Bank of America Fails to Win Dismissal of U.S. Mortgage Fraud Suit

bloomberg.com | June 22, 2014

Bank of America Corp. failed to win dismissal of a U.S. Justice Department lawsuit in which it’s accused of misleading investors about the quality of loans tied to $850 million in residential mortgage-backed securities.

U.S. District Judge Max O. Cogburn Jr. in Charlotte, North Carolina, gave the Justice Department 30 days to revise the suit after a magistrate judge earlier found the government’s complaint was deficient and recommended it be dismissed.

The case is part of a U.S. bid to punish companies for actions it says helped trigger the financial crisis. The Bank of America case and others like it rely on a law dating to the savings-and-loan crisis of the 1980s that allows the government to punish actions taken too long ago to be covered by other laws. It also lets the U.S. seek larger damages awards.

“The court need not reach far outside the complaint or be an expert in economics to take notice that it was the trading of toxic RMBS between financial institutions that nearly brought down the banking system in 2008,” Cogburn said in his ruling today.

Bank of America will still have a chance to challenge the amended complaint and could appeal any ruling against it.

Lawrence Grayson, a spokesman for the Charlotte-based bank, declined to comment on the ruling.

In a parallel fraud lawsuit by the U.S. Securities and Exchange Commission over the same securities, the same magistrate judge recommended on March 31 that Bank of America’s motion to dismiss the case be denied, saying the regulator had properly laid out its claims. Bank of America objected to that recommendation, and a ruling by Cogburn could come at any time.

‘Sophisticated’ Institutions

The bank in December 2007 told Wachovia Corp. and the Federal Home Loan Bank of San Francisco, which bought about 98 percent of the securities, that most of the mortgages were acquired wholesale, according to court papers. That wasn’t disclosed in the securities prospectus, the government claims.

In its bid to dismiss the case, Charlotte-based Bank of America argued the disputed securities were sold to two “sophisticated” financial institutions around 2007 and 2008, a few months before the U.S. real estate market collapsed. Those institutions never sued, the bank said.

The U.S. seeks to “fundamentally rewrite the securities laws by criminalizing immaterial misstatements,” the bank said its filing. “With the benefit of hindsight, the government alleges that the bank should have provided these investors with more information about the risk of their investment.”

Targeted Companies

If the case had been dismissed, it would have been a first for about a dozen companies that have been targeted under the Financial Institution Reform, Recovery and Enforcement Act of 1989, or FIRREA, which lets the government sue people or groups, rather than charge them with a crime, for fraud that affects a federally insured financial institution.

A magistrate judge on March 27 recommended that the case be dismissed without giving the government the option to fix any defects. The Justice Department countered that the recommendation ignored legal standards for bringing a lawsuit and relied on incorrect factual findings.

The rarely used law has advantages: It imposes a lower burden of proof than a criminal prosecution and threatens penalties of more than $1 million for each fraudulent statement or act. FIRREA also gives prosecutors 10 years to file, rather than the five years under some criminal and civil statutes. Banks fighting to get FIRREA cases dismissed have yet to succeed.

Fannie Mae Case

In a New York case, Bank of America was found liable by a federal jury last year after a trial over claims that its Countrywide unit defrauded Fannie Mae (FNMA) and Freddie Mac (FMCC) by selling them billions of dollars in bad mortgages. U.S. District Judge Jed Rakoff is now weighing a penalty, with prosecutors seeking the maximum of $863 million.

In the North Carolina case, the Justice Department said the lender portrayed its bonds as being backed by prime loans vetted by its staff, even though most were riskier wholesale mortgages originated by outside brokers. Some were “PaperSaver” loans that didn’t require proof of borrowers’ income, the U.S. said. The case is U.S. v. Bank of America Corp. (BAC), 13-cv-00446, U.S. District Court, Western District of North Carolina (Charlotte).

Bank of America Lawsuit Survives Dismissal Attempt Over Alleged Misleading of Investors on Mortgage-Backed Securities

Bank of America Corp. faces continued legal challenges as a U.S. District Judge in Charlotte, North Carolina, denied the bank’s motion to dismiss a lawsuit filed by the U.S. Justice Department. The lawsuit accuses the bank of misleading investors regarding the quality of loans associated with $850 million in residential mortgage-backed securities. This decision is part of the U.S. government’s broader effort to hold companies accountable for their actions during the financial crisis. The ruling allows the Justice Department 30 days to revise the suit, indicating the seriousness with which the court views the allegations against the bank.

Lawsuit Background and Implications

The lawsuit against Bank of America stems from its alleged misleading of investors about the nature of loans tied to residential mortgage-backed securities. A magistrate judge had previously recommended dismissing the case, citing deficiencies in the government’s complaint. However, U.S. District Judge Max O. Cogburn Jr. disagreed with this recommendation, giving the Justice Department an opportunity to amend the suit. This case is significant because it relies on a law dating back to the savings-and-loan crisis of the 1980s, which allows the government to pursue actions that fall outside the scope of other laws. It also permits the U.S. to seek larger damages awards.

Judge Cogburn’s Ruling

Judge Cogburn highlighted the systemic risk posed by the trading of toxic residential mortgage-backed securities (RMBS) between financial institutions during the 2008 financial crisis. He emphasized that it does not require extensive economic expertise to recognize the impact of such actions on the banking system. By upholding the lawsuit, the court acknowledges the seriousness of the allegations against Bank of America and opens the door for further legal proceedings.

Bank of America’s Response and Potential Outcomes

Bank of America retains the opportunity to challenge the amended complaint and may appeal any adverse rulings. The bank’s spokesman, Lawrence Grayson, declined to comment on the recent ruling. Notably, Bank of America is also facing a parallel fraud lawsuit filed by the U.S. Securities and Exchange Commission (SEC) relating to the same securities. A magistrate judge had previously recommended denying the bank’s motion to dismiss in that case. However, a ruling by Judge Cogburn is still pending.

Importance of the Lawsuit and Future Implications

The lawsuit against Bank of America carries significant implications for other targeted companies under the Financial Institution Reform, Recovery and Enforcement Act of 1989 (FIRREA). FIRREA enables the government to pursue legal action against individuals or groups for fraud that impacts federally insured financial institutions, even when the alleged misconduct falls outside the statute of limitations of other laws. If the case had been dismissed, it would have set a precedent favoring companies defending against FIRREA lawsuits. However, no bank has yet succeeded in getting a FIRREA case dismissed.

Bank of America’s failure to secure a dismissal of the U.S. Justice Department’s lawsuit over allegations of misleading investors about mortgage-backed securities underscores the legal challenges financial institutions face for their actions during the financial crisis. The court’s decision highlights the seriousness of the allegations against the bank and opens the door for further legal proceedings. As the case unfolds, it will contribute to the ongoing efforts to hold financial institutions accountable for their role in the 2008 financial crisis and may impact the regulatory landscape governing mortgage-backed securities.

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