On June 11, 2015, the Court of Appeals of New York held, in ACE Securities Corp. v. DB Structured Products, Inc., that a cause of action for a breach of representations and warranties in a mortgage loan purchase agreement (MLPA) entered into in connection with a residential mortgage-backed securities (RMBS) transaction begins to accrue on the date that the transaction is closed. Therefore, the obligation to cure or repurchase non-compliant loans under the MLPA also runs from that date, regardless of when the purchasing party learned of the breaches ( (N.Y. June 11, 2015)).

DB Structured Products, Inc. (DB) sponsored a securitization transaction, whereby it purchased 8,815 mortgage loans and sold them to an affiliate securitization depositor, ACE Securities Corp. (ACE) pursuant to a MLPA, which was executed on March 28, 2006. ACE then transferred the loans to an issuer trust, which issued RMBS. The trust was serviced by other parties and HSBC Bank USA (HSBC) was the trustee, pursuant to a pooling and servicing agreement (PSA). DB was not a party to any relevant parts of the PSA and its role in the securitization was effectively complete at closing. (For details on basic securitization mechanics, see Practice Note, Securitization: US Overview.)

Under the MLPA:

Under the MPLA, certificateholders entitled to at least 25% of the voting rights in the trust were entitled to enforce certain default events upon the trustee's failure to take certain actions within 15 days after submitting a request in writing to the trustee.

After a few years, delinquencies in the trust began to mount, causing the trust and certificateholders to lose almost $330 million. Two certificateholders that held the requisite 25% interest obtained a review by an independent forensic mortgage loan review firm, which indicated that 99% of the mortgages included in the securitization failed to comply with at least one of DB's representations at closing.

On January 12, 2012, these two certificateholders gave notice to HSBC, as trustee, that the underlying mortgages breached the representations and warranties made by DB under the MLPA. They demanded that the mortgage loans sold under the MLPA, in their entirety, be put back to DB for repurchase in accordance with the MLPA. With this notice, the certificateholders also alerted HSBC to the "urgent need for a tolling agreement" given potential impending statute of limitations issues.

HSBC neither brought suit nor attempted to toll the statute of limitations. Pursuant to the MLPA, the certificateholders brought suit in place of HSBC's on March 28, 2012 (six years to the day after the transaction closed), requesting damages of $250 million and specific performance in the form of repurchase of the defective mortgages.

The trust subsequently substituted itself as plaintiff in place of the certificateholders on September 13, 2012.

The New York State Supreme Court denied DB's motion to dismiss, holding that each refusal to repurchase created a new cause of action, and that the suit was thus timely brought. The Appellate Division reversed, holding that the breach occurred on March 28, 2006, and that the six-year statute of limitations had lapsed by the time the trust brought its September 2012 suit. Moreover, even assuming that the trust's complaint could relate back to the March 28, 2012 filing date of the certificateholders' suit, that filing was inapposite because the certificateholders did not give the seller the required 60 days to cure and 90 days to repurchase the defective mortgages under the MLPA before bringing their action, which was a prerequisite to bringing suit under the agreement.

The trust appealed, arguing that no claim arose and that the statute of limitations therefore did not begin to run until DB refused to cure or repurchase the defective mortgages.

The New York Court of Appeals (Court) affirmed the Appellate Division's decision and dismissed the complaint, finding that the statute of limitations to enforce the cure and repurchase provision began running on the date the representations and warranties were breached, which was the date the transaction closed. While the cure and repurchase provision did not create an independent cause of action or toll the statute of limitations for the action relating to the breach of representations and warranties, it did act as a procedural prerequisite to bringing suit against DB for those breaches.

The Court began by discussing the statute of limitations in New York generally. The limitations period is intended to give certainty to litigants and New York has repeatedly rejected accrual dates that cannot be determined with certainty. As a result, New York has adopted a limitations period in contract actions that begins to run at the time when liability arises, even if the injured party does not know that a cause of action exists. In the case of an alleged breach of representations and warranties concerning the quality of loans on the closing date of a transaction, a cause of action arises on that date.

The trust, however, argued that its claim did not arise until DB refused to cure or repurchase the defective mortgages. In other words, the trust considered the requirement to cure or repurchase the loans a distinct and continuing obligation separate from DB's representations and warranties concerning the quality of the loans at closing.

The Court rejected this argument, differentiating between obligations that persist for the life of the transaction versus those that occur at a finite point in time.

An obligation that persists for the life of the transaction is one that promises or guarantees some future performance. For instance, the Court referenced Bulova Watch Co. v. Celotex Corp., in which the court determined that an express guarantee that the seller would "at its own expense make any repairs ... that may become necessary to maintain said Roof" was an obligation that persisted for the life of the transaction (46 N.Y.2d 606 (1979)).

In contrast, the representations and warranties made by DB applied to the loans at the time of closing and did not extend past the closing date of the transaction. Since there was no promise that the underlying mortgages would continue to be of a certain quality, DB's obligations with respect to the quality of the loans began to accrue at closing, on March 28, 2006.

The cure and repurchase obligations were not a distinct promise of future performance, but rather the trust's sole remedy for breaches of the representations and warranties regarding the loan quality at closing.

Supporting its conclusion, the Court noted that, in the absence of the cure and repurchase provision, the statute of limitations would have run from the date of closing with all remedies available to the trust. Limiting the trust's remedies to the cure or repurchase procedures outlined in that provision did not give rise to a continuing obligation that delayed the beginning of the limitations period.

The trustee also argued that its action was timely because the 60-day cure and 90-day repurchase provisions were substantive conditions precedent to bringing the suit, which tolled the statute of limitations. However, the Court rejected this argument as well, holding that the cure and repurchase provisions were procedural preconditions to the suit, but not substantive conditions precedent that would toll the statute of limitations. The Court noted that a substantive condition precedent that would toll the statute of limitations would be a demand that is a condition to a party's performance that is part of the cause of action and necessary to be alleged and proven as such.

On the other hand, a procedural prerequisite is a demand that seeks a remedy for a preexisting wrong, and exists when the only impediment to the claim is the discovery of the wrong and notice to the defendant. Here, the condition was a procedural one because it was not part of the cause of action and instead only required discovery of the wrong and notice to the defendant with the requisite time to cure.

Because the trustee admitted that the certificateholders failed to allow the requisite 60-day cure and 90-day repurchase periods to run prior to filing suit, the Court did not address the issues of whether the certificateholders had standing or whether the trust's action related back to the March 28, 2012 suit.

This case demonstrates the diligence that is required when entering into a securitization transaction. Had the trustee reviewed the mortgages that were included in the transaction, it would have found that they were largely defective and it could have exercised its remedies in a timely fashion. Failure to do so in a timely fashion resulted in the inability to bring suit.

This case also represents the dangers of allowing parties an extended timeframe to cure defects. Under the cure and repurchase provisions, the trust was required to identify deficient mortgages and give notice to DB at least 90 days before the statute of limitations actually expired, simply to preserve its ability to bring suit in a timely manner.