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A financial crisis built one bad loan at a time

By Susan Taylor Martin, Times Senior Correspondent
In print: Wednesday, September 17, 2008

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ADVERTISEMENT Edwin Jackson took out loans for 14 condos at the height of the real estate boom. Related Links Related graphic: How Ed Jackson helped bankrupt Lehman Brothers

The road to ruin for Lehman Brothers, one of the nation's oldest and largest investment banks, began in places like Units 404 and 418 of Boca Ciega Resort & Marina.

At the peak of Florida's real estate boom in 2006, Lehman's subprime subsidiary, BNC Mortgage, loaned a total of $512,000 to Edwin L. Jackson to buy the two condos with stunning sunset views of St. Petersburg's Boca Ciega Bay. They were among 14 condos that Jackson, 60, bought in the same complex.

In a global economy, Jackson's loans from BNC were mere drops in the sea. But Lehman pooled them with other loans and sold them as securities to pension funds, mutual funds and individual investors, all eager to cash in on the seemingly unstoppable rise in real estate prices.

For a few heady years, loaning money to borrowers like Jackson and pooling the loans made Lehman Brothers one of Wall Street's biggest players in the subprime mortgage boom.

Then, as Jackson puts it, "rents fell off, sales fell off and the economy fell off.''

Jackson fell behind in his payments, and Lehman started foreclosure proceedings in February. As thousands of other property owners defaulted on their loans, the value of Lehman's mortgage-backed securities plunged and investors took their money elsewhere.

On Monday, after 158 years in business, Lehman Brothers filed the biggest bankruptcy in history. Total debt: $613-billion.

As Lehman's value plunged, so did that of Units 404 and 418. Mortgaged for $256,000 apiece, they are now assessed at just $172,400.

• • •

With two DUI convictions and a suspended license, Jackson gets around by bike these days.

On Tuesday, he pedaled the short distance from the Harbour Lights mobile home park, where he lives, to check on his condos at Boca Ciega Resort & Marina.

Close to the Bay Pines VA Medical Center, the resort was built by Pinnacle Construction of Fort Lauderdale and opened in 2006 as a condo-hotel with one- and two-bedroom units available for daily, weekly or monthly rental. Despite its name, the resort still doesn't have a marina because of difficulty getting approvals.

Jackson, who said he handled marketing for the builder, bought 14 units between April and August of 2006 and financed them through several different lenders. He was vague on how much he actually paid for the condos although transfer taxes on the deeds reflect purchase prices of $320,000 apiece for eight of the units and $329,000 for the other six.

Jackson paid the higher amount for Units 404 and 418, according to the transfer taxes. BNC Mortgage loaned him $256,000 on each condo at 8.75 percent — a so-called "subprime'' rate typically given to borrowers with less than sterling credit.

That the loans came from a subsidiary of a huge Wall Street investment bank underscores the tectonic shift in housing finance in recent years.

Before the mid 1990s, local bankers took in deposits, loaned the money to home buyers and collected principal and interest until the mortgage was paid. Mortgage-backed securities consisted mostly of loans to borrowers with good credit.

Then, investment banks like Lehman started pooling riskier loans made to borrowers with shaky credit. Pooling the loans diversified the risk while providing the high yields sought by investors.

Lehman topped other Wall Street firms in 2005 and 2006, packaging more than $50-billion in subprime mortgage-backed securities.

The company also led the push by investment banks to buy their own lenders so they would have direct access to consumers. In 2006, Lehman's BNC Mortgage originated more than $14-billion in loans, making it one of the country's top subprime lenders.

While the housing market soared, defaults remained low. But as sales slowed and adjustable rate mortgages reset to higher rates, many subprime borrowers could no longer make their payments. In August 2007, Lehman announced it was closing BNC Mortgage — throwing 1,200 employees out of work and taking a large write-down.

Though Lehman denied it, former BNC employees said that the company falsified pay stubs, tax forms and other loan information — "anything to make the deal work,'' as one told the Wall Street Journal in 2007. Yet BNC and other subprime lenders operated largely beyond the reach of regulators.

"The belief is that these are really smart people and you'd think they'd be dotting the i's and crossing the t's,'' says Scott Brown, senior economist at St. Petersburg's Raymond James.

• • •

Even as rentals slowed and the sales market dried up, Jackson's expenses on his Boca Ciega condos continued to climb. Annual taxes on each unit are $4,800; monthly condo fees, which include insurance, have jumped to $310 per unit, from $175. On Tuesday, six of his 14 units were vacant, including Unit 418.

All the condos are now in foreclosure, though Jackson says he's "trying to work things out.'' He says he has short-sale contracts on all 14 units, meaning they will sell only if the lender agrees to take less than the mortgaged amount. And with Lehman Brothers in bankruptcy, it could be months before anything happens with Jackson's loans.

Like most borrowers, he didn't know that his mortgages had become part of a "mortgage-backed security.'' He had never heard the term before Tuesday nor has he ever spoken with anyone from Lehman Brothers.

"What do I have to do with all this?'' he asked, excusing himself as walked past the resort's deserted pool area into its vast, nearly empty parking lot.

Times researcher Carolyn Edds contributed to this report. Susan Taylor Martin can be contacted at susan@sptimes.com.