Compliance & Regulation

On Tuesday, the House Financial Services Committee will hold a hearing on covered bonds backed by high-quality mortgages and consumer loans, a European market some U.S. legislators believe could become more influential in the United States and help fill in the gap left by the still-moribund mortgage-backed securities market. Rep. Scott Garrett, R-N.J., is hoping the hearing will lead to legislative action in the spring and help provide liquidity for the U.S. mortgage market. European banks have issued $180 billion in covered bonds backed by high-quality mortgages and consumer loans this year while U.S. mortgage securitization, outside of the government sponsored or guaranteed market, has been virtually nonexistent. "Because of the problems in the secondary mortgage market," covered bonds offer a way to provide needed liquidity for the U.S. mortgage market, said Mr. Garrett. A covered bond market would enable banks and thrifts to tap a low-cost, long-term financing while keeping the mortgage loans on their balance sheets. Covered bond investors know they have "dual" recourse and they can go after the bank or seize the underlying assets if the bonds go into default. In Europe, covered bonds have "performed well," despite the financial crisis, Rep. Garrett told reporters. (The bonds did suffer during the crisis but not to the extent securitizations did.) In 2008, the Treasury Department and the Federal Deposit Insurance Corp. issued policy statements on covered bonds and a couple large U.S. issuers experimented with them prior to the crisis. However, legislation is needed to assure investors they will be made whole if an issuing bank fails, according to Tim Skeet, head of covered bonds for Bank of America. "A legal framework is a necessary prerequisite to the establishment of a vibrant U.S. covered bond market," Mr. Skeet said at Rep. Garrett's press conference.

The House of Representatives on Friday passed a massive regulatory reform bill that, among other things, creates a new consumer protection agency with authority to set mortgage lending standards for all residential originators. The House passed the "Wall Street Reform and Consumer Protection Act" (H.R. 4173) by a 223-202 vote. The accepted language creates the Consumer Financial Protection Agency, a Washington regulatory body that would set industry-wide rules for mortgage lending and take over enforcement responsibilities from the federal banking agencies. An industry-backed amendment to gut the CFPA and turn it into a consumer protection council representing 12 regulatory agencies failed by a close vote of 223-208. The American Bankers Association said it opposes several sections of the 1,200 page bill, including the CFPA. "The breadth of authority granted to the director of the proposed new consumer financial regulator is unprecedented," said ABA president Ed Yingling. "This new regulator would not be responsible for considering institutional safety and soundness along with consumer protection." (ABA believes it's essential that safety and soundness and consumer protection oversight be performed by the same regulatory body.) The Mortgage Bankers Association also has issues with CFPA. But MBA and other industry groups were glad to see a bankruptcy cramdown amendment defeated by a 241-188 vote. "We are gratified that the House saw fit to vote down the bankruptcy cramdown amendment," said MBA chairman Robert Story. Earlier this year, the House passed a bill that would allow bankruptcy judges to cram down or reduce the principal amount of a homeowner's mortgage. The Senate rejected the cramdown bill.

The Federal Deposit Insurance Corp. is expected to rule on two matters Tuesday stemming from new accounting standards for off-balance-sheet assets. The agency is ready to complete an interagency rule bringing capital levels in line with a decision by the Financial Accounting Standards Board in June that required certain off-balance-sheet holdings, including securitizations, to be brought onto the balance sheet. As a result of the FASB change, the FDIC will also consider a proposal to restrict its safe harbor for securitized assets that are tied to failed institutions. Since securitizations have previously been separate from a bank's balance sheet, the FDIC has ordinarily not seized these assets when resolving failed institutions. But the FASB rule left investors and banks worried that the FDIC might change its policy. Last month, the FDIC said it would maintain the safe harbor until April but -- considering how securitizations contributed to the financial crisis -- propose conditions for use of the safe harbor in the longer term.

The Federal Bureau of Investigation is conducting several joint reviews of the Troubled Asset Relief Program, according to new testimony from FBI assistant director Kevin Perkins. Mr. Perkins told a Senate panel that the investigations are being done in conjunction with the Special Inspector General for TARP, Neil Barofsky. Mr. Perkins provided no details on what the investigations entail. The FBI in Washington declined to elaborate on the matter. Mr. Perkins, late this week, said mortgage fraud continues to "pose a significant threat" to the mortgage industry as well as to investors.

Orange County police have arrested three men for suspicion of breaking into the Newport Coast mansion of former subprime high-flyer Daniel Sadek. According to a report in The Orange County Register, Mr. Sadek founded and managed Quick Loan Funding, which originated roughly $4 billion in subprime mortgages before collapsing in 2007. The newspaper reported that three people at Mr. Sadek's home suffered head injuries during the home invasion, and one of them was taken to the hospital. No word yet on whether Mr. Sadek was present or if he was hurt. The former mortgage chief bought the Newport Coast mansion, a fleet of exotic cars, and enjoyed a little gambling. Court records list cash advances taken out on his credit card at casinos from Hawaiian Gardens to Lebanon, the OCR said.

The U.S. Attorney for Eastern District of Pennsylvania has indicted five people for a $14.6 million mortgage fraud scheme that resulted in at least 35 fraudulent loans. Named in the 15-count indictment are Edward McCusker and John Alford Bariana, owners of Axxium Mortgage Inc.; McCusker's wife, Jacqueline; and Jeffrey Bennett and Stephen Doherty, owners of the Doylestown law firm Bennett & Doherty, P.C. They are charged with conspiracy to commit mail fraud, wire fraud, and money laundering. Mr. Doherty is also charged with bankruptcy fraud. According to the indictment, the defendants targeted financially distressed homeowners facing foreclosure, falsely promised them help in saving their homes, engaged in real estate transactions with straw purchasers, and obtained dozens of fraudulent mortgages. The defendants allegedly took whatever equity the homeowner had left, funneled it through various shell corporations they controlled, used some of it to pay the new mortgages, and put the rest of the equity into their own bank accounts. Edward McCusker and Bariana, along with Jacqueline McCusker allegedly obtained the mortgages by submitting false documents to lenders and making false claims about the straw purchasers' finances, the indictment said. Doherty allegedly used fraudulent bankruptcy filings for some borrowers to delay foreclosure until McCusker had obtained an investor and a mortgage. Bennett allegedly handled the closings for the real estate transfers. Edward and Jacqueline McCusker, Jeffrey Bennett, and John Bariana face maximum sentences of 240 years imprisonment, $3.25 million in fines, three years supervised release, and a $1,200 special assessment. Stephen Doherty faces 385 years imprisonment, $4 million in fines, three years supervised release, and a $1,500 special assessment. Attempts to reach the defendants were unsuccessful by press time.

The National Association of Mortgage Brokers is encouraging its members to comment to the Federal Reserve before its Dec. 24 deadline on a rule that will ban yield spread premium payments. A letter sent to loan brokers asks them to "express your concern" on a YSP ban by telling the Fed "how this proposal will negatively impact your business and customers." The trade group says the Fed has acknowledged that in some cases YSPs can actually help borrowers "but believes that this benefit may be outweighed by costs incurred by consumers who obtain a higher interest rate or negative loan terms" including prepayment penalties. According to new figures compiled by National Mortgage News and the Quarterly Data Report, loan brokers in the third quarter, accounted for just 14.6% of originations - half of what they did two years ago.

The Department of Housing and Urban Development plans to lift the 1% cap on origination fees for Federal Housing Administration-insured loans, according to sources close to the agency. The change is expected to be unveiled within the next few weeks. HUD argues that competition will prevent fees from rising too much once a regulation overhauling up-front disclosures takes effect Jan 1. (FHA is the fastest growing niche in the market.) If borrowers think they are being overcharged, the thinking goes, they can shop around for a better price and potentially take their business elsewhere. "HUD feels the marketplace will drive origination fees down once the 1% cap is removed," said mortgage attorney Phillip Schulman, a partner in the K&L Gates LLP law firm. HUD has been hinting for a while that it might remove the cap when it completed a new Real Estate Settlement Procedures Act rule. However, the agency is expected to reserve the right to reinstate or add limits on fees charged to the borrower.

House and Senate appropriators are increasing the Department of Housing and Urban Development's resources to combat mortgage fraud, update its technology, while increasing the Federal Housing Administration's lending capacity to $400 billion. The conference report on the HUD appropriations bill for fiscal year 2010 includes $20 million to combat mortgage fraud, and $80 million to modernize its legacy computer systems. The appropriators also provide the HUD Inspector General with an additional $5 million to conduct audits of FHA-approved lenders. (Over the past week HUD banned two FHA lenders.) FHA endorsed $328 billion in loans in fiscal yeas 2009, which ended Sept. 30, and its business continues to grow. (The $400 billion figure is for FY 2010.) Ginnie Mae, which provides a secondary market outlet for FHA and other government-backed loans, is in line for a $185 billion increase in commitment authority to $500 billion in FY 2010, up from $315 billion in 2009. Congress is late in passing the FY 2010 budget bills. Democratic leaders have rolled the HUD appropriations bill into a consolidated appropriations bill that the House of Representatives is expected to pass soon. The timing in the Senate is unclear.

The Securities and Exchange Commission on Tuesday slapped the now-defunct Brookstreet Securities Corp., Irvine, Calif., with civil fraud charges, accusing it of causing "substantial investor losses" on the sale of $300 million worth of collateralized mortgage obligations. The SEC also charged company CEO Stanley C. Brooks with fraud for selling risky mortgage-backed securities to more than 1,000 customers that had "conservative investment goals." The SEC said the fraud cost Brookstreet investors their savings, homes and retirement money. The government says the company collapsed in 2007 because of these bad investments and continued to sell risky CMOs to retail investors even after Mr. Brooks received numerous indications and personal warnings that these were "dangerous" investments. One trader even called Brookstreet's program a "scam." At press time Mr. Brooks could not be reached for comment.