CA Court Finds RMBS Cleanup Call Payments to Investors $75M Short

RMBS cleanup calls

August court ruling in seven INDX trusts may imply that hundreds of other calls were underpaid. Oakleaf is working with investors to quantify the impact of the Ruling.

Most RMBS deals have cleanup calls that provide servicers with the option to purchase the remaining mortgage loans from the trust once the trust has paid down to 10% of its original balance.  When exercising this option, the servicer buys the mortgage loans from trust for a lump sum “termination price”, and the termination price is distributed to certificateholders as a lump sum final payment.  The amount of the termination price is set forth in the Pooling and Servicing Agreement and generally consists of the unpaid balance of each mortgage loan plus any accrued and unpaid interest through the date of the termination.  (Any REO properties held by the trust in the month of termination are also acquired by the servicer according to a price set forth in the PSA.)

The option to purchase seasoned loans at par was – at least until interest rates rose – a profitable trade, and hundreds of pre-crisis RMBS deals were terminated in this fashion between 2018 and 2020. Servicers could purchase loans at par and sell or resecuritize them at a premium.

After-the-fact audits of the cleanup calls have revealed that it was generally the servicers’ practice to exclude forborne principal balances (created when servicers offered loan modifications to borrowers) from the total unpaid balance in the termination price.  This meant that for example, a mortgage loan with $150,000 remaining balance, of which $100,000 was amortizing and $50,000 was forborne by a loan modification, was purchased by the servicer from the trust for $100,000. Servicers were in effect paying $0 for the portion of loan balances which were forborne.  According to Oakleaf, because of the prevalence of modified loans, the forborne balance present at RMBS cleanup call underpayments were common and frequently exceeded $10 million.  total forborne balances in called RMBS deals frequently exceeded $10 million per deal, due to the prevalence of modified loans in these deals.

Certificateholders complained about this issue and have filed numerous lawsuits. On August 4th, the first court to rule on this discrepancy found that that the termination price indeed should include forborne (deferred) balances, implying that the servicer’s (PHH) calculated termination price on the 7 INDX deals at issue in that case (which had been calculated excluding deferred balances) was approximately $75 million too low.

Oakleaf, a Bethesda, Maryland based mortgage industry consulting firm serving RMBS investors, has been working with investors to determine which deals had outstanding forborne principal at the time the clean-up call was exercised and the amounts, if any, that were consequently underpaid to certificates held by investors. Oakleaf can provide audit services to additional investors to assess the extent to which their portfolio has been impacted by similar underpayments.  To have your portfolio reviewed, please contact John St. Martin at  .

(The case is 30-2021-01233435-PR-TR-CXC in Orange County, California Superior Court. Judge Wilson wrote in part “The court finds that the plain language of Stated Principal Balance includes the Deferred Amounts”.)

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