Friday, December 31, 2010

Dylan Ratigan - The Biggest Bank Robbery in History (and the banks are doing the robbery)

Dylan calls it a "thorn in the heel." I would call it a freaking "spear in the side."

Monday, December 27, 2010

Levitin on systemic failure of securitizaitons

The Big Fail

posted by Adam Levitin
Last week the US Bankruptcy Court for the District of New Jersey issued an opinion in a case captioned Kemp v. Countrywide Home Loans, Inc.  This case looks like the first piece of evidence in what might turn out to be the Securitization Fail or, in homage to Michael Lewis, The Big Fail.
Briefly, Countrywide as servicer filed a proof of claim for a mortgage in a bankruptcy case on behalf of Bank of New York as trustee for a securitization trust.  The bankruptcy court denied the claim because there was no evidence that Bank of New York ever owned the mortgage. The mortgage note had never been negotiated or delivered to Bank of New York, despite the requirement to do so in the Pooling and Servicing Agreement (PSA) that governed the securitization of the loan.  That meant that Bank of New York as trustee had no interest in the loan, so the proof of claim filed on its behalf was disallowed. 
This opinion could turn out to be incredibly important.  It provides a critical evidence for the argument that many securitization transactions simply failed to be effective because non-compliance with the terms of the transaction:  failure to properly transfer the mortgage meant that the mortgages were never actually securitized.  The rest of this post explains the chain of title issue in mortgage securitizations and how Kemp fits into the issue.  
Note and Mortgage Transfers in Securitizations
A residential mortgage securitization is a transaction that involves a series of transfers of two types of documents:  mortgage notes (the IOUs made by mortgage borrowers) and mortgages (the security instrument that says the lender may foreclose on the house if the borrower defaults on the note).   Ultimately, both the notes and mortgages need to be properly transferred to a trust that will pay for them by issuing securities (backed by the mortgages and notes, hence residential mortgage-backed securities or RMBS). If the notes and mortgages aren't properly transferred to the trust, then the securities that the trust issues aren't mortgage-backed and are worthless. 
So the critical issue here is whether the notes and mortgages were properly transferred to the securitization trusts.  To determine this, we need to figure out two things.  First, what is the proper method for transferring the notes and mortgages, and second, whether that method was followed. For this post, I'm going to focus solely on the notes. There are issues with the mortgages too, but that gets much, more complicated and doesn't directly connect with Kemp.
 1.  How Do You Transfer a Note? 
A. The American Securitization Forum's Argument
The American Securitization Forum (ASF) has a recent white paper that purports to explain how notes and mortgages are transferred in a securitization transaction.  The white paper explains that there are two methods for transfer and that either can suffice, although typically both are used. Those methods are a negotiation of the notes per Article 3 of the Uniform Commercial Code (UCC) and a sale of the notes per Article 9 of the UCC (take a look at the definitions of security interest, debtor, and secured party to understand how UCC 9-203 functions to effect a sale).   (The ASF argues that the mortgage follows the note, meaning that a transfer of the mortgage effects a transfer of the note.  I've got my doubts on this too, but that's for another time.) 
B. Trust Law and the UCC Permit Parties to Contract for a More Rigorous Method
The ASF white paper is correct to the extent that is explaining how notes could be transferred from, say, me to you or from Citi to Chase.  But that's not what happens with a securitization.  A securitization involves a transfer to a trust, and that complicates things.  
It's axiomatic that a trust's powers are limited to those set forth in the documents that create the trust.  In the case of RMBS, that document is the Pooling and Servicing Agreement (PSA).  Most PSAs are governed by NY law, which provides that a transaction beyond the authority of the trust documents is void, meaning it is ineffective.  
PSAs typically set forth a very specific method of transferring the notes (and mortgages) that goes beyond what is required by Articles 3 or 9.  This is perfectly fine under the UCC, which permits parties to deviate from its default rules by agreement (UCC 1-203), which can be inferred from the parties' conduct, including the PSA itself.  So what this means is that if a securitization transaction did not meet the requirements of the PSA, it is void, regardless of whether it complied with the transfer requirements of Article 3 or Article 9.  The private law of the PSA, not Article 3 or Article 9, is the relevant law governing the final transfer in a securitization transaction. 
There is some variation among PSAs, but typically a PSA will have two relevant transfer provisions. First, it will have a recital stating that the notes (and mortgages) are "hereby" transferred to the trust.  This language basically tracks the requirements of an Article 9 sale.  Second, it will have a provision stating that in connection with that transfer, there will be delivered to the trust the original notes, each containing a complete chain of endorsements that show the ownership history of the loan and a final endorsement in blank.  The endorsement requirement invokes an Article 3 transfer, but it imposes requirements (the complete chain of endorsements and the form of the final endorsement) that are not contained in Article 3.  
There is a very good business reason for having the full chain of title in the endorsements:  it is evidence of the transfers needed to ensure the bankruptcy remoteness of the trusts' assets. Bankruptcy remoteness means that the RMBS investors are assuming only the credit risk on the mortgages, not the credit risk of the originators and/or securitizers of the mortgages, and RMBS are priced based on this expectation.  
It is also clear that historically the method of transfer for RMBS securitizations was endorsement, not recital of sale. The promissory note sales provisions of Article 9 only went into effect in 2001 (in 49 states).  Pre-2001 PSAs contain the sale language, however, as post-2001 PSAs. This indicates that the "hereby" language is really carryover boilerplate; in 2001, it was ineffective to transfer a note under Article 9 of the UCC. While that language might have been sufficient for a common law sale, it wouldn't work for a transfer to a trust under NY law. When assets are transferred to a NY trust, there has to be actual delivery in as perfect a manner as possible; a "mere recital" doesn't cut it (and frankly, endorsements in blank might not suffice either because there is nothing that indicates that something endorsed in blank is trust property, rather than the trustee's or someone else's).  
2.  Was There Compliance with the Trust Documents?
So to tie this all back to Kemp:  the note in Kemp lacked the endorsements required in the PSA.  That means, as the Bankruptcy Court concluded, that the note was never transferred to the trust at the time the bankruptcy claim was filed.  The Bankruptcy Court did not need to opine beyond that point, but it is a small step to recognizing that if the loan wasn't transferred to the trust in the first place, it cannot be transferred now.  PSAs contain numerous timeliness provisions about loan transfers, often related to ensuring favorable tax status for the trust. PSAs also require the transferred loans be performing (not in default). That means that for the securitization trust, the Kemp note is like caffeine in 7-up:  never had it, never will. The securitization of the Kemp note failed.
Now here's the real kicker: there's no reason to think that the Kemp note was a unique, one-off problem. All evidence from actual foreclosure cases points to the lack of a chain of endorsements on the Kemp note being not the exception, but the rule, and not just for Countrywide, but industry-wide.  Certainly on the non-delivery point (separate from the non-endorsement problem), Countrywide admitted that non-delivery was "customary."  If either of these issues, non-delivery or non-endorsement is widespread, then I think we've got a massive problem in our financial system.
3.  Implications for Various Parties
Below I briefly review the implications for several types of parties.  
Bank Regulators
Federal bank regulators should be all over this; there is monstrous systemic risk potential.  The new Financial Stability Oversight Counsel, as well as the OCC and the Fed and FDIC should all be doing very targeted examinations of the large trustee banks' collateral files to grasp the scope of the problem.  I don't know what they're actually doing, but I'm afraid that they aren't undertaking the proper investigation.  Fortunately, this particular issue is easily within the expertise of bank regulators: just go to the collateral files and start looking at a large sample of notes. See how many are missing complete chains of endorsement or lack signatures altogether. That will be a very quick way to tell if there is a problem. 
I'm also very concerned that some banks might decide to start filing in chains of endorsement and backdating. But that's fraudulent, you protest!  Surely no bank would ever engage in fraud! Of course backdating signatures is fraudulent, but if the signatures aren't there, the banks are dead, so there's really no downside in having some underlings fill in their signatures. If caught there likelihood of jail time is low. Why not bet the farm? Bank regulators should be very sensitive to this potential problem. They should insist on being the ones who actually select the collateral files to be reviewed and that they are the ones who pull the actual note out of the file. The examiners should be making digital images of all notes that they review and keeping those for potential examination against the actual notes if those notes are produced in future foreclosure cases.  
My concern here is that the bank regulators so badly don't want for there to be a problem that they won't look at the notes in the hopes that this issue goes away. I hope that they are sensible enough to know that if there is a problem, they cannot prevent it, and would do best by gathering up all the information they can.  
SEC and Accountants
If the mortgages weren't properly transferred, there could be a variety of securities law violations, including servicers' regular Reg AB attestations. There could also be securities law violations on behalf of the banks--if the assets weren't properly transferred, they are still on the banks' balance sheets (as are the losses) and should be accounted for as such. 
Ratings Agencies
The ratings agencies should be all over this issue. It goes to the question of whether the collateral backing the MBS is there and whether the representations made to them about deals was in fact correct. I have heard, but cannot verify, that ratings agencies were themselves able to inspect the actual notes. If so, then there is a real conflict of interest on this point, as they should have caught this facially obvious problem. Unfortunately, the materials I've seen coming out of some of the ratings agencies make me concerned that they simply don't understand the legal issue involved and may not even understand the difference between the note and the mortgage.  
Banks (Securitization Sponsors)
The banks are in serious trouble if there are widespread securitization fails. If the loans weren't transferred to the securitization trusts, then they are on bank balance sheets, which means that (1) the losses on the loans are the banks (to be sorted out with the investors), and (2) the banks need to be holding capital against the loans that haven't gone into foreclosure.  Depending on the scale of the problem, the banks might not have enough capital to cover the securitization fails, which means we're in Dodd-Frank resolution territory. 
If the notes weren't properly transferred to the trusts, then investors have the mother of all putback claims.  Investors probably also have claims against securitization trustees and against the law firms that did diligence on the securitization deals. (Note that these same firms are the ones lining up to swear that there isn't a problem....). Of course, the danger for investors is that there is a huge problem, and the banks lack the money to fix it. 
Let's be clear that investor interests here are split. AAA investors who are still well in the money would prefer to simply be paid out on their RMBS at 100 cents on the dollar than mess with putbacks. But mezzanine (like CDOs) and junior investors have a lot of potential upside here. 
This could be very awkward for the monolines. Generally they promise timely payment of principal and interest to investors. If that coverage obligation continues while the monolines make rescission claims, they might have to pay out of pocket first and then look to the banks for recovery. If so, they would be in a heck of a liquidity pickle. 
Chain of title doesn't affect whether homeowners are in default on their loans.  The loans' validity is not in question because of chain of title. But chain of title does affect who has the right to foreclose. At the very least, if there is a chain of title problem, it means lots of foreclosures cannot properly proceed because of lack of standing. On the other hand, if the loans weren't actually securitized, they are on banks' books, which might, just might, facilitate workouts. More generally, if there is a widespread securitization fail, it means that there will have to be a legislative solution to the problem, which might facilitate real loan modifications.
The original post is here:

Admission: In MERS cases, assignments are not obtained until foreclosure begins

The best "stuff" comes out when the sharks bite each other. Here is a complaint in the case of Ocwen Loan Servicing, LLC v. Mortgage Electronic Registration Systems, Inc., No. 1:08-CV-00824 (E.D. Va 2008).  It states, among other things, that the "MERS system is also essential to the foreclosure process, since mortgage servicers seeking to foreclose on defaulted mortgages that are registered on the MERS system must obtain an assignment from MERS in order to commence foreclosure proceedings."

You can read more here:

The case was ultimately withdrawn by Ocwen after the court denied its TRO motion.

Not recording the true owner of a mortgage in Va land records extends beyond foreclosure

Loan recording mess in Va. allows homeowners who don't qualify to get tax break

During the housing boom, millions of homeowners got easy access to mortgages. Now, some mortgage lenders and government officials are taking action after discovering that many mortgage documents were mishandled.
Washington Post Staff Writer
Wednesday, November 3, 2010; 9:01 PM
Countless homeowners in Virginia are getting a tax break for which they don't really qualify because a mortgage documentation mess makes it hard to determine who qualifies, officials say.
View All Items in This Story
The loss of tax revenue for local governments and the state is another result of the lending industry growing so fast and becoming so complex during its go-go years that it outstripped its paper trail.
Because the problem involves blind spots in official records, no one can say how much revenue is being lost. But the amount could be significant.
"I'm trying to do my best to follow Virginia law here," said John T. Frey, clerk of the Fairfax County Circuit Court, but "people are getting the break that aren't eligible."
When Virginia homeowners refinance their mortgages, they are required to pay a recordation tax. On a loan of $400,000, the tax would typically total $1,333.
The state's portion of recordation taxes soared to $669.8 million in fiscal 2006 and declined by more than half to $298.4 million in fiscal 2009. Those numbers include taxes on deeds, mortgages to buy homes, and other recorded documents, not just refinancings. Extrapolating from the state figure, in fiscal 2009, roughly $100 million more would have gone to localities.
In a refinancing, if the lender issuing the new loan is the same as the lender holding the old loan, the borrower is exempt from the tax.
The trouble is figuring out who holds the old loan.
After issuing mortgages to homeowners, banks routinely sell the IOUs to other banks or institutions such as Fannie Mae andFreddie Mac. Huge volumes of mortgages have been packaged into securities and sold on Wall Street.
Unbeknown to the borrower, the note can change hands again and again - at least electronically - while the bank that issued the loan continues to collect the monthly payments on behalf of the new owner.
The buyers of the mortgages were not required to record the note assignments in county courthouses, and, as the lending business sped up, many transfers went unfiled, county clerks say.
As a result, the clerks who process claims for the tax exemption are ordinarily unable to tell whether the lender whose name appears on the paperwork owns the loan or is merely servicing it, officials say.

The full article is available here:

Virginia: Lawmaker Questions Power to Foreclose

A Virginia lawmaker asked the state's attorney general to launch an investigation of Mortgage Electronic Registration Systems, the middleman firm in millions of court filings that helps keep the mortgage-securitization machine moving.
Robert G. Marshall, a Republican member of the Virginia House of Delegates, requested that Virginia Attorney General Ken Cuccinelli determine whether the Reston, Va., company violates state law because it doesn't pay a fee every time a loan changes hands. Opinions differ as to whether MERS must pay local fees every time it sells an interest in a loan.
"There are too many people getting foreclosed on not properly," said Mr. Marshall, who represents two counties near Washington, adding that he is drafting a Virginia law that would require lenders to pay county fees before being allowed to proceed with foreclosures. "The disdain with which the conditions of law have been treated by those who want to make money too fast is very troubling to me."
Brian J. Gottstein, a spokesman for Mr. Cuccinelli, said the attorney general is required to produce an opinion on the matter but declined to comment "on any particular industry participant right now."
R.K. Arnold, MERS's chief executive, said the company's activities are legal in all 50 states and have held up under previous scrutiny.
The challenge is the latest sign lawmakers and lawyers for borrowers are taking aim at MERS as the foreclosure mess drags on. Created 13 years ago by Fannie Mae, Freddie Mac and several large U.S. banks as an electronic registry of land records, the company's name is listed as the agent for mortgage lenders on documents for 65 million home loans. But that same streamlining has made MERS a target of critics who say the company might not have the legal right that it claims to foreclose on borrowers.
In a state-court lawsuit filed in Georgia last week seeking class-action status, lawyer David Ates says MERS isn't a secured creditor, meaning it lacks the power to foreclose on behalf of lenders, mortgage servicers or other parties.
Mr. Ates said he is seeking to have all Georgia foreclosures by the company "be declared invalid and the title be returned to the debtor."
Mr. Arnold said the company's role in foreclosing on a mortgage is unquestionable because every time a loan is registered with MERS, the borrower must sign a document saying the company assumes all rights and responsibilities on behalf of the creditor or lender.
"The legal concept is as sound as any concept in America: You made a loan to a homeowner," Mr. Arnold said in an interview. "They granted you a mortgage, and that's recorded in the land records, and the company that has the mortgage and can foreclose is MERS."
Mr. Arnold added: "We can foreclose in all 50 states, and we will continue to do that."
Tom Kelly, a spokesman for J.P. Morgan Chase, said last month that the New York bank hasn't used the MERS record-keeping system since at least 2008 to foreclose in the bank's name because "some local courts wouldn't accept MERS." J.P. Morgan still uses MERS for mortgages originated by other banks or brokers.
MERS spokeswoman Karmela Lejarde said the company doesn't keep track of how many users have stopped using the electronic filing system. MERS declined to say how many lawsuits have been filed against the company since foreclosure troubles erupted in mid-September.
On its corporate website, MERS says its goal is "to register every mortgage loan in the United States." During the housing boom, the company helped lenders transfer ownership of home loans quickly and at low cost, making it easier to bundle loans into pools that are then morphed into securities.
Christopher L. Peterson, a law professor at the University of Utah who has criticized the record-keeping company's business model in scholarly articles, says the foreclosure furor is a serious challenge to MERS because the documentation problems show the company is doing an end run around hundreds of years of American property law.
"By having all the mortgage loans recorded in the name of one entity, the records don't mean anything anymore," Mr. Peterson said. "We used to have the records that showed the true economic interest of who owns the land in the public system. Now we just have one proxy, and we can't tell which lender or which trust owns the right to foreclose, because virtually every securitized loan is recorded in the name of MERS."
There is no sign county governments across the U.S. are pursuing a wide-scale effort to recover fees from MERS. And while state supreme courts in Arkansas, Kansas and Maine have thrown out individual foreclosure cases on the grounds MERS didn't have the right to bring the actions on behalf of banks, no nationwide consensus has emerged.
"MERS is on the mortgage. It's a condition to the loan. The borrower agreed to that. We're foreclosing on behalf of the company that holds the promissory note," said Mr. Arnold, MERS's CEO. "At the end of the day, it's going to wind up in the favor of MERS."
Also last week, the District of Columbia's attorney general, Peter Nickles, issued a statement saying no D.C. homeowner can be foreclosed upon unless the security interest of the note holder has been physically recorded with the district's Recorder of Deeds, a condition that electronic assignments through MERS don't meet.
MERS said in a statement that its transfers of interest in a property were valid because MERS's name is on the original documents when the loan is made and recorded.
Write to Robbie Whelan at
the original article is available here:

Sunday, December 26, 2010

Virginia Foreclosure Terror Continues

Whashington Post just released an article correctly pointing out that, while many states move toward greater protection of homeowners in foreclosure, Virginia continues its pro-establishment stance and actually is moving away from protecting homeowners.  One of the issues mentioned in the Washington Post article is that the foreclosure trustee can mail a notice of sale to the homeowner exactly 14 days prior to the scheduled sale.  The homeowner will then receive the notice 11 days prior to the sale in most cases.  What the article fails to mention is that most circuit courts in Virginia require at least a 14-day advance notice to schedule a hearing to challenge the contemplated sale.  Thus it is effectively impossible for a homeowner who receives a notice of sale to challenge the sale in court prior to the sale taking place.  Even though one can (in theory) ask for an expedited hearing sooner than in 14 days, one must establish that grounds for such expedited hearing exist, and the courts have been reluctant to grant expedited hearings merely because the sale is scheduled to take place in less than 14 days.

It seems that the local court policy (2 week notice) and the statutory requirement of allowing a notice of sale to be mailed only 14 days in advance create a due process violation subject to facial challenge. Once such a challenge is mounted, the issue is going to be whether the opportunity to ask for an expedited consideration in less than 14 days satisfies due process for a homeowner faced with non-judicial foreclosure.

The Washington Post article can be found here:

The Va Supreme Court case likely referenced in the article can be read here:

Tuesday, December 21, 2010

Securitization case showing financial incentives for servicers of securitized mortgages NOT to modify loans

[case can also be accessed here: ]

Greenwich Financial Svcs. v. Countrywide Financial, 654 F.Supp.2d 192 (S.D.N.Y., 2009)
- 1 -
Page 192 654 F.Supp.2d 192 GREENWICH FINANCIAL SERVICES DISTRESSED MORTGAGE Fund 3, LLC, and QED LLC, on behalf of themselves and all other persons similarly situated, Plaintiffs, v. COUNTRYWIDE FINANCIAL CORPORATION et al., Defendants. No. 08 Civ. 11343(RJH). United States District Court, S.D. New York. August 14, 2009. Page 193
David J. Grais, Grais & Ellsworth, LLP, New York, NY, for Plaintiffs. John H. Beisner, Kathryn E. Tarbert, Matthew M. Shors, Michael E. Stamp, Stephen Heschel Weil, Brian David Boyle, O'Melveny & Myers LLP, Washington, DC, William Joseph Sushon, O'Melveny & Myers, LLP, New York, NY, for Defendants. MEMORANDUM OPINION AND ORDER RICHARD J. HOLWELL, District Judge. Plaintiffs Greenwich Financial Services Distressed Mortgage Fund 3, LLC and QED LLC move to remand this case to state court for lack of subject matter jurisdiction. Defendants Countrywide Financial Corporation ("Countrywide Financial"), Countrywide Home Loans, Inc. ("Countrywide Home Loans"), and Countrywide Home Loans Servicing LP ("Countrywide Servicing") (collectively, "Countrywide") respond that this Court has jurisdiction under the Class Action Fairness Act of 2005, 28 U.S.C. §§ 1332(d), 1453, 1711-15 ("CAFA"), because the parties are minimally diverse and the amount sought is over $5 million, and under 28 U.S.C. § 1331 because plaintiffs' claims raise substantial, disputed federal questions under the Truth-in-Lending Act, 15 U.S.C. § 1601 et seq. ("TILA"). For the reasons set forth below, the Court holds that neither CAFA nor TILA provides a basis for subject matter jurisdiction over this case, and therefore that the case must be remanded to state court. BACKGROUND Plaintiffs bring this putative class action as holders of the now-infamous mortgage-backed securities whose decline in value has hobbled the financial markets. Specifically, plaintiffs allege that they hold certificates Page 194 issued by various trusts, which own hundreds of thousands of mortgage loans. (Notice of Removal, Ex. A. (the "Complaint" or "Compl.") ¶¶ 1, 12-14.) The trusts' ownership of the loans entitles them to the borrowers' periodic interest and principal payments, and the certificates entitle plaintiffs to a share of those payments. (Id. ¶ 25.) The trusts, of course, did not issue the loans, nor did they possess any assets prior to purchasing the loans. (Id. ¶¶ 23-24.) The purchases were all made pursuant to certain agreements that comprised the "securitization", and the money with which the purchases were made was raised by selling the certificates—the securities in question. (Id.) Defendants were both the issuers and sellers of the mortgage loans currently owned by the trusts. (Id. ¶¶ 1, 23.) Because the trusts themselves had no expertise with lending and loan administration, defendant Countrywide Servicing remained as the "master servicer" for the loans under terms described in contracts known as Pooling and Servicing Agreements ("PSAs"). (Id. ¶¶ 26-27.) As master servicer, Countrywide Servicing administers the loans on behalf of plaintiffs with authority delineated by the PSAs. (See, e.g., Murata Decl. Ex. A, Series 2005-36 PSA.)
Greenwich Financial Svcs. v. Countrywide Financial, 654 F.Supp.2d 192 (S.D.N.Y., 2009)
- 2 -
Plaintiffs' claims arise from actions taken by defendants with respect to these loans pursuant to the terms of a settlement with several state Attorneys General. In the summer of 2008, the Attorneys General for seven states filed lawsuits accusing Countrywide of violating laws against predatory lending. (Compl. ¶ 28.) Among other things, the states alleged that Countrywide made loans it had no reasonable basis to think borrowers could afford. (Id.) Countrywide later agreed to a multistate settlement, requiring it to modify the terms of numerous mortgage loans that it currently services—including at least some of the loans it services on behalf of plaintiffs. (Id. ¶ 30.) Plaintiffs allege that "[m]odifying a mortgage loan almost always means reducing or delaying payments due on that loan." (Id. ¶ 32.) Such modifications of the loans owned by the trusts could therefore reduce the cash flow into the trusts and thus "reduce[] the value of the certificates that those trusts sold to investors." (Id.) Plaintiffs responded to defendants' settlement with the state Attorneys General by filing this putative class action in New York State Supreme Court. In their complaint, plaintiffs do not challenge Countrywide's authority under the PSAs to modify the loans, but rather seek declaratory judgments under N.Y. C.P.L.R. 3001 that the PSAs require Countrywide to purchase any loans it modifies at a price equal to the unpaid principal and accrued interest thereon. (Id. ¶¶ 35, 38.) Specifically, plaintiffs point to the following clause that is reproduced in sum and substance across all the PSAs: "Countrywide may agree to a modification of any Mortgage Loan (the `Modified Mortgage Loan') if . . . Countrywide purchases the Modified Mortgage Loan from the Trust Fund . . . ." (Id. ¶¶ 34-35.) Defendants promptly removed the action to this Court, and plaintiff moved to remand two weeks later. DISCUSSION
"If at any time before final judgment it appears that the district court lacks subject matter jurisdiction, the case shall be remanded." 28 U.S.C. § 1447(c). Here, defendants argue that this Court has jurisdiction (1) under CAFA because plaintiffs seek certification as a class action, the parties are minimally diverse, and the amount in controversy is over $5 million, and (2) under 28 U.S.C. § 1331 because Page 195 plaintiffs' claims present substantial questions of federal law. Plaintiffs disagree, arguing that an exception to CAFA jurisdiction applies and that their claims do not present federal questions. At best, plaintiffs argue, defendants raise a federal defense, which is insufficient to establish subject matter jurisdiction. The Court agrees with plaintiffs. I. Jurisdiction under CAFA CAFA provides that The district courts shall have original jurisdiction of any civil action in which the matter in controversy exceeds the sum or value of $5,000,000, exclusive of interests and costs, and is a class action in which . . . any member of a class of plaintiffs is a citizen of a State different from any defendant. 28 U.S.C. § 1332(d)(2). Plaintiffs do not dispute that the above requirements for jurisdiction under CAFA have been met. (Tr. of Mar. 13, 2009 Hr'g at 3.) Rather, plaintiffs argue that CAFA excepts certain suits from its jurisdictional reach and that this case falls squarely within one of those exceptions. Specifically, plaintiffs cite CAFA's provision that district courts do not have jurisdiction over a class action that "solely involves a claim . . . that relates to the rights, duties (including fiduciary duties), and obligations relating to or created by or pursuant to any security . . . ." 28 U.S.C. § 1332(d)(9)(C). Plaintiffs concede that it is their burden to persuade the Court that this exception applies. (Tr. of Mar. 13, 2009 Hr'g at 3.)
Greenwich Financial Svcs. v. Countrywide Financial, 654 F.Supp.2d 192 (S.D.N.Y., 2009)
- 3 -
While all statutory analysis begins with the text itself, CAFA's text poses a variety of problems. Considering the same exception the Court does here, the Court of Appeals declared that CAFA's text was both "cryptic" and "ambiguous". Estate of Barbara Pew v. Cardarelli, 527 F.3d 25, 30, 32 (2d Cir.2008) (finding that "the imperfect drafting of [CAFA] makes it ambiguous" and that the court is "forced . . . to construe CAFA's cryptic text") (citations and quotations omitted). Indeed, considering the general rule of statutory construction to read exceptions narrowly when the statute itself should be read broadly, see C.I.R. v. Clark, 489 U.S. 726, 739, 109 S.Ct. 1455, 103 L.Ed.2d 753 (1989) ("In construing provisions . . . in which a general statement of policy is qualified by an exception, we usually read the exception narrowly in order to preserve the primary operation of the provision."), it is particularly difficult to read narrowly language that sweeps in any claim that "relates to the rights, duties (including fiduciary duties), and obligations relating to or created by or pursuant to any security." (emphasis added). Read too literally, this exception would encompass all securities claims, a result that would truly swallow the rule. See Estate of Barbara Pew, 527 F.3d at 32 ("Review of [Securities Litigation Uniform Standards Act] and CAFA confirms an overall design to assure that the federal courts are available for all securities cases that have national impact . . . ."); New Jersey Carpenters Vacation Fund v. Harborview Mortgage Loan Trust, 581 F.Supp.2d 581, 588 (S.D.N.Y. 2008) ("Consistent with Congress's aim to interpret CAFA broadly, as reflected in the legislative history, all of CAFA's exceptions are to be interpreted narrowly.")
Fortunately, the Court of Appeals has already done the lion's share of the work interpreting this exception. In Estate of Barbara Pew, the Court of Appeals confronted the exception's scope in the context of a state consumer fraud claim. The plaintiffs in Pew were purchasers of money market certificates—unsecured, fixed-interest debt instruments—whose issuer had gone bankrupt. Plaintiffs brought suit in state court against the issuer's officers and
Page 196 the issuer's auditor for fraudulently failing to disclose the issuer's insolvency. Defendants removed to federal court under CAFA, and plaintiffs quickly moved to remand, arguing that the third exception in 28 U.S.C. § 1332(d)(9) applied. The trial court agreed with plaintiffs, and defendants appealed pursuant to 28 U.S.C. § 1453(c). The Court of Appeals began by rejecting plaintiffs' argument that the exception covered all securities claims. Estate of Barbara Pew, 527 F.3d at 31. Such a reading, the court concluded, would render superfluous the phrase "the rights, duties (including fiduciary duties), and obligations relating to or created by or pursuant to", leaving the text no different than if it read simply "[any] claim . . . that relates to . . . any security." Furthermore, and perhaps more importantly, the court held that such a reading would collapse three CAFA exceptions into two, rendering superfluous the first exception involving claims "concerning a covered security as defined under 16(f)(3) of the Securities Act of 1933 . . . and section 28(f)(5)(E) of the Securities Exchange Act of 1934. . . ."
If the third exception did not apply to all claims relating to securities, what was the limiting principle? For this, the Court of Appeals focused on the "rights", "duties", and "obligations" language. Duties were owed by persons—whether human or artificial—and while obligations could be owed by persons or by instruments, to differentiate them from "duties", the term "obligations" should be read as "obligations created in instruments, such as a certificate of incorporation, an indenture, a note, or some other corporate document." Estate of Barbara Pew, 527 F.3d at 31. Of course, the "rights" are "those of the security-holders (or their trustees or agents) to whom these duties and obligations run." Id. Applying these distinctions, the Court of Appeals held that the exception was limited to suits seeking to enforce
Greenwich Financial Svcs. v. Countrywide Financial, 654 F.Supp.2d 192 (S.D.N.Y., 2009)
- 4 -
"the terms of the instruments that create and define securities" or the "duties imposed on persons who administer securities." Id. at 33. The consumer fraud claims at issue in Pew did not fall into either of these categories. The plaintiffs' securities were simple debt instruments with fixed interest rates. Had plaintiffs sued over the issuer's obligation to make interest payments—obligations specified by the instruments themselves—the exception would have applied. But the right to sue for fraud is created by state law, not the terms of the securities. Hence, the exception did not apply, and the Court of Appeals reversed the trial court's remand order. Id. at 33. Given Pew's interpretation of Section 1332(d)(9), this Court concludes that CAFA's third exception applies to plaintiffs' claims because plaintiffs seek to enforce "the terms of the instruments that create and define [their] securities." Id. at 33. Indeed, despite defendants' many arguments to the contrary, it is hard to see how the PSAs do not constitute instruments that create and define plaintiffs' certificates. In the sample PSA provided by defendants, "Article V" is devoted entirely to the certificates, including sections relating to their issuance, registration, mutilation, and ownership. (See Murata Decl. Ex. A at 100-06.) Moreover, the PSAs are in many ways similar to indentures, documents specifically referred to by the Court of Appeals in Pew. Estate of Barbara Pew, 527 F.3d at 31. A bond indenture is a "contract between the borrowing company and the trustee (usually a bank) or trustees representing the bondholders." ENCYCLOPEDIC DICTIONARY OF BUSINESS FINANCE 313 (Prentice Hall, Inc. 1960). Bond indentures "contain[] all of the provisions of the borrowing, the duties of the trustee Page 197
and the relation of the trustee to the issuer and the bondholder." Id.; accord DICTIONARY OF FINANCE AND INVESTMENT TERMS 325 (6th ed.2003). Hence, just as bondholders are beneficiaries of, but not parties to, indentures, so too are the certificateholders beneficiaries of, but not parties to, the PSAs. Where the indentures contain the details of the borrowing, the duties of the trustee, and the legal relationship between the trustee, borrower, and bondholders, the sample PSA provided by defendants sets out the distribution of mortgage principal and interest payments to the various certificate classes, (Murata Decl. Ex. A at 84-99), the duties of the trustee, (id. at 113), and the legal relationship between the trustee, the master servicer, and the certificateholders, (id. at 65-84). But even if the PSAs are not sufficiently analogous to indentures, the Article of the PSA containing Section 3.11(b)—the provision on which plaintiffs sue—specifies that "[Countrywide Servicing] shall service and administer the Mortgage Loans in accordance with the terms of this agreement" "[f]or and on behalf of the Certificateholders", i.e., the plaintiffs. The PSAs' plain language creates obligations for defendants, relating to the securities, whose benefits run to the plaintiffs. Because defendants are suing on those obligations, they fall within the third exception to CAFA jurisdiction. Defendants make three arguments to try to avoid this conclusion—all of which fail. First, defendants try to further narrow the scope of CAFA's third exception by selectively, and misleadingly, quoting from Pew. In particular, defendants argue that Pew's requirement that the claims be "grounded in the terms of the security itself", Estate of Barbara Pew, 527 F.3d at 32, should be read as restricting CAFA's third exception to claims based on language contained in the four corners of the certificates. (Def. Br. at 6-8.) Because plaintiffs are not suing on the language contained in the certificates themselves but rather on the PSAs—contracts to which plaintiffs are not parties—Countrywide contends that their motion to remand must fail. (Id.) Only if plaintiffs brought claims concerning "how interest rates are to be calculated" or the proper recourse when the issuer "default[s] on principle", would the claims qualify for the exception. (See id. (citing Estate of Barbara Pew, 527 F.3d at 31-32).)
Greenwich Financial Svcs. v. Countrywide Financial, 654 F.Supp.2d 192 (S.D.N.Y., 2009)
- 5 -
In making this argument, however, defendants make no attempt to reconcile their interpretation with the language in Pew that finds the exception applicable when plaintiffs are seeking to enforce "the terms of the instruments that create and define securities". Id. at 33 (emphasis added). They similarly ignore Pew's references to documents outside of the four corners of the securities such as "a certificate of incorporation" or "an indenture". In fact, the only acknowledgement of this language by defendants came at oral argument when counsel argued that the reference to "articles of incorporation" in Pew was during a discussion of CAFA's second exception in Section 1332(d)(9)(B). (Tr. of Mar. 13, 2009 Hr'g at 17.) Pew, however, never discusses the scope of the second exception. Moreover, to the extent defendants are relying on other courts for their interpretation, they have misread the case law. See New Jersey Carpenters Vacation Fund, 581 F.Supp.2d at 590 (interpreting Pew to hold that CAFA's third exception should apply to "disputes over the meaning of the terms of a security, which is spelled out in some formative document of the business enterprise, such as a certificate of incorporation"); Katz v. Gerardi, 552 F.3d 558, 563 (7th Cir.2009) (interpreting Pew to hold that CAFA's exception "applies to suits asserting that the promises made in securities have not been honored" where Page 198 the promises include those made in the "Declaration of Trust"). Finally, even if defendants' construction were correct, they would still lose because the PSAs are expressly incorporated into the certificates themselves. (See Pl. Reply Br. at 3 & n. 2.) Unlike bonds, which traditionally contain interest rates and principal, the certificates do not have fixed interest rates printed on them, referencing the PSAs for their calculation. Plaintiffs cannot sue over the calculation of payment under the certificates without suing under the PSAs.
Defendants' second argument is that even if the terms of the certificates are implicated by plaintiffs' claims, they are not "solely" implicated and, therefore, do not fall with the third CAFA exception. In support of this argument, defendants discuss at length a series of cases interpreting the word "solely" in other contexts. (Def. Br. at 8-11.) They then cite two aspects of plaintiffs' claims that they claim go beyond the terms of the securities, namely: (1) plaintiffs' naming of Countrywide Financial as a defendant under an alter-ego theory; and (2) plaintiffs' failure to include in their claim the "no-action" clauses in the PSAs, a necessary hurdle for plaintiffs to bring suit. (Def. Br. at 11-13.) Suffice to say, the word "solely" cannot be read to limit the third exception to substantive claims that raise no collateral issues. Every plaintiff bringing a contract claim under state law must rely on the state's procedural rules, rules of evidence, and the substantive law of contract, and the law of alter-ego liability is no less collateral to the merits of plaintiffs' claim than these bodies of law. If pleading alter-ego liability excluded plaintiffs' claims from an exception otherwise squarely on point, no suit would ever fall under the exception. As for plaintiffs' failure to include the "no-action" clauses in their claims, defendants confuse plaintiffs' invocation of law in their claims with defendants' own invocation of law in their defense. The fact that defendants plan to argue that the "no-action" clauses bar plaintiffs' claims—or that any other PSA provision or body of law bars plaintiffs' claims1—does not take plaintiffs' claim outside the scope of CAFA's third exception. Defendants' third and final argument attempts to re-write CAFA to grant jurisdiction over all cases having a "national-impact". The Court concedes that CAFA was designed to relocate a large portion of class action litigation into federal court from state court, but Congress did not grant this Court jurisdiction over all class actions having a "national impact". If it had, it would not have needed to include the requirements of minimal diversity and at least $5 million dollars in controversy. Moreover, had Congress believed that disputes with national impact trumped CAFA's third exception, it would have said so.
Greenwich Financial Svcs. v. Countrywide Financial, 654 F.Supp.2d 192 (S.D.N.Y., 2009)
- 6 -
In sum, none of defendants' arguments overcome a common sense reading of Pew and the text of CAFA itself. As interesting, timely, and important as this case may be, the Court holds that it does not have jurisdiction under CAFA. II. Substantial Question of Federal Law Courts have jurisdiction under 28 U.S.C. § 1331 over actions "arising under the Constitution, laws, or treaties of the United States." 28 U.S.C. § 1331. "A case aris[es] under federal law within the meaning of § 1331 . . . if a well-pleaded complaint establishes either that federal law creates the cause of action or that the Page 199 plaintiff's right to relief necessarily depends on resolution of a substantial question of federal law." Empire Healthchoice Assurance, Inc. v. McVeigh, 547 U.S. 677, 689-90, 126 S.Ct. 2121, 165 L.Ed.2d 131 (2006) (quotations and citations omitted). Defendants do not argue that plaintiffs' complaint pleads a federal cause of action, indirectly conceding that plaintiffs' claims sound in the state common law of contract.2 Defendants instead argue that the Court has "arising under" jurisdiction over plaintiffs' state law claims because they "implicate[] substantial, disputed issues of federal law." (Def. Br. at 2.) For this argument, they rely heavily on Grable & Sons Metal Prods. v. Darue Eng'g & Mfg., 545 U.S. 308, 125 S.Ct. 2363, 162 L.Ed.2d 257 (2005). A. Grable and its Progeny
Commentators have cited Grable for bringing some clarity to the question of federal jurisdiction over state law claims.3 In Grable, the petitioner had originally brought a quiet title action in Michigan State court. Five years before the suit, the IRS had seized the petitioner's property to satisfy federal tax delinquencies, served notice of the seizure on the petitioner by certified mail, and sold the property to respondent. Petitioner's suit against respondent claimed that petitioner had retained title because 26 U.S.C. § 6335, the statute that governed service of the seizure notice, required personal service, not service by certified mail. Respondent removed the case to federal court, and petitioner challenged removal for lack of subject matter jurisdiction. The Grable Court held that "[the] case warrants federal jurisdiction", explaining that "[w]hether Grable was given notice within the meaning of the federal statute is . . . an essential element of its quiet title claim . . . ." Id. at 314-15, 125 S.Ct. 2363. Michigan law required plaintiffs bringing an action to quiet title to specify "the facts establishing the superiority of [their] claim," and Grable had sought to satisfy this element of its claim by establishing the "failure by the IRS to give it adequate notice, as defined by federal law". Id. at 314, 125 S.Ct. 2363. Consequently, while state law created the rights Grable sought to vindicate, Grable bore the burden of proving an application of federal law that was favorable to his claim. Indeed, the adequacy of notice under 26 U.S.C. § 6335 "appear[ed] to be the only legal or factual issue contested in the case." Id. at 315, 125 S.Ct. 2363. The Court also stressed that Grable's claim satisfied two additional hurdles necessary for federal jurisdiction. First, the federal issue was a "substantial" one because the federal government "ha[d] a strong interest in the prompt and certain collection of delinquent taxes." Id. (quotations omitted). Second, upholding federal jurisdiction was "consistent with congressional judgment about the sound division of labor between state and federal courts governing the application of § 1331." Id. at 313-14, 125 S.Ct. 2363. In particular, the Court held that "because it will be the Page 200
rare state title case that raises a contested matter of federal law, federal jurisdiction to resolve genuine disagreement over federal tax title provisions will portend only a microscopic effect on the federal-state division of labor." Id. at 315, 125 S.Ct. 2363.
Greenwich Financial Svcs. v. Countrywide Financial, 654 F.Supp.2d 192 (S.D.N.Y., 2009)
- 7 -
The Supreme Court noted the narrow scope of Grable only a year later in Empire Healthchoice Assurance, Inc. v. McVeigh, 547 U.S. 677, 126 S.Ct. 2121, 165 L.Ed.2d 131 (2006). The petitioner in Empire was a health insurance carrier that had contracted with the federal government to provide health care plans for government employees. Respondent was administrator of the estate of Joseph McVeigh, a former enrollee in one of petitioner's plans. McVeigh had been injured in a car accident and received payments from petitioner for medical care. Respondent later commenced an action in tort against the parties allegedly responsible for McVeigh's injuries—which ultimately led to his death—and settled for a substantial sum of money. Upon learning of the settlement, petitioner commenced suit against respondent in federal court for reimbursement of its payments to McVeigh based on a clause in his health care plan. Respondent moved to dismiss for lack of subject matter jurisdiction, and the trial court granted the motion.
On certiorari, the Supreme Court rejected the argument, pressed by the United States as amicus curiae, that jurisdiction was proper under Grable because interpreting McVeigh's health care plan required application of the Federal Employees Health Benefits Act of 1959 ("FEHBA"), 5 U.S.C. § 8901 et seq. (2000). FEHBA provided that "[t]he provisions of any contract under this chapter which relate to the nature or extent of coverage or benefits . . . shall supersede and preempt any State or local law, any regulation issued thereunder, which relates to health insurance or plans . . . ." 5 U.S.C. § 8901(m)(1). The Supreme Court held that even if FEHBA was a necessary element of petitioner's claim, in all other respects the "case [was] poles apart from Grable." Id. at 700, 126 S.Ct. 2121. The Court observed that unlike the case before it, Grable involved the actions of a federal agency, and the question involved was a pure issue of law applicable to numerous other cases. While admitting that the United States had "an overwhelming interest in attracting able workers to the federal workforce" and in "the health and welfare of the federal workers upon whom it relies to carry out its functions", the Court rejected the notion that these interests warranted turning a discrete matter of state law into a "federal case". Id. at 701, 126 S.Ct. 2121. The Court concluded by noting that "Grable emphasized that it takes more than a federal element to open the `arising under' door" and that the case before it "[could not] be squeezed into the slim category Grable exemplifies." Id. Courts in this Circuit have not hesitated to reject arguments that attempt to apply Grable too broadly in breach of contract actions. See, e.g., Citigroup, Inc. v. Wachovia Corp., 613 F.Supp.2d 485, 494-95 & n. 72 (S.D.N.Y.2009) (no jurisdiction under Grable for an action for breach of an exclusivity agreement when the FDIC directs the parties to enter the agreement); D.B. Zwirn Special Opportunities Fund, L.P. v. Tama Broad., Inc., 550 F.Supp.2d 481, 487-88 (S.D.N.Y.2008) (no jurisdiction under Grable for action to appoint a temporary receiver under parties' contract when transfer of some of the assets to the receiver required approval of the FCC); Elmira Teachers' Assoc. v. Elmira City Sch. Dist., No.,05 Civ. 6513(CJS), 2006 WL 240552, at *6 (W.D.N.Y. Jan. 27, 2006) (no jurisdiction under Grable for a breach of contract action when defendants were required Page 201 to maintain a retirement plan consistent with Internal Revenue Code § 403(b)). The Court of Appeals did, however, find jurisdiction under Grable in Broder v. Cablevision Sys. Corp., 418 F.3d 187 (2d Cir.2005). In Broder, plaintiff alleged that Cablevision had violated their contract's provision subjecting "all of [Cablevision's] rates and any changes in those rates" to "applicable law" by violating 47 U.S.C. 543(d), which provided for uniform rates in a geographic area. Because the federal statute was incorporated by reference into the contract, was the basis for one of plaintiff's claims, raised a substantial issue of federal law, and did not threaten to disturb the federal/state allocation of jurisdiction, the Court of Appeals held that jurisdiction was appropriate under Grable.
Greenwich Financial Svcs. v. Countrywide Financial, 654 F.Supp.2d 192 (S.D.N.Y., 2009)
- 8 -
B. Grable Does Not Provide for Jurisdiction over Plaintiff's Claims Defendants argue that TILA, as amended by the Housing and Economic Recovery Act of 2008 ("HERA"), Pub.L. 110-289 (July 10, 2008), and most recently by the Helping Families Save Their Homes Act of 2009 ("Homes Act"), Pub.L. 111-22 (May 23, 2009), is a necessary element of plaintiff's claim, and therefore that jurisdiction under Grable is appropriate. Specifically, defendant points to 15 U.S.C. § 1639a, as amended by the Homes Act: (a) In general.—Notwithstanding any other provision of law, whenever a servicer of residential mortgages agrees to enter into a qualified loss mitigation plan with respect to 1 or more residential mortgages originated before the date of enactment of the Helping Families Save Their Homes Act of 2009, including mortgages held in a securitization or other investment vehicle— (1) to the extent that the servicer owes a duty to investors or other parties to maximize the net present value of such mortgages, the duty shall be construed to apply to all such investors and parties, and not to any individual party or group of parties; and (2) the servicer shall be deemed to have satisfied the duty set forth in paragraph (1) if, before December 31, 2012, the servicer implements a qualified loss mitigation plan that meets [certain enumerated criteria] . . .
(b) No liability.—A servicer that is deemed to be acting in the best interests of all investors or other parties under this section shall not be liable to any party who is owed a duty under subsection (a)(1), and shall not be subject to any injunction, stay, or other equitable relief to such party, based solely upon the implementation by the servicer of a qualified loss mitigation plan. (c) Standard industry practice.—The qualified loss mitigation plan guidelines issued by the Secretary of the Treasury under the Emergency Economic Stabilization Act of 2008 shall constitute standard industry practice for purposes of all Federal and State laws. Defendants argue as follows. To prove their claim, plaintiffs must establish that the PSAs, properly interpreted, require defendants to buy back the mortgage loans if defendants modify them. To establish this, plaintiffs rely on Section 3.11 of the PSAs, which states that "The Master Servicer may agree to a modification of any Mortgage Loan . . . if (i) the modification is in lieu of a refinancing . . . and (iii) the Master Servicer purchases the Modified Mortgage Loan from the Trust Fund . . . ." (Murata Decl. Ex. A at 78.) Plaintiffs, however, fail to mention that Section 3.11 applies only to modifications effected "in lieu of a refinancing" and therefore incorrectly infer that no other sections in the PSAs authorize the servicer to make Page 202
modifications. (Def. Br. at 14-15.) Defendants argue that Section 3.01, for example, authorizes Countrywide Servicing to modify loans as part of its general administrative function in keeping with the "customary and usual standards of practice of prudent mortgage loan servicers." (Def. Ltr., dated May 27, 2009, at 2.) Which
Greenwich Financial Svcs. v. Countrywide Financial, 654 F.Supp.2d 192 (S.D.N.Y., 2009)
- 9 -
sections govern Countrywide's modification of the loans pursuant to its settlement with the Attorneys General is a matter of contract construction. But 15 U.S.C. § 1639a, defendants maintain, supplies a rule of construction for documents such as the PSAs. (Id. at 15.) Assuming that Countrywide's modifications constitute a "qualified loss mitigation plan" under the statute—and plaintiff does not contest this point in its papers—the statute provides that Countrywide "shall not be liable" for modifications effected pursuant to its duty to investors "to maximize the net present value of [the] mortgages". (Def. Br. at 15; Def. Ltr., dated May 27, 2009, at 2.) The statute itself defines this duty to investors and even provides that the Treasury shall define what constitutes "standard industry practice". (Def. Ltr., dated May 27, 2009, at 2-3.) According to defendants, these provisions create a federal presumption against liability when servicers modify loans, and plaintiffs bear the burden of overcoming this presumption. (Def. Br. at 16.) Because plaintiffs bear this burden, federal law is a necessary element of their claim and therefore a federal forum is required under Grable. (Id. at 17-18.)
Simply put, the Court disagrees. As an initial matter, it is not obvious to the Court why any part of 15 U.S.C. § 1639a is a necessary element of plaintiffs' claims. The Court agrees that plaintiffs bear the burden of demonstrating that the PSAs as a whole require defendants to buy back the modified mortgage loans—i.e., it is not sufficient to merely single out a particular clause. See S. Road Assocs. v. Intern. Bus. Machs. Corp., 4 N.Y.3d 272, 277, 793 N.Y.S.2d 835, 826 N.E.2d 806 (2005) ("It is also important to read the document as a whole to ensure that excessive emphasis is not placed upon particular words or phrases"); NY JUR. (CONTRACTS) § 248 ("Because the intention of parties to a contract is ascertained, not from one provision or particular words or phrases, but from the entire instrument, in the construction of contracts, the entire contract must be considered."). At least as a logical matter, the Court further agrees that provisions other than Section 3.11 could provide for modification of the loans without repurchase. Plaintiffs' position, however, is, not surprisingly, that Section 3.11 was the only provision that could have authorized defendants' modifications under the circumstances, and that whatever other provisions grant such authority do not apply. Nothing in this position requires an interpretation of federal law. TILA is not incorporated by reference in the PSAs, see Broder, 418 F.3d at 195, and plaintiff does not rely on TILA to satisfy its burden of proof, see Grable & Sons Metal Prods., 545 U.S. at 314-15, 125 S.Ct. 2363. To the extent defendants are arguing that plaintiffs are "artfully pleading" their claim to avoid TILA, they misunderstand the law. If the defendant in Grable had never removed the case to federal court and never mentioned the federal statute at issue, the plaintiff would still have required a favorable interpretation of federal law to succeed on its quiet title claim. In contrast, if defendants had never raised TILA as an issue in this case, plaintiffs would not have required an interpretation of federal law in order to succeed on their claims. Although defendants deny it, by arguing that TILA requires a different interpretation of the contract, defendants are Page 203
raising a federal defense. A federal defense has never been sufficient for federal question jurisdiction. Franchise Tax Bd. of CA v. Const. Laborers Vacation Trust, 463 U.S. 1, 2, 103 S.Ct. 2841, 77 L.Ed.2d 420 (1983) ("Under the `well-pleaded complaint' rule, a defendant may not remove such a case to federal court unless the plaintiff's complaint establishes that the case `arises under' federal law within the meaning of § 1331, and it may not be removed on the basis of a federal defense, including the defense of pre-emption, even if the defense is anticipated in the complaint and both parties admit that the defense is the only question truly at issue."); Fleet Bank, Nat. Ass'n v. Burke, 160 F.3d 883, 886 (2d Cir.1998) ("[the well-pleaded complaint] rule requires a complaint invoking
Greenwich Financial Svcs. v. Countrywide Financial, 654 F.Supp.2d 192 (S.D.N.Y., 2009)
- 10 -
federal question jurisdiction to assert the federal question as part of the plaintiff's claim, and precludes invoking federal question jurisdiction merely to anticipate a federal defense") (citations omitted). An argument constitutes an affirmative defense if it is the defendant's burden to prove the facts essential to the argument. Because plaintiffs' claims depend only on the PSAs and the various common law principles of contract interpretation, it follows that defendants bear the burden of demonstrating why TILA bars plaintiffs' claims. Defendants attempt to avoid this conclusion by arguing that TILA actually modified the state law of contract to require application of a particular rule of construction. But even if TILA does set forth the rule of construction that defendants allege, there is no evidence that TILA modified the common law cause of action for breach of contract to require the rule's application, and the Court declines defendants' invitation to impose such an interpretation on TILA.
Furthermore, while plaintiffs' claims might meet Grable's other criteria—that the federal issue be "substantial" and that jurisdiction not upset the federal/state division of judicial labor—defendants' insistence on this point misses the overarching principle governing any interpretation of 28 U.S.C. § 1331: legislative intent. Considering that Congress enacted HERA and the Homes Act in response to a growing crisis in the American economy, there is little doubt that interpretation of these amendments raises a "substantial" federal issue. Furthermore, finding jurisdiction would not invite a flood of new lawsuits to federal court because, as plaintiffs concede, Countrywide's PSAs are unique in the industry. (Tr. of Mar. 13, 2009 Hr'g at 2.) But here the Court is not discerning Congress's intent regarding the federal/state division of labor in a vacuum. Congress could have expressly granted the federal courts jurisdiction over this cause of action, but it didn't. See 28 U.S.C. § 1332(d); Empire Healthchoice Assurance, Inc., 547 U.S. at 696, 126 S.Ct. 2121. It also could have done so implicitly by displacing all state law concerning loan modifications or by completely eliminating all liability associated with loan modifications. See Empire Healthchoice Assurance, Inc., 547 U.S. at 697-99, 126 S.Ct. 2121. Congress did neither of these things. In fact, previous drafts of both HERA and the Homes Act proposed more sweeping immunity for loan servicers, but Congress ultimately rejected this language in favor of the current text. See 154 Cong. Rec. S. 3306, 3306 (2008) (draft of HERA providing that "[Servicers] shall not be liable under any law or regulation of the United States, any State or any political subdivision of any State, for entering into a qualified loan modification or workout plan"); H.R. 1106 (draft of the Homes Act passed by the House) ("Notwithstanding any other provision of law, and notwithstanding any investment contract between a servicer and a securitization vehicle or Page 204 investor, a servicer (i) shall not be limited in the ability to modify mortgages . . . and (ii) shall not be obliged to repurchase loans . . . on account of modification [if the modification meets certain criteria].") It is tempting to find federal jurisdiction every time a multi-billion dollar case with national implications arrives at the doorstep of a federal court. The jurisdiction of the federal district courts, however, is left to Congress, not to the discretion of the courts themselves. In this case, Congress passed two statutes within a year of each other to address the mortgage crisis. In neither of these statutes did Congress federalize the case before this Court. Considering the eminently predictable nature of this suit, the Court finds that Congressional intent weighs against fitting this case in Grable's "slim category" of federal jurisdiction. CONCLUSION For the reasons stated, plaintiffs' motion to remand is GRANTED. The Clerk of the Court is directed to close this case. SO ORDERED.
Greenwich Financial Svcs. v. Countrywide Financial, 654 F.Supp.2d 192 (S.D.N.Y., 2009)
- 11 -
--------------- Notes: 1. See discussion in Part II.B below. 2. While technically brought as applications for declaratory judgment, plaintiffs' underlying claims seek relief under the PSAs. (Compl. ¶¶ 33-34.)
3. An earlier Supreme Court decision, Merrell Dow Pharmaceuticals Inc. v. Thompson, 478 U.S. 804, 106 S.Ct. 3229, 92 L.Ed.2d 650 (1986), had created "considerable uncertainty about when § 1331 conferred jurisdiction in the absence of a federal cause of action." RICHARD H. FALLON, JR., DANIEL J. MELTZER, & DAVID L. SHAPIRO, HART AND WECHSLER'S FEDERAL COURTS AND THE FEDERAL SYSTEM 101 (5th ed. Supp.2006). Grable resolved a split in the lower courts concerning the proper interpretation of Merrell Dow. Id. at 102.