The MERS Morass, Part III

Contributed by Lee Jason Goldberg
Our most recent blog entry in our series on MERS discussed the decision of the bankruptcy court for the Eastern District of New York in In re Agard.  A mere one day after Agard was decided, however, the bankruptcy court for the District of Kansas came to the opposite conclusion as to MERS’s status as agent.  In In re Martinez, the debtor filed an adversary proceeding seeking a determination of secured status as to MERS and the purported lender of her home mortgage loan.  In seeking such determination, the debtor sought to strip the mortgage from the property such that it would no longer encumber the property because, the debtor argued, she owed no debt to MERS.  The court found that the debtor’s objection to the secured proof of claim filed by the purported lender was also ripe for decision because the debtor argued that, as the lender did not hold the mortgage intended to secure the note, the lender’s obligation (and, thus, claim) was in fact unsecured.
As in Agard, there had been a state court foreclosure judgment against the debtor, but here that judgment had been dismissed by an appellate court, which found that no evidence existed in the record before it that gave MERS standing to foreclose.  The appellate court held that because MERS did not hold the note, the debtor’s failure to pay it did not result in pecuniary injury to MERS.  Importantly, the appellate court had not made a finding as to the standing of the lender, which had been joined in the action as a third party defendant, and made no findings about whether the lender was the holder of the note.  Unlike in Agard, however, the bankruptcy court refused to apply res judicata to the state appellate court decision, holding that, because in that action the debtor had insisted MERS was the lender’s agent but in this action challenged its status as such, MERS could not be bound by an earlier decision in which it did not have a full and fair opportunity to litigate the claim.
In Martinez, the debtor argued that the lender’s claim was unsecured because the note was split from the mortgage by the naming of MERS as the lender’s “nominee” on the mortgage.  The court stated that the central issue of the case, therefore, was what effect, if any, such granting of the mortgage to MERS had on the lender’s right to enforce the terms of the note.
After addressing the res judicata issue by examining applicable Kansas case law, the court considered the merits of the case, noting that under the Restatement (Third) of Property (Mortgages), the transfer of an obligation secured by a mortgage also transfers the mortgage unless the parties to the transfer agree otherwise.  A mortgage may only be enforced by, or on behalf of, a person entitled to enforce the note, which the comments to the Restatement recognize may be an agent or trustee with responsibility to enforce the mortgage at the mortgagee’s direction.  Such relationship may arise from the terms of the assignment, a separate agreement, or other circumstances, and, the comments reflect, courts “should be vigorous in seeking to find such a relationship” to prevent a windfall to the mortgagor and frustration of the noteholder’s expectation of security.
Thus, contrary to the debtor’s position that the mortgage and note were split ab initio, MERS and the lender argued that the mortgage and the note were never split because MERS was the lender’s agent and, even under the law set forth in the Restatement, the mortgage still effectively secured the note.  This argument had been made in, and accepted by, the bankruptcy court for the Western District of Missouri in In re Tucker, and the Martinez court adopted the analysis and holding from that case as being consistent with the Restatement.  In particular, the Martinez court found that the under the Restatement, assignment of the note to one entity and assignment of the mortgage to another entity renders the mortgage unenforceable and the note unsecured absent an agency relationship between the holder of the note and the holder of the mortgage.
The Martinez court, like the Agard court, stated, therefore, that whether the lender and MERS were able to enforce the note and mortgage hinged on their relationship.  If an agency relationship existed, the lender, as principal, could direct MERS to assign the mortgage to it so that the mortgage would be united with the note and enable the lender to commence foreclosure proceedings, or the lender could assign the note to MERS, thus uniting it with the mortgage and enabling MERS to commence foreclosure proceedings on the lender’s behalf.  The court noted that although the Kansas Supreme Court had addressed the relationship between MERS and its members in another cases (likening MERS to a “straw man”), the Kansas Supreme Court had not specifically held that no agency relationship existed.
In direct contrast to the conclusion reached by the Agard court, the Martinez court held that, under Kansas law, an agency relationship did exist between MERS and the lender.  The court noted, and relied on the fact, that the Western District of Missouri bankruptcy court had found an agency relationship existed between MERS and the lender under Missouri law in Tucker.  Looking at language in the Martinez mortgage appointing MERS as nominee for the lender and its successors and assigns, which was identical to such language in the Agard mortgage, as well as at language of the MERS agreements, the Martinez court found that sufficient undisputed evidence existed to establish that MERS was acting as an agent for the lender.
Further, the court found that the agreement between MERS and the lender was sufficient to create an express agency relationship, but even if not, their actions were sufficient to establish an implied agency.  The court found an agency relationship notwithstanding that the parties did not use the word “agent” and used the word “nominee” instead, which the court found to have a “nearly identical legal definition[]” as “agent” even though the Black’s definition of “nominee” states that it is one who is designated to act for another, “usu[ally] in a very limited way.”  Notably, the Agard court used the Black’s definition of “nominee,” among other sources (including the Kansas Supreme Court, whose decision the Martinez court distinguished for other reasons), to differentiate a “nominee” from an “agent.”  The Martinez court observed, however, that under Kansas law an agency relationship could be created even if the principal specifically denied that the agent was in fact such.
The Martinez court did not address whether, under Kansas law, a separate standard existed for creation of an agency relationship when the principal sought to authorize the agent to convey an interest in real property.  The Agard court addressed this question, though, and found that, because MERS’s members purported to convey to MERS interests in real property, the agency relationship had to be committed to writing under New York law.  Unlike the Martinez court, the Agard court refused to “cobble together” the various documents at issue so as to draw an inference that an agency relationship existed.  Based on the Martinez court’s finding that the actions of MERS and the lender were sufficient to establish an implied agency, it is not clear from the decision whether, under Kansas law, such “cobbling” would even be necessary so as to establish an agency relationship committed to writing in the real property conveyance context.
The court therefore denied summary judgment to the debtor on its motion to determine the secured status of the lender and overruled the debtor’s objection to the lender’s proof of claim, finding that because MERS held the mortgage as agent for the lender, the note and mortgage were never split and remained enforceable.  MERS was required to act on behalf of and at the direction of the lender, thus eliminating the concerns raised in the Restatement as to the enforceability of the note.  The court held that the lender’s interest was secured and that it had the right to enforce the mortgage through its agent, MERS, or on its own (by directing its agent to assign the mortgage to it).  The court accordingly entered summary judgment in favor of MERS and the lender.
The debtor subsequently filed a motion for reconsideration or to alter or amend judgment on the basis that the purported lender had sold its beneficial interest in the note to another MERS member prior to bankruptcy and that the purported lender was in fact merely the servicer which no longer had any beneficial interest in the note.  The servicer, which had also occupied that role throughout the bankruptcy case, retained possession of the note.  The debtor sought discovery to determine to whom the note was ultimately sold, including whether the other MERS member who purchased the note prepetition had packaged it into a securitization trust.
In its ensuing decision, the court found, however, that the result of the case would not change.  MERS still held the mortgage as agent, and pursuant to the MERS agreements, it could take instructions from either the note holder or the servicer, and the servicer here (which had been the purported lender) was both.  The court revised its initial opinion accordingly as well as to reflect that MERS held the mortgage as an agent but not as agent for the servicer qua original purported lender.  The court did not state for whom MERS held the mortgage as agent in light of this clarification but merely that, pursuant to the MERS agreements, it could take instruction from the note holder or servicer.  Interestingly, though, in a footnote, the court noted that in seeking discovery, the debtor sought to raise a theory, detailed in the Tucker case, which questioned whether downstream purchasers of the note from the original lender, the purchaser, and all subsequent assignees of the note were MERS members such that there was no gap in the chain of title.  The court, however, ruled that it was too late for the debtor to raise this theory because she knew of it when she moved of summary judgment and elected not to raise it at that time.
The contrary results in Agard and Martinez point out the weaknesses in each case and raise questions as to the future viability of MERS.  Why did the Agard court fail to consider the Restatement and be “vigorous in seeking to find [an agency] relationship” between MERS and its members?  Conversely, was the Martinez court too cursory in analyzing the mortgage language, MERS agreements, and Kansas law to conclude that an express or implied agency relationship existed?
Following the posting of the first part of this series, we received an email from the Honorable Margaret Mann of the United States Bankruptcy Court for the Southern District of California, suggesting that the answer to whether MERS is the agent of the lender “may be somewhere in the middle.”  Judge Mann also pointed us to a recent decision she issued regarding MERS.  Before we ask some additional questions about MERS and its future, we will therefore discuss Judge Mann’s decision in In re Salazar in the next part of this series.