Federal prosecutors sued Bank of America on Wednesday, accusing the bank of defrauding government-sponsored mortgage giants Fannie Mae and Freddie Mac of at least $1 billion through a spectacularly brazen loan-origination program called the Hustle.
New York-based U.S. Attorney Preet Bharara said Wednesday that subprime lender Countrywide Financial, which Bank of America acquired in 2008, generated thousands of fraudulent home loans by processing them without quality checks or proper oversight. The fraudulent lending continued into 2009, Bharara said.
The loans were sold to Fannie and Freddie and later defaulted at a far higher rate than normal, causing more than $1 billion in losses and numerous foreclosures, the U.S. Attorneys Office said in a statement. Both Fannie and Freddie were bailed out by taxpayers in 2008 at a cost of billions.
The lawsuit opens a new chapter in the Charlotte banks long-running legal woes, which have pummeled its earnings. Bank of America already has lost billions of dollars through write-downs and legal settlements related to Countrywides lending practices and the banks 2009 acquisition of Merrill Lynch.
The fraudulent conduct alleged in todays complaint was spectacularly brazen in scope, Bharara said. Countrywide and Bank of America made disastrously bad loans and stuck taxpayers with the bill. Prosecutors also accuse Bank of America of failing to repurchase bad loans.
Bank spokesman Larry Grayson issued a strong denial of the governments charges.
Bank of America has stepped up and acted responsibly to resolve legacy mortgage matters. The claim that we have failed to repurchase loans from Fannie Mae is simply false, Grayson said in a prepared statement. At some point Bank of America cant be expected to compensate every entity that claims losses that actually were caused by the economic downturn.
The nations second-largest lender by assets has been locked in disputes with other financial firms over whether the bank should be forced to buy back soured loans. So-called repurchase demands now total about $25.5 billion outstanding, according to the banks most recent reports.
Last week, Bank of America reported it lost $33 million for shareholders in the third quarter, down from a $5.9 billion profit in the same quarter a year ago.
The lawsuit comes two weeks after Bharara filed a lawsuit against Wells Fargo, claiming reckless lending standards on Federal Housing Administration-insured loans.
Bharara said Wednesdays case against Bank of America is the first civil fraud suit brought by the Justice Department concerning mortgage loans later sold to Fannie and Freddie.
How the Hustle worked
Prosecutors painted a picture of unchecked fraud at Countrywide, fueled by incentives to originate loans as rapidly as possible. In the lawsuit, they cite specific examples of loans that they say were sold to Freddie and Fannie as investment-quality, but were later discovered to have serious problems:
• In August 2007, the loan file for a mortgage in Birmingham, Ala., said the borrower earned $10,000 per month as a self-employed real estate investor. The required verification of his business was missing.
• In the same month in Miami, Countrywide made a loan to someone whose loan file said the borrower was a sales representative for an airline earning $15,500 per month. The borrower was actually a temporary agency employee who made $2,666 per month.
The two loans were in default within months of closing.
Bharara said Countrywide and Bank of America cast aside underwriters, eliminated quality controls, incentivized unqualified personnel to cut corners, and concealed the resulting defects.
Countrywide, a major subprime lender, initiated the Hustle in 2007 to make up for lost revenue after the subprime market started melting down that year, the lawsuit said. The programs name came from a term Countrywide allegedly used for the loan fast track: the high-speed swim lane.
Bank of America bought Countrywide in 2008, a move now widely considered a disaster. After the merger, the Hustle continued unabated through 2009, Bharara said in a statement.
The lawsuit said internal Countrywide documents described the Hustles goal as making sure loans move forward, never backward.
Countrywide eliminated every significant checkpoint on loan quality and compensated its employees solely based on the volume of loans originated, leading to rampant instances of fraud, the lawsuit said.
To speed up loan origination, Countrywide removed underwriter review even from many high-risk loans, and assigned underwriting jobs to loan processors who were previously considered unqualified even to answer borrower questions, the lawsuit said.
Countrywide also eliminated its compliance specialist positions, which had been responsible for independent loan checks, and eliminated mandatory underwriting checklists.
At the same time, Countrywide indicated to Fannie Mae and Freddie Mac that it had strengthened its underwriting standards, the lawsuit alleges.
Up to 40 percent of the resulting loans in some months turned out to have material defects 10 times the industry rate, according to the lawsuit.
The company went so far as to offer employees a bonus for rebutting Countrywides own quality control departments findings of defective loans, the lawsuit alleges.
The usual suspects
The government has brought five other civil fraud lawsuits against lenders, including the one against Wells Fargo. St. Johns University professor Anthony Sabino said the governments move against Bank of America is not a surprise.
The federal government is rounding up the usual suspects and blaming them where it can, he said. Whether the government is right or wrong is yet to be seen probably some of both.
Bank of Americas stock closed down 5 cents, less than 1 percent, at $9.31 a share. Observer staff writers Andrew Dunn and John Arwood and researcher Maria David contributed.