Law Review Executive Summary: Black Magic of Securitized Trusts
Deconstructing the Black Magic of Securitized Trusts by Roy D. Oppenheim and Jacquelyn K. Trask-Rahn gives an in-depth analysis of the process of securitizing mortgages and how it has gone awry. The article begins with a focus on the rise of subprime lending, the impact that subprime loans, such as “interest-only” and “negative amortization,” had on the American Dream of homeownership, and how “securitizing” these loans led to a false sense of security for homeowners and investors during the housing bubble.
Throughout the early 2000s, subprime lending increased exponentially, driven by the unregulated and unbridled avarice of large banking institutions, mortgage brokers, and federal policy pushing homeownership at any and all costs. However, when the bubble burst, the aftershocks were more destructive than anyone could ever have imagined, leaving the housing market devastated.
During this time, securitization became a popular method of bundling these mortgages and selling off different portions of them to investors based on their credit worthiness. Using credit-rating agencies, each level of bundled mortgages were rated and sold to investors, generally at highly inflated ratings equivalent to those of U.S. Treasury bonds. Shockingly, many of these mortgages were those given to under qualified homeowners with no cognizable source of income, leaving the securitized mortgage industry on the brink of disaster.
The failure of securitization occurred when large banking institutions, gorging on the thousands of loans being created and sold to them, failed to follow the steps required to properly securitize them. The majority of securitized loans were placed in trusts which appointed a large banking institution as trustee. Each trust has a Pooling and Servicing Agreement which outlines the operation of the trust, the duties and obligations of the trustee, as well as the steps required for a trustee in order to properly transfer the mortgages into the trust. Many of these steps are designed and implemented to ensure that the trust maintains a favorable tax status as a Real Estate Mortgage Investment Conduit (REMIC) in order to provide bankruptcy protecting and to avoid entity-level taxation. These procedures allow the trusts to operate as static entities existing simply to hold the mortgages. However, in order to maintain this status and save hundreds of billions of dollars in taxes, the trust cannot acquire mortgages after the trust closes.
During the spike in foreclosure filings that followed the implosion of the market, in an effort to prove proper standing to bring the action, banks began producing tens of thousands of assignments predating the filing of the foreclosure action in order to show that the trust had possession of the mortgage when the complaint was filed. However, this mass production of assignments proved that trustees had not properly transferred the mortgages from inception as required by the Pooling and Servicing Agreement and the Internal Revenue Code sections on REMIC tax structures. Under the Pooling and Servicing Agreement, failure to properly transfer the mortgage within ninety days means that it never was placed into the trust, and thus the trust lacks standing to foreclose.
To view the full article submitted to Stetson Law Review, visit OppenheimLaw.com