Monday, December 26, 2011

Holder/DOJ Score 1 Against Bank of America for Home Loan Discrimination

Underneath all of the Payroll Tax Cut news that flooded the airwaves last week was another story that was just as important: the Department of Justice ("DOJ"), led by Attorney General Eric Holder, successfully sued sub-prime mortgage lending giant Countrywide Financial Corp. (owned by Bank of America) for a record-breaking $335 Million for discriminating against over 200,000 Black and Latino home buyers during the height of the 2004-2007 mortgage bubble.   As you may recall, after the housing market collapse jump-started our current recession in 2008, an intense session of finger pointing ensued.  Conservatives like Michelle Bachmann took the position that the problem was caused by poor first-time home buyers (read Blacks & Latinos) who were forced upon the banking industry by big government interventions such as the Community Reinvestment Act.  Progressives like Chris Dodd & Barney Frank took the position that Wall Street preyed upon minority first-time home buyers, often giving them more profitable sub-prime mortgages even though they qualified for regular mortgages.  This victory by the DOJ against the banks finally settles that debate:

According to the DOJ's complaint, Countrywide charged over 200,000 African-American and Hispanic borrowers higher fees and interest rates than non-Hispanic white borrowers with a similar credit profile. The complaint says that these borrowers were charged higher fees and rates because of their race or national origin rather than any other objective criteria.

The United States' complaint says that Countrywide was aware that the fees and interest rates that its loan officers were charging discriminated against African-American and Hispanic borrowers, but failed to impose meaningful limits or guidelines to stop it.
By steering borrowers into subprime loans from 2004 to 2007, the complaint alleges, Countrywide harmed those qualified African-American and Hispanic borrowers. Subprime loans generally carried costlier terms, such as prepayment penalties and significantly higher adjustable interest rates that increased suddenly after two or three years, making the payments unaffordable and leaving the borrowers at a much higher risk of foreclosure.
"Countrywide's actions contributed to the housing crisis, hurt entire communities, and denied families access to the American dream," said Thomas E. Perez, Assistant Attorney General for the Civil Rights Division.
The settlement amount will be used to compensate victims of Countrywide's discriminatory mortgage loans from 2004 through 2007, when Countrywide originated millions of residential mortgage loans as the nation's largest single-family mortgage lenders. 
In order to put this law suit into context, it may be helpful to revisit some of our previous discussions on the topic of sub-prime mortgages.

What Is a Sub-Prime Mortgage?
In The Storyteller's post Working For Less: Returning to Chains (Part 1) we took a look at what separates the regular mortgage scenario from the sub-prime mortgage scenario. In the comment section we said the following:

In normal times (ie. BEFORE the free market created the sub-prime mortgage fiction out of thin air) if a person wanted to buy a home they went to a bank and took out a loan.  In exchange for the home loan, the bank placed a lien on that person's home that entitled - but did not obligate - the bank to foreclose on the home in the event that a person became delinquent in making their monthly loan payments.  It should be noted that under this standard model, there are only 2 parties involved: (1) The Home Owner and (2) The Bank.  In the event that the home owner fell on hard times, the bank had the option to work with the Home Owner on lowering or deferring the monthly payments until the Home Owner got back on their feet.  This is key.

Under the sub-prime mortgage backed security system created by the free market (not to be confused w/ the government), a third party was introduced into the Home Owner-Bank model: The Investor.  This changed everything.  Under this system, if a person wanted to buy a home they went to a bank and took out a loan, and the bank now had the choice of giving that person a traditional loan or a sub-prime loan (a loan that starts off with low payments but that balloons to higher payments after X years) which the bank could then turn around and sell to Wall Street which in turn took that loan, bundled it with other loans and then marketed them as a package to investors and leveraged their proceeds at rates as high as 35 to 1 (lending out 35 dollars for every 1 dollar in their possession) when banks normally only lend out money at rates around 9 to 1.  Under this model, if a Home Owner fell on hard times the Bank had no flexibility to work with the Home Owner because now the Bank has to answer to the Investors.    Whereas before, missing a monthly payment meant sitting down with a loan officer at the Bank and working out a plan, under this new model missing a monthly payment means that the Bank is defaulting on its obligations to the investors.  Thus, homes that would not necessarily have been foreclosed on were now being foreclosed on because of the obligations to investors.

Multiply that a million times and now you have the housing market crash followed closely by the near collapse of all the banks that financed the housing market.
As you can see, it was more profitable for the banks to issue sub-prime loans than it was for them to issue regular loans which were not sold to investors.  This set the stage for what ultimately ended up happening in the Countrywide case.

How Does the Community Reinvestment Act Play Into All of This?
Good question.  As this law is often cited frequently by conservative politicians as a scapegoat to our current recession, it is important to understand what role it played in the housing bubble.  The Community Reinvestment Act ("CRA") was passed by Congress in 1977 and then amended under President Bush 41 and President Clinton to require federal agencies - not the banks - to dedicate a portion of their operations to affordable housing.  This meant encouraging banks to lend to lower-income first-time home buyers.  The criticism of those on the Right is that this "forced" the banks to give loans to poor minorities who had no business receiving a home loan.  However, when we look beyond the sound bites, the facts do not support this position.

First, it is notable to observe that "lower-income" does not mean lower credit score. It simply means lower-income.  Thus, it is possible to make quality loans to those with lower-incomes without giving loans to people with credit scores in the 300's.  Second, and more importantly, the government cannot require or force private banks to make loans.  Period.  This fact strikes at the heart of the criticism taken by those like Bachmann because in order for her claims to be true, the government would first need to be able to control the lending decisions of banks. It simply does not have this power.

What the CRA did was to offer federal funding incentives to those banks which loaned to qualified low-income home buyers as a means to encourage home ownership among minorities and disadvantaged Whites who otherwise would not have had the opportunity to own a home.  What the CRA did not do was require lenders like Countrywide to issue sub-prime mortgages when it could have chosen to issue regular mortgages.  If such were the case, Bank of America would have had grounds to automatically dismiss the entire action here.  Instead, they had to settle this suit for a record amount.

The Take Away:
If there is a take away here, it is this: the banks -- and not poor people -- wrecked our economy in 2008 through their reckless and predatory lending practices.  This law suit confirms that fact.  Despite which side of the fence you may come down on with respect to the Occupy Wall Street crowd, it is difficult to take the position that, despite all the evidence to the contrary, the banks are completely blameless in causing the recession or the housing bubble which preceded it.  From the predatory lending practices against minorities, to betting against their own clients' investments that the banks knew would fail, to attempting to hedge the losses of assets that they knew to be toxic by using credit default swaps, to taking bail-out money from the federal government and then paying themselves record-level bonuses in the same year, the American people have seen the Banks get over on "We the People" time and time and time again without so much as a slap on the wrist.  Thanks to Eric Holder and the Department of Justice, the people have finally scored one against the banks.

1. Will this case change the behavior of the free market predatory lenders?
2. Why is this case not receiving more publicity in the press?
3. Did the housing market crash due to too much government regulation?
4. Did the housing market crash due to too many unqualified minority home buyers?
5. What is your position on the housing bubble?
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