Foreclosure Fraud For Dummies, 3: Why Are Servicers So Bad At Their Job?

(This is a series giving a basic explanation of the current foreclosure fraud crisis: Here is Part One, Part Two,, and this is Part Three.)

Whenever I hear about how there wouldn’t be a problem with foreclosures if people just paid their mortgages on time, I’m reminded of Alan Grayson’s paraphrase of the Republican Health Care Plan: “Don’t Get Sick. If You Get Sick, Die Quickly.” Yes, the world would be an easier place if people never got sick, or credit risk didn’t exist, and people made payments perfectly all the time. But they don’t, and we need a system of rules and a process for collecting and presenting evidence in order to kick a family out of their home. And we need a system where this process sets the ground rules that in turn allow for lenders and borrowers coming together and negotiating a situation that is best for both of them.

Because the first rule of mortgage lending is that you don’t foreclose.  And the second rule of mortgage lending is that you don’t foreclose.  I’ll let Lewis Ranieri, who created the mortgage-backed security in the 1980s, tell you: “The cardinal principle in the mortgage crisis is a very old one. You are almost always better off restructuring a loan in a crisis with a borrower than going to a foreclosure. In the past that was never at issue because the loan was always in the hands of someone acting as a fudiciary. The bank, or someone like a bank owned them, and they always exercised their best judgement and their interest. The problem now with the size of securitization and so many loans are not in the hands of a portfolio lender but in a security where structurally nobody is acting as the fiduciary.”

In the past you had Jimmy Stewart banks. The mortgages were kept on the books of the bank. You had someone who you could go to and renegotiate your mortgage. With mortgage-backed securities, the handling of payments and working-out of troubles moved to servicers.  If you are learning about this crisis for the first time, understanding what is broken here is very important.

This is Not a New Problem With Servicing

Let’s get some quotes from bankruptcy judges in here:

“Fairbanks, in a shocking display of corporate irresponsibility, repeatedly fabricated the amount of the Debtor’s obligation to it out of thin air.” 53 Maxwell v. Fairbanks Capital Corp. (In re Maxwell), 281 B.R. 101, 114 (Bankr. D. Mass. 2002).

“[t]he poor quality of papers filed by Fleet to support its claim is a sad commentary on the record keeping of a large financial institution. Unfortunately, it is typical of record-keeping products generated by lenders and loan servicers in court proceedings.” In re Wines, 239 B.R. 703, 709 (Bankr. D.N.J. 1999).

“Is it too much to ask a consumer mortgage lender to provide the debtor with a clear and unambiguous statement of the debtor’s default prior to foreclosing on the debtor’s house?” In re Thompson, 350 B.R. 842, 844–45 (Bankr. E.D. Wis. 2006).

(Source.) Notice that consumer rights groups were flagging this as a major problem back in 1999 and 2002 because judges were noticing it was a major problem in their bankruptcy courts. If the late 1990s to 2006 period is a Renaissance period of servicer fraud then we can contrast it with the period we live in now, the Baroque period of servicer fraud.  Whatever unity there used to be between the forms and functions of the sloppy documentation and outright fraud in the art of servicing have become detached.

The forms of fraud have gone high art: serving documents on people who could never have been served, signing 10,000 affidavits a month, etc. They are all well covered, and we’ll list more later perhaps. Here are some of my favorites from last year, the reading list in Part One has even more. But what I want to focus on is the function of servicer fraud.

What Do Servicers Do?  A Case Study in Bad Design and Worse Incentives

Servicers in a mortgage-backed security have two businesses. The first is transaction processing. This means taking in your mortgage money on one end and walking it over to the crazy tranches and payment waterfalls on the other end. This is clean, efficient, largely automated, requires little discretion and works very well, and implicit in it is that it is most profitable when you can harness economies of scale.

It’s considered a “passive entity” in fact, so there are no taxes applied in this passthrough mechanism. If servicers went “active”, say by looking for mortgage notes not in the trust 90 days after the fact or mortgage notes that are not in the trust that have defaulted, which is what they’d likely have to do to get out of this foreclosure fraud crisis, they’d face very severe tax penalties.

Their other business is to handle default situations.  In addition to the fixed fee they get for servicing each individual mortgage they get paid from default fees like late charges. They get to retain most, if not all, of these fees.

So right away they have an incentive to not find ways to negotiate to get a mortgage to a good state. They also have a strong incentive to keep a steady stream of fees and charges going to their books rather than to investors.  So anything that puts servicers in charge of negotiating mortgages, say the Obama’s administration’s HAMP program, is designed to fail.

Because even without bad incentives, doing good work on modification is costly, time consuming, requires individual expertise and experience and doesn’t benefit from automation or economies of scale.  Which is to say it is the opposite structure of their normal business.

And there are additional worries. Many of the servicers work for the largest four banks – Wells Fargo, Bank of America, Citi, and JP Morgan – and these four banks have large exposures to junior liens. These are second or third mortgages or home equity lines of credit that would have to be wiped out before the first mortgage can be modified. The four banks have almost half a trillion dollars worth of these exposures and, from the stress test, are valuing them at something like 85 cents on the dollar. Keeping a homeowner struggling to pay the second lien would be more worthwhile to these middlemen banks than getting him or her into a solid first lien to the benefit of the bond investor.

So keep these in mind as you read about the servicers here. There have been worries that they, as a designed institution, were simply not qualified for this job going back a decade. They have massive conflicts with the investors they are supposed to be working for. They profit when homeowners collapse and lose money when they are brought up to a normal payment schedule (made current). And if the instruments don’t have the notes necessary to bring standing to carry out the foreclosures they have to take a massive tax hit in order to take the note into the trust. And regulation to handle this isn’t in place.

No Regulator

Because for all the talks of regulatory burden, there is no current federal government agency that regulates the servicers. Not the Federal Reserve. Not the Treasury. This is what happens when the financial industry writes the deregulation. Instead you have a patchwork of state regulators and attorney generals.  Notice how President Obama has nobody to turn to and tell the press that “So and So is on the case.” In theory the OCC regulates servicers if they are part of a bank or a thrift. This must fall to the new regulatory counsel and the Consumer Financial Protection Bureau to investigate, where it will properly belong.

(The Fair Debt Collections Act, which applies to debt collectors, doesn’t apply to servicers. Here might be a fun idea for an enterprising staffer – if there is no note producible, are servicers still legally servicers and thus exempt from the Fair Debt Collections Act? Just a thought….)

Is it any wonder that servicers are rushing these foreclosures and making a mockery of the courts and producing systemic risk in the process? There needs to be an investigation of what is being done and why, because this problem is not taking care of itself.

(Special thanks to Katie Porter and Adam Levitin, who you can read at credit slips, as well as Tom Adams and Yves Smith, who you can read at naked capitalism, for in-depth discussions on this material.)

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19 Responses to Foreclosure Fraud For Dummies, 3: Why Are Servicers So Bad At Their Job?

  1. Can you send all four parts to Axelrod since he seems very clueless?

  2. Marc says:

    you suggest that in the good old days banks acted as fiduciaries for the mortgage. is that true? if so, is it not an abrogation of said fiduciary duties to sell these things into trusts such that the rights of homeowners are eviscerated? or is it that there is no ‘right to negotiate’ a better deal and so no rights being forfeited when banks sell the mortgages? seems like homeowners, even while not having a ‘right to negotiate,’ would still have their interests substantially impaired if the bank sells the mortgage, but perhaps the threshold is such that banks can do so without being considered in violation of fiduciary duties. or do these fiduciary duties exist only as a convenient fiction used to explain previous behavior of banks vis a vis their mortgagers?

  3. Pingback: Foreclosure Fraud For Dummies, 4: How Could This Explode into a Systemic Crisis? « Rortybomb

  4. Pingback: Who Owns My Mortgage Note…Demand To KNow « The Foreclosure Detonator

  5. Pingback: A Look at How Unregulated Servicers Are, and the Consequences for Leaving this Crisis « Rortybomb

  6. MAttJ says:

    You quote Lew Ranieri “You are almost always better off restructuring a loan in a crisis with a borrower than going to a foreclosure. ” I would propose that this was true in the past because banks only gave mortgages to people for whom this was true. When they did proper underwriting, the chances were that if a borrower could no longer pay his mortgage, the lender would still probably lose less by adjusting his mortgage to what he could pay than by foreclosing and selling.

    As has been pointed out many times, the quality of lending decisions made in the last decade have been terrible. It is quite possible that lenders now will not be better off restructuring a loan than going to foreclosure.

  7. PK says:

    MAttJ, that’s a bit simplistic… and in the servicing fraud that I am currently experiencing, not true at all.
    In my case, I am trying to deal with a 2nd lien servicer, who flat out refuses to adhere to the terms of my note. To wit: they have unilaterally changed the terms of the note. Whereas the note that I signed stipulated a 5% late fee if the note payment was not received by the 15th of the month, this 2nd note servicer has arbitrarily done the following:
    1) despite ACH processing posting to my bank accounts no later than the 10th of any month, posted my payments (ACH from my bank account) no earlier than the 12th of any month, and assessed a late fee (flat out ignoring the terms of my mortgage note)
    2) arbitrarily deciding an ACH payment received from me would be a 100% reduction of principal, and not a mortgage note payment, and assessed a late fee for not receiving a mortgage payment
    3) accelerated the 2nd mortgage note due to default on the loan, and tacked on additional fees for the acceleration

    It is clear to me, and my paperwork trail with my bank accounts, that 3) would not exist except for the failure of the 2nd mortage note servicer to abide by the terms of my signed note.
    Requests in writing by me for proof that they have the right to unilaterally change the terms of my mortgage note (ie. send me a copy of my signed note that agrees to this) go unanswered.
    Name of this 2nd mortgage note servicer: Chase Home Finance LLC

    They are clearly practicing fraud.
    However, every attorney I have spoken to so far has told me that I do not have a ‘case’ as the servicer will use the excuse, and get away with using the excuse, of ‘oops we are too busy’ or ‘oops we made a goof’ or ‘oops we’ve mislaid the paperwork.’ Meanwhile, I am stuck trying to deal with this servicer on my own–talk about David confronting Goliath without a slingshot wearing a blindfold.

    So, how, in your mind, does your blanket statement of ‘the quality of the lending decisions made in the past decade’ refer to me as an individual?

    Get real. This fraud exists, is ongoing, and is obviously related to servicing fee incentives combined with loopholes in government regulations regarding servicing companies.

    PK
    [not to be confused with another more famous PK]

    • PK says:

      UPDATE:
      Given yesterday’s announcement from the Association of Attorneys General (http://www.naag.org/joint-statement-of-the-mortgage-foreclosure-multistate-group.php dated October 13, 2010) about a 50 state-wide AG inquiry into mortgage servicing fraud, I immediately went to my own state’s online complaint form to file/register a complaint of fraud against my 2nd mortgage note servicer.

      And so, I received a reply very quickly — but with some bad news.

      Apparently, this ‘announcement’ is toothless. Political expediency? I don’t know, but here’s the reply I received:

      “We have received your complaint regarding Chase Home Finance LLC, a
      subsidiary of JPMorgan Chase Bank, National Association. The Division of
      Banks regulates state chartered financial institutions. We do not have
      the authority to take corrective action against national institutions.
      For your convenience, we have forwarded your complaint to the regulatory
      agency under whose jurisdiction this matter falls.

      The agency to which your complaint has been forwarded is:

      Comptroller of the Currency
      Customer Assistance Group
      1301 McKinney Street, Suite 3450
      Houston, Texas 77010-9050
      Telephone Number: (800) 613-6743
      Website address: http://www.helpwithmybank.gov

      Please allow sufficient time for their response.

      Sincerely,

      XXXXXX XXXX [name deleted to prevent potential malicious stuff]
      Administrative Assistant”

      So, nothing has changed by this recent all-50-state AG announcement apparently.

      And yes, I’ve already filed a complaint regarding this servicer with the OCC, when this first started a few years ago.

      I should mention: I am experiencing no financial difficulty paying my mortgage (for which I am very grateful). My only issue regarding my servicer is their failure to adhere to the terms of my mortgage note contract. They cannot legally change the due date or grace due date of my signed contract arbitrarily. They cannot legally apply the entirety of my mortgage payments directly to principal and then claim I have not made my mortgage payment (who came up with that idea?).

      There are a few people who say “just pay your mortgage on days they want and you’ll be better off”. That’s not the point. The point is, under the terms of my signed contract, I do have until the 15th of the month to make the mortgage payment without incurring a late fee.

      And for Chase Home Finance LLC to arbitrarily change those terms to some other date, simply in order to generate fee income to themselves, is illegal, fraudulent, and they should be held accountable and they should be penalized.

      -PK

    • Nathanael says:

      You need a real attorney.

      You have a prima facie case of fraud.

      Keep your own accounting of your mortgage payments (as it sounds like you’re already doing), and keep applying the terms of the original note, ignoring the bogus fees. (Oh. Also, write to contest every single one of the bogus fees by certified mail — a bit pricey I realize).

      When they attempt to foreclose (as they will), you will have this entire set of documentation to show the court, and even if you’re still without a lawyer it will make a huge effect on the court, and you’ll probably win damages (assuming you manage to request them).

      If you do find a lawyer, you need to sue the servicer immediately. If you’re in a non-judicial state, you need to sue them ASAP whether you have found a lawyer *or not*. You may want to first send some (certified) cease-and-desist letters demanding that they stop making false claims about you owing them money.

      Demanding that they abide by the terms of the note (which you have a copy of) is a simple case. However, you should also request the equitable relief of having the entire note declared null and void, meaning you don’t have to pay anything. Why?

      Because even after you serve them with process properly (yeah, expensive, I know), they are likely to *not show up in court* and you may win due to their default. In which case why not get them completely out of your hair? After you win, any claims they make go in the bin and any lawsuits they file get responded to with your final order declaring you owe nothing.

      • Nathanael says:

        You probably should request court costs and punitive damages as well. . Keeping track of court costs is a specialized nightmare, but do your best.

        Also can’t hurt to request an injunction against any future declarations of default or filings of foreclosure, in the alternative to a cancellation of the debt.

      • Nathanael says:

        FYI, I suggest looking through the network of people at 4closurefraud.org, Foreclosure Hamlet, livinglies.wordpress.com, etc. to find a lawyer practicing in your state who understands the problem. Your case should be an easy one for such a lawyer.

      • PK says:

        Hello Nathanael :-)

        You are a breath of fresh air for me in all this, thank you!

        FYI: I sent all this info to my state’s Attorney General’s office (given the recent announcement of their interest in servicing fraud) but was told by that office that there is nothing they can do, and simply forwarded my report on to the OCC in Houston, Texas.

        I am continuing to look for an attorney, but with the response of our own AG I’m not too hopeful in my success… but I will keep trying. Thank you for your encouragement!

        Thank you also for your specific advice in what information to collect, etc. It helps a great deal, and gives me an outline of course of action.

        all the best to you,
        -PK in PNW

    • Bruce E. Woych says:

      Speaks directly to second lien service sector: Hope this helps!

      http://blogs.alternet.org/speakeasy/2010/10/21/the-elephant-in-the-foreclosure-fraud-room-second-liens/
      The Elephant In The Foreclosure Fraud Room: Second Liens
      Investor lawsuits against mortgage servicers could be legally explosive.
      READ MORE
      Zach Carter / AlterNet

      Akerlof, George A. and Paul M. Romer. 1993. “Looting: The Economic Underworld of Bankruptcy for Profit.” Brookings Papers on Economic Activity. 2: 1-73

  8. james says:

    such Bull shit!! I’m in arizona and NO laywer will touch it REALLY.. I’ve spent money and they all say you have no case,, you broke a contract?? what the F$%#??

    I can’t get ANY help anywaher theres TONS of noise on the net but for simple people like us we need, take this! send it here! tell them this!! we cant get that help EVEN IF WE PAY FOR IT?? IT’S ALL BULL SHIT.. WELLS FAGRO IS GONNA TAKE MY HOME, PEROID! AND I CANT SEEM TO STOP IT!

    TELL ME I’M WRONG, BUT TELL ME HOW TO DO IT, SEND ME THE PAPERWORK TO FILE! NOTGO TO THIS WEBSITE AND FIGURE IT OUT.. WE ARE F$%$ !

  9. Sorry to inform u that u have a brain problem.
    Your brain has 2 parts: Left and Right.
    The left has nothing right in it & the right has nothing left in it

  10. dylan says:

    Hi, first great article. I stil had one question that I cant seem to reconcile. And that is regarding the major banks that have large exposure to seconds and thus their subsidiary servicers are not incented to a mod that would likely wipe out the second. Doesnt the same thing essentially happen in a foreclosure sale? Im assuming that the home is underwater (the extent of which of course determines what is left for the second lien holder), isnt the practical result the same in either scenario? To modify to a workeable loan, the second has to make concessions/get wiped out – or in a foreclosure, the home is liquidated with proceeds paying off the first and whatever is left (if there is any) going to compensate on the second lien.

    Appreciate any comments from anyone.

  11. Pingback: FT Alphaville » Deutsche Bank on the perfect mortgage company

  12. Pingback: The Weekly Walk of Shame: Blaming “Deadbeat” Homeowners for Foreclosure Fraud « Foreclosure Fraud – Fighting Foreclosure Fraud by Sharing the Knowledge

  13. Pingback: The Housing Problem: More than a matter of fraud and finance « thecurrentmoment

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