Alabama Circuit Judge Albert Johnson of Russell County rendered a verdict in a foreclosure case that was picked up by the national news wires. In it, he prohibited foreclosure from proceeding against a homeowner when the trust for which the foreclosing bank was acting as trustee was shown to have not followed its own contract, as concluded by applying applicable New York law, in endorsing the note and assigning the mortgage. From Housing Wire:
The ruling prevents defendant LaSalle Bank – as the trustee holding the plaintiff’s securitized mortgage – from proceeding with a foreclosure because the trust failed to follow its own pooling and servicing agreement, and did not follow applicable New York law when trying to “obtain assignment of Horace’s note and mortgage,” according to the court order.
The wording in the judge’s order has a minor technical problem. Notes are not assigned, but are endorsed or transferred, and are generally payable to whomever can produce them. Since LaSalle produced the original note, i.e., was in possession of the original note and produced it in court, it should have been able to claim standing to sue on the note alone. That wouldn’t have meant the foreclosure could proceed, but would have operated to mitigate losses if the mortgage is deemed invalid because of assignment problems. The judge held that the homeowner was a third-party beneficiary of the PSA for which LaSalle Bank was trustee, and so had standing to assert a breach of its contractual provisions:
“Accordingly, the endorsement chain … does not comply with that required by the PSA,” Judge Albert Johnson wrote in an order granting summary judgment and permanently enjoining LaSalle from foreclosing on the property, a home in Phenix City, Ala.
It is a pretty fer stretch, as we might say in Alabama, to claim that the mortgagor was the intended beneficiary of the pooling and service agreement. An intentional, not incidental, benefit must accrue to a third-party before he can claim damages in the breach. In this case, it means that whomever it was that created the pooling and servicing agreement must have had in mind bestowing some sort of benefit upon the Russell County homeowner when the contract was entered. It’s not clear when the PSA was entered. If it was entered after the mortgage, there would be no way for the homeowner to have been the intended beneficiary.
The Alabama Supreme Court recently (March 25, 2011) held that a servicing representative for a landlord did not have standing to sue on behalf of the landlord when a tenant defaulted, in the process, explaining how one gets to be a third-party beneficiary to a contract (Bernals, Inc. and Adan v. Kessler Greystone, LLC, WL No. 1091121):
“Standing … turns on ‘whether the party has been injured in fact and whether the injury is to a legally protected right.'” 2018 Rainbow Drive, 740 So.2d at 1027 (quoting Romer v. Board of County Comm’rs of the County of Pueblo, 956 P.2d 566, 581 (Colo. 1998) (Kourlis, J., dissenting)). Brentwood’s initial complaint sought damages and attorney fees from Bernals and Adan for an alleged breach of the lease agreement, alleging therein that Brentwood leased the premises to Bernals. However, it is undisputed that Brentwood was not a party to the lease agreement. “‘It is well-settled law that ‘one not a party to, or in privity with a contract, cannot sue for its breach.'” Dunning v. New England Life Ins. Co., 890 So.2d 92, 97 (Ala. 2003) (quoting Twine v. Liberty Nat’l Life Ins. Co., 294 Ala. 43, 50, 311 So.2d 299, 305 (1975)).
Kessler’s sole response to the jurisdictional challenge is an assertion that Brentwood had standing to sue based on a breach of the lease agreement as a third-party beneficiary of that agreement. See Russell v. Birmingham Oxygen Serv., Inc., 408 So.2d 90 (Ala. 1981) (noting that “a third person has no rights under a contract between others, ” and no standing to sue based on a breach of that contract, “unless the contracting parties intend that the third person receive a direct benefit enforceable in court”). According to Kessler, “the lease agreement entered into between Taylor … and Bernals on June 8, 2005, was for the benefit of the property manager, Brentwood, …. because on September 1, 2005, Taylor and Brentwood entered into [a] written agreement whereby Brentwood agreed to manage and operate the property on behalf of Taylor.” Kessler’s brief, at 15 (emphasis added).
This argument is without merit. It proposes that the purpose of the lease agreement was to benefit Brentwood by providing Brentwood some property to manage. This argument confuses cause and effect and has the proverbial “tail wagging the dog.” As a matter of common experience, leases are made for the intended benefit of the lessor and lessee. In other words, managers of rental property under separate agreements benefit only incidentally from the lessor-lessee relationship. See generally John D. Calamari & Joseph M. Perillo, The Law of Contracts § 17.3 (4th ed. 1998) (“The presumption is that the parties contract for their own benefit and not for the benefit of a third person.”).
This seems very similar to the situation presented when the trustee of a pooling and service agreement seeks to foreclose a mortgage held in trust for another. What is the trustee of a PSA except a glorified rental property manager? By this reasoning, the trustee would have no standing to foreclose or sue if it could not prove it had an interest in the mortgage and its underlying note, regardless of whether it followed its own internal assignment rules. But if it could show that so far as the trust was concerned, it owned the note and mortgage, again, regardless of its own rules, there could be no objection to suit or foreclosure. The trustee would be barred from claiming it was a third-party beneficiary of the mortgage loan agreement between the borrower and lender, which sounds reasonable to me.
But to claim that the homeowner is a third-party beneficiary of the pooling and service agreement in order to enforce the agreement according to its terms such that the homeowner is saved from foreclosure? What benefit was the PSA intending to bestow upon the homeowner? To paraphrase the case, as a matter of common experience, loan-sharking agreements are made for the intended benefit of the sharks.
Thus, as Oliver Wendell Holmes frequently observed about the law, we get through this case a glimpse of the illogic at its core. For this judge to render a verdict such as he did, he had to simultaneously decree the banks were morally sound in making a contract intended to benefit the homeowner (the judge claimed the intended benefit was to provide the homeowner with a mortgage), while decreeing that they were bad for not executing the contract according to its terms though the homeowner received the benefit as was intended (i.e., the mortgage), and then punished the banks for failing to properly follow amongst themselves the contract they entered to benefit the homeowner by providing the homeowner with the windfall of a free house. No good deed goes unpunished.
Incidentally, a circuit court judge’s ruling in Alabama has no precedential effect whatsoever, not even in his own courtroom. He could very well rule differently the next time a similar case comes around, or the court could get a new judge that sees things differently. Circuit courts are the first stop litigants of substantial cases (>$50,000 in question, etc.) make in the Alabama judicial system. From there the case can go either to the Alabama Court of Civil Appeals (for this type of civil case), then to the Alabama Supreme Court. At every level the judges are, at least nominally, elected to the bench by popular vote (but as I’ve noted before, the truth is bit messier). The influence of a circuit court judge is profound, at least in his own jurisdiction. He can rule pretty much any way he damn well pleases, subject, of course, to being overturned by the appellate courts. But outside of his jurisdiction, he is as impotent and insubstantial as the average blogger in his attic (that’s a little self-deprecating humor, in case you didn’t catch it). So, though the wire services picked up on his ruling (one wonders by what means they are able to troll every little ruling from every little judge that comes down the judicial pike), it is substantively nothing more than anecdote. But in this fraudclosure imbroglio, we do love anecdote.
Barry Ritholtz over at the Big Picture thinks this case is more evidence of the profound disregard the banks have for the law and private property interests. He believes it shows something of how the securitization industry arose to intentionally break the law in order to save expenses and make more money. But the judge in this case holds that the securitization industry existed to provide an intentional benefit to homeowners (elsewise they couldn’t have been deemed third-party beneficiaries to securitization contracts). So which is it? I’m pretty sure neither Ritholtz nor Judge Johnson grasps the logical inconsistencies of their respective positions.
The truth of the matter is that everyone loved securitization when everyone was benefiting by it–mortgage companies, homeowners, etc. Now homeowner’s hate it, and guys like Ritholtz like to claim it represents an unwarranted impairment of private property interests and contract law rights. The judge apparently thought otherwise, recognizing the benefits of securitization to the homeowner were so profound until he prevented the mortgage received thereby from being enforceable against him. I couldn’t make this up if I tried.