Courts Go Rough on Financial Firms That Contributed to Mortgage Collapses
Tom Ramstack

Washington, D.C., United States

Two significant court judgments showed how the financial industry still is suffering a backlash for the meltdown that led to recession in 2008.

In one case, a New York judge ordered that Bank of America and its Countrywide Financial Corp. unit must face a lawsuit alleging fraud by MBIA Insurance Corp., which insured the bank's bonds.

MBIA says Countrywide used fraudulent information to obtain insurance on billions of dollars of securities backed by bad mortgages.

Countrywide allegedly falsified the creditworthiness of its borrowers and inflated the ratings on its loans, according to MBIA.

Countrywide, which asked that the lawsuit be dismissed, says its officials had no idea so many of its borrowers would default on their loans.

In the other case, a federal judge in Alexandria, Va., imposed a 30-year prison sentence against Lee B. Farkas, the former chief executive officer of Taylor, Bean & Whitaker Mortgage Corp.

The Justice Department says Farkas' mortgage fraud caused investors to lose $2.9 billion and forced a major bank to shut down.

Prosecutors said Farkas took investors' money to finance a lavish lifestyle. In addition to a generous salary and bonus he gave himself, Farkas is accused of diverting $40 million of investors' money to his personal accounts.

He was convicted of 14 counts of falsifying mortgages through Colonial Bank, which is now out of business.

Farkas is one of several financial executives to be convicted of crimes recently.

In an unrelated case, Galleon Group hedge fund manager Raj Rajaratnam is scheduled to be sentenced to prison Sept. 27. He was convicted of insider trading.

The Senate plans to step into the fray soon with a hearing to examine whether the Justice Department is adequately aggressive in pursuing untrustworthy financial executives.

The Senate Judiciary Committee is responding to widespread consumer complaints about mortgage fraud that has made millions of American lose their homes.

The Justice Department's efforts have focused largely on criminal prosecutions of corporate directors.

In one example this week, the U.S. Attorney's Office in Washington, D.C., announced that it successfully prosecuted 10 small lending company officials. They pleaded guilty or were found guilty of defrauding their customers of about $10 million.

The Justice Department's biggest operation against mortgage fraud was Operation Stolen Dreams, a nationwide sweep in 2010 during which 1,517 financial industry executives were arrested. Indictments blamed them for causing their customers to lose more than $3 billion.

So far, the toughest federal legislation to come out of the recession was the Fraud Enforcement and Recovery Act of 2009.

The law changed the definition of financial institutions that could be prosecuted for fraud.

The old definitions focused primarily on government contractors. The new definition included "organizations which finance or refinance any debt secured by an interest in real estate, including private mortgage companies…"

What role the greater risk of criminal prosecution is playing in forcing banks to settle lawsuits promptly is uncertain, but there have been major concessions by mortgage lenders recently.

Bank of America announced it would pay investors $14 billion to settle their claims that accuse the bank of negligence in granting bad mortgage loans.

The settlement is the financial industry's biggest settlement resulting from the subprime mortgage industry collapse.

The investors say Bank of America sold them loans without adequately checking their income or assets, which eventually caused them to default. The bad mortgages were underwritten mostly by Countrywide Financial.

Financial analysts estimate banks eventually will spend as much as $100 billion to settle all the mortgage lawsuits against them.

Read the latest political news.