December 8, 2023

Fair Game: Homework Regulators Aren’t Doing

This trenchant take comes courtesy of Elizabeth W. Magner, a bankruptcy court judge in the Eastern District of Louisiana. In an April 7 opinion involving a couple whose bank tried to foreclose on them even though they were current on their mortgage, you can sense Ms. Magner’s frustration with financial institutions that administer home loan payments and records.

Ms. Magner is just one of many judges overseeing cases involving troubled borrowers, of course. But because her judicial duties seem to have made her an expert on mortgage servicing, Ms. Magner’s views could not be more timely and important. This is especially true, given that state attorneys general seem intent on striking a settlement with servicers before they have conducted a comprehensive and thorough examination of industry practices.

By presiding over a variety of cases involving borrower abuse, Ms. Magner has probably done more investigating than some of the attorneys general who are so eager to cut a deal with the banks.

Her April 7 ruling involved two borrowers, Ron and LaRhonda Wilson, who tried to save their home by filing for bankruptcy in 2007. Having come up with a payment plan the court approved, they began submitting their monthly mortgage checks as agreed. Soon, however, a misstep at Lender Processing Services, an administrative company whose software system was used by the Wilsons’ lender, sucked them into the foreclosure machine.

The United States Trustee for the region got involved in the case and asked Ms. Magner to impose sanctions against Lender Processing. She did so in the recent ruling; the amount has not yet been determined.

You may recall Lender Processing Services — it’s the company whose Georgia-based document processing unit, DocX, was ground zero for the robo-signing scandal. DocX was acquired by Fidelity National Information Services in 2005, and was later spun off with Lender Processing. DocX was the rubber-stamp operation where employees signed hundreds of foreclosure documents a day attesting to facts and figures that they rarely bothered to check. Some of the signatures on DocX papers were so different they appeared to be forged.

Lender Processing shut down DocX in February 2010. But the parent company is still under scrutiny for its much larger business of providing payment processing software systems to a vast majority of mortgage servicers. Indeed, Lender Processing was among the 12 financial institutions that consented to change their mortgage processing and foreclosure practices last week after receiving cease and desist orders from federal banking regulators.

Lender Processing’s two biggest bank customers are Wells Fargo and JPMorgan Chase. Neither bank would comment.

Ms. Kersch, the spokeswoman for Lender Processing, said: “The consent order does not make any findings of fact or conclusions of wrongdoing, nor does L.P.S. admit any fault or liability.”

Returning to the Wilson case: Their mortgage servicing woes began in the fall of 2007, after they filed for bankruptcy protection. The court had approved their mortgage payment plan and they began submitting monthly checks as instructed.

The first problem arose when the Lender Processing software was not updated to reflect that the Wilsons were operating under a payment plan approved by a bankruptcy court. Then, the couple’s checks were not posted to their account by a lawyer for their lender, who inexplicably held onto the checks.

So Lender Processing’s automated system started the foreclosure process on behalf of the Wilsons’ lender, even though the couple had made all their necessary payments. A robo-signer from DocX arrived on the scene, legally attesting to the Wilsons’ purported delinquency, because Lender Processing’s system did not reflect that the Wilsons’ checks were sitting, uncashed, with their bank’s lawyer.

Luckily, a lawyer for the Wilsons battled back, documenting to the bankruptcy court that the couple were in fact current on their mortgage. Ms. Magner was the judge overseeing this messy chain of events.

Officials at Lender Processing say that the Wilson case is an anomaly and that the document execution process that occurred in the case “is no longer provided” by the company, a reference to the robo-signing practices at DocX. In a statement, Ms. Kersch, the Lender Processing spokeswoman, said that mortgage servicers and their lawyers were using Lender Processing’s systems in foreclosures and bankruptcies they were overseeing. “Neither L.P.S.’s staff nor its technology make decisions regarding the foreclosure process,” she added.

Ms. Kersch is right. The company’s systems let banks servicing home loans dictate when fees are automatically charged, for example, how payments are applied to borrowers’ accounts and when actions, like foreclosure appraisals, are prompted.

But how some banks have deployed the Lender Processing systems disturbs Ms. Magner, according to opinions she has written in other cases. In the Wilson ruling, she cites other problematic cases she has overseen where banks servicing borrowers’ loans used Lender Processing systems improperly.

In one case, Ms. Magner said, she discovered “a highly automated software package owned by L.P.S.” to administer loans that “was programmed to apply payments contrary to the terms of the notes and mortgages.” Such terms typically require that a loan administrator apply payments first to real estate taxes, principle and interest, then to other things like late fees or default charges. But in one case before Ms. Magner, the bank applied payments first to late fees and property inspection charges.

In another case, Ms. Magner concluded that Wells Fargo had made “errors in the methodology for fees and costs posted to a debtor’s account” using a Lender Processing system.

The L.P.S. spokeswoman said that because the company was not a named party in the other cases cited by the judge, it was unable to comment on Ms. Magner’s references to the other cases.

THE use of a robo-signer in the Wilson matter seemed to be the last straw for Ms. Magner. In sanctioning Lender Processing, she wrote: “The fraud perpetrated on the court, debtors and trustee would be shocking if this court had less experience concerning the conduct of mortgage services.”

She added: “Serious problems persist in mortgage loan administration. But for the dogged determination of the United States Trustee’s office and debtors’ counsel, these issues would not come to light and countless debtors would suffer.”

For those who argue that servicing errors encountered by troubled borrowers are rare mistakes, Ms. Magner’s rulings should be required reading. “The deference afforded the lending community has resulted in an abuse of trust,” she wrote in the Wilson ruling.

Truer words were never spoken.  

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Financial Crisis Report Finds Conflicts and Recklessness

The 650-page report, “Wall Street and the Financial Crisis: Anatomy of a Financial Collapse,” was released Wednesday by the Senate Permanent Subcommittee on Investigations, whose co-chairmen are Carl Levin, a Michigan Democrat, and Tom Coburn, a Republican of Oklahoma. The result of two years’ work, the report focuses on an array of institutions with central roles in the mortgage crisis: Washington Mutual, an aggressive mortgage lender that collapsed in 2008; the Office of Thrift Supervision, a regulator; the credit ratings agencies Standard Poor’s and Moody’s Investors Service; and the investment banks Goldman Sachs and Deutsche Bank.

“The report pulls back the curtain on shoddy, risky, deceptive practices on the part of a lot of major financial institutions,” Mr. Levin said in an interview. “The overwhelming evidence is that those institutions deceived their clients and deceived the public, and they were aided and abetted by deferential regulators and credit ratings agencies who had conflicts of interest.”

The bipartisan report includes 19 recommendations for changes to regulatory and industry practices. These include creating strong conflict-of-interest policies at the nation’s banks and requiring that banks hold higher reserves against risky mortgages. The report also asks federal regulators to examine its findings for violations of laws.

The report adds significant new evidence to previously disclosed material showing that a wide swath of the financial industry chose profits over propriety during the mortgage lending spree. It also casts a harsh light on what the report calls regulatory failures, which helped deepen the crisis.

Singled out for criticism is the Office of Thrift Supervision, which oversaw some of the nation’s most aggressive lenders, including Countrywide Financial, IndyMac and Washington Mutual, whose chief executive was Kerry Killinger. Noting that the agency’s officials viewed the institutions it regulated as “constituents,” the report said that the office relied on bank executives to correct identified problems and was reluctant to interfere with “even unsound lending and securitization practices” at Washington Mutual.

The report describes how two risk managers at the bank were marginalized by its executives. One of them told the committee that executives began providing the regulator with outdated loss estimates as the mortgage crisis widened. After the risk manager told regulators that the estimates it had received were dated, Mr. Killinger fired him.

From 2004 to 2008, for example, the regulatory office identified more than 500 serious deficiencies at Washington Mutual, yet did not force the bank to improve its lending operations, according to the report. And when the Federal Deposit Insurance Corporation, the bank’s backup regulator, moved to downgrade the bank’s safety and soundness rating in September 2008, John M. Reich, the director of the Office of Thrift Supervision, wrote an angry e-mail to a colleague. Referring to Sheila Bair, the F.D.I.C. chairwoman, he wrote: “I cannot believe the continuing audacity of this woman.” Washington Mutual failed two weeks later.

The office was abolished last year, and its operations were folded into the Office of the Comptroller of the Currency. Mr. Reich declined to comment. A lawyer for Mr. Killinger did not respond to a request for comment.

The report was produced by the same Senate committee that conducted an 11-hour hearing last April with Goldman executives and employees of its mortgage unit, who testified about their trading and securities underwriting practices.

At the hearing, some lawmakers questioned Goldman’s assertion that it had not bet against the mortgage market as real estate prices collapsed. And on Wednesday, Senator Levin pointed out that his committee had found 3,400 places in Goldman documents where its officials used the phrase “net short,” a reference to negative bets.

“Why would Goldman deny what was so obvious, that they were engaged in a huge short in the year 2007?” Senator Levin asked in a press briefing Wednesday morning. “Because they gained at the expense of their clients and they used abusive practices to do it.”

The report uncovered a new aspect of Goldman’s mortgage activity during 2007. That year, as Goldman tried to build its bet against housing, the report says, it tried to drive up the price of a mortgage index, a practice known as squeezing the shorts. When the price of the index rose sharply, the cost of betting against the mortgage market fell. Goldman tried to put on the short squeeze, the report noted, so that it could add to its negative bets more cheaply and protect itself against the housing collapse.

Because Goldman was a large dealer in the marketplace, it had the power to drive prices in a certain direction. The report quotes from the self-evaluation of Deeb Salem, a mortgage trader, who wrote: “We began to encourage this squeeze, with plans of getting very short again.” He added, “This strategy seemed do-able and brilliant.”

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