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Transferring Rights to a Note

By L. Jed Berliner, Marlborough & Springfield, MA Foreclosure Defense Attorney on Feb 28,
2010 in Foreclosure Defense, Foreclosure Process

Foreclosure defense requires tracing the rights to a mortgage to make sure that the foreclosing
party has the right to foreclose. It also requires tracing rights to the payment obligation
represented by the underlying promissory note, to insure that the foreclosing party is actually
owed the money.

(A promissory note is a payment obligation. A mortgage creates a lien which secures a note’s
payment obligation and gives the right to foreclose on the lien.)

By law in most states, if not all (Uniform Commercial Code, 3-203(c)), a note cannot be
enforced by an assignee. It can only be enforced by an endorsee.

A check is a type of a note. Like a check, any note’s transfer must be by endorsement - a signed
instruction on the note itself. An assignment is different from an endorsement. It is a separate
document. It cannot transfer enforcement rights to the note (again, in most states).

Sometimes the rights to the note get separated from rights to the mortgage. Your state law will
tell you what happens and who can foreclose, the note holder or the mortgage holder. In
Massachusetts, the mortgage holder can only act on the direction of the note holder and has no
independent authority to foreclose.

California Foreclosure Primer: The Basics of

Note Enforceability Part 1 of 2
By Consumer Attorney on Dec 14, 2008 in Foreclosure Defense, Foreclosure Process, Mortgage
Issues, Mortgage Servicer Abuses

In many California foreclosure cases, lenders are all together disregarding the underlying model
provisions of UCC article 3 and 9, which California has codified in its California Commercial

These lenders appear to be bypassing the most elementary and beginning stage of any
foreclosure proceeding, California Commercial Code 3-301, which governs the underlying
promissory note as a negotiable instrument and who is entitled to enforce it.

In a typical foreclosure, ABC Company, the last entity the borrower was paying, simply contacts
its foreclosure company to issue a Notice of Default and move forward with the foreclosure
process. Everyone seems to assume that ABC Company has the ability to foreclose in the first
place since that was who the borrower was paying recently and who the borrower may have
received a notice that their loan was “sold” to.

Because of these assumptions, most lenders, attorneys, and borrowers altogether skip
or completely assume the negotiability requirements of UCC article 3 have been met during all
previous transfers of the promissory note, and jump straight to the UCC article 9 security
interests issues.

Such assumptions are akin to an airline pilot assuming his plane has fuel for flying, without ever
inspecting any fuel tanks for fuel! Just like a plane can not fly without proper fuel, a foreclosure
can not take place with proper possession and endorsement/holder rights in an underlying
promissory note. Pilots do not skip fuel checks, so why are foreclosures skipping note
enforceability issues? Maybe because no lives are at stake? It takes too long? Its never been an
issues before? It costs too much money?

Check your Deed of Trust and Promissory Note. Chances are that XYZ Company is the original
lender, not ABC company, and you simply received notice that your loan was sold some time
ago. But keep in mind what really took place. Chances are, in today’s securitization market, that
your note was securitized in a pool with other notes to a Trust, that was then sold to a substantial
number of investors on Wall Street.

In this example, XYZ company may have originated the note and funded the original mortgage
with the aid of a the warehouse lender which provided interim funding (the warehouse lender
normally just files a UCC-1 financing statement as to the notes or claims perfection by
possession and is rarely an actual transferee of the note).

A Sponsor then organized the securitization of the mortgage and submitted the original
registration statements to the Securities and Exchange Commission. Finally, a Depositor then
transferred the note a Trust.

So in effect, even though XYZ originated the note, the note eventually concluded its transfers
and now resides in a Trust. Or, as which often happens, the Trust owns the note, but somewhere
along the note transfers, the actual possession of the note never made it to the Trust.

Irrespective, the Trustee of the Trust, is the actual entity that owns the notes for the benefit of the
parties who invested in the various tranches of bonds issued by the Trust. Each tranche of bond
holders has a different interest in the principal and interest income streams generated by the
mortgage notes in the Trust or from fees and charges recovered by the servicers from the
consumers (the rights of these bond holders are specified in the Pooling and Servicing
Agreement, the Prospectus and the Prospectus Supplement).

So in this example, we will assume that New York Bank is the Trustee now owning the note in
the ZZZ-1234 trust. Whether New York Bank actually possesses the Note is a different matter.
And since possession allows enforcement rights, it is possible that New York Bank may own the
Note, but has no ability to foreclose.
An example is where you own a $100 bill, left it at you home, and are trying to buy something at
the store and can not do so since you can not present them with the $100 bill, which if you read
it, it states it is a “Federal Reserve Note.” Foreclosures all turn on possession of Notes. The
promissory note to a mortgage is very similar to money. They are both notes and have certain
value. Possession is the only way to enforce them.

New York Bank then, as the owner of the note, has the ability to foreclose. Of course, this all
assumes that the underlying note was properly transferred in the forgoing chain of transfers and
is now in New York Bank’s possession. However, to be properly transferred, each transfer had
to comply with California Commercial Code 3-301, which states:

"Person entitled to enforce" an instrument means (a) the

holder of the instrument, (b) a nonholder in possession of the
instrument who has the rights of a holder, or (c) a person not in
possession of the instrument who is entitled to enforce the
instrument pursuant to Section 3309 or subdivision (d) of Section

In a perfect world, the transfers were all proper and New York Bank as Trustee of the ZZZ-1234
Trust has the ability to enforce the note and foreclose if payments are not made. Nevertheless,
Trustee of the Trust does not service the note. Instead, another entity services the note.
Sometimes, it may be the original party that originated the note, such as XYZ company in this
example, and the borrower thinks they had the same lender the entire time without knowing their
loan was sold.

Often, however, is that the servicer changes and the borrower concludes that the new servicer
owns the note. Again, this is not true since the Trust owns the note and the new servicer is
simply servicing the note on behalf of the Trust. Then, when a foreclosure action is started,
another entity usually enters the scene since the Servicer typically hires an outside foreclosure
entity to conduct the Trustee sale, such as ReconTrust, Quality Loan Servicing, etc.

The confusing transfers of the Note should also not be confused with the Deed of Trust filed with
the County Recorder, and any of its subsequent transfers and assignments. While the underlying
Note is the genesis to any enforcement issues, the Deed of Trust is merely an accessory to the
underlying note, and only provides rights to the collateral real estate if payments are not met. The
Deed of Trust is meaningless without a Promissory Note. Indeed, case law is well defined in
California, that a Deed of Trust without the underlying note is a “Legal Nullity.”

So the issue of enforcing a foreclosure on the underlying note has nothing to do with whether or
not Trust has a perfected security interest in the residential real estate via the deed of trust. While
perfection deals with recording the deed of trust with the County Recorder when the loan is
originated and is typically done in most cases, the party still attempting to enforce the note must
still qualify under the laws to enforce the note pursuant to CCC 3-301. Perfection should not be
confused with transfer, assignment and ownership rights in the mortgage notes on the one hand
and in the deed of trust and mortgage on the other.
If the forgoing is starting to make your head spin, it should. But be forewarned, this is only a
rudimentary analysis of the typical securitized mortgage in California. Its actually much more
complex than what is being written, and would take volumes to fully explain. Perhaps this is
why many Lenders, Consumers, Servicers, Attorneys, and Judges are perplexed when it comes to
litigation involving real estate notes.

Assuming an outside foreclosing agent such as Recontrust is now attempting to foreclosure on

the property, the most fundamental question then arises: Are they acting on behalf of an entity

In part 2 of this blog, we will explore whether the foreclosing agent has the legal right to enforce
the note.

California Foreclosure Primer: The Basics of

Note Enforceability Part 2 of 2
By Consumer Attorney on Dec 14, 2008 in Foreclosure Defense, Foreclosure Process, Mortgage

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
establish compliance 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 are two 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 transferee See CComC §
1201(20); See CComC § 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 § 3205(b).
Bottom line, did the Servicer possess the note or where they acting as an agent for the entity
possessing the note? And if so, was the note either endorsed to the Servicer or its
Principal, or endorsed in blank?

If the servicer meets these two requirements, then it has the ability to enforce the note and
foreclose. Again, it all depends upon POSSESSION and ENDORSEMENT.

3-301(b), Nonholder in possession of the instrument 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, this occurs where 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 the Hwang 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!

In Hwang, even though IndyMac had the rights to foreclose on the note (it had possession and a
valid endorsement), the Court stated nobody 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

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 a competent attorney 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 by Michael G. Doan