Law professor Robert M. Lawless is a leading consumer credit and bankruptcy expert.
Edit embedded media in the Files Tab and re-insert as needed.
The recent suspension of foreclosure proceedings at some financial institutions has intensified calls for a national foreclosure moratorium. University of Illinois law professor Robert M. Lawless, a leading consumer credit and bankruptcy expert, discusses what might lie ahead in an interview with News Bureau reporter Phil Ciciora.
Why did some national financial institutions recently suspend mortgage foreclosure proceedings?
For a lender to foreclose against a homeowner, the lender must establish three facts. First, the lender must show that there is a debt the homeowner owes to the lender. Second, the lender must show that the homeowner has signed a document - that is, the mortgage - giving the lender the right to take the home if the homeowner falls behind in payment on the debt. Third, the lender must show that the homeowner has, in fact, fallen behind on the payments.
In today's financial system, the financial institution seeking to foreclose is not likely to be the original lender but probably an investor who purchased the debt and mortgage from another financial institution that in turn was merely part of a much longer ownership chain. One also must keep in mind that "debts" and "mortgages" are not physical assets we can touch; changes of ownership are reflected by changes in the records of the buyers and sellers who trade these obligations. These records now are all computerized, and growing evidence suggests these records have not been carefully maintained.
Putting these ideas together, we can see the reason for the suspension of mortgage foreclosure proceedings. To determine whether the predicate facts exist to justify a mortgage foreclosure, an employee of the foreclosing financial institution must review the institution's records. Because of questions asked in depositions in a handful of lawsuits, it became apparent that some institutions were having employees review hundreds of foreclosure cases per day. It was not humanly possible that these employees were ensuring the financial institution had the right to foreclose. Moreover, because of the problems in the record keeping, the lack of review was more than just a technicality. It was entirely possible some financial institutions might be foreclosing on homeowners who either had not missed a payment or owed a different lender.
Some lenders suspended proceedings only in certain states. Why?
A lender's wrongful foreclosure on a mortgage can create legal liability from the lender to private parties such as persons who are wrongfully foreclosed or persons who buy houses through an invalid foreclosure sale. The legal exposure, however, is greater in the states that require a lawsuit to foreclose a mortgage. In these so-called "judicial foreclosure" states, the problems with the foreclosure documentation meant the lenders were filing court documents they knew to be false. Thus, in these states, financial institutions not only face potential private liability but also court sanctions or possibly criminal investigations.
Because most lenders have resumed mortgage foreclosures, does that mean the problems are behind us?
Not at all. The financial institutions that have resumed foreclosures say that the problems were merely technicalities, that employees were reviewing foreclosure documentation too quickly but there was no doubt that the facts existed to justify a foreclosure. A previous academic study, however, found widespread problems in the documentation of mortgage debts in bankruptcy court. These problems included charging fees that were not authorized and the inability to produce a copy of the mortgage or documentation establishing ownership of the debt. There is no reason to think those problems are limited to bankruptcy court; they're probably also occurring in foreclosure cases in state courts.
Banking regulators should be using their powers to ascertain the scope of the foreclosure documentation problems, but these regulators instead seem to be deferring to the financial institutions to conduct their own reviews.
Should Congress impose a moratorium on mortgage foreclosures?
The answer is that it depends on your goal. If the goal is to give financial relief to homeowners, then the answer is "no." A moratorium just kicks the can down the road and will not solve the financial problems that have led to so many foreclosures. To provide real relief to homeowners, Congress should change the bankruptcy laws to allow homeowners to modify their mortgage in bankruptcy. This modification would be no free ride - the homeowner would have to qualify for Chapter 13 bankruptcy relief, which includes devoting all of your disposable income to creditor repayment for 3 to 5 years, and would come with judicial oversight.
Solutions outside of bankruptcy court are preferable, but the problem with the existing programs is that they do not give enough incentives to the lenders to come to the bargaining table. If a homeowner had the power to go into bankruptcy and get a mortgage modification there, more lenders should be willing to bargain outside of the bankruptcy process.
What Congress should do is exercise its oversight powers to pressure regulators to thoroughly investigate the scope of the foreclosure documentation problems. If these investigations, which should happen over weeks and not months, show widespread problems, then a moratorium would be in order to preserve the status quo while more creative solutions were found.