The New York Appellate Division, Second Department, has held that a lender does not have standing to commence a foreclosure action when the lender’s assignor was listed in the underlying mortgage instruments as a nominee and mortgagee for the purpose of recording, but never actually held the underlying notes. Bank of New York v. Silverberg, 926 N.Y.S.2d 532 (2d Dep’t 2011). The court’s decision casts doubt on the validity of loan assignments executed by the Mortgage Electronic Registration System (“MERS”), and has significant ramifications for the foreclosure process in New York, suggesting that foreclosing lenders may have to present substantially more robust documentation concerning the mortgage note’s history of assignment and transfer.

The Mortgage Agreements

In October 2006, Countrywide Home Loans, Inc. (“Countrywide”) allegedly loaned $450,000 to Stephen and Frederica Silverberg (“defendants”) to purchase residential real property. The mortgage named MERS as the mortgagee for purposes of recording, but stated that the underlying promissory note was in favor of Countrywide. The mortgage stated: “’MERS holds only legal title to the rights granted by the [defendants] . . . but, if necessary to comply with law or custom,” MERS had the right to foreclose and “to take any action required of [Countrywide].” Subsequently, in April 2007, the defendants allegedly signed a second mortgage on the same property, which again named MERS as the nominee and mortgagee of Countrywide, and executed a promissory note in Countrywide’s favor. The promissory note provided that Countrywide “may transfer this Note.”

In April 2007, the defendants signed a consolidation agreement which merged the two prior notes and mortgages into one loan obligation, once more naming MERS as nominee and mortgagee of Countrywide. While the consolidation agreement named Countrywide as the lender and note holder, Countrywide was not a party to this agreement. All of these agreements were recorded in the Suffolk County, New York Clerk’s office. In December 2007, the defendants allegedly defaulted on the consolidation agreement. On April 30, 2008, MERS assigned the consolidation agreement to the Bank of New York (“BoNY”), as trustee for a mortgage securitization vehicle, through a “corrected assignment of mortgage.”

Foreclosure Action

On May 6, 2008, BoNY brought a foreclosure action against defendants. The defendants moved to dismiss the complaint for lack of standing. The trial court denied the motion to dismiss because MERS assigned the mortgages, as nominee of Countrywide, to BoNY before the foreclosure action commenced. The defendants appealed this decision and set forth several arguments as to the plaintiff’s lack of standing: (i) MERS and Countrywide did not transfer or endorse the notes described in the consolidation agreement to plaintiff, in violation of the Uniform Commercial Code; (ii) MERS never had authority to assign the mortgages; (iii) the mortgages and notes were unenforceable because they were bifurcated; and (iv) the trial court should not have considered the “corrected assignment of mortgage” because it was not authenticated.

Role of MERS

The Appellate Division first described the role of MERS in the mortgage process. Real estate mortgage participants created MERS in the 1990’s to “track ownership interests in residential mortgages.” MERS members subscribe to the MERS system for electronic processing and tracking of ownership and transfers of mortgages. As part of membership, members agree to appoint MERS as an agent for all mortgages registered with MERS. Further, in local county recording offices MERS is named the mortgagee of record. With the creation of MERS, banks were able to transfer mortgage interests more expeditiously and avoid the expense and inefficiency of recording each time a transfer occurs.

The Court’s Analysis

The Appellate Division presented the issue in the case as “whether MERS, as nominee and mortgagee for purposes of recording, can assign the right to foreclose upon a mortgage to a plaintiff in a foreclosure action absent MERS’s right to, or possession of, the actual underlying promissory note.” Generally, “in a mortgage foreclosure action, a plaintiff has standing where it is both the holder or assignee of the subject mortgage and the holder or assignee of the underlying note at the time the action is commenced.” The court noted that while a mortgage typically follows the assignment of a promissory note, the reverse is not true. A transfer of a mortgage does not automatically transfer the note, and the underlying debt will be a nullity if not transferred along with the mortgage.

First, the court rejected the defendants’ argument that BoNY did not own the notes and mortgages based on the failure to provide proof of recording the corrected assignment, because an assignment need not be in writing; physical delivery will also effectuate an assignment. The court then found, however, that the consolidation agreement did not give MERS authority to assign the notes. Specifically, “as ‘nominee,’ MERS’ authority was limited to only those powers which were specifically conferred to it and authorized by the lender . . . . Hence, although the consolidation agreement gave MERS the right to assign the mortgages themselves, it did not specifically give MERS the right to assign the underlying notes.” The court determined that assignment of the notes was beyond MERS’ authority as nominee. Moreover, the record failed to show that the notes were physically delivered to MERS. Thus, because BoNY “merely stepped into the shoes of MERS,” BoNY had an interest only in the mortgages — not the notes — leaving BoNY without the power to foreclose.

Furthermore, the court commented that its earlier decision in MERS v. Coakley, 41 N.Y.S.2d 622 (2d Dep’t 2007), holding that MERS’ standing to foreclose is limited to circumstances where MERS actually holds the note before a foreclosure action is commenced. In the BoNY case, MERS never held the note, and thus the court found that Coakley did not apply. Even though BoNY contended that the language in the first and second mortgages gave MERS the right to foreclose, the consolidation agreement superseded those mortgages. Either way, broad language “cannot overcome the requirement that the foreclosing party be both the holder or assignee of the subject mortgage, and the holder or assignee of the underlying note, at the time the action is commenced.”

The court concluded that the corrected assignment was a nullity as MERS was never the lawful holder or assignee of the notes described in the consolidation agreement, and therefore did not have authority to assign the power to foreclose to plaintiff. Thus, plaintiff did not have standing to foreclose and the court granted defendants’ motion to dismiss.

Conclusion

The Appellate Division’s Silverberg decision may have broad implications for New York foreclosure practice. The decision suggests that, before commencing foreclosure proceedings, lenders must pay more careful attention to the documentation demonstrating that the entity bringing foreclosure proceedings holds the note and the mortgage in question. Where this documentation is arguably deficient, such deficiencies may often be curable, but where prior lenders in the chain of assignment have ceased to exist, or refuse to cooperate to remedy possible documentary deficiencies, the Appellate Division approach may significantly complicate efforts to foreclose on real property.

Other New York courts have upheld note assignments executed by MERS, and the Silverberg decision adds to a substantial body of conflicting authority regarding the question of MERS’ standing to bring foreclosure proceedings, and to assign mortgages and notes to entities that subsequently bring such proceedings. Compare In re Agard, 44 B.R. 231 (Bank. E.D.N.Y. 2011) (concluding that MERS lacks authority to assign mortgage notes) and LaSalle Bank N.A. v. Bouloute, 28 Misc. 3d 1227A (N.Y. Kings Co. 2010) (holding that a MERS assignee lacked standing to foreclose because MERS had limited agency powers) with Bank of New York v. Sachar, No. 0380904/2009 (N.Y. Bronx Co. 2011) (finding that MERS had broad power to assign mortgage and assignee took physical delivery of the note) and U.S. Bank v. Flynn, 27 Misc. 3d 802 (N.Y. Suffolk Co. 2010) (upholding MERS assignment of mortgage and note). Until the New York Court of Appeal, New York’s highest court, rules on these issues, the state of the law in New York concerning foreclosure standing is likely to remain unsettled.