The federal government has brought a civil action against mortgage giant Deutsche Bank and its subsidiary MortgageIT, alleging that the companies bilked the Federal Housing Administration out of $386 million in FHA mortgage insurance claims. Regulators allege that the companies committed mortgage and bank fraud by issuing nearly $5 billion in mortgages they knew the borrowers probably wouldn’t repay — secure in the knowledge that the FHA would cover any losses.
The lawsuit claims that the companies’ reckless lending practices and lies to regulators cost the FHA $386 million in mortgage guarantees and estimates that the FHA will be forced to pay out “hundreds of millions of dollars” more. The government is not only seeking the return of that money but triple damages, which means that the banks could owe the FHA at least $1 billion.
Although the case is currently in civil court, that does not mean that Deutsche Bank and MortgageIT could not also face criminal bank fraud charges. Federal regulatory and criminal investigations are handled separately, and a civil claim for restitution and damages is often only the first step in the government’s response to what it perceives as white collar crime.
U.S. Attorney claims that an outside auditor’s report on the mortgage lending practices was ‘literally stuffed in a closet and left unread’
According to the complaint, between 1999 and 2009, MortgageIT was involved in a program in which private mortgage lenders are allowed to approve home loans that are guaranteed through the FHA mortgage insurance program. Over the course of a decade, the firm issued approximately 39,000 FHA-guaranteed mortgages worth a total of about $5 billion.
Deutsche Bank bought MortgageIT in January of 2007. It continued issuing FHA-guaranteed home loans to consumers, and it securitized and marketed those mortgages to investors.
As we have seen with other banking practices in the past decade, the companies apparently issued mortgages at a rapid clip in order to keep up with overwhelming demand at the market’s peak.
Many commenters have suggested that low-quality home loans were rapidly produced during the housing boom because they provided quick fees for banks, who then bundled them into securities sold to investors. Since securitization seemed to minimize any risk to the original issuer of the mortgage, some believe banks had an incentive not to worry overmuch about lending standards.
It appears that this is the allegation against Deutsche Bank and MortgageIT. The lawsuit claims that the companies did not comply with the lending rules required by the FHA whenever a loan was to be guaranteed, and furthermore that they falsely told regulators that the loans did comply with FHA standards.
The press has mostly focused on one embarrassing — but not illegal — episode in which someone at MortgageIT apparently mislaid an auditor’s report that could have highlighted problems within the lender. According to the complaint, when MortgageIT received the report, someone “literally stuffed [it] in a closet and left [it] unread and unopened.”
More details will need to come out before it is clear whether the two companies’ lending practices constituted mortgage insurance fraud — or merely reflected widespread problems in the mortgage lending industry and, perhaps, sloppy accounting.
In a statement yesterday, Deutsche Bank’s CEO called the lawsuit unfounded but stressed that the bank takes such allegations very seriously.
- Los Angeles Times, “Government accuses Deutsche Bank of mortgage fraud,” Nathaniel Popper, May 3, 2011
- Westlaw News & Insight, “Deutsche Bank CEO says U.S. lawsuits unfounded,” Gernot Heller, May 5, 2011