When Credit Suisse AG pled guilty on May 19 to federal charges that it helped wealthy clients evade U.S. taxes, it looked as though more criminal charges may follow for other big banks.
If so, it would be a while coming. In 2012, the nation’s five largest mortgage servicers agreed to what U.S. Attorney General Eric Holder, New York Attorney General Eric Schneiderman, and a coalition of 33 other attorneys general and state banking examiners hailed as “a landmark $25 billion settlement … [that addresses] abuses and fraud, provides substantial financial relief to borrowers harmed by bank fraud, and establishes significant new homeowner protections for the future.”
However, that settlement had no real legal or financial teeth, according to advocates for stricter mortgage banking laws. The five mortgage-servicing giants – JPMorgan Chase, Citi, Ally Financial, Wells Fargo and Bank of America – got off lightly, they said, while the current mortgage-servicing system doesn’t offer enough protection to distressed borrowers.
The May guilty plea from Credit Suisse AG, a subsidiary of Swiss banking giant Credit Suisse, to charges of conspiring to help U.S. customers dodge taxes included an agreement to pay about $2.6 billion to settle claims brought by the Justice Department, the Federal Reserve and New York state.
The penalty, the largest since the Drexel Burnham Lambert case of 1989, came about a year after Holder declared that some banks are too big, too interconnected and too important to the global economy to prosecute criminally. Critics said Credit Suisse’s penalty was too small, considering the bank’s size, but others say it sets the groundwork for criminal prosecution of other big banks.
More recently, Schneiderman latched onto another opportunity to get tough with financial institutions. It came after the publication of The New York Times Best Sellers list entrant Flash Boys by Michael Lewis, about Wall Street’s apparently legal rigging of high-frequency trading to create opaque scalping operations. Schneiderman launched a probe of the so-called “latency arbitrage” practices. In a related matter, his office also announced that “millions in relief are available to victims of illegal loans by high-interest lenders.” The settlement, reached earlier this year with the New York Attorney General’s Office, involved Western Sky and CashCall, which had begun to reimburse victims.
Advocates for more consumer-friendly mortgage laws now await the response by Schneiderman and his peers to the more-recently published bestseller Capital in the 21st Century by Thomas Piketty – and its revelations of the rise of the oligarchy in America. The New York AG’s office declined to comment for this article.
Your Winnings, Sir
One reason for the reticence in prosecution by the AGs – and willingness to talk publicly about it, advocates charge – may be that many state AGs receive campaign donations from large financial institutions.
However, it’s not true that no one on Wall Street has gone to jail for their crimes. According to a 2011 posting on HousingPredictor.com, Michael McGrath Jr., former president of U.S. Mortgage Corp., got 14 years in prison for orchestrating a conspiracy that defrauded credit unions and Fannie Mae of $136 million. And Lee Farkas, former chair of Taylor, Bean & Whitaker Mortgage Corp., got 30 years in prison and was ordered to forfeit $38.5 million, for his role in a $3 billion scheme to defraud banks through the sale of fake mortgage assets.
In New York, borrowers with underwater mortgages tend to have more of safety net than their counterparts in many other states, largely because this is a judicial-foreclosure, which enables the court system, when necessary, to delay or halt the foreclosure process. In fact, seven of the top 10 states for total non-current mortgages are judicial states.
Ending ‘Too Big to Fail’
U.S. Sen. Elizabeth Warren (D-Mass.), hailed as “the champion” of small banks and lower-income families, joined forces with three Senate colleagues – Republican John McCain of Arizona, Democrat Maria Caldwell of Washington and Independent Angus King of Maine – to introduce the 21st century Glass-Steagall Act. The bill seeks to reinstate and modernize core banking protections. It would once again separate traditional banks from riskier financial services and update the original law to include new activities. It is designed to leave no room for regulatory interpretations that would dilute the rules.
The bill would also give a five-year transition period for financial institutions to split their business practices into distinct entities and to shrink their size, taking an important step toward ending “too big to fail” while minimizing the risk of future bailouts. However, GovTrack.us gives the bill a “1 percent chance of being enacted.”
Unless and until that bill becomes law, the federal Consumer Finance Protection Board – which Warren championed – may be one of the few legal weapons that mortgage borrowers can use to fight off foreclosures.
According to the February Black Knight Mortgage Monitor, implementation of CFPB rules in 2011 caused a sharp shift in the timing of foreclosure starts. The ratio of serious deterioration to foreclosure starts was at the highest level since 2010; Foreclosure sales hit the lowest levels since 2007, pushing pipeline ratios back up; and the average loan in foreclosure is now 2.6 years past due, versus 0.7 years in 2008.
As a result, according to the March Black Knight Mortgage Monitor, “only one in 10 American borrowers [is] underwater … with 55 percent of loans in foreclosure [being] delinquent [for more than] two years.” The data showed that, as home prices have risen over the past two years and many distressed loans have worked their way through the system, the percentage of Americans in negative equity positions on their mortgage has declined considerably. Meanwhile, those loans already in the foreclosure process have been aging substantially, with delinquency for loans in foreclosure at an average 966 days.
The data trends point to a healthier housing market, according to Kostya Gradushy, Black Knight’s manager of loan data and customer analytics. “Two years of relatively consecutive home price increases and a general decline in the number of distressed loans have contributed to a decreasing number of underwater borrowers,” he stated in a news release.
A Black Knight spokesman declined to comment for this article.
Mitigate the Mortgage-Default Mess
New York attorney Charles Wallshein, a partner with Melville-based law firm Macco & Stern, LLP, says the largest mortgage servicers engage too often in confiscatory practices when foreclosing on financially distressed mortgagors.
Wallshein scored a major legal victory on May 20 when New York State Judge Jeffrey Arlen Spinner ruled in favor of Wallstein's clients, Manfred Scheller and Cheryl Mendenhall. He ruled that the couple had been wrongfully foreclosed on by Aurora Loan Services LLC, which claimed it held a $990,000 first mortgage on their house, because Aurora failed to produce documentation showing it held that mortgage.
As for residential mortgage-backed securities, Wallshein reports, 60 percent of the loans in the U.S. are government-backed by Fannie Mae, Freddie Mac and Ginnie Mae. “You need to be a double-A, triple-A rated financial institution that has access to the Federal Reserve window, to be able to service these loans. Just by the very liquidity required to be able to service loans – especially defaulted loans – it narrows who can actually perform that function into a very narrow field,” he says.
So, he observes, the interaction between mortgagors and mortgage servicers has been problematic, because borrowers can’t tell who owns their loan. Owners could be shareholders of Fannie, Freddie or Ginnie.
Under current rules, Wallshein indicates that mortgage servicers are not engaging in confiscatory practices. Also, the original lender is usually not in the picture by the time the loan goes into default. Mortagors seeking loan modification, especially delinquents, may find the servicing agent reluctant to modify the loan terms due to investor expectations. Servicing agents also lack the unilateral authority to reject a loan modification bid, Wallshein adds – unless it’s in the best interest of the pool, which is usually a large entity such as a pension fund, insurance company or REIT. The pool may not want an underwater mortgagor's loan to default because it could cost the pool more money later if the house is worth less at foreclosure, than it would if the loan is eventually paid off. A house worth $400,000 on which mortgagors] owe $500,000, and on which the pool forecloses for the amount of its worth, results in a $100,000 loss, he says, setting up an inherent conflict between loan servicers and investor pools. The problem brings more "illiquidity” into the system, Wallshein reports. The only solution, he says, is to spread the mortgage-default problem out over decades. "If everybody had to realize the actual loss because of foreclosure, it would be devastating,” Wallshein declares. “It would make the too-big-to-fail crisis of 2008 look like a walk in the park.”
Editor’s note: a summary of New York foreclosure law, found in New York State Consolidated Laws, Article 13, can be found at Foreclosures.com.■