By Stephen L. Carter
For generations, budding lawyers have been taught that if the bank forecloses on your mortgage and can’t sell your house for the amount of the loan, the bank can come after you personally for the rest. Apart from a handful of “non-recourse” states (California being the most prominent), this has long been the rule. But a mystifying recent decision by the U.S. Court of Appeals for the 8th Circuit might inadvertently lead to a reevaluation of what had been settled law — and potentially change the way the secondary market values mortgage loans.
The facts of the case are simple but instructive. CitiMortgage, Inc., had purchased hundreds of home loans from Equity Bank, a regional bank doing business in Kansas, Missouri, Arkansas and Oklahoma. The contract stipulated that if CitiMortgage later discovered defects in any of the loans, Equity was required to cure the defects or repurchase the loans. The dispute arose from 12 mortgages that Citigroup found defective and Equity refused to buy back. Six had already been foreclosed.
A disagreement over so small a number of loans would not ordinarily lead to litigation; the parties would settle, or one would write the loans off. Here, however, there was reason to press on. Six of the 12 loans had been foreclosed, and Equity Bank made the remarkable argument that foreclosure and resale meant that the mortgage loan no longer existed, meaning that there was nothing to repurchase.
The 8th Circuit agreed. Part of the ruling relied on the language of the contract, but the court’s interpretation of the language assumed that Equity was right — that foreclosure extinguished the loan. “CitiMortgage has not explained what, exactly, Equity was supposed to repurchase,” the panel wrote. “Without evidence of what, if anything, remained of the underlying loans, we are left guessing about whether Equity breached by failing to fulfill its repurchase obligation.”
But no guessing should have been necessary. What remained was the right to go after the borrower’s other assets. That’s the point of a recourse loan. That the value of this right might be very small in most cases of foreclosure does not mean the right does not exist. By ruling otherwise, the 8th Circuit in effect transformed recourse loans into non-recourse loans.
The distinction is not trivial. READ MORE:
Stephen L. Carter is a Bloomberg Opinion columnist. He is a professor of law at Yale University and was a clerk to U.S. Supreme Court Justice Thurgood Marshall. His novels include “The Emperor of Ocean Park,” and his latest nonfiction book is “Invisible: The Forgotten Story of the Black Woman Lawyer Who Took Down America’s Most Powerful Mobster.”