Banking Law

Depending on which way you roll with respect to our banking system, you may think US banks are the tools of Satan or are God's gift to"person-kind." Or, as some of you apparently do, you may think that they're simply a place that dispenses cash and collects overdraft fees. For many Americans, a meme that seems to ring true is that the subprime mortgage meltdown is primarily the result of Wall Street "fat cats" and their fellow travelers among the mortgage lending crowd taking advantage of the little guy person and "doing a bunch of junk" to him or her. In honor of that meme, I included in today's post a picture of what many Americans believe is that of the senior management of the typical mortgage lender.

Unfortunately for the "one-villain-fits-all-scenarios" crowd, it appears that for every minute that bore a borrowing sucker, that minute also bore a lending sucker.

When home sales began to slow at the start of the downturn, home builders offered buyers incentives -- instead of reducing prices -- to stimulate demand. The incentives included cars, tuition and credit-card payments, and even cash.

Now, federal investigators are questioning whether some of those incentives misled lenders and caused them to write mortgages that were artificially inflated, contributing to today's home-price crash.

Using incentives to sell homes has long been a marketing tool for builders. When properly disclosed and structured, the practice is legal. But the Federal Bureau of Investigation is looking into allegations that home builders, brokers and appraisers defrauded lenders by not disclosing unusually large incentives to buyers, which could have added as much as $100,000 to the price of a home.

Housing analysts say incentive schemes prolonged the housing boom in hot markets like Las Vegas and, consequently, have made the downturn all the more severe.

[...]

Interviews with real-estate agents, home buyers and former employees at home builders describe an industry where competitive pressures fueled unusually creative giveaways in a last-ditch attempt to prevent price cuts. Home builders hate to cut prices, not only because it reduces profit, but also because their customers who paid full price complain.

[...]

There aren't any strict limits on incentives, but they could run afoul of federal regulations if they cause the mortgage to increase by more than the cost of the incentive. "It's a phantom incentive to mask it in an excessive loan," says Brian Sullivan, a Department of Housing and Urban Development spokesman.

Defrauded mortgage lenders complain that they were relying on appraisers to determine market value. In some cases, it appears that appraisers were under pressure from large homebuilders to disregard the incentives in determining the appraised fair market value of the homes, with the implicit or explicit threat being made that they wouldn't get future business if they didn't play ball. Imagine that: a tactic that some lenders used to to browbeat appraisers into dummying up appraisals was used by some sellers to snooker lenders. Is there no honor among thieves market participants?

At the height of the real-estate boom, commissions in Las Vegas regularly reached double digits, real-estate agents say. Kurt DeWinter, a Henderson, Nev., agent, received a $70,000 commission on a $550,000 home from Beazer Homes USA Inc. two years ago. He says he gave half of that to the buyer.

"They didn't care what you did with the money as long as the buyer paid the price they wanted for the house," says Mr. DeWinter, who personally went into foreclosure in that same neighborhood on a $500,000 Beazer home. He says he received a $50,000 incentive from the builder, which he used for his down payment. Beazer didn't return calls seeking comment.

I assume that The Wall Street Journal hasn't been holding its breath awaiting a return call from Beazer. I think the only sound coming from that quarter will the sound of crickets chirping.

Nobody's going to weep bitterly over the fact that some lenders were bamboozled. That's not the American way. On the other hand, this story is more evidence that the rot caused by rampant greed ate through all segments of the mortgage lending industry, from borrowers all the way up the food chain to the very top in "New Yawk City."  All kinds of participants, including venal sellers, buyers, appraisers, and real estate agents, as well as greedy lenders, were busy bending their ethical principles out of shape like silly putty. Those participants who tried to stay honest throughout the process paid the price with lost business.

Sooner or later, as is usually the case, almost everybody gets what they so richly deserve.