The dimensions of the foreclosure crisis keep expanding. Lenders and loan servicers including JPMorgan Chase (JPM) and Ally Financial are facing an explosion in homeowner lawsuits and state attorney general investigations of claims of falsified mortgage documents. Lawmakers in both houses of Congress have called for investigations. And procedural mistakes in the handling of mortgage documents have clouded titles establishing ownership of the homes, a problem that could plague both buyers and sellers for years. "This is going to become a hydra," says Peter J. Henning, a professor at Wayne State University Law School in Detroit. "You've got so many potential avenues of liability. You don't even know the parameters of this yet."
JPMorgan and Ally's GMAC Mortgage unit have delayed foreclosures in 23 states where courts have jurisdiction over home seizures. Bank of America (BAC) suspended foreclosures as well, pending a review of documents. In December 2009, a GMAC employee said in a deposition that his team of 13 people signed about 10,000 documents a month without verifying their accuracy. "My suspicion is that this will wind up being an industrywide issue," says Patrick Madigan, Iowa assistant attorney general. "Many companies were using robo-signers."
Homeowners in class actions and individual lawsuits across the U.S. claim lenders and servicers have used falsified documents to foreclose on homes, sometimes when the banks didn't hold titles to the properties. Attorneys general in at least seven states are investigating foreclosure practices, and the number of these probes may grow. "You're going to see a tremendous amount of activity with all the AGs in the U.S.," says Ohio Attorney General Richard Cordray, who has sued Ally over foreclosures. "We have a high degree of skepticism that the corners that were cut are truly legal."
"We don't believe the procedural errors in these affidavits led to inappropriate foreclosures," Gina Proia, a spokeswoman for Ally, says. "We believe the accuracy of the factual loan information contained in the affidavits was not affected by whether or not the signer had personal knowledge of the precise details," JPMorgan says in a statement.
Lawsuits over Sales Practices
For lenders and loan servicers, civil lawsuits claiming deceptive sales practices or violations of consumer protection laws may be more troubling than claims brought by homeowners, says Christopher L. Peterson, a law professor at the University of Utah in Salt Lake City. Homeowners who were in default and lost their homes may not be able to prove losses, despite faulty documentation. "The attorneys general can just sue over deceptive sales practices and get penalties," he says.
The Mortgage Electronic Registration Systems is facing its own legal challenges. MERS, based in Reston, Va., was created by the mortgage banking industry to handle mortgage transfers between member banks. A lawsuit filed on Sept. 28 in federal court in Louisville on behalf of all Kentucky homeowners claims that MERS was part of a conspiracy to create false promissory notes, affidavits, and mortgage assignments to be used in mortgage foreclosures. Similar class actions have been filed on behalf of homeowners in Florida and New York. Karmela Lejarde, a MERS spokeswoman, declined to comment on any pending litigation.
Title insurers will also be in court bringing and defending lawsuits, says Henning: "They'll be on the hook if foreclosures are reopened. The title insurers will be going after the banks or whoever assured them there was a clear title." The costs for title insurers to defend customers and reimburse for lost properties rose 14 percent, to $480.5 million, in 2010's first half from the previous year, according to American Land Title Assn., a Washington-based industry group. "Questionable foreclosures will ultimately have little adverse impact" on new owners of properties or title insurance claims, the association said in an Oct. 1 press release.
People who bought homes in foreclosure face their own worries, as paperwork errors raise questions about the validity of the titles needed to prove ownership. "Defective documentation has created millions of blighted titles that will plague the nation for the next decade," says Richard Kessler, an attorney in Sarasota, Fla., who conducted a study that found errors in about three-fourths of court filings related to home repossessions.
A defective title means the person who paid for and moved into a house may not be the legal owner. "This is the most important issue of the whole mortgage mess," says Glenn Russell, a Fall River (Mass.) real estate attorney who won a case last year that reversed a foreclosure because of faulty paperwork. "Families are being thrown out of their homes by people who may not have the right to do that."
Almost one-fourth of U.S. home sales in the second quarter involved properties in some stage of mortgage distress, according to data firm RealtyTrac. Ownership questions may not arise until a home is under contract and the potential purchaser applies for title insurance or even decades later as one deed researcher catches errors overlooked by another. "It's a nightmare scenario," says John Vogel, a professor at the Tuck School of Business at Dartmouth College in Hanover, N.H. "There are lots of land mines related to title issues that may come to light long after we think we've solved the housing problem."
The bottom line: Faulty foreclosures will lead to a flood of lawsuits that may haunt lenders, title insurers, and home buyers for years to come.