As a consequence of the ongoing economic downturn, the nation as a whole, and the mortgage servicing industry in particular, continues to face a host of new and evolving challenges.
As federal, state and local governments work to address those challenges, responding to the crisis and moving quickly to implement legislative remedies intended to reduce foreclosures and protect vulnerable parties, a number of new and thorny issues have emerged as a result.
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While the efficacy of such measures remains uncertain, what is certain is that the short- and long-term consequences of reactive legislation will continue to be felt across the industry.
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Eviction ordinance requirements have been a particularly sensitive area for reform, and the mortgage servicing industry will need to adapt quickly to respond to new state and federal guidelines. The most prominent change has been on the federal level, with the passage of the Protecting Tenants at Foreclosure Act of 2009. Signed into law on May 20, the law is designed to protect renters living in foreclosed property. As a result, foreclosures that occurred after May 20 require special notice to tenants.
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The act amends the United States Housing Act of 1937 and introduces a number of new protections for existing tenants. Most notably, the Protecting Tenants at Foreclosure Act of 2009 requires that tenants living in a property post-lease or without any official documentation are now entitled to receive a 90-day grace period during which no eviction can occur. In addition to providing these tenants with a minimum of a 90-day notice when asked to vacate, the law affirms the right of tenants with existing leases (that were signed before the foreclosure notice) to occupy the premises for the duration of that lease.
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The Protecting Tenants at Foreclosure Act of 2009 and other similarly structured changes to state laws and statutes are likely motivated by the large numbers of foreclosures nationwide and by the inescapable fact that the most sympathetic individual in a foreclosure situation is almost always the tenant. But while speedy legislative remedies may seem like an appealing solution to challenging economic circumstances, the ultimate impact of these laws is difficult to foresee; there are some troubling inconsistencies and a large number of unanswered questions surrounding these new guidelines.
Logistical questions
The clear intent behind the new law is to provide tenants with some extra time and avoid "sudden" evictions. The reality is that existing guidelines already offer a substantial cushion. While it is true that in states that utilize a judicial process, taking a judgment for possession through that foreclosure makes it possible to execute on that judgment in just a matter of days, the foreclosure process itself is already significantly longer than in states that use a nonjudicial process.
In addition, many states provide a redemption period during which the bank cannot continue with the foreclosure process and the tenant can continue to live in the property without risk of being evicted.
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Legislation like the Protecting Tenants at Foreclosure Act of 2009 poses formidable new legal hurdles and logistical complexities, and among the many questions that remain unanswered is what happens in those states that use a nonjudicial foreclosure process but a judicial eviction process.
The obvious and pivotal question becomes, can you start the eviction process and have it finalized after 90 days, or does the law prohibit even beginning the process – in which case, the 90-day period may potentially become as long as six months?
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This and other significant questions arise from some ambiguous and unclear language in the legislation, and are already leading to inconsistencies in terms of how mortgage servicers and legal professionals are interpreting the new guidelines.
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The act's provisions for tenants with an existing lease that predates the start of the foreclosure action – enabling them to remain in the property for the remainder of the lease – raises even more difficult questions. While the law does provide some insurance against abuse – even with a written lease, children, spouses and parents of the property owner are not eligible for protections under this legislation – the reality is that foreclosure is rarely an immediate and unforeseen event. Opportunities for last-minute grandfather-clause leases will inevitably present themselves and create a troubling and easily abused loophole.
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Even some of the most basic questions remain unanswered under this legislation. For example, do tenants serving out their leases even pay rent? Presumably yes, of course, but to whom do they pay it? And what recourse is available to a lender if there is a default under the terms of the lease? Will lenders be able to revert back to state law for a standard rent and possession case, which is how a landlord would normally proceed, or are delinquent and defaulting tenants now able to serve out the remainder of their lease regardless of their rental-payment status?
Walk, don't run
Another significant concern not directly addressed within the legislation is the issue of liability. Exposures and liabilities associated with being a landlord are extensive. Serving as a landlord, as opposed to simply a property owner, creates an awful lot of additional exposure for companies, and basic considerations surrounding upkeep, safety and basic maintenance are unaccounted for under these new guidelines.
Yet another of the industry-changing paradigm shifts that takes place as a result of this legislation is a likely reduction in the third-party purchasers who were participating in foreclosure sales. This is a huge drain on servicers. The goal for many servicers has been to create bids that will allow properties to be sold to a third party and to avoid having these properties return in bank-owned status.
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But from the point of view of a third-party purchaser, these properties are now much more of an uncertain and unknown quantity, as it will be much harder for purchasers to know precisely what they are going to get. Among other logistical hurdles, the process of determining if a property is being occupied by the owner or a tenant becomes not just helpful, but pivotal.
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Corresponding changes in state law around the country – even those as simple as new requirements that mandate a posting of a notice at the property, as well as a delivery of regular or certified mail (depending on whether you know the name of the occupant) – only add to the uncertainty. For example, do state-mandated waiting periods take place concurrently with those delineated under the new federal guidelines, or do they stack additively?
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The understandable bottom line for the mortgage servicing industry is that there is a great deal of confusion out there. Banks, servicers and law firms are unsure of how to interpret these new guidelines and how to proceed.
For the most part, the industry is approaching these issues conservatively, covering the bases by sending out an on-site broker before foreclosure (and, more importantly, before the eviction process starts) to perform due diligence and research to determine who is in the property and what kind of documentation exists to substantiate occupancy in that property. While many servicers do that to some extent already, this kind of information is notoriously costly, unreliable, and difficult and time-consuming to gather.
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The question going forward is, how and when will these fundamental questions surrounding the new legislation ultimately be resolved? While foreclosures are obviously up nationally, eviction numbers are actually fairly low, likely as a result of many of the moratoriums that have been and continue to be put in place.
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Many industry professionals anticipate that some kind of reliable guidance will begin to emerge relatively soon as a result of cases that are appealed on the basis of constitutionality questions, coverage questions and the general scale, scope and practical application of these sweeping changes. Case law will ultimately clarify these unresolved issues, but in the meantime, many servicers are proceeding cautiously – servicers face a potential business risk in proceeding with anything less than a conservative approach.
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The political atmosphere is clearly tilted toward wanting to protect tenants, and as changes continue to take place, thoughtful servicers will remain carefully attuned to the ongoing financial developments and subsequent legislative turbulence within the industry.
Cynthia M. Woolverton is a partner at Millsap & Singer LLC, which offers default servicing representation throughout the states of Missouri and Kansas. She can be reached at (636) 537-0110 or cwoolverton@msfirm.com.
