WASHINGTON -- New York Attorney General Eric Schneiderman asked a state judge to reject a proposed $8.5 billion settlement agreement over soured loans between Bank of America and a group of investors, claiming in court documents that a separate bank representing the investors committed fraud for failing to ensure that the mortgage securities were created in accordance with state law and for failing to act in the investors' best interest.
Bank of New York Mellon, the trustee representing the investors, "knowingly, repeatedly, and consistently" misled investors into thinking that the mortgage bonds were created properly, Schneiderman said in court documents. BNY Mellon also put its own interests before those of the investors it's supposed to represent, he said.
BNY Mellon, the 11th-largest U.S. bank by assets and one of the nation's largest trustees, stands accused of "repeated fraud and illegality," according to court filings, which alleges that the abuses "were repeated literally hundreds of times."
In short, Countrywide Financial, the lender purchased by BofA in 2008, failed to properly assemble loan documents needed for the creation of mortgage securities, and BNY Mellon effectively looked the other way, which "apparently triggered widespread fraud," Schneiderman said in court documents.
BNY Mellon should have known the mortgage securities were improperly created because the evidence was "abundant," Schneiderman asserted, citing the bank's own documents, news coverage of "foreclosure fraud" and foreclosure actions brought on the bank's behalf.
Schneiderman also accused Bank of America of fabricating the missing documents when it came to foreclosing on homeowners who defaulted on their mortgages.
There are "serious questions about the fairness and adequacy" of the proposed settlement agreement, Schneiderman said in court documents.
Spokesmen for Bank of America and BNY Mellon didn't immediately respond to emailed requests for comment.
The action throws a significant wrench into the accord, threatening Bank of America, the largest U.S. bank by assets, with billions of dollars in additional losses if the $8.5 billion deal with some of the world's largest investors is ultimately rejected.
It also opens up new worries for BofA, the nation's largest handler of home loans, as the company could be faced with the prospect of having New York's top legal officer determining that untold billions of dollars' worth of mortgages turned into securities by Countrywide, the nation's largest mortgage company when purchased by Bank of America during the credit crisis, aren't really securities at all due to failures in the security-creating process.
Schneiderman's actions also threaten Bank of New York Mellon, the trustee for those mortgage bonds, with unknown losses, as his office may determine that the firm didn't properly assemble and maintain critical loan documents necessary for mortgage instruments to become securities per New York state law. In his office's court filing, Schneiderman is asking to comb through additional mortgage documents to see if the rot he claims to have discovered is more widespread.
New York's top law enforcement officer has waged an aggressive campaign in trying to root out Wall Street wrongdoing during the housing bubble. Experts and federal bailout watchdogs have questioned whether lenders and other firms took the necessary steps when bundling home loans into securities. Sloppy practices were common, some analysts assert.
"If mortgages were not properly transferred in the securitization process, then mortgage-backed securities would in fact not be backed by any mortgages whatsoever," Adam J. Levitin, a bankruptcy expert and professor at Georgetown University Law Center, told a congressional panel last November. Levitin said the problem could "cloud title to nearly every property in the United States" and could lead to trillions of dollars in losses.
In a New Jersey bankruptcy case last year, a Bank of America executive, Linda DeMartini, testified that Countrywide routinely did not convey crucial documents for loans sold to investors.
Schneiderman's action in the proposed BofA settlement is an extension of his investigation into Bank of America's mortgage securitization practices. The probe, first reported by The Huffington Post in June, is part of a larger inquiry that is scrutinizing whether mortgage companies and Wall Street firms took the necessary steps under New York state law when creating mortgage-backed securities, people with direct knowledge of the investigation said at the time.
Bank of America is seeking to end a months-long probe by state attorneys general and federal agencies into its mortgage and foreclosure practices. It's been in advanced negotiations with the government agencies, offering billions of dollars in mortgage aid for strapped homeowners in return for a release from liability for a host of alleged mortgage-related violations, The Huffington Post first reported on Tuesday.
Schneiderman's Thursday court filing objecting to Bank of America's proposed settlement with mortgage investors is a result of his office's investigation into mortgage irregularities. It's the kind of probe that could be stopped if his office agreed to such a release as is being contemplated for Bank of America in the state and federal settlement talks.
In court documents, Schneiderman is demanding that his agency be allowed to further examine loan documents to ensure the securities were properly created. New York's top law enforcement officer is using the Martin Act, a powerful state law that gives prosecutors broad powers to investigate fraud.
As trustee, BNY Mellon is charged with ensuring that companies involved in the mortgage-securitization chain properly assembled the needed documents to transform a bundle of home loans into a mortgage bond.
As the agent representing investors in those bonds, BNY Mellon owes them a fiduciary duty -- a legal obligation to act in their best interest.
The proposed settlement Schneiderman is seeking to disrupt involves claims from 22 institutional investors that had demanded Bank of America repurchase home loans packaged into 530 mortgage trusts with a original loan balance of $424 billion. The proposed $8.5 billion payout represents less than 4 cents on the dollar of the current unpaid balance, or about $220 billion.
The settlement offer, if approved by a New York state judge, would apply to all other investors in the trusts, extinguishing similar claims. In court filings, some of the other investors have already demanded the judge reject the proposed settlement agreement.
Schneiderman demanded that BNY Mellon compensate investors for its "fraudulent and deceptive acts."
UPDATE: 9:00 P.M.:
Ron Gruendl, a BNY Mellon spokesman, contested Schneiderman's claims in an emailed statement:
"The allegations by the New York Attorney General are outrageous, baseless, unsupported by fact and law and we will fight them if necessary in court. We are confident that we have fulfilled in all respects our responsibilities as Trustee. The AG's action is misguided and fails to comprehend the role of the Trustee and the benefit the settlement would provide to investors."
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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.