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, Home Equity Mortgage Trust Series 2006-1 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 an RMBS trust, U.S. Bank, provided written notice to the sponsor, DLJ, identifying more than 1,200 loans that allegedly failed to comply with the underwriting guidelines. U.S. Bank’s written notices demanded that DLJ repurchase all noncomplying loans in the trust, regardless of whether U.S. Bank had specifically identified them.
When DLJ refused to cure or repurchase most of the allegedly defective loans, U.S. Bank sued for breach of contract, demanding 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 contractual sole-remedy provision limited U.S. Bank’s recovery to repurchase of the loans specifically identified in its notices. DLJ also moved for partial summary judgment precluding U.S. Bank from recovering interest on loans that had already been liquidated—removed from the trust and thus no longer accruing interest.
Supreme Court denied DLJ’s motion, and the First Department unanimously affirmed. That court held that U.S. Bank’s letters informed DLJ “that a substantial number of unidentified loans were in breach,” thus putting DLJ on notice that it might have to cure or repurchase additional loans. In the court’s view, the additional noncompliant loans that U.S. Bank later identified related back to the initial notice. The First Department also ruled that U.S. Bank could recover interest on liquidated loans.
The First Department granted DLJ leave to appeal to the Court of Appeals.
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