What If Your Mortgage Disappears?

It's a borrower's dream: the bank can't find your mortgage paperwork, so it can't prove its ownership of your home. As a result, a judge orders that the debt the bank claims you owe is erased, and the house is yours. While such a scenario seems fantasy, it happened in a federal bankruptcy court this month. Gretchen Morgenson reported on this in the New York Times this weekend. While she speculates that this could mark a new paradigm where borrowers have the advantage over negligent banks, I hope this is more the case of an activist judge that won't be made common practice.

Here's the situation, in broad strokes:

One surprising smackdown occurred on Oct. 9 in federal bankruptcy court in the Southern District of New York. Ruling that a lender, PHH Mortgage, hadn't proved its claim to a delinquent borrower's home in White Plains, Judge Robert D. Drain wiped out a $461,263 mortgage debt on the property. That's right: the mortgage debt disappeared, via a court order.

So the ruling may put a new dynamic in play in the foreclosure mess: If the lender can't come forward with proof of ownership, and judges don't look kindly on that, then borrowers may have a stronger hand to play in court and, apparently, may even be able to stay in their homes mortgage-free.

Morgenson provides a pretty good account of the case in her article if you want more details. I'm more interested in wondering, in theory, whether this outcome was fair. I don't think it was.

For starters, this is a big problem, and the bank should be held accountable. It's a little premature to erase the borrowers' debt, however. In this case, there was a signed mortgage document, but no proof that the bank held the note. So the question wasn't really whether this borrower owed money on the mortgage, just who he or she owed. This, of course, also assumes that the homeowner can't prove that the mortgage was paid off.

So how do you resolve this problem? Clearly, someone must own the mortgage. I think that, in such a situation, a borrower should continue making monthly payments into a court-monitored account for some period of time, say a year. Over that time, if someone proves ownership, then that party gets the money in the account and subsequent payments. If no one can prove ownership of the home, then I would agree with the judge's ruling. But surely there must be provided some time to sort out who owns the property.

I believe that something law should aim for is fairness. I hope I'm not alone. While a bank was certainly negligent in failing to have proper documentation, I don't believe the punishment here fits the crime. Maybe it deserves to be fined once it proves ownership, but to wipe out the entire asset doesn't seem fair. Clearly, if no bank can ever prove ownership, then I'd defer to something like squatter's rights, so the homeowner should eventually get the property.

But I just don't believe that ownership would never be able to be proven through some means. That all proof of ownership would have somehow disappeared seems doubtful. As a result, this ruling seems pretty unfair. But I suspect it won't stand anyway after appeal.