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MORTGAGE SERVICING WHITE PAPER BY Adam Levitin and Tara Twomey

MORTGAGE SERVICING WHITE PAPER BY Adam Levitin and Tara Twomey

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Published by 83jjmack
The trustee will then typically convey the mortgage notes and security instruments to a ―master document custodian,‖ who manages the loan documentation, while the servicer handles the collection of the loans. Increasingly, there are concerns that in many cases the loan documents have not been properly transferred to the trust, which raises issues about whether the trust has title to the loans and hence standing to bring foreclosure actions on defaulted loans. Because, among other reasons, of the real estate mortgage investment conduit (―REMIC‖) tax status of many private-label securitizations (―PLS‖), see infra Subsection I.C.1, it would not be possible to transfer the mortgage loans (the note and the security instrument) to the trust after the REMIC‘s closing date without losing REMIC status. Similarly, it is not clear whether defaulted loans are eligible for inclusion in a REMIC, and default is typically the only scenario in which a belated transfer would occur. See NEWOAK CAPITAL, INVESTMENT DILEMMA IN NONPERFORMING MORTGAGES (2008), available at http://www.newoakcapital.com/dilema_merchant.pdf. Moreover, most trusts are governed by New York law, which provides that any transfer to the trust in contravention of the trust documents is void. N.Y. ESTATES, POWERS & TRUSTS LAW § 7-2.4 (McKinney 2002). As trust documents are explicit in setting forth a method and date for the transfer of the mortgage loans to the trust and in insisting that no party involved in the trust take steps that would endanger the trust‘s REMIC status, if the original transfers did not comply with the method and timing for transfer required by the trust documents, then such belated transfers to the trust would be void. In these cases, there is a set of far-reaching systemic implications from clouded title to the property and from litigation against trustees and securitization sponsors for either violating trust duties or violating representations and warranties about the sale and transfer of the mortgage loans to the trust.
The trustee will then typically convey the mortgage notes and security instruments to a ―master document custodian,‖ who manages the loan documentation, while the servicer handles the collection of the loans. Increasingly, there are concerns that in many cases the loan documents have not been properly transferred to the trust, which raises issues about whether the trust has title to the loans and hence standing to bring foreclosure actions on defaulted loans. Because, among other reasons, of the real estate mortgage investment conduit (―REMIC‖) tax status of many private-label securitizations (―PLS‖), see infra Subsection I.C.1, it would not be possible to transfer the mortgage loans (the note and the security instrument) to the trust after the REMIC‘s closing date without losing REMIC status. Similarly, it is not clear whether defaulted loans are eligible for inclusion in a REMIC, and default is typically the only scenario in which a belated transfer would occur. See NEWOAK CAPITAL, INVESTMENT DILEMMA IN NONPERFORMING MORTGAGES (2008), available at http://www.newoakcapital.com/dilema_merchant.pdf. Moreover, most trusts are governed by New York law, which provides that any transfer to the trust in contravention of the trust documents is void. N.Y. ESTATES, POWERS & TRUSTS LAW § 7-2.4 (McKinney 2002). As trust documents are explicit in setting forth a method and date for the transfer of the mortgage loans to the trust and in insisting that no party involved in the trust take steps that would endanger the trust‘s REMIC status, if the original transfers did not comply with the method and timing for transfer required by the trust documents, then such belated transfers to the trust would be void. In these cases, there is a set of far-reaching systemic implications from clouded title to the property and from litigation against trustees and securitization sponsors for either violating trust duties or violating representations and warranties about the sale and transfer of the mortgage loans to the trust.

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Published by: 83jjmack on Dec 23, 2010
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F
INAL
_L
EVITIN
&T
WOMEY
_P
OST
-OP
1
Mortgage Servicing
Adam J. Levitin† & Tara Twomey‡
 
This Article argues that a principal-agent problem plays a critical role inthe current foreclosure crisis.
 
 A traditional mortgage lender decides whether to foreclose or restructurea defaulted loan based on its evaluation of the comparative net present value of those options. Most residential mortgage loans, however, are securitized.Securitized mortgage loans are managed by third-party mortgage servicers asagents for mortgage-backed securities (
 MBS
) investors.
 
Servicers
‘ 
compensation structures create a principal-agent conflict between them and MBS investors. Servicers have no stake in the performanceof mortgage loans, so they do not share investors
‘ 
interest in maximizing thenet present value of the loan. Instead, servicers
‘ 
decision of whether to foreclose or modify a loan is based on their own cost and income structure,which is skewed toward foreclosure. The costs of this principal-agent conflict are thus externalized directly on homeowners and indirectly on communitiesand the housing market as a whole.
 
This Article reviews the economics and regulation of servicing and laysout the principal-agent problem. It explains why the Home Affordable Modification Program (
 HAMP
) has been unable to adequately addressservicer incentive problems and suggests possible solutions, drawing ondevices used in other securitization servicing markets. Correcting the principal-agent problem in mortgage servicing is critical for mitigating thenegative social externalities from uneconomic foreclosures and ensuringgreater protection for investors and homeowners.
 
† Associate Professor, Georgetown University Law Center.
The views expressed in this Article aresolely those of the authors. This Article incorporate
s parts of Professor Levitin‘s c
ongressionaltestimony on foreclosures and mortgage servicing before the Senate and House Judiciary Committees. Iwould like to thank William Bratton, Larry Cordell, Anna Gelpern, Paul Koches, Sarah Levitin, RobertVan Order, Susan Wachter, and Elizabeth Warren for their comments and encouragement; and to thank Grant MacQueen and Tai Nguyen for their research assistance. Comments?AJL53@law.georgetown.edu. 
Of Counsel, National Consumer Law Center; Amicus Project Director, National Association of Consumer Bankruptcy Attorneys; and former Lecturer in Law at Stanford Law School and Harvard LawSchool. The views expressed in this Article are solely those of the authors. This Article incorporates partof Ms. Twomey
s congressional testimony on foreclosures and mortgage servicing before the HouseFinancial Services Committee Subcommittee on Housing and Community Opportunity. I thank AlysCohen, Katherine Porter, John Rao, and Diane Thompson for their help in building the foundation of this Article. Comments?tara.twomey@law.stanford.edu. 
 
F
INAL
_L
EVITIN
&T
WOMEY
_P
OST
-OP
 
IntroductionThe home is the most significant asset of many American families,
1
and awide array of federal and state regulatory schemes work to encourage and
1.
See
Brian K. Bucks et al.,
Changes in U 
.
S
.
Family Finances from 2004 to 2007: Evidence from the Survey of Consumer Finances
, F
ED
.
 
R
ES
.
 
B
ULL
., Feb. 2009, at A1, A33,
available at 
 
 
F
INAL
_L
EVITIN
&T
WOMEY
_P
OST
-OP
 
Mortgage Servicing3
 
protect homeownership.
2
Homeownership is beyond the means of most familiesabsent mortgage financing, and most of the regulatory schemes relate to themortgage origination process and to the foreclosure sale process
 — 
the birth anddeath of the mortgage.
3
There is scant regulation, however, of everything thatoccurs in the course of the mortgage
s lifespan, between its origination and itseventual end via payoff or foreclosure. This in-between period involves themanagement of mortgage loans, including collection of payments andrestructuring of the loan in the event of the borrower
s financial distress, and isknown as mortgage servicing.Mortgage servicing has begun to receive increased scholarly, popular, andpolitical attention as a result of the difficulties faced by financially distressedhomeowners when attempting to restructure their mortgages amid the homeforeclosure crisis.
4
In particular, the mortgage servicing industry has beenidentified as a central factor in the failure of the various government loanmodification programs, including the $75 billion Home AffordableModification Program (
HAMP
).
5
Mortgage servicing, however, remains a
http://www.federalreserve.gov/pubs/bulletin/2009/pdf/scf09.pdf (reporting that home equity accountedfor 31.8% of total family assets).2.Examples include the federal income tax deduction for home mortgage interest payments,
state and federal homestead exemptions that limit creditors‘ ability to levy on debtors‘
homes, and rightsof redemption for defaulted mortgages.3.
See, e
.
g
.,
 
Real Estate Settlement Procedures Act, 12 U.S.C. §§ 2601-2617 (2006); HomeMortgage Disclosure Act, 12 U.S.C. §§ 2801-2810; Homeowners Protection Act of 1998, 12 U.S.C.§§ 4901-4910; Truth in Lending Act, 15 U.S.C.A. §§ 1601-1616 (West 2010).4.
See, e
.
g
.,
 
C
ONG
.
 
O
VERSIGHT
P
ANEL
,
 
A
N
A
SSESSMENT OF
F
ORECLOSURE
M
ITIGATION
E
FFORTS
A
FTER
S
IX
M
ONTHS
(2009) [hereinafter C
ONG
.
 
O
VERSIGHT
P
ANEL
,
 
A
N
A
SSESSMENT
]; C
ONG
.
 
O
VERSIGHT
P
ANEL
,
 
E
VALUATING
P
ROGRESS OF
TARP
 
F
ORECLOSURE
M
ITIGATION
P
ROGRAMS
(2010)[hereinafter C
ONG
.
 
O
VERSIGHT
P
ANEL
,
 
E
VALUATING
P
ROGRESS
]; C
ONG
.
 
O
VERSIGHT
P
ANEL
,
 
T
HE
F
ORECLOSURE
C
RISIS
:
 
W
ORKING
T
OWARD A
S
OLUTION
44-56 (2009) [hereinafter C
ONG
.
 
O
VERSIGHT
P
ANEL
,
 
T
HE
F
ORECLOSURE
C
RISIS
]; Peter S. Goodman,
 Late-Fee Profits May Trump Plan To Modify Loans
,
 
N.Y.
 
T
IMES
, July 30, 2009, at A1; Daniel Wagner,
Gov‘t Mortgage P 
artners Sued for Abuses
,A
SSOCIATED
P
RESS
, Aug. 6, 2009;
 Marketplace: Bills Could Let Judges Rework Mortgages
(AmericanPublic Media Jan. 12, 2009),
available at 
http://marketplace.publicradio.org/display/web/2009/01/12/pm_bankruptcy_judges.5.
See, e
.
g
.,
 
C
ONG
.
 
O
VERSIGHT
P
ANEL
,
 
A
N
A
SSESSMENT
,
 
supra
note4;C
ONG
. O
VERSIGHT
P
ANEL
,
 
E
VALUATING
P
ROGRESS
,
 
supra
note
4;C
ONG
.
 
O
VERSIGHT
P
ANEL
,
 
T
HE
F
ORECLOSURE
C
RISIS
,
 
supra
note4,at
 
44-56 (2009); Associated Press,
Pressed by White House, Mortgage Servicers Vow More Modifications
, N.Y.
 
T
IMES
, July 29, 2009, at A3. The Treasury Department initially set a goal of helping three to four million homeowners through HAMP by the end of 2012.
See
M
AKING
H
OME
A
FFORDABLE
P
ROGRAM
,
 
S
ERVICER
P
ERFORMANCE
R
EPORT
T
HROUGH
S
EPTEMBER
2010, at 8 n.2(2010),
available at 
http://www.financialstability.gov/docs/Sept%20MHA%20Public%202010.pdf.Through September 2010, however, it had managed to start permanent modifications on only 495,898mortgages, and 28,726 had already redefaulted.
See id 
. at 2 & n.5 (reporting that 29,190 permanentmodifications had been cancelled, and only 428 of these cancellations could be attributed tohomeowners paying off their loans). Fitch Ratings predicts a twelve-month redefault rate of 65% to 75%for modified subprime and Alt-A loans, and a twelve-month redefault rate of 55% to 65% for modifiedprime loans.
See
F
ITCH
R
ATINGS
,
 
U.S.
 
RMBS
 
S
ERVICERS
 
L
OSS
M
ITIGATION AND
M
ODIFICATION
E
FFORTS
U
PDATE
II 1, 2 (2010) (analyzing redefault rates for borrowers who previously fell more thansixty days behind on loan payments under premodification terms). The number of new permanentHAMP modifications peaked in April 2010 at 68,291 and has since declined to 27,931 in September2010, while the number of redefaults has climbed from 865 in April 2010 to 10,069 in September 2010.
See
M
AKING
H
OME
A
FFORDABLE
P
ROGRAM
,
 
S
ERVICER
P
ERFORMANCE
R
EPORT
T
HROUGH
A
PRIL
2010,
 

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