Latest Real Estate Time Bomb


Inquiring minds are pouring over a new article on NakedCapitalism.com entitled, “Latest Real Estate Time Bomb: Title of Foreclosed Properties Clouded…” about Wells Fargo attempting to dump the burden of chain of title on their REO buyers. The erudite article opens by spelling out both the facts of the foreclosure market and the free-marketeer’s thought process:

Another ticking time bomb in the realm of real estate bad behavior is bound to go off sooner rather than later, and it is likely to impede normalization of values of residential property.

As readers no doubt know, there is a lot of actual and shadow residential real estate inventory in the US. The time from serious delinquency to foreclosure has lengthened considerably, due not just to crowded court dockets, but also bank/servicer disinclination to take possession (reasons include that investors take a dim view of bank real estate holdings; the bank is liable for expenses, most important real estate taxes, once it takes possession; more foreclosures would lead banks to have to write down clearly overvalued second mortgages, leading to losses and lowering bank capital levels).

Most analysts have argued that it would be preferable to accelerate the process of clearing the overhang of housing inventory, since prices need ultimately to return to price level in relationship to incomes and rent rates more in line with long standing historical norms. And the officialdom seems to accept this view, since Fannie and Freddie are pressuring servicers to move faster on foreclosures.

A table well set. What many, if not all, people fail to realize is that even this path is beset with landmines. Thanks to the whole collateralization process of loans, the chains of title have been disrupted beyond comprehension:

Yet it appears that the very same sort of corners-cutting that led financial firms to shovel money to weak borrowers could impede working through the inventory of seized residential real estate. An article discusses an analysis by AFX Title, a title search company, that shows problems with title on foreclosed properties to be widespread…

The aforementioned report states:

As the number of real estate foreclosures skyrockets, the odds are higher that a home you live in today, or at some point in the future may have had a foreclosure in its history. Even if the foreclosure has long since passed, a loophole in the way mortgages are recorded can create a serious title defect for future owners. Title analysis performed this month by AFX Title has detected this error to be common in random samples of properties it reviewed. “This could affect the property ownership of millions of homes nationwide” said David Pelligrinelli, of AFX Title. “The mortgage recording method which created this title flaw did not exist until recently. As title abstractors are just seeing this problem emerge now but a wave of title claims is coming over the next year or so.”….

The problem is created through a break in the chain of mortgage ownership. Until the 1980’s, most mortgages were loans between the homeowner and a bank, who lent the money directly. More recently, the mortgage financing system transformed into an international system of securitization, with mortgage lenders packaging their loans into securities, bought and sold by investors like stocks. These transactions even split individual mortgages into sections, where each loan could have parts owned by different investment banks.

The transfer of ownership in these mortgage backed securities (MBS) was done with contracts on the balance sheets of Wall Street investment banks, such as Morgan Stanley and Goldman Sachs. The company who originally appeared to make the loan was normally a retail lending company such as Countrywide or Lending Tree, who typically acted as a sales company, and sometimes remained contracted to service the loan.

In the event that the loan goes into foreclosure at a later date, the then-current owner of the loan files the foreclosure and sells the property to a new owner, often at auction. The land records would show a deed of transfer from the investment bank to the new owner. This creates a break in the chain of ownership of the mortgage rights. In many cases, the transfer of ownership of the mortgage loan has gone from the original lender, through several owners, and then to the foreclosing bank, none of which is recorded on the property title history. Technically, the foreclosing bank has no recorded title rights to foreclose in the first place…

There are reports that some title insurers are indicating that they will not insure for this title defect.

This is no small matter. It is a point of law trivialized by amatuer buyer’s of REO’s. Yves at Naked Captalism gets it completely wrong here thought. He states that the new owner would have no recourse even though the author (Yves) explains that the the new owner used Wells’ title and other services.

This is wrong on so many fronts. First, you can’t sign away writes. This is similar to the “Not responsible for” signs at garages and parking lots. Of course the owners are. In this case it would be the seller (Wells Fargo).

And then there is the problem of “professional care”. The moment an entity such as Wells Fargo Bank (considered a professional) muscles an individual (considered a non-professional), does anyone think a judge will let that pass? Only a leftist. Real Estate law is replete with sections devoted to protecting the “little guy” from being taken advantaged of.

This is fear mongering at its worst. However, there are some issues here that should make would be buyer of REO’s think twice. Who wants to go through all the time it will take to figure the chain of title out and possibility of a wacko judge giving a wacko judgment. This is why amateurs should stay away from REO’s.

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