The End of Mortgage Securitization? Electronic
Registration as a Threat to Bankruptcy Remoteness
John Patrick Hunt,
Richard Stantonz and Nancy Wallacex
August 10, 2011
A central tenet of asset securitization in the United States|that assets are bankruptcy remote from their sponsors|may be threatened by innovations in the transfer of mortgage loans from the loan-originators (sponsors) to the legal entities that own the mortgage pools (the Special Purpose Vehicles (SPVs)). The major legal argument advanced in the paper is that because the mortgage is an interest in real property, the bankruptcy-remoteness rules applicable to real property, including x544(a)(3) of the Bankruptcy Code, create a risk to the bankruptcy remoteness of mortgage transactions unless proper recording occurs. We review the traditional mortgage transfer process and discuss why the real-property characteristics of mortgages makes them special. We then discuss how the chain of title transfer using traditional recorded assignment at the local jurisdiction helps to assure that the promissory note and the mortgage that are transferred into the SPVs are, indeed, bankruptcy remote from the loan originators and sponsors. We then discuss why the more recently introduced Mortgage Electronic Registration System (MERS) method of transfer introduces significant vulnerability into the mortgage transfer process and leads to a significant risk that bankruptcy remoteness will fail. Our arguments address scholarly and case-law theories of the legal foundations of achieving bankruptcy remoteness for mortgage transfers, the eligibility requirements for “true-sale” accounting treatment of transferred mortgages under Financial Accounting Standards (FAS 140), and the finance literature that addresses the economics of securitization through bankruptcy remoteness. We conclude with a first step toward policy prescriptions concerning possible promissory note and mortgage transfer processes that could achieve bankruptcy remoteness and the associated economic efficiency objectives of mortgage securitization.
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