As Government Nears Accord With Banks, Questions Swirl Over Scope Of Investigation
WASHINGTON -- State and federal prosecutors are pressing to complete a proposed settlement with the nation's five largest home loan companies over alleged mortgage abuses, even though they've only initiated a limited investigation that hasn't examined the full extent of the alleged wrongdoing, according to interviews with more than two dozen officials and others familiar with the state and federal probes.
The deal with the mortgage companies would broadly absolve the firms of wrongdoing in exchange for penalties reaching $30 billion and assurances that the firms will adhere to better practices going forward, these sources told The Huffington Post. Negotiators met in Washington last week to hash out the settlement.
For federal and some state officials, expedience now appears to be trumping other considerations in settlement talks with major mortgage servicers. Despite failing to marshal a strong case proving misconduct during the foreclosure crisis, the government is seeking to craft a settlement quickly, in the hopes that this will inject greater certainty into the financial system, stabilize home prices and add vigor to a flagging economy.
But some officials with experience sitting across the negotiating table with major banks say the government is making a critical miscalculation that jeopardizes the public interest by seeking a deal before amassing a credible threat of successful prosecution: In essence, they say, the government would give servicers a blanket pass for widespread alleged acts of fraud while extracting too little in return and operating from a relative position of weakness.
"I would never want to go into a negotiation without solid evidence of actual misconduct to hold as leverage over my counterpart," said Neil M. Barofsky, the former special inspector general for the Troubled Asset Relief Program, which was crafted to bail out teetering banks. "It would also be very dangerous from a public policy perspective to waive all future claims as part of such a settlement if you do not have a good sense of the size, scope and severity of the underlying misconduct."
According to sources familiar with the ongoing state and federal probes, state and federal officials have wasted months not digging into the details of the foreclosure crisis, yielding little of value in court and undercutting the lenders' incentive to strike a settlement of greater benefit to homeowners and taxpayers.
The investigators have yet to gather many documents, conduct depositions or assemble tallies of aggrieved homeowners. They don't yet have a good handle on the number of wrongful foreclosures, the amount of fraudulent documents filed in local courts or the volume of legal instruments processed by so-called "robo-signers," the agents that lenders employed to process foreclosure filings en masse without examining the underlying paperwork.
"The evidence a prosecutor would use is not in the possession of the prosecution," said one person familiar with the ongoing settlement talks.
Even so, state and federal officials are nearing a settlement that would release companies like Bank of America and JPMorgan Chase from legal liability in exchange for a cash settlement, reduced payments for homeowners, transition assistance for troubled borrowers and promises to improve performance and comply with state and federal rules.
The Justice Department is pressing state attorneys general to release the banks from liability for a host of alleged violations in exchange for a far-reaching settlement, people familiar with internal discussions said. The Justice Department declined to comment.
BofA, JPMorgan, Wells Fargo, Citigroup and Ally Financial are willing to pay a large sum in fines for use in pools that will be used to lower monthly payments for struggling homeowners, but only in exchange for broad amnesty, these people said. In May, the banks offered just $5 billion for the alleged wrongdoing, angering the government officials on the other side of the negotiating table.
In April, these banks signed consent orders with federal bank regulators, promising to clean up bad practices. They neither admitted nor denied wrongdoing.
All five banks declined to comment for this story.
State and federal authorities' failure to collect more evidence of wrongdoing by mortgage servicers comes in contrast to the public statements of influential officials who have cast the banks as culprits in a national epidemic of foreclosures.
Sheila Bair, the former chairman of the Federal Deposit Insurance Corporation, told a Senate panel in May that "flawed mortgage banking processes have potentially infected millions of foreclosures."
Iowa Attorney General Tom Miller, a Democrat leading the multi-state negotiations, has vowed to hold banks accountable for their actions, bringing praise from anti-foreclosure activists. But he's also tempered his remarks by putting the focus on stabilizing home prices and foreclosure filings.
"We first have to fix the housing market," he said last month during an interview in Chicago.
Indeed, halting the long slide in home prices has emerged as the government's primary goal in its settlement talks with lenders. Following the robo-signing scandal last autumn, many major servicers halted home seizures. But in the months since then, more homeowners have fallen into distress amid high unemployment and a weak economy, adding to the inventories of potential foreclosures to come.
The government fears that if it can't stanch the flood of foreclosures by lowering troubled homeowners' monthly mortgage payments -- and if mortgage servicers cannot resume taking possession of homes for which borrowers have long been delinquent and sell them to people able to afford them -- the housing crisis could drag on for years, keeping the broader economy in a feeble state. This is the scenario the government is seeking to stave off by striking a swift settlement with banks, restoring legal clarity to the foreclosure process and providing additional relief for distressed borrowers.
By including assistance for homeowners in the settlement agreement -- like loan modifications that reduce payments or the overall amount owed -- state and federal authorities said they believe they can help the housing market recover.
"Our goal is to get people modifications," Illinois Attorney General Lisa Madigan told activists last month outside a state attorneys general conference in Chicago.
"The housing market cannot heal and recover until mortgage servicing and foreclosure problems are resolved," Mark Pearce, the FDIC's director of depositor and consumer protection, told a congressional panel last Thursday. "A comprehensive resolution for past servicing errors is essential to the recovery of the housing market and greater economy."
When settlement figures were first floated earlier this year -- before any findings from federal or state agencies were publicly disclosed -- some members of Congress likened the amounts to "shakedowns."
The ultimate target, up to $30 billion, would constitute the second-largest attorneys general-led settlement ever, trailing only their landmark settlement with the tobacco industry.
To be sure, those pushing for a settlement said they have enough proof that BofA, JPMorgan, Citigroup, Wells and Ally abused homeowners and broke state laws in the process.
According to people familiar with the findings, that evidence includes:
- Two sets of confidential reports -- one of which was first reported by The Huffington Post -- that accuse the five companies of defrauding taxpayers on government-insured mortgages and violating the False Claims Act, a Civil War-era law crafted as a weapon against firms that swindle the government, because defective foreclosures, reckless underwriting, flawed quality controls and inadequate foreclosure prevention led to taxpayer losses.
- Findings from the Justice Department's U.S. Trustee Program, a unit overseeing the integrity of bankruptcy courts, that show mortgage servicers filed inaccurate claims in as many as 10 percent of bankruptcy cases.
- Undisclosed multi-state audits of state-regulated mortgage servicers like Ally, which found "egregious" violations of consumer protection laws.
- Public reports from federal banking regulators detailing a "pattern of misconduct and negligence" in the way mortgage servicers processed home repossessions, which represent "significant and pervasive compliance failures."
- Recent audits from the Treasury Department's Home Affordable Modification Program, which concluded that BofA, Wells and JPMorgan abused homeowners, violated program rules and needed "substantial improvement" in their servicing operations.
But upon closer inspection, the evidence file is surprisingly thin, sources said.
Probes launched by the Department of Housing and Urban Development and its inspector general only reviewed loans insured by the Federal Housing Administration, a small part of the broader mortgage market.
The Justice Department's bankruptcy unit only reviewed a limited number of loans that even entered bankruptcy. And Justice's recent subpoena of Ally, which requested "documentation and other information in connection with its investigation of potential fraud related to the origination and/or underwriting of mortgage loans," was only sent last month, according to a company filing with the Securities and Exchange Commission.
The federal bank regulators' review examined just 2,800 loan files, or 0.001 percent of homes that received a foreclosure filing last year, according to calculations made using data from the Office of the Comptroller of the Currency and RealtyTrac, a data provider. Only about 200 loans each were examined at banking behemoths JPMorgan, Bank of America, Citi and Wells, Julie L. Williams, the No. 2 official at the OCC and the agency's chief counsel, told a House panel last Thursday. Those four firms collectively service $5.7 trillion in home loans, or about 54 percent of all outstanding residential mortgages, according to Inside Mortgage Finance.
Bair has raised questions over the size of that sample in congressional testimony.
Attorneys general, which act as their respective state's top law enforcement officer, haven't seen the underlying documentation that supports any of the findings from the various federal agencies that undertook reviews of mortgage practices, said people familiar with the probes. Many of the findings were communicated to them verbally.
Representatives of HUD and the Justice Department declined to comment.
Federal bank regulators, which have access to the most sensitive bank documents given their oversight role, said they can't share specifics for individual firms, supervisory reports or any underlying documentation that formed the basis of their findings, citing federal rules prohibiting their disclosure.
The bank watchdogs, specifically the Federal Reserve and the OCC, have near-exclusive oversight authority over national banks like BofA, JPMorgan, Citigroup, Wells Fargo and their holding companies. The states could push for expanded investigative powers, but they would likely face a hard slog in court.
The state attorneys general do not have any findings from their own investigation that could be used to guide their settlement discussions. Individual states such as New York, Delaware, Illinois, California, Michigan, Utah, Florida, Nevada, Arizona and Washington have begun to probe alleged illegalities, combing through foreclosure files in local courts, subpoenaing documents and sending investigative demands requesting information from the targeted banks. But the investigations are in nascent stages and far from producing conclusions.
"There is also no way of knowing if the deal you are striking is a fair and equitable one for the people you represent if you have not conducted an adequate investigation into the harm that may have been inflicted upon them," Barofsky said.
"They're going bear hunting with no ammo in the gun," Adam J. Levitin, a bankruptcy and mortgage expert who teaches law at Georgetown University, said of the state attorneys general.
In a recent interview with the Rochester Democrat and Chronicle, New York Attorney General Eric Schneiderman said he was "stunned" by the lack of depositions and paperwork documenting illegality. "We have no leverage," Schneiderman said.
The government side is using a "small sampling of evidence" to "extrapolate liability," one person said of the negotiations.
Some of the attorneys general, who asked to remain anonymous, said the government should use whatever evidence it currently has to extract as much money as possible, and then move on. The states lack the resources to conduct a comprehensive investigation that could take many more months, if not years, they said.
States had a cumulative budget deficit of nearly $84 billion in the 2011 fiscal year, according to an April report by the National Conference of State Legislatures. That gap is expected to swell to $86 billion for the 2012 fiscal year.
On May 23, Kamala Harris, the attorney general of California, flanked by advocates, homeowners, the mayor of Los Angeles and HUD representatives, announced the formation of a "Mortgage Fraud Strike Force" designed to protect borrowers and investors in her state, the nation's largest housing market. California ranked third last year on the Mortgage Asset Research Institute's Mortgage Fraud Index.
But Harris announced last week that the special unit will likely lose its investigative abilities, a consequence of a debilitating $71 million budget cut. Her office will lose the ability to follow up on open investigations ranging from foreclosure scams to "multi-million dollar corporate fraud," she said in a statement.
"It's all about their budgets," Senator Tom Coburn (R-Okla.) said last week about the state attorneys general and their settlement talks with the banks while rubbing his thumb against his fingers.
The AGs launched their 50-state probe nine months ago. The law enforcement officials, along with HUD, Justice, Treasury, the Federal Trade Commission and more than 30 state bank regulators, sought to investigate allegations that banks routinely mistreated distressed homeowners whose loans they serviced and that the firms employed faulty, and at times illegal, practices when foreclosing on defaulted borrowers.
The reviews came in response to news reports that companies like BofA and JPMorgan used flawed documentation and improper procedures to seize delinquent borrowers' homes. The resulting national scandal led to voluntary foreclosure freezes by BofA, JPMorgan and the fifth-largest U.S. mortgage servicer, Ally. Others, like HSBC North America Holdings, soon followed suit.
The lack of a rigorous probe since has inflamed members of the Senate Banking Committee.
"We need a full-fledged investigation," said Alabama Republican Sen. Richard Shelby, the ranking member on the committee. "There's no substitute for a thorough investigation and finding of fact."
"I want them to be aggressive. Whatever it takes to send a message that robo-signing and that kind of behavior won't be tolerated," said Sen. Sherrod Brown (D-Ohio), another committee member.
Sen. Jeff Merkley (D-Ore.), another banking committee member, said of the state attorneys general that "in terms of doing right by homeowners in this country, they need to have all the data and all the figures so they can pursue what is a fair deal."
The state legal officers have a record of reaching high-profile settlement agreements with predatory mortgage companies.
Firms like Ameriquest Mortgage, Household Finance and Countrywide Financial all found themselves ensnared in multi-state probes that eventually yielded settlements in the hundreds of millions of dollars -- in the case of Countrywide, the settlement yielded more than $8 billion.
In those cases, the states largely targeted the companies on their own. Now, they have the backing of the Obama administration.
"A comprehensive investigation with full disclosure and meaningful settlement terms would be a first step toward fixing the damage to American families caused by lax oversight of mortgage lending and servicing over the past decade," Brown said. "These negotiations must provide justice for homeowners, confidence for investors and certainty for the housing market."
Shahien Nasiripour is a senior business reporter for The Huffington Post. You can send him an email; bookmark his page; subscribe to his RSS feed; follow him on Twitter; friend him on Facebook; become a fan; and/or get e-mail alerts when he reports the latest news. He can be reached at 1-917-267-2335.