A proposal for a national mortgage registry: MERS done right.

• Author: Whitman, Dale A.
• Position: Mortgage Electronic Registration System - I. The Traditional Mortgage Transfer Process C. Transfer of the Note 3. Conclusion: The Sad State of the Law of Secondary Market Note Transfers through IV. Conclusion, with appendix and footnotes, p. 37-75

3. Conclusion: The Sad State of the Law of Secondary Market Note Transfers

   In summary, the American legal system handles secondary market trades of mortgage loans in an almost unbelievably inept manner. It is often difficult or impossible to tell what set of rules govern transactions, given the complexities of the definition of negotiability. (134) If the note is negotiable, the right of enforcement depends on keeping track of the original physical document, which may easily be lost, mislaid, or intentionally destroyed. (135) Market institutions and some state statutes may put reliance on mortgage assignments, but that reliance is generally misplaced, in the sense that assignments prove little or nothing about the right of enforcement. (136) In a number of non-judicial foreclosure states, the rules for foreclosure of security instruments and those for determining the right of enforcement of notes seem to operate on different planets, completely inconsistent with each other. (137) Litigation on all of these issues is rampant. On the whole, it is an appalling mess, completely unsuited for the large-scale secondary mortgage market that exists today.

   4. The Cost of Following the Rules.

   Assume for a moment that you are responsible for the operations of a secondary mortgage market participant, and you hold a package of loans that you wish to sell to another investor. Moreover, assume that you are determined to do things right; that is, notwithstanding the legal vagaries mentioned above, you are going to provide endorsed notes and recorded assignments for each loan to your purchaser--surely the most conservative position for both seller and purchaser. Consider the steps you need to take:

1. Determine to which of approximately 3,600 recording jurisdictions in the United States the assignment must be sent for recordation. (In several New England states the records are organized on a town, rather than a county basis.)

2. Determine the applicable document standards (margins, font, addresses, cover sheet, etc.) imposed by the recording office of the jurisdiction.

3. Prepare, execute, and acknowledge the assignment of the mortgage. Note that the assignment must be hand tailored to the specific mortgage, since the original parties, recording information, and land description must be recited. Do not forget the notarization!

4. Determine the jurisdiction's fee schedule and calculate the correct recording fee.

5. Write a check for the fee.

6. Transmit the assignment for recording, along with the fee.

7. Locate the original wet-ink signed promissory note, likely stored in an off-site vault.

8. Endorse the note to the transferee, including a hand-written signature. If there is insufficient space on the note, it will be necessary to attach an allonge to the note and write the endorsement on it.

9. Physically transmit the note to the transferee.

10. Ensure that the original assignment is forwarded to the transferee after recording. The recording office may perform this service.

    The payment of fees to local recorders is a particular burden. Every jurisdiction has its own fee schedule. Fees are constantly being revised, and in all events are usually based on the number of pages to be recorded. The party submitting the document must count the pages, and the recorder's personnel will count them again. If the fee is incorrect, the document will be returned to the sender without recording and the whole procedure will begin again. Considered at a national scale, the system for payment of recording fees is, by itself, almost insanely inefficient.

    The overall process is, to put it mildly, cumbersome. None of the steps are impossible or extremely difficult, but in the aggregate they represent a very substantial cost, and there are no "traffic cops" to insist that the steps are performed. The system may have been reasonably acceptable to the mortgage industry when volumes of secondary market transactions were relatively low. During the late 1990s and early 2000s, when volumes of secondary market trades increased greatly as a result of widespread securitization, players in the industry frequently simply quit playing by these rules. Promissory notes were retained by originators, and often lost or perhaps even shredded. Assignments were not prepared or executed. The system bogged down under its own weight. (138)

    II. THE ADVENT AND FALLACIES OF MERS.

    In 1993, the principal actors in the secondary mortgage market (139) came together to form the Mortgage Electronic Registration System (MERS). They were motivated by the increased volumes of secondary market trades and the likelihood that they would grow far greater in number as securitization of residential mortgages became more common.

    MERS was designed to eliminate the need for successive recording of assignments as a mortgage loan was transferred from one owner to another in the secondary market. A loan is entered into the system either by making MERS the original mortgagee (as nominee for the note holder), or by recording an assignment of the original mortgage to MERS immediately after it is originated. Thereafter, no assignments are recorded to reflect further sales of the loan; instead, market participants simply report subsequent loan sales to MERS electronically, and MERS maintains a computer database of the reported information. When the mortgage is paid off, a person who is purportedly a MERS officer (but who is employed by the mortgage servicer) executes a release to the borrower. Under the original plan, if the mortgage needed to be foreclosed, MERS would execute and record an assignment to the note holder or its servicer, which in turn would conduct the foreclosure.

    Initially, market participants were enthusiastic about MERS' services, and by 2000, the majority of residential mortgages originated in the United States were being registered with MERS. (140) The only significant objections came from local real estate recording officials, who were angered that MERS had eliminated the revenues they had previously collected for recording mortgage assignments. The Suffolk County, New York, Clerk of Court took the radical step of refusing to record mortgages or assignments to MERS, but was ultimately ordered to do so by the New York Court of Appeals. (141) Some commentators have continued to maintain that MERS should be held liable for the lost recording fees, (142) and several recorders have filed suits to recover lost fees, (143) but these claims seem both forlorn and absurd. (144) They disregard a fundamental premise of the American recording system--that no one has any obligation to record anything. (145)

    In terms of market participation, MERS has been highly successful. At the same time, it has become bogged down in seemingly endless litigation, and is so widely castigated on internet blogs that one reading them would conclude MERS is at best illegal and a principal cause of the foreclosure crisis of the late 2000s, (146) and at worst a satanic threat to the American way of life. (147) What went wrong to cause these enormous legal and public relations problems for MERS? There are many answers, but the material below will outline six of the principal issues that have plagued MERS.

    1. A Weak Legal Foundation

       MERS was founded as an ordinary Delaware stock corporation, with no special statutory basis for its existence. (148) It has no preemptive authority over existing mortgage or commercial law, and instead was designed to operate within the framework of pre-existing law. The architects of MERS elected to characterize it as a "nominee" for the actual holders of the loans. The use of nominees in commercial transactions is not unusual; (149) for example, brokers often hold shares of stock in a "street name" as nominee for the actual investor. (150) Nevertheless, the concept was apparently generally unfamiliar and confusing to judges. This fact gave foreclosure defense lawyers an opening wedge. They filed a multitude of suits attacking MERS' operations, often arguing that as a nominee, MERS had no authority to execute assignments or appoint substitute trustees (151) on behalf of the beneficial owner. After several significant initial losses, (152) MERS began to win these cases quite consistently, (153) and the issue has now died down considerably.

    2. Separation of Mortgage from Note

       When MERS was created, a decision was made that MERS would hold only the mortgage, but not the associated promissory note. In light of the complexity and legal liability associated with storing and tracking many millions of notes, (154) this decision was entirely understandable; the administrative burdens of acting as custodians of the notes would have been huge. But this decision had the unfortunate result of giving rise to countless arguments about the apparent separation of the note from the mortgage, and about the extent to which a transfer of the mortgage would transfer the note, and vice versa. As with the suits based on MERS' supposed lack of authority to execute valid assignments, these cases have nearly all been ultimately resolved in MERS's favor, (155) but they have also imposed a huge litigation burden.

    3. Use of Multiple "Corporate Officers "

       It would have been literally impossible for MERS employees to execute and record all of the assignments and releases required by its enormous portfolio of registered loans. Instead, MERS adopted the practice of allowing its member lenders and servicers to appoint staff personnel as MERS corporate officers--typically vice presidents or assistant secretaries. By some reports, more than 20,000 such individuals were appointed at one time, (156) although the number has now dropped significantly. The result was, of course, to attach MERS' name to literally millions of legal acts performed by people whom MERS had no capacity to train or supervise. Anecdotal evidence suggests that many of these "officers" were careless and sloppy in executing, acknowledging, and...