By Aruna Viswanatha and Christina Rexrode
An appeals court dealt the federal government a major setback in
its efforts to punish big banks for the financial crisis,
overturning a mortgage fraud case against Bank of America Corp.
that has framed the Obama administration's legal strategy in
pursuing multibillion-dollar settlements with financial
institutions.
The court also tossed out a $1-million civil penalty against
Rebecca Mairone, a former executive at Countrywide Financial Corp.,
who was one of the few individuals fined for the financial crisis.
The decision suggests there could be new legal hurdles for the
administration's efforts to hold corporations and individuals
criminally and civilly liable for alleged misdeeds. Last year, a
memo from Deputy Attorney General Sally Yates urged prosecutors to
more aggressively pursue criminal and civil penalties against
corporations and executives, but Monday's ruling suggests the
Justice Department may already have overstepped their legal
authority in pursuing such cases.
The decision Monday by the Second Circuit Court of Appeals
raises the bar for the government to prove fraud, weakening a
weapon the Justice Department has used to push Wall Street to agree
to big mortgage settlements.
If it stands, the ruling could undermine the remaining
government investigations into crisis-era mortgage securities,
experts said, including those into European banks Royal Bank of
Scotland, UBS AG and others.
And while the ruling won't affect more than $40 billion in
mortgage-securities settlements the Justice Department already
reached with the biggest U.S.banks -- including J.P. Morgan Chase
& Co. and Citigroup Inc. -- it is a symbolic setback for the
government's aggressive pursuit of those claims.
Monday's ruling is the latest in a series of high-profile losses
by government prosecutors and regulators in recent years, both in
their attempts to punish financial crimes and to expand postcrisis
regulations. A 2014 case made it more difficult for the government
to pursue insider trading cases, forcing prosecutors to drop a
dozen cases in the past year and a half. A federal judge in March
overturned the federal government's attempt to impose stringent new
regulatory oversight on MetLife Inc. because officials had declared
the insurance giant as a potential threat to the global financial
system.
The appeals court Monday threw out a $1.27 billion penalty
against Bank of America over mortgages sold by its Countrywide
unit, in what had become known as the "Hustle" case. It revolved
around a civil lawsuit that the Manhattan U.S. attorney's office
filed against Bank of America in 2012. It alleged that a precrisis
Countrywide Financial Corp. program called Hustle had churned out
shoddy mortgages with a focus on quantity, not quality, and then
misrepresented those loans when selling them to Fannie Mae and
Freddie Mac, which had to be propped up by government money in the
financial crisis.
The Second Circuit's three-judge panel said the jury's findings
that the shoddy loans sold to Fannie Mae and Freddie Mac were below
the quality that had been promised might be considered an
"intentional breach of contract." But it said those transgressions
didn't constitute fraud, overturning a 2013 jury verdict that had
been a signature win for government officials widely criticized for
bringing few cases tied to the 2008 crisis.
Josh Rosenkranz, who represented Ms. Mairone, said the ruling
shows "this case was a massive government overreach from
inception," in which prosecutors "tried to take an allegation of
garden variety breach of contract and turn it into a fraud with
crushing and career-ending penalties."
While the ruling itself is a narrow one, it gets at issues that
underpinned the major settlements that banks signed to resolve
civil charges that they misrepresented the quality of loans
packaged into securities.
The Justice Department pursued the cases by dusting off a
little-used law enacted in the wake of the 1980s savings and loan
crisis, the Financial Institutions Reform, Recovery and Enforcement
Act, or FIRREA, which allows the government to civilly prosecute
fraud affecting federally insured financial institutions.
The government could appeal the ruling to either the full
appeals court or to the Supreme Court. Representatives of the
Justice Department and the U.S. attorney's office in Manhattan,
which brought the case, declined to comment.
A Bank of America spokesman said the company is "pleased with
the appellate court's decision."
The issue, the court said, turned on the timing of any
misstatements and whether at the time they were made, the bank or
its employees knew they were false. In this case, the panel said,
Countrywide entered into the contract to sell loans to Fannie and
Freddie long before the alleged scheme to defraud the housing
entities took place.
The judges' decision could encourage other companies to push
back against government prosecutions, even though most big
financial institutions have generally preferred to settle such
disputes rather than go through the public scrutiny of a trial. The
case and the favorable verdict for the government helped pave the
way for multibillion-dollar settlements with top banks for alleged
financial crisis misdeeds under a similar theory.
The Hustle penalty was relatively small compared with other
fines paid by the bank, but it was an important anecdote in the
government's arsenal in its push for bigger penalties against the
banks over related charges. Three weeks after a judge set the
Hustle penalty -- which was higher than Bank of America had
expected -- the bank agreed to a $16.65 billion mortgage-securities
settlement with the Justice Department.
The charges and trial took observers deep inside Countrywide,
which is often seen as a central player in the mortgage meltdown.
According to the government, the firm accepted borrowers'
applications without checking that income levels and other
information was reasonable. It awarded bonuses to employees who
could make the case that a loan deemed defective by corporate
auditors was in fact eligible for sale to Fannie and Freddie, with
little regard for whether customers would be able to repay
them.
Ed O'Donnell, a former Countrywide executive, was the
government's star witness in the trial, testifying that he was
ignored when he alerted his bosses to deterioration in the quality
of the mortgage loans.
He didn't receive any money from the case since it went under
appeal. He did, however, receive nearly $58 million for a separate
lawsuit against Bank of America.
Write to Aruna Viswanatha at Aruna.Viswanatha@wsj.com and
Christina Rexrode at christina.rexrode@wsj.com
(END) Dow Jones Newswires
May 23, 2016 16:10 ET (20:10 GMT)
Copyright (c) 2016 Dow Jones & Company, Inc.
Bank of America (NYSE:BAC)
Historical Stock Chart
From Feb 2024 to Mar 2024
Bank of America (NYSE:BAC)
Historical Stock Chart
From Mar 2023 to Mar 2024