A federal court in Newark has issued an order effectively requiring CUMIS Insurance Society to cover millions of dollars of losses suffered by Sperry Associates Federal Credit Union in the massive mortgage fraud committed by U.S. Mortgage and its CU National Mortgage unit.
The ruling, which came Friday, could be costly for the credit union insurer which is also disputing insurance claims made by two other credit union victims of the $140 million fraud: Picatinny FCU and Proponent FCU. CUMIS is part of The CUNA Mutual Group.
Picatinny has a $14 million claim and Proponent a $22 million claim.
CUNA Mutual on Monday said it plans to appeal the ruling. "The Trial Court's decision is unfortunate, and represents an overly broad interpretation of who is covered under the Bond's Employee Dishonesty coverage," said the company in a statement. "But in cases involving complex legal issues like this one, it is often up to the appellate courts to render a final decision, and we intend to seek appellate review in this case."
In issuing a summary judgment for the credit union, the U.S. District Court for the District of New Jersey sided with Sperry's claims and rejected CUMIS's argument against coverage because the sale was outside the bounds of the mortgage servicing activity insured under its bond. Sperry is based in Garden City, N.Y.
The court also rejected CUMIS's position that the credit union's claims weren't covered under its bond because McGrath was not an employee under the "Servicing contractor" definition; and that reports reflect that loans remained in the Sperry portfolio and were not fraudulently stolen, even though they had been assigned to CU National.
The case surrounds the fraudulent sale of the mortgages the company was servicing to Fannie Mae by Michael McGrath, president and founder of U.S. Mortgage, who was sentenced to prison last year for the fraud. McGrath sold mortgages he was servicing or holding for 28 credit unions to Fannie Mae and used the money to prop up his failing business as the mortgage market was cratering.
Most of the credit unions have settled disputes with both Fannie Mae and CUMIS amounting to about 90 cents on the dollar. But several claims persist. Sperry Associates, one of the biggest claimants in the case with some $9 million, also has a suit pending against Fannie Mae.
Sperry sued CUMIS in January 2010 for breach of contract, bad faith, and declaratory relief, after the credit union insurer denied its claim in the case. In denying the bond claim CUMIS said "the Bond does not include the selling of loans to secondary investors in its definition of 'servicing contractor' . . . that contractor is not an 'employee' under the Bond while performing services related to those sales.”
CUMIS said "If the evidence showed that US Mortgage/CU National sent out false reports (which it does not), then US Mortgage/CU National would not have been servicing the Sperry loans when it sent out these false reports because under this scenario, Sperry would no longer have owned the loans at issue."
But the court ruled that “CUMIS's argument is unavailing because it ignores that the dishonesty was within the scope of a performed duty: but for the covered activity of collecting and recording loans, the fraud could not have been originated, perpetrated, nor concealed.”
“This is clear based on an examination of McGrath's Affidavit which attests that (CU National) " falsely represented to Sperry that the loans remained in their servicing portfolio and continued to be serviced by CU National as provided for in the service agreement engaged in this conduct as a servicer which allowed CU National to continue to make the unauthorized loan sales without being discovered by Sperry; McGrath testified he was never authorized by Sperry to sell these unauthorized loans and purposely concealed the unauthorized sales by, in part, continuing to service the loans.
