Big banks could face mortgage fraud charges

Wall Street and Stock Exchange, arrow pointing downward. CBS/iStockphoto/AP

The SEC appears to be on the verge of doing what the Justice Department has yet to attempt -- prosecuting the biggest players responsible for the mortgage securities fiasco that trashed the U.S. economy.

The securities watchdog has sent so-called Wells notices to Goldman Sachs (GS), JPMorgan Chase (JPM), and Wells Fargo (WFC), indicating that the agency may recommend enforcement proceedings against the banking firms. The investigation seems to focus on whether the companies misrepresented the quality of securities based on subprime mortgages that they bundled and sold to investors in the years leading up to the 2008 financial crisis.

A move by the SEC to file suit would represent the federal government's strongest legal measure to date against Wall Street banks in connection with the mortgage meltdown. Despite ongoing investigations, the Justice Department so far has refrained from filing criminal charges against the firms for their role in the housing crash. It also ended related investigations into the country's biggest subprime lenders, including Countrywide Financial, IndyMac, and New Century Financial, after deciding not to prosecute the firms.

Lanny Breuer, head of the criminal division at the Justice Department, in December defended his agency's record of pursuing financial fraud in an interview with CBS TV program "60 Minutes."

"If a company is intentionally misrepresenting on its financial statements what it understands to be the financial condition of its company and makes very real representations that are false, we want to know about it. And we're gonna prosecute it," he said. 

One explanation for the lack of federal prosecutions is that regulators have concluded that big banks' mortgage practices during the housing boom may have been reckless or unethical, but stopped short of being illegal. It isn't against the law to sell securities that go bad so long as firms don't do so knowingly. Criminal suits also face a higher burden of proof than civil cases. So prosecutors may not have brought charges out of concern that they couldn't make them stick.

While this is plausible in complex cases, it doesn't explain why charges have yet to be brought against a major bank concerning forged mortgage documents, which lenders admitted to following government and state probes into "robo-signing." Even a cursory examination of subprime mortgages issued between 2005 and 2007 turns up evidence of rampant and systematic fraud, from misrepresenting borrower information to faked signatures.

Proceeding with civil, rather than criminal, actions against major banks also could let individuals off the hook for their misdeeds. As New York Times reporters Louise Story and Gretchen Morgenson write, "The lack of criminal inquiries by the government means that restitution is often paid by innocent parties -- shareholders -- who have already been hurt by the questionable conduct."

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    Constantine von Hoffman is a freelance writer and writing coach. His work has appeared in outlets such as Harvard Business Review, NPR, Sierra magazine, Brandweek, CIO, The Boston Herald, TheStreet.com, CSO, and Boston Magazine.

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