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Peek at dark mortgage machine that helped devastate global financial system

A founder of Countrywide Financial warned three years before the housing market collapsed that his company could face "financial and reputational catastrophe" if it continued holding certain risky mortgages on its balance sheet. Still, Countrywide continued to sell these loans to investors.

Bank of America refinanced a $156,491 Countrywide loan for a 24-year-old mobile home into a government-backed mortgage. The borrower, who also managed to roll credit card debt into the loan, was behind on his payments at the time of the refinancing.

And a Merrill Lynch consultant vented in an internal email that the Wall Street firm seemed unfazed by issues with mortgage standards. "Makes you wonder why we have due diligence performed other than making sure the loan closed."

Documents released as part of the $16.65 billion settlement in recent days between Bank of America and the Justice Department read like a highlight reel of the mortgage sins that fed the 2008 financial crisis. As part of the deal, the bank and the Justice Department agreed to a "statement of facts" that offers a window into some of the darkest corners of the Countrywide and Merrill mortgage machine that was responsible for funneling a stream of troubled loans that helped devastate the global financial system.

At this point, six years after the financial crisis, the excesses and failings of Countrywide and Merrill, which Bank of America acquired, are the stuff of Wall Street legend. But the 30-page document, which is replete with many internal emails from the likes of Countrywide's co-founder, Angelo Mozilo, underscores the extent of the problems at these firms.

In past federal mortgage settlements, some critics have said the statement of facts lacked specifics. Some banks' lawyers have been wary of agreeing to too many details in these documents, fearing they can provide a road map for future litigation.

On Thursday, the Securities and Exchange Commission also struck a settlement with the bank, which admitted wrongdoing as part of that agreement.

The settlement comes as federal prosecutors in Los Angeles are preparing a lawsuit against Mozilo, who built Countrywide into one of the nation's largest mortgage lenders before Bank of America acquired the company in 2008.

Mozilo's lawyer, David Siegel, said, "There is no sound or fair basis, in law or fact, to pursue any claim" against his client.

According to the statement of facts, Mozilo sent an email to a Countrywide executive on Aug. 1, 2005, warning about a collapse in some condominium markets in Las Vegas and Florida, which were swarming then with speculators looking for quick profits.

"I am becoming increasingly concerned about the environment surrounding the borrowers who are utilizing the pay option loan and the price level of real estate in general, but particularly relative to condos," Mozilo wrote, according to the Justice Department documents.

Mozilo said Countrywide should stop holding those loans on its books. Yet for the next two years, according to the documents, Countrywide continued to originate pay option loans — which had interest rates that would reset after a few years — and sell them to Wall Street.

The Justice Department documents also show the failings of the government's efforts to protect itself against insuring defective mortgages.

One Bank of America employee describes trying to "trick" a system that screened mortgages that the Federal Housing Administration agreed to insure.

When using this system, Bank of America sometimes changed an applicant's financial information and resubmitted the loan many times to try for approval. In at least one case, a Bank of America underwriter tried to pass the FHA screening more than 40 times, according to the documents. In other cases, "underwriters regularly changed the relevant data and resubmitted the loans more than 20 times," the documents said.

Bank settlement: Not always what it seems to be

The Justice Department's nearly $17 billion accord with Bank of America is shaping up into the showpiece for the Obama administration. Some consumer advocates said that while the deal was flawed in many ways, it provided more relief than the other settlements.

Of $7 billion set aside to assist strapped homeowners, $1 billion will go to Floridians.

"It is better than previous settlements because it offers more principal reductions, more money for blighted areas and more money for new mortgages to low- and moderate-income home buyers," said Bruce Marks, founder of the Neighborhood Assistance Corp. of America. The deal could result in Bank of America forgiving billions of dollars in mortgage principal and may involve cutting the principal on loans insured by the Federal Housing Administration, a move that will primarily help low- and moderate-income borrowers.

But the punishment for the banks may be considerably lighter than it looks. The consumer relief is where the mismatch between headline settlement figures and actual costs occurs.

As part of the deals, banks can modify loans that they still hold in order to help struggling borrowers. But such modifications may not require any new financial sacrifice on the part of the bank. Indeed analysts with Moody's Investors Service wrote, "most of the cost of homeowner relief is already incorporated into existing loan-loss reserves."

The mortgage settlements may prompt protests from the large investment firms that bought the bonds that are backed with faulty mortgages. Many loans owned by the investors through such bonds could get modified under the settlements, causing a hit for the investors but not the banks.

New York Times

Peek at dark mortgage machine that helped devastate global financial system 08/22/14 [Last modified: Friday, August 22, 2014 6:43pm]

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