A Whistle That’s Lost in the Crowd ...
MARCH 8, 2014 ... By GRETCHEN MORGENSON
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The 2012 complaint filed by the SunTrust whistle-blower, who remains anonymous, contended that some of the bank’s mortgage sales representatives manipulated an automated underwriting system to gain approval from Fannie and Freddie for mortgages that failed to meet those companies’ standards. The loans, called Agency Shortcut mortgages, were sold mostly to Fannie Mae. ... "
Late last month, deep in the annual financial statement filed by SunTrust Banks — on Page 197, to be exact — there was this nugget of news: The Justice Department is investigating mortgages that SunTrust, a large bank holding company operating in the Southeast, underwroteand sold to Fannie Mae and Freddie Mac, the home loan finance giants.
What’s particularly intriguing about this mortgage investigation (after all, there have been many) is that it sounds very similar to a whistle-blower complaint described in this space last April. That complaint, filed by a former SunTrust mortgage underwriter, seemed to be languishing at the Securities and Exchange Commission since its submission in early 2012.
The whistle-blower contended in the complaint that SunTrust misled its shareholders by failing to disclose its exposure to risky mortgages made from 2006 to 2008 — the kind that didn’t require documentation of borrowers’ salary or assets. Many were sold to Fannie and Freddie, and SunTrust could have been forced to repurchase them if the loans had fallen outside of the buyers’ quality guidelines.
As a result, the whistle-blower said, SunTrust failed to alert investors to buyback risks on “tens of billions” worth of loans.
SunTrust’s recent filing did not reveal much about the Justice Department inquiry. The bank said it was cooperating, that no allegations had been raised and that there had been no dialogue with prosecutors about how the inquiry might proceed.
The bank has made no mention of any S.E.C. inquiry along these lines.
That raises a troubling question for whistle-blowers bringing complaints to the S.E.C. The Dodd-Frank law, passed in 2010, created a program that offered awards of 10 to 30 percent of recoveries to encourage people to come forward when they saw wrongdoing at companies. What if the S.E.C. doesn’t bring a successful case based on a whistle-blower’s complaint but another law enforcement agency does, using the same information?
The answer appears to be this: The whistle-blower may get no award at all.
The rules of the S.E.C. program state that whistle-blower complaints brought to the agency can be shared with other law enforcers. That makes sense, especially if a matter involves potential criminal activity that the S.E.C. cannot pursue or if the facts outlined in a complaint fall outside the commission’s enforcement mandate.
But the S.E.C. rules also state that a whistle-blower can receive an award only if the commission brings a successful case based on the information; success is defined as generating sanctions of more than $1 million. If another agency uses the complaint to generate fines and penalties but the S.E.C. declines to pursue it, the whistle-blower would appear to be out of luck under the S.E.C.’s program.
John Nester, an S.E.C. spokesman, said that under its program there was the possibility that a whistle-blower would collect an award related to actions brought with another regulator. He confirmed the $1 million threshold and said that there must also be a securities law violation.
“The danger to whistle-blowers lies in a situation where the S.E.C. voluntarily declines to bring an action and hands everything off to another agency and steps away,” said Aegis J. Frumento, a lawyer at Stern Tannenbaum & Bell, who represents the SunTrust whistle-blower. “That’s a gap in the law that was probably not contemplated by Congress when Dodd-Frank was passed.”
Of course, it is up to the S.E.C. to decide which cases it believes are most worthwhile to pursue. It may have concluded that the material provided by the SunTrust whistle-blower doesn’t rise to that level. The S.E.C. does not comment on matters involving specific whistle-blowers.
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Nothing in the recent SunTrust filing specifically ties the whistle-blower complaint directly to the Justice Department inquiry. Michael McCoy, a spokesman for SunTrust, declined to comment on the investigation other than to say that it involved “legacy mortgage matters” that the bank was working to resolve. Mr. McCoy maintained that the Justice investigation was unrelated to the whistle-blower complaint, as it involved another agency.
But Mr. Frumento said he had discussed the whistle-blower’s case with officials at both the S.E.C. and Justice Department. “It is my understanding that the S.E.C. shared the whistle-blower material with the Department of Justice,” he said.
That should come as no surprise, Mr. Frumento added, given that sharing such information among various law enforcement agencies was the idea behind the Financial Fraud Enforcement Task Force. Set up in 2009 by the federal government, the task force investigates an array of misdeeds that led to the credit crisis.
“SunTrust’s description of the investigation — that it concerns the origination and underwriting of loans to Fannie and Freddie — is exactly what our case is about,” he said. “It is inconceivable that someone would investigate the bank’s origination and sale of mortgages to Fannie and Freddie and not use our material.”
Certainly SunTrust has been buying back many of the loans it sold to Fannie and Freddie in the years before the crisis. Buybacks of this kind often indicate that the loans did not meet underwriting requirements. In its recent financial filing, SunTrust said it had repurchased $2.7 billion in mortgages over the last three years. Most of those repurchases came from Fannie and Freddie.
The whistle-blower contended that while those mortgages made SunTrust liable for the cost of a large number of repurchases should the mortgages go bad, shareholders were not told of those risks.
Mr. McCoy, the bank spokesman, has said previously that it’s the bank’s policy to adhere to underwriting standards set by Fannie and Freddie for loans sold to them.
It’s too soon to tell how this matter will be resolved. Mr. Frumento wrote to the S.E.C. last week, expressing concern that his client might go unrewarded if there is a recovery. Such an outcome would be an unfortunate, if unintended, consequence of an important program’s structure.
