District Court Says Bank/RMBS Trustee Must Face Suit Filed by Institutional Investors Claiming Breach of Trust Agreement

Securities SDNY Mortgages

On March 30, a federal court in the Southern District of New York denied in part a bank’s motion to dismiss claims brought in five consolidated actions by institutional investors alleging breach of contract and conflict of interest in connection with billions of dollars of alleged losses stemming from the bank’s role as a trustee of 53 residential mortgage-backed securities (RMBS). The RMBS investors alleged, among other things, that the trustee took “virtually no action” to require lenders to repurchase or cure defaulted or improperly underwritten loans that backed the securities, despite having knowledge of “systemic violations.” The investors further alleged that the trustee’s failure to take corrective action was due to concerns that it might expose its own “misconduct” in other RMBS trusts and/or jeopardize its business dealings with lenders and servicers.

Ultimately, the Court granted in part and denied in part the bank-trustee’s motion to dismiss, finding that the plaintiffs may pursue breach of contract and conflict of interest claims related to the trusts, as well as certain claims alleging breaches of fiduciary duty and due care. In reaching its conclusion, the Court explained that, having identified internal bank documents that raise legitimate questions about whether bank officials knew about lenders’ “alleged breaches of the trusts’ governing agreements” and failed to address the problems, the plaintiffs’ allegations “go far beyond many other RMBS trustee complaints, which themselves have been found sufficient to state a claim.” The Court did, however, dismiss the investors’ claims that alleged negligence and those alleging a breach of the covenant of good faith and fair dealing and negligence because, among other reasons, “[a] tort claim cannot be sustained if it ‘do[es] no more than assert violations of a duty which is identical to and indivisible from the contract obligations which have allegedly been breached.’” The Court also nixed several claims asserting violations of certain provisions of the New York law governing mortgage trusts for which no private right of action exists.