The plaintiffs also accuse Countrywide of botching the securitization process by failing to deliver the notes and mortgages into the trusts that issued the securities. The complaint cites the now famous Kemp case, which included testimony by a Countrywide employee that the notes were not delivered or endorsed in compliance with the terms of the contracts. As a result of this allegation, discovery should include documents and depositions aimed at determining how accurate that employee's statements were. Bank of America, not surprisingly, has been vigorous in its rejection of the employee's statements.
Interestingly, the plaintiffs aren't suing the ratings agencies. Although they assert that the AAA ratings the agencies placed on the securities were integral to the investors' inaccurate assessment of their risk, and that the ratings were inflated by the securities issuers through "ratings shopping," the plaintiffs have chosen to portray the agencies as fellow dupes of Countrywide. Many other securities fraud cases relating to mortgage-backed securities have included the ratings agencies in the cast of villains... er... defendants. Although the ratings agencies have been successful in getting all the federal securities claims dismissed so far, common-law fraud claims such as those being made in this case have been allowed to go forward.
Only Standard for a Mortgage: Can We Securitize It?
In addition to statements that the mortgages were in fact securitized in accordance with the documents, the plaintiffs identify a number of other materially and allegedly false statements relating to Countrywide's mortgage origination process. To support their allegations that the statements were false, the plaintiffs cite documents and depositions that have come to light as a result of the Securities and Exchange Commission's fraud suit against Countrywide, as well as the various states' attorneys general suits against it.
Essentially, the plaintiff accuse Countywide of manipulating the loan origination process to issue mortgages to people who couldn't pay them back because that was the only way to generate the volume of mortgages that the bank wanted to issue. Countrywide didn't care about the borrowers' inability to repay the loans, the complaint charges, because the only thing that mattered was Countrywide's ability to sell the loans as securities.
Specifically, if Countrywide's underwriting program -- named CLUES -- rejected an applicant, Countrywide would reconsider the applicant according to a variety of weaker standards. (I guess those would be Clueless mortgages). In fact, Countrywide's mortgage standards were the loosest of any lender. But if even those loose standards were too restrictive to allow a potential customer to get a loan, their application would be sent to a special department that would assess it by a single criterion: Could the loan be resold into a mortgage-backed security or not? If it could, the loan would be made, period. As one of the defendants explained to the SEC in a deposition:
Similarly, an internal company presentation shows how determined Countrywide was to make loans under any circumstances. It describes these as the goals of the "Exception Processing System" -- the system of approving loans that violated Countrywide's underwriting standards:A. ...And then if those loans were outside of even the shadow [underwriting] guidelines, then they would be referred to Secondary Marketing to determine if the loan could be sold given the exception [the underwriting violation] that was being asked for. ...
Q. Was one of the criteria for granting exceptions at the Secondary Loan Desk in Secondary Marketing whether or not the loan could be sold into the secondary market?
A. That was the only criteria that we followed.
If the Borrower's Data Is Too Weak, Change ItThe complaint says that during 2006, Countrywide was processing 15,000 to 20,000 loans a month this way. Loans applications that wouldn't be approved based on underwriting standards were apparently "flipped" into a stated-income or other low-doc loan category, and then approved.
- Approve virtually every borrower and loan profile with pricing add-on when necessary.
- Identify alternative program to meet borrower needs.
- Process and price exceptions on standard products for high-risk products.
- Process exceptions for:
-- Credit Scores
-- LTV (loan-to-value) amount
-- Cash out amounts
-- Property types
Moreover, the complaint cites documents and testimony describing loan officers' deliberate falsification -- even without the borrowers' awareness, much less permission -- of the borrower's income. For example,
Nor was the fraud based on the action of a handful of rogue loan officers, according to the complaint. Manipulating the borrowers' income and assets to justify a loan was an official bank policy, driven by compensation policies that rewarded loan volume, not loan quality."a borrower's application listed his occupation as a dairy foreman with a monthly stated income of $10,500. With those credentials, he qualified for a $350,000 primary residence mortgage loan with a reported debt-to-income ("DTI") ratio of 43.26% ... [However,] the borrower was actually a dairy milker making $1,100 per month who was not purchasing the home as a primary residence, and had a DTI of 403.40% ... What is most shocking is that the borrower disclosed all of this information to the Countrywide loan officer:
[The borrower] disclosed his true employment, his actual income, and his intention to help [borrower's son] purchase the property to loan officer [redacted]. [Loan officer] falsely informed [borrower] that [borrower] could help his son buy the home without bearing responsibility for the monthly mortgage payments. [Loan officer] described the transaction to [borrower] as "lending your son your credit." [Borrower], who cannot read English, signed the closing documents where [loan officer] told him to."
This suit will be one to watch, both to see what comes to light about Countrywide's securitization process, and to get another glimpse of just how much its purchase of Countrywide is going to cost Bank of America.