Citigroup Becomes First Lender to Cave to Mortgage Principal Reductions by Bankruptcy Judges

Posted on January 10, 2009 by Isaac Gradman

It’s official: the first domino has fallen.

The L.A. Times has reported that Citigroup Inc. has agreed that bankruptcy courts should be allowed to change the terms of mortgages, including ordering reductions in the principal amount of loans, as part of court-ordered debt restructuring for troubled borrowers. In doing so, Citigroup becomes the first major mortgage lender to buck the industry’s fierce opposition to this change in the nation’s bankruptcy laws, currently being proposed in the U.S. Congress.

Though legislators and consumer lobbying groups have been calling for this change for years, and this chorus of calls grew markedly louder during 2008, the unified opposition of the industry and Republican lawmakers (as well as a few Democrats) have thus far combined to defeat this change–even as part of the $700 billion TARP bailout bill in the fall. Their argument? That giving bankruptcy judges this power would increase the cost to future homeowners and reduce available credit. In the climate of the previous ten years, a reduction in credit to potential homeowners was considered a very bad thing.

But now the U.S. economy has experienced a reduction in credit across the board and with foreclosures skyrocketing, the focus has clearly shifted away from preserving cheap credit to providing aid to existing homeowners struggling to make their monthly payments.

Lawmakers believe that Citigroup’s acquiescence will encourage other major banks and mortgage lenders to follow suit, bringing about a logical expansion to the powers of bankruptcy judges. Indeed, Chapter 13 already allows judges to to reduce the principal balances of auto, credit card and other loans, but have been completely restricted from doing so in the mortgage context.

So why the turnabout? No, Citigroup did not suddenly find a soft spot for troubled borrowers. Instead, the current economic climate and the new administration appear to be the primarily drivers of this change in course. The Obama administration has made this reform a central part of its economic package, and legislators are eager to provide aid to its constituents clamoring for relief in the face of a housing crisis and a deepening economic downturn. Citigroup sees the writing on the wall, and likely believes its best approach is to achieve what concessions it can now, before the tide turns completely against it and its holdout becomes irrelevant. It probably doesn’t hurt that Citigroup also fears that the nice stream of income coming in from the government’s $700 billion bailout fund could dry up quickly if it continues to hold out.

The concessions Citigroup has demanded actually form the most intriguing aspect of this shift. As reported in the L.A. Times article:

Citigroup said it would support [Senator Richard] Durbin’s legislation provided that it applied only to mortgages in effect before passage of the act. To be eligible, borrowers would have to contact their lenders and try to work things out before filing for bankruptcy.The company also said it would support the proposal only if a provision was eased that would void the mortgage if the lender was found to have violated consumer protection laws.The exception would be if the lender violated specific sections of the Truth in Lending Act that already carried such rescissions of mortgages as penalties

What does this all mean? Most obviously, Citigroup wants this change in the law to be a temporary measure, available now to provide relief, but not available to any new homeowners going forward. But what about the second part–easing provisions that would void the mortgage if Citigroup was found to violate consumer protection laws? Something tells me Citigroup is aware of widespread violations of these laws on its part and is afraid that homeowners will band together to obtain rescissions of their mortgages en masse. As discussed in a prior posting here, the Seventh Circuit has recently ruled that Truth-in-Lending-Act (TILA) violations could not form the basis for class action complaints. But, that’s just one court’s take on an issue that is still open for the debate. And in this current economic and political climate, as Citigroup’s capitulation demonstrates, the tides can turn in the blink of an eye.

Posted in bailout, bankruptcy, Barack Obama, cheap money, Citigroup, class actions, contract rights, homeowner relief, legislation, loan modifications, recession, Seventh Circuit, TARP, TILA, workouts | 2 Comments

Navigant Publishes Press Release on Subprime Litigation Study

Posted on December 24, 2008 by Isaac Gradman

Navigant Consulting has put out a press release with respect to its latest study, entitled Third Quarter 2008 Update: Breaking New Ground, which details the unprecedented rise in subprime mortgage-related litigation.

Besides the eye-popping statistics showing the exponential rise in subprime mortgage-related filings over the last 21 months–far exceeding those from the Savings and Loan Crisis to make the Subprime Meltdown the most litigated financial crisis in history–the study provides a window into the pervasiveness of this financial disaster. According to the release, Navigant’s study found that “virtually every participant in the subprime collapse is being sued. Fortune 1000 companies were named in 56 percent of cases. Mortgage Bankers and Loan Correspondents represent the highest percentage of defendants (32 percent) but defendants also include mortgage brokers, lenders, appraisers, title companies, homebuilders, servicers, issuers, underwriting firms, bond insurers, money managers, public accounting firms and company directors and officers, among others.”

This study should represent a wakeup call to anyone who still believes this crisis is an isolated problem. Due to the complex nature of the mortgage securitization process, which required the participation of dozens of players (see graphic at the top of this page), combined with the liquidity crisis spawned by the collapse of the market for such securities, few (save, perhaps, expert witnesses and litigators involved in the cleanup) will be immune to the fallout from the subprime dilemma.

For more on this study, see my post from last week.

Posted in broader credit crisis, impact of the crisis, lawsuits, litigation, Navigant Consulting, recession, subprime | Leave a comment

Countrywide Attorney Sends Letter to Greenwich Financial’s Counsel Urging Hedge Fund to Withdraw Lawsuit

Posted on December 23, 2008 by Isaac Gradman

In a peculiar turn of events, Countrywide Financial has attempted to address the recently-filed lawsuit against it by Greenwich Financial Services with an age-old strategy of conflict resolution: just ask nicely.

As reported by Reuters, Countrywide attorney John Beisner, from the law firm O’Melveny & Myers LLP, has sent a letter to counsel for hedge fund Greenwich Financial Services asking it to withdraw its recently-filed action to require Countrywide (now BofA) to repurchase hundreds of thousands of mortgages. The action asserts that investors would be improperly required to bear the cost of the loan modifications Countrywide agreed to under its settlement with attorneys general from more than a dozen states (see prior postings detailing this saga here).

According to Reuters, which reports that it has obtained a copy of the letter, Beisner informed Greenwich counsel Grais & Ellsworth LLP that Greenwich “lacks standing to sue” under contract provisions limiting the right to sue, including by requiring that 25 percent of bondholders request such litigation. Beisner also points out that there is “no class action exception to its very clear requirements, and class action procedures do not excuse litigants from satisfying contractual requirements.” Beisner thus encourages Greenwich to withdraw the suit, adding that “[w]hatever may be motivating the lawsuit, your legal theory is wrong; Countrywide has authority to make the planned modification, and it intends to do so.”

If Countrywide believes that Greenwich lacks standing, it would ordinarily file a motion to dismiss (or demurrer) advancing this argument and requesting that the court dismiss the action. It is unclear whether this letter serves a strategic purpose with respect to the pending lawsuit, or is merely a publicity ploy that enables Countrywide to get its views on the lawsuit into the public domain prior to having to file such a motion. Either way, the letter is unlikely to have any impact on Greenwich’s desire to pursue its claims, unless the letter also contains an overture for settlement discussions. In fact, I view the letter as a sign that Countrywide is nervous about the lawsuit, and is trying to nip it in the bud before adverse legal or public relations consequences manifest themselves. Indeed, the suit threatens to throw a wrench in the loan modification process, not just for Countrywide, but also with respect to larger, government-sponsored workout plans. We will continue to follow this entertaining legal saga as it unfolds.

[I have not yet been able to track down a copy of the letter, but check back later in the week for an update. If anyone has seen a copy, please let me know – IMG]

Posted in Attorneys General, BofA, class actions, Countrywide, Greenwich Financial Services, hedge funds, lawsuits, litigation, loan modifications, motions to dismiss, press, repurchase, settlements, workouts | Leave a comment

Newest Navigant Study Released: Shows Unprecedented Volume of Credit Crisis Litigation

Posted on December 19, 2008 by Isaac Gradman

Navigant Consulting, Inc. (NCI), a global consulting firm that releases quarterly reports on subprime mortgage and related case filings in the federal courts, released their newest study today, and the results are staggering (see MSN Money article here).

The report, entitled Third Quarter 2008 Update: Breaking New Ground, shows an unprecedented volume of cases stemming from the subprime mortgage crisis and related financial crises. Since January 1, 2007, 742 subprime mortgage-related cases have been filed in the federal courts, far exceeding the total number of cases arising out of the Savings and Loan crisis of the 1990s (which, at 559 cases, stood as the previous high-water mark for litigation stemming from a major financial crisis).
The report also shows an alarming rate of increase in case filings over the last year, a trend that promises to become more pronounced as economic conditions continue to worsen. The number of subprime-related case filings in the first three quarters of 2008 alone (448) already exceeds the total for all of 2007 (294) by over 52%!
The report also breaks down the categories of lawsuits, and notes a downward trend in the number of borrower class actions (which had been the previous leading category), while the number of securities lawsuits, contract disputes and investor actions increased sharply.
It’s important to keep in mind that the Navigant reports only track the cases filed in federal court, meaning the total litigation impact of the subprime crisis is much greater. Many times more subprime-related cases, such as contract disputes and misrepresentation actions, have been brought in state court over the last 21 months. Also, we can expect to see these filings increase as a result of, not just worsening market conditions, but the increased success of completed and existing suits (see prior posting here). As discussed previously, with the emergence of more details about the economic causes of the crisis and the unchecked lending culture that fueled this meltdown, the prospects of recovering subprime-related losses through litigation will only improve.
Posted in broader credit crisis, causes of the crisis, class actions, investors, lawsuits, litigation, misrespresentation, Navigant Consulting, Savings and Loan crisis, securities, subprime | Leave a comment

Plaintiffs Survive Motions to Dismiss in Major Subprime Class Actions Against New Century and Countrywide

Posted on December 15, 2008 by Isaac Gradman

The American Lawyer has reported that two important rulings were handed down earlier this month in the United States District Court in Los Angeles denying motions to dismiss class actions against former mortgage behemoths Countrywide and New Century. The Countrywide ruling was handed down by district court judge Mariana Pfaelzer, while the ruling against New Century was authored district court judge Dean Pregerson.

In the latter, Judge Pregerson had previously dismissed the case without prejudice, providing lead plaintiffs’ firm Bernstein Litowitz Berger & Grossmann an opportunity to amend the complaint to establish better support for their allegations of scienter (guilty knowledge) and loss causation. On the second go-round, plaintiffs had the benefit of the New Century bankruptcy trustee’s report, which reads like a how-to manual on unsustainable growth and contained juicy details regarding the financial hijinks that had been going on at the mortgage giant (I especially like the section on Loan Quality starting at p. 109, which discusses the importance of loan quality to a lender, the fact that New Century recognized it had loan quality problems as early as 2004, and the fact that New Century “devoted little attention to improving loan quality until 2006 and did not focus specific attention until the final quarter of 2006, which was too late to prevent the consequences of longstanding loan quality problems in an adversely changing market.” Sounds kind of familiar, doesn’t it?).

Up to this point, not many early subprime class action cases have made it past the demurrer or motion to dismiss phase of the proceedings (see report by Gibson Dunn & Crutcher on early trends in subprime fraud litigation). However, as additional fodder emerges regarding the goings-on at some of the larger lenders and mortgage originators, from bankruptcy reports, lawsuits, or other independent reports (see, for example, this fascinating report on IndyMac Bank from the Center For Responsible Lending (CRL)), we can expect to see plaintiffs’ attorneys having more success in laying out specific factual allegations of negligence, fraud, concealment and other claims requiring scienter. Judging by some of the accounts of former employees from the CRL Report on IndyMac and others, there certainly was no shortage of mortgage fraud being perpetuated by many lenders as they strained for greater volume during height of the subprime boom; it’s only a matter of time before plaintiff’s attorneys learn how to dig up and incorporate these details into compelling class action complaints.

Posted in bankruptcy, class actions, Countrywide, IndyMac, lawsuits, litigation, loss causation, mortgage fraud, motions to dismiss, New Century | Leave a comment