A civil lawsuit filed Tuesday in Manhattan federal court seeks to recover alleged damages from Deutsche Bank AG related to mortgages that were insured by the Department of Housing and Urban Development. The lawsuit was filed under the False Claims Act and as such, the government may seek three times the damages in addition to possible punitive and other damages. The damages could amount to more than $1 billion. The justice department alleges that Deutsche Bank AG "recklessly" lied about the quality of loans made by a mortgage unit of the German bank.
U.S. Attorney Preet Bharara describes a long history of unreliable underwriting standards and quality control at the mortgage lender, MortgageIT Inc., which was acquired by Deutsche Bank in 2007. This lawsuit against Deutsche Bank is so far the highest-profile case filed by U.S. Attorney, Mr. Bharara's unit that was established last year to uncover complex financial-fraud cases. Mr. Bharara stated at a news conference that it wouldn't be a "fantastical stretch to think we are looking at other financial institutions as well."
A spokeswoman for Deutsche Bank said the "claims against MortgageIT and Deutsche Bank are unreasonable and unfair, and we intend to defend against the action vigorously." Additionally, the spokeswoman claimed that as much as 90% of the activity alleged in the lawsuit occurred prior to Deutsche's acquisition of MortgageIT.
The purchase of lending companies for the purpose of increasing mortgage operations was common among some of the Wall Street firms including Deutsche Bank. Mortgage bonds, made up of pooled loans, were sold to investors, which proved to be profitable at the time, but ultimately added to the financial crisis faced by the nation. Loans that are backed by the FHA insurance program are sold to investors and representated as very safe Ginnie Mae securities. Purchasers of these loans typically include pension funds, insurance companies and central banks. The guarantee on these bonds is "akin to the full faith and backing of the U.S. government."
Of the 39,000 mortgages worth more than $5 billion, for which MortgageIT approved FHA insurance, more than 12,500 of the loans have proven to be uncollectible. Some of these loans went sour as soon as two months after the loan was closed. Consequently, the Department of Housing and Development has sustained $386 million in insurance claims as of February of this year for loans that were underwritten by MortgageIT. The government agency is facing an additional $888 million for defaulted loans for which claims have yet to be paid.
The lawsuit alleges, "While Deutsche Bank and MortgageIT profited from the resale of these government-insured mortgages, thousands of American homeowners have faced default and eviction, and the government has paid hundreds of millions of dollars in insurance claims." Additional allegations include breakdowns in required procedures, citing outside consultants' letters regarding underwriting violations that were ignored by MortgageIT. The suit accuses MortgageIT of not reading the letters at the time and that the letters were placed "unopened and unread" in a "closet" in the company's Manhattan offices.
The potential damages faced by the FHA due to this type of activity are enormous and the agency's projected reserves have fallen to $4.7 billion as of last September, 2010, "down from $21 billion three years earlier." The FHA could ultimately be forced to seek taxpayer support for the first time in its history, should the reserves be completely depleted.
U.S.Says Deutsche Bank Lied, The Wall Street Journal, May 4, 2011