Why the Proposed Robo-Signing Settlement is a Bad Idea
On Jan. 23rd, HUD Secretary Shaun Donovan met in Chicago with several Democratic state Attorneys General in an attempt to strong-arm them into signing on to an Administration-backed agreement to settle the so-called “robo-signing” scandal. The Wall Street banks would pay what sounds like a large fine ($25 billion), and, in exchange, the state AGs would relieve the bankers of all legal liabilities related to the fraudulent mortgage lending practices that directly led to the 2008 financial meltdown and a 30 percent drop in U.S. home prices.
Sadly, this is nothing more than another bail-out of the Wall Street banks, in addition to the $700 billion Troubled Asset Relief Program (“TARP”), the $7 trillion in loans to the banks from the Federal Reserve, and the Fed’s zero-interest rate policy, which has allowed banks to borrow from the Fed at zero while investing in U.S. Treasury bonds at four percent. The fraudulent practices of the mortgage servicers have injected an untold number of forged documents into the legal system, jeopardizing the clean titles to millions of homes around the country. The costs of cleaning up this legal mess will most likely be in the hundreds of billions of dollars, yet this settlement would let the Wall Street settle up with the state AGs for only $25 billion. Worse yet, most of this money would actually come from the pockets of investors who now own the mortgages in the form of mortgage-backed secuities, not from the perpetrators of fraud, and the rest would come out of the pockets of bank shareholders, rather than from the miscreants who perpetrated the fraud.
When a homeowner defaults on his mortgage, let us all agree that someone has the right to foreclose. The question is whom? In order to protect peasants from expropriation of their land by nobles, English Common Law, back in 1677, established the Statute of Frauds, which requires that all legal contracts involving land be in writing with “wet signatures.” Real property law in most states follows the Statute of Frauds in setting forth legal requirements for a lender to establish before the court that it has the legal right to foreclose and take the property of a borrower.
Herein lies the problem. In its rush to securitize poorly underwritten mortgages and foist them upon unsuspecting investors around the world, the Wall Street bankers decided that they did not have to play by the (legal) rules. They did not create and/or keep the original documents needed to prove to the property courts that a lender has the legal right to foreclose. The bankers didn’t care—because they no longer owned the mortgages; they only serviced the mortgages for investors to whom they had sold the mortgage-backed securities (“MBS”).
“No-doc” loans became “no-doc” foreclosures because servicers found it much cheaper to foreclose with forged documents than to restructure a mortgage, even when the restructuring is in the best interests of the investor who owns the mortgage. Losses on foreclosed properties go to the investors; the bank servicers get paid no matter how severe the losses.
When a few borrowers challenged “no-doc” foreclosures, the bankers responded by “re-creating” the originals—i.e., by forging and backdating signatures and notarizations; and then by committing perjury about their actions before the property courts. Borrowers (and the media) responded, in turn, by calling attention to the “perjury” and “forgery” problems that Wall Street prefers to peddle as “paperwork” problems.
Why does this matter so much? Because of what economists call “externalities;” what happens to the homeowner who is going into foreclosure affects each and every one of us. If there is one foreclosure in your neighborhood, the value of your house will fall by one percent; if there are five foreclosures in your neighborhood, the value of your house will fall not by five percent but by ten percent; and if there are ten foreclosures in your neighborhood, you might not be able sell your house at any price. Why?
When a delinquent homeowner vacates a house, it is more often than not, immediately vandalized by criminals who steal anything that can be sold for value, such as aluminum siding, copper pipes, and appliances such as heat pumps. This makes it impossible for the lender to sell the foreclosed house without investing tens of thousands in repairs, which they often are unwilling to do. Hence, the property becomes a haven for criminals in search of a private place to do their business.
Therefore, it is critically important that the state AGs, and property courts around the country, maintain the Rule of Law. If a bank has the legal right to foreclose, then it must follow the law by producing in court the legal documents required to back its claim. If the bank cannot produce these documents, then it must take the expensive legal steps to re-establish its legal rights; it cannot be allowed to simply forge copies of the original documents that it failed to maintain. Such forgeries have clouded the titles to the almost ten-million foreclosed properties seized since 2007, and will cloud the titles to the four-million properties that currently are headed into foreclosure. The costs of cleaning up the millions of titles to foreclosed homes, by themselves, will far exceed the proposed $25 billion settlement—by as much as an order of magnitude.
Instead of giving a free pass to the Wall Street banker who created the housing crisis, the state AGs should instead prosecute every instance of fraud, forgery and perjury within their jurisdiction. Flip the little fish into testifying against the big fish; then hit the big fish with jail time. Don’t leave bank shareholders holding the bag for the criminality of the Wall Street bankers who created the financial crisis. Now is the time for accountability, not for another big-bank bailout.
Note: An edited version of this entry appeared as an Op-Ed in The Washington Times on Monday, Jan. 30, 2012.
