14 Dec California Foreclosure Primer: The Basics of Note Enforceability Part 2 of 2
In the previous blog, we explored the players typical in any California Foreclosure. In this blog, we now turn to whether any of these players actually have the ability to enforce a foreclosure.
Lets assume that an outside foreclosure agent such as Recontrust has a valid agency relationship with an entity that claims it can enforce the note (of course, this is a new piece of the puzzle……if Recontrust can not prove an agency relationship, the foreclosure process fails at this point too).
Remember, that the entity that is attempting to enforce the note is the Servicer. So that means that either the Servicer actually has the ability to enforce the note under CCC 3-301 or that they are the agent of the entity that has the ability to enforce the note under CCC 3-301. Assuming that the Trust (in this example ZZZ-1234 Trust with the New York Bank as Trustee) owns and possess the note and that the servicer has a valid agency relationship, we now come full circle to whether New York Bank is in compliance with CCC 3-301.
For New York Bank to institute a valid foreclosure proceeding, they must be able to establishcompliance with CCC 3-301, at commencement of the foreclosure proceeding, the recording of the notice of default, and throughout the proceedings until sale date. So then the following most basic requirements of CCC 3-301(a) or CCC 3-301(b) must be met:
3-301(a),Holder of the instrument: Was the entity filing the Notice of Default and subsequent actions, the Holder of the Note the entire time? This analysis turns on transfer and possession, and under California law, there aretwo requirements for a person to qualify as a Holder:
(a) ACTUAL POSSESSION: the person must be in actual physical possession of the instrument, and
(b) TRANSFER BY ENDORSEMENT: the instrument must be payable to that person where the transferor must indorse the instrument to make it payable to the transfereeSee CComC Â§ 1201(20); See CComC Â§ 3205(a);
Alternatively, the transferor may indorse the instrument in blank, and thereby make it enforceable by anyone in its possession (much like paper currency). See CComC Â§ 3205(b). Bottom line, did theServicer possess the note or where they acting as anagent for the entity possessing the note? And if so, was the note eitherendorsed to the Servicer or its Principal,orendorsed in blank?
If the servicer meets these two requirements, then it has the ability to enforce the note and foreclose. Again, it all depends uponPOSSESSION and ENDORSEMENT.
3-301(b), Nonholder in possession of theinstrument who has the rights of a holder: Was the entity filing the Notice of Default and subsequent actions, in possession of the Note, without endorsement, but with Holder rights? Typically, thisoccurswhere a note was transferred to a new owner pursuant to a purchase and sale agreement, but without endorsement. In other words, the new owner obtained possession of the note pursuant to a valid purchase and sale agreement, but for some reason or another, the seller never signed off and negotiated the note through an endorsement. In that case, the new owner meets the possession requirements of 3-301 (a) and (b), but is not considered a “Holder” by reason of CCC 1-202(b)21 to qualify under CCC 3-301(a) due to the lack of endorsement, but nevertheless has the rights of a holder due to the purchase and sale agreement. In this situation, a prudent debtor would demand inspection of the purchase and sale agreement to confirm whether the alleged owner has the “rights of a Holder.”
Only when the underlying enforceability issues of the Promissory Note are established, can an entity then look to any Deed of Trust which is only an accessory security interest which then gives rise to a foreclosure right. Most lenders miss the forest between the trees at this stage, and just assume that since the Deed of Trust was assigned to them, they can automatically foreclose.
But the Deed of Trust is only incidental to the underlying Promissory Note. It has no effect without the note. It is legally impossible to foreclose on any real property without the Note. The Deed of Trust is a legal nullity by itself, and means nothing without the note. These lenders entirely skip the underlying enforceability of a foreclosure which only arises upon actual Note possession and proper endorsement/obtaining Holder rights.
If you are facing foreclosure, watch out! If the actual owner of the note attempts to foreclose, but legally can not do so due to possession or endorsement issues on the note, legal grounds exist to set aside the foreclosure. Indeed, a very similar situation arose recently in theHwang case, a Central District of California Bankruptcy Court Case where IndyMac was the only entity with the actual legal ability to proceed with foreclose, yet it admitted it was not the actual owner of the note!
InHwang, even though IndyMac had the rights to foreclose on the note(it had possession and a valid endorsement), the Court statednobody knew who the owner of the note was, “Indeed, it is doubtful that IndyMac could make such a claim, because IndyMac does not know who owns the note.” In that case, the Judge denied IndyMac the ability to obtain relief of the automatic stay to pursue the foreclosure solely because no one seemed to know who the actual owner of the note was.
So if you are facing foreclose, you may wish to demand inspection of the original note. Even if the note is produced, then demand proof that possession existed when the Notice of Default was entered. And even if possession existed properly at all times, endorsement and negotiability must be proper and timely. When was the note endorsed? Who was it endorsed to. Is there an agency relationship between the foreclosing agent and endorsee? Is the endorsement in blank? If there is no endorsement, is there a purchase and sale agreement that gives Holder rights, and did it exist prior to the Notice of Default?
As always, seek acompetentattorney that will investigate these issues if you are having any doubts as to the enforceability of a foreclosure proceeding you are a party to.
Written byMichael G. Doan
Bankruptcy Law Network (BLN)
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