Well we have been talking aboutwrongful foreclosure, the role of MERS and irregularities in the foreclosure process for years now. The Fontenot case recently decided by the California Court of Appeals offers good language for lenders, servicers and MERS. This case can be seen as another case in the lender foreclosure toolbox, along with the Gomes case, and the Ferguson case.
Facts of Fotenot v. Wells Fargo (you can find the full set of facts here if you do not like my condensed version)
A homeowner who was in default, and who was promised a modification, (but ultimately was foreclosed on), brought a lawsuit alleging wrongful foreclosure based on irregularities in the chain of title and challenging MERS in various capacities. The trial court upheld the foreclosure, and so did the court of appeal.
Specifically, the Plaintiff was challenging the Assignment of Deed of Trust from MERS to HSBC (the trustee of the securitized loan trust). The Assignment of Deed of Trust states (as most do) that the Assignment of Deed of Trust is made together with “the notes therein.” Plaintiff argued that MERS had no promissory note to transfer and as such, there was no transfer of the note, and a transfer of the ADOT by itself (without the note) was a meaningless act. Case law was cited for this proposition. As such, Plaintiff argued that HSBC never got the note, and was thus not in the position to foreclose on the property. Also, Plaintiff argued this fact made the Substitution of Trustee (in favor of NDEX West, LLC), improper as only the beneficiary can substitute the trustee. If the substitution of trustee was not proper, it appears Plaintiff was arguing that would also invalidate the Notice of Default. At any rate, based upon this, Plaintiff asserted the eventual non-judicial foreclosure sale was invalid and must be set-aside.
California Court of Appeal Holding
The Court completely disagreed with Plaintiff and essentially stated that the borrower appoints MERS as beneficiary in a nominee capacity in the Deed of Trust. And since the Deed of Trust empowers MERS to take any action the lender can take (when law or custom requires it) that MERS can assign the deed of trust and the “notes therein” even though MERS itself may hold no note at all. This was based on the concept that MERS can transfer the note on behalf of the lender even if it does not have the note. Which is strange because the note was supposed to be in the HSBC early on in the securitization process. At any rate, the Court found nothing improper in this and said:Second, the complaint alleges MERS lacked the authority to assign the note because it was merely a nominee of the lender and had no interest in the note. Contrary to plaintiff’s claim, the lack of a possessory interest in the note did not necessarily prevent MERS from having the authority to assign the note. While it is true MERS had no power in its own right to assign the note, since it had no interest in the note to assign, MERS did not purport to act for its own interests in assigning the note. Rather, the assignment of deed of trust states that MERS was acting as nominee for the lender, which did possess an assignable interest. A “nominee” is a person or entity designated to act for another in a limited role—in effect, an agent. (Born v. Koop (1962) 528; Cisco v. Van Lew (1943) 60 Cal.App.2d 575, 583-584.) The extent of MERS’s authority as a nominee was defined by its agency agreement with the lender, and whether MERS had the authority to assign the lender’s interest in the note must be determined by reference to that agreement. (See, e.g., van’t Rood v. County of Santa Clara (2003), 571 [agency typically arises by express agreement]; Anderson v. Badger (1948) 84 Cal.App.2d 736, 743 [existence and extent of agent’s duties are determined by the agreement between agent and principal]; Civ. Code, § 2315 [agent has such authority as principal confers upon agent].) Accordingly, the allegation that MERS was merely a nominee is insufficient to demonstrate that MERS lacked authority to make a valid assignment of the note on behalf of the original lender.Plaintiff also argues any purported assignment by MERS was invalid under the common law of secured transactions. Her argument rests on the general principle that because the security for a debt is “a mere incident of the debt or obligation which it is given to secure” (Hayward Lbr. & Inv. Co. v. Naslund(1932) 125 Cal.App. 34, 39), the assignment of an interest in the security for a debt is a nullity in the absence of an assignment of the debt itself.(E.g., Kelley v. Upshaw (1952), 192; 4 Witkin, Summary of Cal. Law (10th ed. 2005) Security Transactions in Real Property, § 105, p. 899.) The assignment of the deed of trust, however, expressly stated that MERS assigned its interest in the deed of trust “[t]ogether with the note or notes therein described or referred to.” Accordingly, to plead a claim on this ground plaintiff was required to allege this assignment to HSBC was invalid. Because, as discussed above, plaintiff failed adequately to pleadsuch invalidity, she failed to state a cause of action for wrongful foreclosure on the ground HSBC did not receive an assignment of both the note and its security.There is a further, overriding basis for rejecting a claim based solely on the alleged invalidity of the MERS assignment. Plaintiff’s cause of action ultimately seeks to demonstrate that the nonjudicial foreclosure sale was invalid because HSBC lacked authority to foreclose, never having received a proper assignment of the debt. In order to allege such a claim, it was not enough for plaintiff to allege that MERS’s purported assignment of the note in the assignment of deed of trust was ineffective. Instead, plaintiff was required to allegethat HSBC did not receive a valid assignment of the debt in any manner. Plaintiff rests her argument on the documents in the public record, but assignments of debt, as opposed to assignments of the security interest incident to the debt, are commonly not recorded. The lender could readily have assigned the promissory note to HSBC in an unrecorded document that was not disclosed to plaintiff. To state a claim, plaintiff was required to allege not only that the purported MERS assignment was invalid, but also that HSBC did not receive an assignment of the debt in any other manner. There is no such allegation.
As you can see, part of the problem may have been insufficient allegations. In addition to this, the Court also discussed a few other potential obstacles to a Plaintiff succeeding in a wrongful foreclosure case in California. Specifically, the court cited to the Ferguson case which held that irregularities in the foreclosure process cannot be made unless the borrower pleads willingness and ability to “tender” the balance of the loan. We have talked about the “tender rule” in many other blog posts. To this point the Court stated:
We also note a plaintiff in a suit for wrongful foreclosure has generally been required to demonstrate the alleged imperfection in the foreclosure process was prejudicial to the plaintiff’s interests. (Melendrez v. D & I Investment, Inc., supra, 127 Cal.App.4th at p. 1258; Knapp v. Doherty, supra, 123 Cal.App.4th at p. 86, fn. 4 [“A nonjudicial foreclosure sale is presumed to have been conducted regularly and fairly; one attacking the sale must overcome this common law presumption `by pleading and proving an improper procedure and the resulting prejudice‘”], italics added; Lo v. Jensen (2001), 1097-1098 [collusion resulted in inadequate sale price]; Angell v. Superior Court (1999), 700 [failure to comply with procedural requirements must cause prejudice to plaintiff].) Prejudice is not presumed from “mere irregularities” in the process. (Meux v. Trezevant (1901) 132 Cal. 487, 490.) Even if MERS lacked authority to transfer the note, it is difficult to conceive how plaintiff was prejudiced by MERS’s purported assignment, andthere is no allegationto this effect. Because a promissory note is a negotiable instrument, a borrower must anticipate it can and might be transferred to another creditor. As to plaintiff, an assignment merely substituted one creditor for another, without changing her obligations under the note. Plaintiff effectively concedes she was in default, andshe does not allegethat the transfer to HSBC interfered in any manner with her payment of the note (see, e.g., Munger v. Moore (1970) 7-8 [failure by lender to accept timely tender]), nor that the original lender would have refrained from foreclosure under the circumstances presented. If MERS indeed lacked authority to make the assignment, the true victim was not plaintiff but the original lender, which would have suffered the unauthorized loss of a $1 million promissory note.
Again, there were no allegations to help the Plaintiff. Which sends a signal to Plaintiffs challenging a wrongful foreclosure – BE PREPARED TO EXPLAIN HOW YOU WERE PREJUDICED by irregularities in the process. The Court also went on to discuss what Plaintiff argued was an ambiguity in the Deed of Trust in regard to the function MERS assumes – THE COURT DISAGREED:
Finally, plaintiff contends the deed of trust wasambiguousbecause it designated MERS as both the “`nominee for the beneficiary’ “and as the “beneficiary.” An entity cannot be, plaintiff argues, both an agent and a principal. The record does not support the claimed ambiguity. Contrary to plaintiff’s assertion, the deed of trust did not designate MERS as both beneficiary of the deed of trust and nominee for the beneficiary; rather, it states that MERS is the beneficiary, acting as a nominee for the lender. There is nothing inconsistent in MERS’s being designated both as the beneficiary and as a nominee, i.e., agent, for the lender. The legal implication of the designation is that MERS may exercise the rights and obligations of a beneficiary of the deed of trust, a role ordinarily afforded the lender, but it will exercise those rights and obligations only as an agent for the lender, not for its own interests. Other statements in the deed of trust regarding the role of MERS are consistent with this interpretation, and there is nothing ambiguous or unusual about the legal arrangement. Plaintiff’s argument appears to be premised on the unstated assumption that only the owner of the promissory note can be designated as the beneficiary of a deed of trust, but she cites no legal authorityto support that premise.
The Court also discussed how the beneficiary of a loan is normally the “owner of the loan” but that MERS could still use the “beneficiary” designation in the Deed of Trust and act as the beneficiary:
Ordinarily, the owner of a promissory note secured by a deed of trust is designated as the beneficiary of the deed of trust. (11 Thompson on Real Property (2d ed. 1998) § 94.02(b)(7)(i), p. 346.) Under the MERS System, however, MERS is designated as the beneficiary in deeds of trust, acting as “nominee” for the lender, and granted the authority to exercise legal rights of the lender. This aspect of the system has come under attack in a number of state and federal decisions across the country, under a variety of legal theories. The decisions have generally, although by no means universally, found that the use of MERS does not invalidate a foreclosure sale that is otherwise substantively and procedurally proper.
Interesting is the last section of this “sale that is otherwise substantively and procedurally proper.” But under what grounds can someone raise a challenge to the substantive or procedure taken? When you do, you face the “tender rule” which this Court also raised to firm up the opinion (citing the Ferguson case):A different type of MERS challenge was addressed in Ferguson v. Avelo Mortgage, LLC (2011) (Ferguson ). The Fergusonplaintiffs were tenants in a home sold at a nonjudicial foreclosure sale. Originally, MERS was designated as a nominee and beneficiary in the deed of trust. On August 3, Quality Loan Service Corporation (Quality) recorded a notice of default, although there was no indication in the public record of Quality’s authority to act with respect to the property at the time. The defendant, Avelo Mortgage, LLC (Avelo), had executed a substitution of trustee designating Quality as trustee the prior day, August 2, but that substitution was not recorded until months later, on November 9. Further, at the time Avelo executed the substitution, there was similarly no indication in the public record of its authority to act. Only several weeks later, on August 22, did MERS assign its interest under the deed of trust to Avelo. Notice of the trustee’s sale was delivered on November 4 and recorded the same day as the substitution of trustee designating Quality, November 9. The trustee’s sale occurred in July of the following year. (Id. at p. 1621.)Affirming the grant of a demurrer, the court initially addressed the issue of tender, concluding that the plaintiffs were required to allege tender of the amount due under the note when bringing an action to void a nonjudicial foreclosure sale.(Ferguson, supra, 195 Cal.App.4th at p. 1624.) It then turned to two arguments concerning MERS’s role: MERS lacked the power to foreclose because it was not the holder of the underlying promissory note, and the sale was invalid because the foreclosing parties did not have authority to proceed as a result of the irregularities in the documentation. Citing a series of federal district court decisions, the court first held that MERS was entitled to initiate foreclosure despite having no ownership interest in the promissory note because it was the beneficiary under the deed of trust. (Id. at pp. 1626-1627.) Turning to the second issue, the court agreed with the plaintiffs that the notice of default was defective because Avelo lacked legal authority to execute a substitution of trustee until it had been assigned MERS’s interest under the deed of trust. The court found the notice of sale valid under Civil Code section 2934a, subdivision (b), however, because the notice of sale was not recorded prior to the substitution of trustee. (Ferguson, at p. 1628 & fn. 5.) Given the three-month cure period between the recording of the notice of default and notice of sale and the long delay after the recordation of the substitution of trustee before the sale was concluded, the court declined to invalidate the foreclosure on the basis of the irregular documentation. (Ibid.).
Taking these internal citations at face value, when can the substance or procedure of a foreclosure be challenged? Only if you can tender the full loan balance, and were prejudiced by the recorded documents appears to be this Court’s answer. If true, what incentive is there for any lender or loan servicer, or MERS to follow any of the non-judicial foreclosure laws if there is no way to challenge bona fide irregularities that may arise (or can we call it failure to strictly follow the California non-judicial foreclosure laws)? In other words, how does this holding square up with other holdings in California?
In Miller v. Cote, 179 Cal.Rptr. 753, (Ct of App. Fourth Dist. Div. 2 1982), the Court, in calling the notice of default fatally defective stated: “The procedure for foreclosing on security by a trustee’s sale pursuant to a deed of trust is set forth in Civil Code section 2924, et seq. The statutory requirements must be strictly complied with, and a trustee’s sale based on a statutorily deficient notice of default is invalid. (System Inv. Corp. v. Union Bank (1971) 21 Cal.App.3d 137, 152-153, 98 Cal.Rptr. 735; see California Mortgage and Deed of Trust Practice (Cont.Ed. Bar 1979) s 6.40, p. 295; see also Bisno v. Sax (1959) 175 Cal.App.2d 714, 720, 346 P.2d.
At any rate, I understand if you have a borrower in default, with no ability to ever repay the loan, bring it current, etc., and you can never count on a loan modification, but what about those California homeowners who DO have the ability to make their loan payments, but were told to miss their payments if they wanted help in a loan modification, and who were forced into default. If these people want to try to bring their loans current or challenge the foreclosure process they will have a tough time doing so. Of course they can just pay up and bring the loan current, but what happens alot of times is the house is sold when the homeowner is told they are in review. In this case, the house is sold and the tender rule cited in this case can be arguably used against the borrower. This is not far fetched. We get calls all the time from people who were told not to pay and then their house was sold. This case makes it tougher to set these sales aside where irregularities in the sale can be properly alleged. Here, it does not appear the Court was buying the irregularity arguments raised by Plaintiff which focused on the role of MERS. To provide extra emphasis, the Court cited tot he recently decided Gomes case which also validated the role of MERS in that case:
In Gomes v. Countrywide Home Loans, Inc. (2011) 192 Cal.App. 4th(Gomes), the plaintiff sought to prevent foreclosure on his home. He sued MERS, among others, alleging he was unaware of the identity of the owner of his promissory note, but believed the owner had not authorized MERS to proceed with the foreclosure. The plaintiff sought to enjoin foreclosure in the absence of proof that MERS was authorized by the note’s owner to proceed. (Id. at p. 1152.) The court rejected the claim on both procedural and substantive grounds. With respect to the former, the court concluded the “`comprehensive’” statutory framework regulating nonjudicial foreclosure, Civil Code sections 2924 through 2924k, did not require the agent of a beneficial owner, such as MERS, to demonstrate that it was authorized by the owner before proceeding with foreclosure, at least in the absence of a factual allegation suggesting the agent lacked authority.(Gomes, at pp. 1155-1156.) As the court reasoned, Civil Code section 2924, subdivision (a)(1), which states that a trustee, mortgagee or beneficiary, or an agent of any of them, may initiate foreclosure, does not include a requirement that an agent demonstrate authorization by its principal. (Gomes, at pp. 1155-1156.) The court also found no substantive basis for the challenge, noting, as here, the plaintiff had agreed in the deed of trust that MERS could proceed with foreclosure and nonjudicial sale in the event of a default. Because the deed of trust did not require MERS to provide further assurances of its authorization prior to proceeding with foreclosure, the plaintiff was not entitled to demand such assurances. (Id. at p. 1157.)
As you can see, the lender toolbox will have some cases ready for the California homeowner who wishes to challenge a trustee sale on wrongful foreclosure grounds. Fontenot, Gomes, and Ferguson.