Banks Say No. Too Bad Taxpayers Can’t.

Fair Game

Banks Say No. Too Bad Taxpayers Can’t.

By GRETCHEN MORGENSON

NYTimes, June 4, 2010

FROM the earliest days of the credit crisis, the nation’s big financial institutions have been less than forthcoming about ballooning loan losses buried inside their books. To some degree this is understandable: denial is a powerful thing, after all, and writing off troubled loans during a period of severe stress is, for bankers, the equivalent of getting a root canal.

As profits rebound at many of these institutions, however, artful dodging becomes more disturbing. And when disguising problems winds up harming the taxpayer — the same folks who rode to the rescue of banks with billions of dollars — the denial is downright exasperating.

Among the more glaring bookkeeping fictions on big banks’ balance sheets today are the values they assign to all of the bounteous second mortgage loans. doled out during the mortgage bonanza. As any realist will attest, many of these loans are worth little, and yet there they sit, at fantasy levels, on banks’ ledgers.

Refusing to face reality on second liens ultimately hurts shareholders. But taxpayers are the ones holding the bag when institutions try to avoid losses by refusing to buy back problem loans they have sold to Fannie Mae and Freddie Mac, the mortgage finance giants that are wards of the state.

Fannie and Freddie helped grease the nation’s housing machinery before and during the boom years, scooping up loans from all corners of the country. The more of these that Fannie and Freddie bought, the easier it was for banks to write new mortgages.

To protect themselves from getting piles of garbage loans shoveled their way when they buy mortgages, Fannie and Freddie require lenders or loan servicers to sign contracts requiring those firms to repurchase loans that don’t meet certain standards relating to borrower incomes, job status or assets. Loans that were extended fraudulently, or deemed to have been predatory, are also candidates for buybacks.

Surprise, surprise: banks don’t want to repurchase these loans. So when Fannie or Freddie identify problem mortgages and request repayment, a battle royal begins. Banks may argue, for example, that the repayment requests have flaws of their own.

But for us as taxpayers, watching this battle from the sidelines, one growing concern is how aggressively Fannie and Freddie will pursue their requests. If banks refuse to buy back flawed loans, taxpayers will have to cover more of the losses.

A lot of money is at stake here, and the figure is growing all the time. According to March 31 figures from Freddie, for instance, the amount of problem loans that it has asked other firms to buy back stood at $4.8 billion — up 26 percent from $3.8 billion just three months earlier.

Freddie also said that as of the end of March, 34 percent of its buyback requests had been outstanding for 90 days or more. Three months earlier, that figure was 30 percent. That increase suggests a greater reluctance among banks to respond to Freddie’s demands.

Fannie, for its part, doesn’t disclose how much it’s asking banks to buy back. Instead, it simply reports how much banks have agreed to buy back but have yet to pay during a specific period.

During the first quarter of 2010, for example, Fannie said the unpaid principal balance of loans repurchased by its servicers came in at $1.8 billion, up from $1.1 billion during the first quarter of 2009. “We expect the amount of our outstanding repurchase and reimbursement requests to remain high throughout 2010,” Fannie said in a filing.

It’s surely good news that Fannie and Freddie are trying to hold these other firms responsible for shoddy lending standards. But if those firms continue to resist paying up, that would be bad news indeed for taxpayers who would have to absorb Fannie and Freddie’s losses on the loans.

“Banks have been unwilling to mark all of the bad loans they have and mortgage securities they hold to their true values because that would require a loss,” said Kurt Eggert, a professor at the Chapman University School of Law. “But this is about banks trying to avoid losses and having the taxpayers absorb them.”

Freddie does not identify the lenders or loan servicers it is asking for buybacks. Some of the difficulties it encounters with loan buybacks are, it said, the result of “potential insolvency” — that is, financial woes at companies that made or service the loans.

The top three lenders or loan servicers doing business with Freddie are JPMorgan Chase, Bank of America and Wells Fargo.

In its own filings, JPMorgan said it bought back a total of $1.1 billion in loans in 2009. At the end of that year, the bank recorded $218 million in repurchased loans as nonperforming assets on its balance sheet. In the first quarter of 2010, the bank repurchased loans with an unpaid principal balance of $322 million. It had set aside $1.5 billion in reserves for repurchase requests at the end of 2009. The bank does not break out how many of these repurchases involved Fannie or Freddie.

Wells Fargo’s financial filings show that it repurchased or otherwise settled loans worth $1.3 billion last year and bought back an additional $600 million in the first quarter of 2010. Its reserves for future repurchase requests stood at $1 billion at the end of last year.

Mary Eshet, a Wells Fargo spokeswoman, said the bank “continues to have a productive relationship with the agencies as we work together to mutually resolve repurchase requests in a timely manner.”

“While the research involved in this process can be time-consuming,” she said, “it is Wells Fargo’s goal to complete repurchase requests as quickly as possible, and we have adjusted staffing levels appropriately to respond to current volumes.”

Thomas A. Kelly, a spokesman for JPMorgan Chase, said the bank “works consistently, loan by loan” with Fannie and Freddie.

Bank of America did not respond to an e-mail message seeking comment.

Michael Cosgrove, a Freddie spokesman, said that the company is aggressive about enforcing its right to recover on questionable loans because it has a duty to be a good steward of taxpayer dollars. “These reviews are more important than ever; there is no reason why taxpayers should pay for decisions that led to the sale of bad loans to Freddie Mac,” he said.

But the banks have a keen interest in minimizing their exposure to loan buybacks, and you can be sure they are asserting their rights to say no to these demands just as aggressively.

“If the banks are not abiding by repurchase agreements, essentially they are saying the taxpayer should be on the hook, not them,” Mr. Eggert said. “It’s a hidden bailout.”

THROUGHOUT the credit crisis, the Obama administration has bent over backward to accommodate the nation’s large financial institutions, arguing that shoring up the banking system is in everyone’s interest.

To that end, the White House has given banks a lot of carrots in this crisis. But when it comes to buying back reckless loans, banks should now get the stick.