The question in this case is whether a notice that specifically identifies defaulted loans in a residential mortgage-backed security pool triggers the sponsor’s obligation to repurchase other defaulted loans in the pool that are not identified in the notice. As noted elsewhere, U.S. Bank National Association v. DLJ Mortgage Capital Inc. raises a similar question.
Residential mortgage-backed securities (RMBS) are securities that entitle their holders to a fixed income stream from monthly residential mortgage payments. Typically, a “sponsor” purchases a group of mortgage loans, puts them together into a pool, and then sells them to a trust. The trust then collects the monthly mortgage payments and distributes a portion of those payments to investors in the trust.
To give investors confidence that the loans in the pool will be timely repaid, an RMBS sponsor usually represents that the loans were underwritten according to specified guidelines. The sponsor also typically agrees that, if a loan in the pool does not conform to those guidelines, the trust may require the sponsor to cure the defect or repurchase the loan. This cure-or-repurchase remedy is usually the “sole remedy” available to RMBS investors, and is typically triggered by delivering to the sponsor a notice of default and demand to cure.
This case concerns the scope of a notice of default and demand to cure. The trustee of four RMBS trusts, U.S. Bank, provided written notice to the sponsor, DLJ, identifying more than 1,300 loans that allegedly failed to comply with the underwriting guidelines. The notices also stated that U.S. Bank believed that loan defects existed “on a massive scale” and that the specifically identified noncompliant loans were “the tip of the iceberg.”
When DLJ refused to cure or repurchase the allegedly defective loans, U.S. Bank sued for breach of contract in separate, consolidated actions. U.S. Bank later amended its complaints to demand that DLJ repurchase additional loans beyond the ones specifically identified in U.S. Bank’s notices. DLJ moved for partial summary judgment, arguing that the contracts’ sole-remedy provision limited U.S. Bank’s recovery to repurchase of the loans specifically identified in its notices. And U.S. Bank moved for partial summary judgment allowing it to use statistical sampling to prove its case and allowing it to prove that noncompliant loans “materially and adversely” affected RMBS holders’ interests—thus triggering DLJ’s cure-or-repurchase obligation—even if the loans were not in default.
Supreme Court denied DLJ’s motion and granted U.S. Bank’s, and the First Department unanimously affirmed. That court held that U.S. Bank’s letters informed DLJ that the trusts contained noncompliant loans beyond those specifically identified, thus putting DLJ on notice that it might have to cure or repurchase additional loans. And U.S. Bank’s amended complaints identifying additional noncompliant loans related back to its initial complaint, which identified only the specific loans mentioned in U.S. Bank’s letters. The First Department also ruled that, alternatively, there was a factual dispute over whether DLJ independently discovered noncompliant loans, separately triggering its cure-or-repurchase obligation under the sole-remedy provision. Finally, the court blessed the use of statistical sampling and held that a noncompliant loan could materially and adversely affect RMBS holders even if the loan was not in default.
The First Department granted DLJ leave to appeal to the Court of Appeals.
Return to the case page for Home Equity Mortgage Trust Series 2006-1 v. DLJ Mortgage Capital, Inc.