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Pooling And Servicing Agreement Did Not Divest Trustee Of Ability To Foreclose

Lesson. With securitized loans, the trustee on behalf of the trust (the lender) is a “real party in interest” for purposes of filing a foreclosure suit, despite the existence of a special servicer appointed by a pooling and servicing agreement.

Case citeWilmington Tr. Nat'l Ass'n v. 410 S. Main St. LLC 2022 U.S. Dist. LEXIS 21288 (N.D. Ind. Feb. 7 2022).

Legal issue. Whether the special servicer of securitized loan is the only party that can bring a suit to enforce that loan.

Vital facts. The 410 opinion arises out of a $3.0 million commercial loan transaction related to a single tenant retail building, and efforts by the lender to collect on the loan after default. As is typical with securitized debt, the original lender assigned the loan to a trust (the “Trust”), which entered into a Pooling and Servicing Agreement (“PSA”) with a company to service the loan (the “Servicer”). The PSA conveyed the interests in the loan to a bank that acted as the trustee for the Trust (the “Trustee”), thereby putting the Trustee “in the standard role” of a party that could sue. After the loan went into default, the Trustee filed suit to enforce the loan.

Procedural history. This is an Indiana federal district (trial) court decision.  One of the defenses asserted in the action was that the court lacked jurisdiction because the Servicer, not the Trustee, was the “real party in interest.” In other words, the Servicer should have been the named plaintiff. Because the Servicer shared New York citizenship with several defendants, the so-called “diversity of citizenship” requirement for federal court cases of this type was absent. If applicable, the defense would compel dismissal (although the case could be re-filed in state court).

Key rules. Under Rule 17, a "real party in interest" is the “person or entity that possesses the right or interest to be enforced through litigation.” The Court noted further that “the purpose of Rule 17 is to protect the defendant against a subsequent action by the party actually entitled to recover.”

Case law provides that “the terms of a PSA can permit a special servicer to sue in its own name if the special servicer chooses to do so, . . . [but the terms of the PSA do not] divest the trustee for whom that special servicer acts from bringing suit when it is the one that chooses to do so.” The Court relied on law stating that the Trustee, as the holder of the loan for the Trust, could “sue to enforce and collect on those interests.” The Defendants have appealed the decision to the 7th Circuit Court of Appeals. I will follow-up as warranted.

Policy/rationale. Defendants contended that the Trustee did not have standing to sue because the “true party in interest” was the Servicer by virtue of the PSA’s provisions giving the Servicer discretion to pursue litigation. The Court disagreed because, even if the Servicer was the party that filed the lawsuit, it would be litigating as the Trustee’s representative under the PSA. The Servicer’s role, “no matter how many duties it may be given,” was to act as an agent for the Trustee related to its interest in the loan. Ultimately, the Trustee had “the true stake in the litigation. . . .”

The Court did not buy the argument that the PSA “dispossessed” the Trustee of the power to initiate suit. The PSA as a whole suggested that the Servicer’s “powers … are only the result of delegated authority from the Trust, not separate authority given solely to [the Servicer]….” 410 suggests that a special servicer under a PSA can be the named plaintiff in a mortgage foreclosure lawsuit. While I’ve seen that approach, the more common practice is for the trustee to bring the case. The 410 opinion supports this approach.

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I represent parties involved in disputes arising out of loans that are in default. If you need assistance with a similar matter, please call me at 317-639-6151 or email me at john.waller@dinsmore.com. Also, don’t forget that you can follow me on Twitter @JohnDWaller or on LinkedIn, or you can subscribe to posts via RSS or email as noted on my home page.

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