On March 5, 2015, the NY Supreme Court, Appellate Division, in In re Bank of New York Mellon, held that the trustee of a mortgage-backed securities (MBS) trust did not act unreasonably or in bad faith in approving a settlement between certain institutional investors in the MBS and Countrywide/Bank of America ( (N.Y.A.D. 1 Dept.)).

Between 2004 and 2008, approximately 1.6 million residential mortgage loans were bundled together into MBS and held in 530 residential mortgage-securitization trusts, with Bank of New York Mellon (BNYM) serving as trustee. These MBS were originated and sold by Countrywide Home Loans (Countrywide), then underwritten and sold to investor certificate holders.

Countrywide serviced the loans until July of 2008 when it was acquired by Bank of America (BofA). In October 2010, after a decline in the value of MBS generally, a Notice of Non–Performance was issued to Countrywide and BNYM by a large group of the certificate holders. These were institutional investors who collectively held more than $34 billion in certificates in these MBS trusts, representing 24% of the face value of all such certificates. The trustee assisted the institutional investors in reaching a settlement with Countrywide and BofA. Under the settlement agreement Countrywide and BofA agreed to:

When the trustee sought court approval of the settlement, a group of certificate holders who opposed the settlement objected and argued that the trustee had acted unreasonably, in bad faith, and outside its discretion by:

Moreover, some certificate holders argued that the seller or servicer of the loans in the MBS trusts had breached their obligation to repurchase modified loans from the MBS trusts, and that the settlement improperly released those claims without the necessary scrutiny or assessment of their value.

The Supreme Court approved the majority of the settlement, and rejected the certificate holders' claims faulting the trustee's conduct. However, the Supreme Court agreed with the objection that the trustee had acted "unreasonably or beyond the bounds of reasonable judgement" by failing to investigate the claims arising out of the alleged failure to repurchase modified loans before releasing them in the settlement.

The Supreme Court pointed out that the attorney for the trustee had not shown that a factual assessment had been made on the value of the claims since the attorney failed to:

The NY Appellate Court disagreed with the Supreme Court and held that the trustee did not abuse its discretion or act in bad faith in setting out to create a settlement. The Appellate Court reversed the Supreme Court's ruling, finding that the trustee did not act unreasonably.

In general, a trustee's discretionary acts are considered to be reasonable absent a finding of bad faith or abuse of discretion. Since the trustee here relied on the advice of counsel, the party challenging the decision of the trustee was required to show that the trustee's reliance on its counsel's assessment was unreasonable and in bad faith. In this situation, the Appellate Court found that it was reasonable for the trustee to rely on the advice of the experienced counsel. Therefore, the trustee did not abuse its discretion in releasing the claims at issue, and the Appellate Court approved the settlement in its entirety.

This decision affirms the right of trustees to enter into discretionary acts and redirects the focus of analysis towards the process of the trustee's acts instead of the end result. Trustees should take care to ensure that the process in which they act is proper in order to avoid further scrutiny regarding their decisions.