Published: January 2007

Brokerage held liable in predatory mortgage loans

When investors are held liable for the actions of the companies they fund and the mortgage loans they purchase on the secondary market, it can have a chilling effect on predatory lending practices. In an important recent case, a federal appeals court upheld a lower court decision that Lehman Brothers knowingly participated in fraudulent predatory loans being made to subprime borrowers.

In a recent ruling, the U.S. Court of Appeals reaffirmed a lower court decision that Lehman Brothers brokerage was guilty of knowingly participating in fraudulent predatory loans being made to subprime borrowers. In late December 2006, the 9th Circuit Court of Appeals ruled that Lehman Brothers was an assignee who could be held liable for “aiding and abetting” a multimillion dollar predatory lending scheme.

Most mortgage loans are sold after closing to an investor. An “assignee” is a party who purchases the loan. According to the Center for Responsible Lending, when “assignee liability” exists, the borrower is allowed to pursue legal claims against the assignee when the loan transaction involved illegal or abusive terms.

Lehman Brothers was the lender and underwriter for First Alliance Mortgage Company’s (FAMCO) debts. Famco was the defendant in lawsuits accusing it of deceptive and discriminatory practices in providing high cost subprime mortgages to homeowners.

According to the U.S. Court of Appeals, “First Alliance employees would … persuade borrowers to take out loans with high interest rates, hidden high origination fees, points or other ‘junk’ fees of which the borrowers were largely unaware.”

The Appeals court said the “key to the fraud” was that FAMCO loan officers would mislead borrowers into believing that the cost of the subprime loans were far less than the actual total, ignoring costly fees and points that often added 11% to the amount borrowers thought they had agreed to.

The court concluded that Lehman Brothers provided funding for FAMCO even while knowing that mortgages were made using fraudulent and deceptive techniques. The court said that without Lehman Brothers financing FAMCO would not have been able to continue funding its fraudulent loans.

FAMCO filed for bankruptcy in 2002 and settled with 18,000 borrowers. A jury found Lehman Brothers jointly responsible for the fraudulent activity. The court ordered Lehman Brothers to pay $5 million to borrowers, leading to the brokerage house's unsuccessful appeal.

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Credit   ♦   Housing   ♦