Government sues Deutsche Bank over bad home loans

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Government sues Deutsche Bank over bad home loans

Post by ToddS on Wed May 04, 2011 8:40 pm

Tue May 3, 3:29 pm ET

Government sues Deutsche Bank over bad home loans

By Zachary Roth

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To date, the U.S. government has brought few cases against big Wall Street banks in response to the mortgage crisis that nearly toppled the world's financial system almost three years ago. But the Justice Department today filed suit against Deutsche Bank for hundreds of millions of dollars, alleging that the banking giant unfairly stuck taxpayers with the tab for bad home loans it issued.

The complaint, filed in Federal District Court in New York, accused Deutsche Bank of failing to adequately scrutinize potential borrowers, then lying to government officials about its lapses of due diligence.

The bank "ignored every type of red flag and breached every duty of due diligence before underwriting thousands of federally insured mortgages," U.S. Attorney Preet Bharara charged in a statement to reporters. "While the homes the defendants issued loans for may have been built on solid ground, the defendants' lending practices were built on quicksand. Ultimately, prudence was trumped by profit, and good faith took a back seat to good fees."

In its own statement issued this morning, Deutsche Bank called the charges "unreasonable and unfair," and said it planned to defend against the lawsuit "vigorously."

At issue, as the New York Times explains, is Deutsche Bank's relationship with the Federal Housing Authority, an agency of the Department of Housing and Urban Development (HUD) that guarantees mortgages made to borrowers who don't qualify for loans from the major government-sponsored clearinghouses for home loans, Fannie Mae and Freddie Mac.

According to the complaint, MortgageIT, a unit of Deutsche Bank, issued more than 39,000 such loans between 1999 and 2009, worth more than $5 billion. Because the loans had won government backing, the bank was then able to turn around and sell them to investors--in the same fashion that other Wall Street forms were repackaging home loans as investment securities.

But in order to win the crucial cachet of an FHA-guaranteed mortgage, MortgageIT and Deutsche Bank had to file yearly certifications, affirming that the loans met HUD's standards. And federal prosecutors now allege that when the bank filed those documents, it "repeatedly lied to H.U.D. to obtain and maintain MortgageIT's Direct Endorsement Lender status." In part, the federal indictment alleges, the bank did not actually monitor the default rate of the securitized loans, even though it claimed to be doing so.

By this year, around a third of MortgageIT's FHA-backed loans had defaulted, the government claims--and says that the resulting cost to taxpayers will be a cool $1 billion.

It's worth noting that Deutsche Bank didn't buy MortgageIT until the start of 2007. The lawsuit involves activities at MortgageIT that occurred both before and after the DeutshceBank purchase.

As far back as 2003, a HUD audit found that MortgageIT hadn't met basic standards of quality control. In response, the company assured the government that it had changed its practices. But, according to the complaint, that wasn't true.

Apart from the technical details of the complaint, the federal prosecution may produce a revealing view inside the hothouse of the securitized mortgage business at the late stages of last decade's housing boom. Deutsche Bank was plainly keen to keep pace with its other major financial competitors and book the high returns those investments were then yielding. Unfortunately for Deutsche Bank--and for the world financial system--those loans were on the verge of turning toxic--at which point, prosecutors allege, the bank made the miscalculation of acquiring MortgageIT, a home loan company that appears already to have had a history of issuing risky loans without due diligence, then to look the other way rather than reforming its new unit's practices.

The extent to which the suit establishes whether such neglect was criminal could have far-reaching ramifications for the other players in the overheated mortgage market. One case already wending its way through the Justice Department docket concerns alleged misrepresentations of business activities by Goldman Sachs; Carl Levin, the Michigan Democratic senator chairing the Permanent Subcommittee on Investigation, has recommended that federal prosecutors pursue perjury and other charges against Goldman CEO Lloyd Blankfein and other company executives.

Deutsche Bank CEO Josef Ackermann, Photo: Thomas Lohnes/DAPD

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“We have the wolf by the ears, and we can neither hold him, nor safely let him go. Justice is in one scale, and self-preservation in the other.”

Thomas Jefferson

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