A recent ruling by the Kansas Supreme Court in Landmark National Bank v. Kesler, 2009 Kan. LEXIS 834 (Kan. Aug. 28, 2009), has raised new questions as to whether MERS, a commonly used mortgage registration service, has standing to bring foreclosure actions on behalf of lenders. The case involved a second lienholder’s attempt to set aside a foreclosure judgment on the ground that the foreclosing bank did not serve notice on MERS, the second mortgage holder of record. The high court affirmed a lower court decision, which held that the failure to name and serve MERS as a defendant was not a fatal defect to the foreclosure judgment.
The facts are not that complicated. Boyd Kesler had a first lien mortgage with Landmark National Bank and a second lien mortgage with Millennia Mortgage Corp. The second lien mortgage identified MERS as the mortgagee, as nominee for Millennia. Millennia subsequently assigned the note to Sovereign Bank, but that assignment was not registered in the county clerk’s office.
When Kessler went into default, Landmark filed a petition to foreclose on its first mortgage, serving and naming as defendants Kesler and Millennia. It did not serve notice of the litigation on MERS or Sovereign. In the absence of answers from either Kesler or Millenia, the trial court entered default judgment against them and filed an order of sale. Subsequently, two individuals purchased the property at a sheriff’s sale at a price sufficient to pay off the first lien with the balance going to Kesler.
After sale of the property, Landmark filed a motion to confirm sale of the secured property. At this time, Sovereign Bank filed an answer to the foreclosure petition, asserting an interest in the real property as the successor in interest to Millennia’s second mortgage. A week later, Sovereign filed a motion to set aside or vacate the default judgment and an objection to confirmation of sale. The motion asserted that MERS was a contingently necessary party and, because Landmark failed to name MERS as a defendant, Sovereign did not receive notice of the proceedings. The motion asked the court to vacate the default judgment and asked the court to set aside the surplus proceeds sent to Kesler after the sale. MERS subsequently filed a motion joining Sovereign’s motion to vacate the default judgment and objecting to confirmation of the sheriff’s sale.
The trial court concluded that MERS was not a real party in interest and Landmark was not required to name MERS as a party to the foreclosure action. The court found that MERS served only as an agent or representative for Millennia, and that Sovereign’s failure to register its assignment precluded it from asserting rights to the mortgage after judgment had been entered. The Kansas Court of Appeals affirmed the trial court decision, concluding that the failure to name and serve MERS as a defendant in a foreclosure action in which the lender of record has been served was not such a fatal defect that the foreclosure judgment must be set aside.
On appeal, the Kansas Supreme Court affirmed the lower court decision. Concluding that the trial court did not abuse its discretion, the high court stated, in unusually broad language:
The relationship that MERS has to Sovereign is more akin to that of a straw man than to a party possessing all the rights given a buyer. A mortgagee and a lender have intertwined rights that defy a clear separation of interests, especially when such a purported separation relies on ambiguous contractual language. The law generally understands that a mortgagee is not distinct from a lender: a mortgagee is “[o]ne to whom property is mortgaged: the mortgage creditor, or lender.” Black’s Law Dictionary 1034 (8th ed. 2004). By statute, assignment of the mortgage carries with it the assignment of the debt. K.S.A. 58-2323. Although MERS asserts that, under some situations, the mortgage document purports to give it the same rights as the lender, the document consistently refers only to rights of the lender, including rights to receive notice of litigation, to collect payments, and to enforce the debt obligation. The document consistently limits MERS to acting “solely” as the nominee of the lender.
Indeed, in the event that a mortgage loan somehow separates interests of the note and the deed of trust, with the deed of trust lying with some independent entity, the mortgage may become unenforceable.
The high court pointed out that the practical effect of splitting the deed of trust from the promissory note is to make it impossible for the holder of the note to foreclose, unless the holder of the deed of trust is the agent of the holder of the note. According to the high court, without the agency relationship, the person holding only the note lacks the power to foreclose in the event of default, and the person holding only the deed of trust will never experience default because only the holder of the note is entitled to payment of the underlying obligation. The court noted that the mortgage loan becomes ineffectual when the note holder did not also hold the deed of trust.
Although the above language could be seen as non-binding dicta, and the ruling technically applies only to Kansas cases, the broad language used by the Court may encourage judges elsewhere to question MERS’s standing in foreclosure cases. Already, in the wake of the Kansas decision, a Reno, Nevada, law firm is preparing a class action lawsuit seeking to invalidate the right of MERS to trigger foreclosure in Nevada. If such cases are successful, they could force countless mortgages held by MERS as nominee to be transferred to the names of their actual owners and slow or halt foreclosures around the country. Further, the entire MERS business model of recording mortgages in the name of a third party nominee could be called into question.
For now, it is too early to predict the long term effects of Landmark Bank v. Kesler. Lenders utilizing MERS should, however, pay close attention to any fallout that may result from the decision.
David Darland is a partner in the Washington, D.C., office of Hudson Cook, LLP. Basis Points readers can reach David at 202-327-9707 or by email at ddarland@hudco.com.