By: William E. Kelley, Jr.
A lot has been written about the mortgage foreclosure crisis in this country. There are multiple aspects to the “crisis” itself, ranging from the origins (e.g., the subprime lending market and relaxed lending standards that allowed for approval of large mortgage loans to individuals with limited income) to the end result (e.g., the downturn in the financial market caused by problems with mortgage loans, as tradable commodities, being packaged and sold in bond portfolios). We are currently entrenched in the “aftereffect” phase.
From a legal standpoint, the mortgage foreclosure crisis brought to light a growing problem with the way that some lenders were handling foreclosure lawsuits in court. The basic problem presented itself as follows:
- Mortgage holders are typically required to record their mortgage interests in order to secure their interest in the real estate and to put other lienholders and potential buyers on notice of that mortgage interest;
- During the height of the real estate boom, promissory notes and mortgages were frequently sold and assigned multiple times after the original issuance to the homeowner;
- Each transfer of ownership interest in the mortgage and promissory notes required the new owners to record their mortgage interest;
- In order to provide some relief to mortgage holders from this recording requirement, a new business concept emerged in the form of the Mortgage Electronic Registration Systems (MERS);
- MERS serves as an electronic registry of the ownership and servicing rights of individual mortgage loans;
- MERS does not actually own the mortgage loans, but it nonetheless records an assignment in its name with the county recorder’s office;
- With the MERS mortgage interest recorded, the “true” owners of the promissory note and mortgage continued to sell and assign those loan documents multiple times, without having to record each transfer in ownership interest with the county recorder;
- Given the large volume of mortgage loan transfers and sales, the trading entities sometimes neglected to physically transfer the promissory note and mortgage documents, or, in some cases, those loan documents were lost or destroyed;
- When a homeowner defaulted on a mortgage loan, the entity that owned the promissory note and mortgage sometimes found itself without the actual loan documents necessary to initiate the foreclosure proceedings;
- When the real estate market crashed, the number of foreclosure lawsuits increased dramatically;
- Through the course of several lawsuits that challenged the foreclosure actions, it was revealed that some large lenders used “robo-signers”, who purportedly rubberstamped documents necessary to support the foreclosure actions, despite the fact that the “robo-signer” did not necessarily have personal knowledge of all of the facts underlying the loan default or the foreclosure action;
- With a sharp increase in the number of foreclosure lawsuits, courts found themselves overwhelmed by the number of pending foreclosure actions, allowing some lawsuits to proceed through the foreclosure process without all of the necessary affirmations, or in some cases, the actual loan documents; and
- Some states saw litigation that challenged whether foreclosure actions filed by lenders without the proper documentation were valid, or whether foreclosure actions initiated by MERS were even valid, given the fact that MERS did not actually own the mortgage loans or promissory notes at issue.
This complicated scenario has had a serious effect on lenders, mortgage holders, and homeowners involved in mortgage foreclosure lawsuits. But what about the construction industry? A mechanic’s lien is a powerful payment remedy above and beyond the normal contract remedies, as it serves as a lien on the real estate (thus securing the interest in case of transfer of ownership or even a refinancing of a mortgage loan) and gives the contractor the power to initiate a foreclosure action against that real estate to collect payment. Contractors that file mechanic’s liens are held to strict and exacting standards in order to secure their lien rights in the real estate. Defects in the mechanic’s lien can be fatal. A lien claimant can lose an otherwise valid lien claim merely by including incorrect references to the record owner of the property, incorrect addresses or legal descriptions, incorrect representations as to first and last dates of work, or even inaccurate amounts or sums for the work at issue.
The problem for contractors, from a collection standpoint, is that they often times find themselves behind mortgage holders in terms of lien position and priority. Even if the contractors successfully foreclose upon their mechanic’s lien, there may be other lienholders that have higher priority (e.g., mortgage loan owners) and thus a better chance of being paid in full on their mortgage lien interests. In those situations, the mortgage foreclosure crisis can have serious effects on mechanic’s lien holders who—on the one hand—are held to strict and exacting standards applicable to securing their lien interests in the property, but who are also—on the other hand—lower in lien priority position than a mortgage holder that has potential defects in its loan documents, assignment interests, recording requirements, or affirmations contained in the necessary foreclosure pleadings. There is an inherent sense of imbalance in those two lien scenarios.
In response to these types of problems, in general, and to the issues outlined above, in specific, a task force organized by the Indiana Division of State Court Administration issued its “Mortgage Foreclosure Best Practices”, which serve as a guide to trial courts, lenders, homeowners, and attorneys for the “best practices” for residential mortgage foreclosure lawsuits. For example, the “best practice” in foreclosure pleadings is for the party initiating the mortgage foreclosure action to specifically allege that it is a “person entitled to enforce” the mortgage instrument, either as the original holder of the instrument or as a subsequent assignee or transferee of that instrument. In the event that the person seeking to foreclose upon the mortgage instrument is not the original holder of the instrument, the “best practice” is to include with the Complaint copies of the documents transferring or assigning title to the mortgage instrument to the plaintiff. Alternatively, if the loan documents have been lost or destroyed, the “best practice” is to include an affidavit with the pleadings. Parties who fail to abide by court directives in a mortgage foreclosure action—including the failure to provide documents requested by a court—could be subject to sanctions ranging from $150 to $2,500, which sanctions would be payable to a Mortgage Foreclosure Fund maintained through the Indiana Housing & Community Development Authority.
On January 3, 2011, the Indiana Attorney General’s Office submitted a petition to the Indiana Supreme Court to adopt these “best practices” as requirements in all mortgage foreclosure actions; the Supreme Court has not yet responded to that petition. So, while not mandatory at this time, the “Mortgage Foreclosure Best Practices” does provide guidance for courts and parties involved with mortgage foreclosure actions on how “best” to address the issues and problems experienced by trial courts during the mortgage foreclosure crisis. Consequently, these “best practices” also provide some additional assurance to contractors and mechanic’s lien claimants that their lien claims will be subject to the same level of review as lenders seeking foreclosure of a mortgage loan. In any event, prudent contractors and mechanic’s lien claimants should take due care to review the asserted lien and mortgage loan claims by other parties involved in a mechanic’s lien lawsuit in order to confirm that the problems outlined above do not compromise otherwise valid lien claims.