.cfm?abstract_id=2274977 and http://works.bepress.com/david_reiss/63).

And a last one: Stein argues that weare mistaken in calling for the IRS toenforce the REMIC rules as they arewritten so that the Treasury can collectrevenue properly due to it by noncom-pliant purported REMICs. The generaltax enforcement policy is that if you donot comply with the strict requirements

for avoiding taxation, you will pay taxon the transaction. We do not under-stand why Stein would have a specialrule for REMICs. It makes us wonderwhether he believes that commercialreal estate transactions should be gener-ally exempt from strict compliance withthe Internal Revenue Code. For instance,the period for identifying properties forlike kind exchanges under IRC 1031 could be a few months insteadof 45 days after the transfer of the relin-

quished property, and the exchangecould happen 180 days, give or take,after that transfer. That would be veryefficient for investors, too!

Law Professors Thinkin Small

Stein argues that we should sweepaway a lot of the technical require-ments relating to mortgages and addsthat we might even go a few steps fur-ther and establish a central registrarto keep track of who owns mortgage

has for residential and commercial realestate finance transactions. But we aregrateful that he has taken our argu-ment seriously and agree with him thatthe stakes are high for borrowers andfor the real estate finance industry. Weagree that structural reform that wouldseek to modernize the system of resi-dential real estate finance is called for.But until that reform is in place, we will

continue to advocate for the enforce-ment of procedural protections and forstrong tax enforcement.

We would also emphasize that athoughtful process for adopting pro-posed reforms is not only important toensure that all stakeholders are repre-sented but also to ensure the long-termlegitimacy of the new system. And wecannot emphasize enough how impor-tant we believe consumer protectionis to a well-functioning residential real

estate finance system. A thousand yearsof precedents in law and equity back usup on that.

Bradley T. BordenDavid Reiss

Brooklyn Law SchoolBrooklyn, New York

2013 RPTE Law StudentWriting Contest Winners

Congratulations to the 2013 Law Student Writing Contest winners:First placeJessica Beess und Chrostin of Harvard Law School: Mandatory

Arbitration Clauses in Donative Instruments: A Taxonomy of Disputes and Type-Differentiated Analysis.

Second placeRebecca Gross of Georgetown University Law School: IntestateIntent: Presumed Will Theory, Duty Theory, and the Flaw of Relying on AverageDecedent Intent.

Third placeKyle Belz of Stetson University College of Law: No Covenant forOld Men: Restrictive Covenants Impact on Aging in Place.

The goal of the RPTE student writing contest is to encourage and reward lawstudent writing on the subjects of real property or trust and estate law. The essaycontest is designed to attract students to these law specialties and to encouragescholarship and interest in these areas. Articles submitted for judging are encour-aged to be on timely topics and have not been previously published.

Jessica Beess und Chrostin, the first place winner, will receive $2,500 cash, aone-year free membership in the Section, and free round-trip airfare and weekendaccommodations to attend the Sections Fall Leadership Meeting, November 79,2013, in New Orleans (valued at approximately $1,000). In addition, Jessicas essaywill be considered for publication in a future issue of the Real Property, Trust andEstate Law Journal. Rebecca Gross, the second place winner, will receive $1,500 cash,and Kyle Belz, the third place winner, will receive $1,000 cash.

Documents

Re Mic Paper Notes