District Court dismisses most of trust insurer’s settlement suit, allows breach of contract claim to proceed

Courts Mortgages RMBS

On July 16, the U.S. District Court for the Southern District of New York dismissed the majority of the claims brought by the insurer of a trust against a national bank acting as trustee of the securitization trust. The claims accused the bank of breaching its responsibilities as trustee for residential mortgage-backed securities (RMBS) that were allegedly backed by bad loans, and the court’s dismissal left only a claim for breach of contract against the bank “for failing to correctly account for recoveries” to proceed. The insurer commenced the action against the bank asserting, among other claims, that the “unreasonably low settlement” the bank agreed to in a separate action the bank had taken against the mortgage lender seeking damages for the lender’s alleged breach of representations and warranties with respect to 87 percent of liquidated loans, would breach the bank’s obligations to the trust’s beneficiaries. According to the insurer, the bank initiated a “wasteful” trust instruction proceeding in Minnesota state court and agreed to stay an ongoing New York state lawsuit against the mortgage lender for over a year and a half.

The court noted, however, that the insurer’s complaint “does not allege any non-speculative ‘concrete or imminent’ injury sufficient to confer standing with respect to the breach of contract and breach of fiduciary claims based on [the bank’s] acceptance of the settlement,” and subsequently dismissed the insurer’s claims that the bank’s acceptance of an “unreasonably low settlement” violated contractual and fiduciary duties owed to the trust as trustee, noting that any harm depends on whether the Minnesota court approves the settlement agreement. Moreover, the court stated that “[i]t is too speculative to assume that [the bank] would have obtained a favorable outcome in the New York action or that rejecting the stay would have strengthened [the bank’s] bargaining position.” Additionally, the court dismissed the insurer’s request for declaratory judgment that the bank must account for and distribute recoveries—“amounts received from defaulted mortgage loans that have already been liquidated”—under the pooling agreement, finding that the issue as it relates to past recoveries is addressed in the breach of contract claim, and all other instances are conditioned on the Minnesota court’s approval of the settlement agreement and are therefore hypothetical. However, the court did find that the insurer adequately pled a claim for breach of contract against the bank pertaining to its accounting of recoveries. The court noted that the insurer’s complaint sufficiently alleged damages and outlined the bank’s alleged failure to correctly “write up” the recoveries as laid out in the pooling agreement, and how this affected the timing and amount of payouts the insurer was required to make.