On December 12, 2017, the Court of Appeals issued a decision in Nomura Home Equity Loan, Inc., Series 2006-FM2 v. Nomura Credit & Capital, Inc., 2017 NY Slip Op. 08622, holding that RMBS trusts cannot get general contract damages for claims covered by “sole remedy” provisions.
Nomura is an RMBS put back action: an action in which the trustee of a residential mortgage backed securities trust claimed that the mortgage loans placed in the trust were defective in various ways. The trustee–HSBC–sought both “specific performance of the remedy that expressly applies to such breaches under the contracts, i.e., that defendant either cure the breaches or repurchase the loans” as well as “general contract damages for alleged breaches of representations made by defendant concerning the transaction as a whole, specifically the representation that the contracts and related documents contained no untrue statements.” The question before the Court of Appeals was “whether claims for general contract damages based on alleged breaches of a ‘no untrue statement’ provision can withstand a motion to dismiss based on a contract provision mandating cure or repurchase as the sole remedy for breaches of mortgage loan-specific representations and warranties.” A divided court held “that, inasmuch as the claims for general contract damages at issue here are grounded in alleged breaches of the mortgage loan-specific representations and warranties to which the limited remedy fashioned by the sophisticated parties applies, plaintiffs’ claims for general contract damages should be dismissed,” explaining:
[C]ourts must honor contractual provisions that limit liability or damages because those provisions represent the parties’ agreement on the allocation of the risk of economic loss in certain eventualities. Contract terms providing for a “sole remedy” are sufficiently clear to establish that no other remedy was contemplated by the parties at the time the contract was formed, for purposes of that portion of the transaction, especially when entered into at arm’s length by sophisticated contracting parties.
. . . . “[W]e accept as true HSBC’s allegations of pervasive breaches of the representations made as to the mortgage loans and misleading omissions in the transaction documents, including the mortgage loan files, mortgage loan schedules, and prospectus supplements. Significantly, however, the complaints themselves affirmatively pleaded that the claims based on alleged breaches of the No Untrue Statement Provision were grounded in misrepresentations and omissions with respect to the Mortgage Loans, themselves. That is, HSBC claimed that it was defendant’s breaches of the Mortgage Representations — found in section 8 of the MLPAs, and expressly incorporated by reference in section 2.03 of each PSA — that were systemic in nature.
Indeed, HSBC alleged that certain appraisals included in the mortgage loan files were inflated and, thus, there was strong reason to believe that these appraisals did not conform to federal guidelines and professional standards, which would constitute a breach of the Mortgage Representation that each appraisal on file was so prepared prior to approval of the mortgage loan. Morever, HSBC claimed that misrepresentations in the mortgage loan files and missing or incomplete loan files constituted breaches of section 8 Mortgage Representations, specifically those representations made by defendant that no fraud was involved in the origination or servicing of the mortgage loans and that each mortgage loan arose out of the originator’s practice in accordance with its underwriting guidelines. The alleged deficiencies in the mortgage loan schedules were also grounded in violations of the Mortgage Representations — in particular, HSBC claimed that providing the purportedly flawed documents to the rating agencies violated defendant’s representation that it had provided such rating agencies with only true and correct information. Similarly, HSBC averred that certain statements in the prospectus supplements constituted breaches of the Mortgage Representations concerning appraisals and underwriting guidelines.
. . . Therefore, even accepting HSBC’s allegations as true and giving HSBC the benefit of every favorable inference, it is readily apparent from the face of the complaints that the alleged breaches of the No Untrue Statement Provision are, in fact, based upon alleged breaches of the Mortgage Representations. However, under both the MLPAs and the PSAs, the sole remedy for breaches of the Mortgage Representations is cure or repurchase. HSBC cannot subvert this exclusive remedies limitation” of liability by simply re-characterizing its claims. Rather, reading the contracts as a harmonious and integrated whole and honoring the exclusive remedy that these sophisticated parties fashioned, we conclude that the Sole Remedy Provision applies, precluding HSBC from seeking general contract damages for the particular claims challenged on this appeal.
(Internal quotations and citations omitted).
Judge Feinman dissented in part, concurring “that breaches of representations and warranties that would otherwise be subject to the sole remedy provision cannot escape this provision merely because they are systemic in nature,” but disagreeing with the majority on the question of whether “every claimed breach of the No Untrue Statement Provision was simply a breach of section 8 which HSBC had re-characterized as a breach of section 7,” and arguing that “[r]ather, in the Series 2006-FM2 and Series 2007-3 complaints, HSBC does not merely allege pervasive breach of the section 8 representations — which the majority is right to reject — but also breaches that by their own terms fell outside of the scope of section 8 in the first place.”
Judge Rivera dissented on both questions, arguing that general contract damages–while barred by the parties’ pooling and servicing agreement for allegations of loan-by-loan breaches, were available under the separate mortgage loan purchase agreement covering the sale of the loans as a remedy for systematic breaches of the seller’s representations and warranties, explaining:
Ultimately, if the risk of the loans in the pool had been correctly calculated, then it would make sense for defendant to repurchase or replace loans that violate the warranties, as this would be a small number. Yet, this scheme does not address large scale breaches where defendant intentionally manipulated the risk assessment by waiving in non-conforming loans. Interpreting section 7 to encompass transaction-wide claims furthers the purpose of the securitization because investors would not buy in if they could not rely on defendant’s business practices to adequately document and assess risk.
Schlam Stone & Dolan represents investors in RMBS actions against underwriters and trustees. If you or a client are RMBS investors and have questions regarding potential claims against a trustee or how to influence the trustee’s prosecution of a put back action like the one at issue in Nomura, contact Schlam Stone & Dolan partner John Lundin at firstname.lastname@example.org.
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