Big banks naked on the porch

The Financial Review

PUBLISHED: 25 Feb 2012

Anna Bernasek

Try as they might, big US banks can’t seem to get away from the foreclosure mess. About 4 million American families have already lost their homes in foreclosures since 2007. And there may be a million or so more to come. Now some strong evidence has come out that, in the banks’ rush to get paid, laws have been broken.

The whole saga reminds me of a Bible story. In it, a king calls his servant onto the carpet to repay a huge debt. The servant begs for time, and, moved with compassion, the king forgives the debt. Soon after, the fortunate servant finds a fellow servant who owes him a tiny amount. Catching his unlucky peer by the throat, he demands his money on the spot. The moral contrast is clear.

Now look at recent history. Back in 2007, the US megabanks teetered on the brink of collapse only to be rescued by the unprecedented generosity of the federal government. The bank bailout was an immense benefit to the owners and executives of those big banks, providing them time and resources to limp back to solvency. And keep in mind that this was no random disaster. The crisis itself was created and inflated by the banks themselves, fuelled by unprecedented leverage and shoddy risk management.

A king-sized recession ensued. Employment went in the tank. More than a few home owners saw their principal asset, their home equity, wiped out. Soon, millions of families faced their own hour of need, unable to pay their mortgages and begging for time. The rest is history. Loan forgiveness or modifications were few and far between. Instead, a massive wave of foreclosures and their attendant misery swept across the country.

As if that wasn’t bad enough, it seems the banks and their agents had the audacity to run roughshod over the law. In their rush to get repaid, banks and their agents appear to have ignored long-standing laws and procedures that protect individual rights.

It’s a sorry picture.

Signs of foreclosure abuse first emerged two years ago when an employee of Ally Financial admitted he had signed hundreds of foreclosure documents daily without reviewing them. For months after that more anecdotal evidence emerged suggesting that so-called robo signing was widespread. One by one, major banks suspended foreclosures while they investigated.

Since then, new evidence has come to light that abuses are widespread and far more significant than just robo signing.

A recent audit by San Francisco county officials of 400 foreclosures sheds some light on what has been going on. The audit found that nearly all of the 400 cases involved apparent legal violations or suspicious documentation.

In 85 per cent of those cases, documents recording the transfer of a defaulted property to a new trustee were not filed properly or on time. In another 45 per cent of cases, foreclosure properties were sold at auction to entities improperly claiming to be the beneficiary of the deeds of trust. And 8 per cent of the time, the loan servicer did not even take the step of giving borrowers notice.

The states of Florida, California, Illinois, New York and New Jersey account for 53 per cent of loans in foreclosure but represent only about 33 per cent of all loans.

Banks say that if borrowers are behind on their payments it matters little if they are foreclosed upon a little sooner. They were going to lose the home anyway.

Maybe. But surely some fraction of those affected could have kept their homes, given more time or flexibility. What makes the foreclosure mess so disturbing is that it involves society’s weakest and most vulnerable members.

A few weeks ago, five of the biggest banks in the nation tried to pave over the mortgage mess with a settlement approved by government and state officials.

Ally Financial/GMAC Mortgage, Bank of America, Citigroup, JPMorgan Chase and Wells Fargo agreed to pay $25 billion ($23.5 billion) in cash to borrowers who were foreclosed upon, engineer some principal reductions and offer some refinancing in return for guarantees that banks couldn’t be sued over foreclosure violations.

It looks like a good deal for banks. Cash payments amount to about $1000 to $2500 a family. That won’t come close to putting anybody back in a home.

No one has taken responsibility for the foreclosure mess and the problem remains. Banks can still hire shady operators to do their dirty work and then pretend they are shocked at the consequences.

The San Francisco audit suggests there’s more evidence to come out about the banks’ irresponsible foreclosure practices. Until banks come clean and address the mess they created, Americans will trust them less and less.

And remember how the Bible story ends. When the story of the unforgiving servant gets back to the king, things don’t end well for the servant.

Anna Bernasek writes on financial markets, the economy, Wall Street and public policy from New York. She is the author of The Economics of Integrity.