A federal court in Texas recently entered a massive judgment against a mortgage originator for financial crisis conduct, transforming an already severe $93 million jury verdict into a $298 million punishment, and issuing one of the first judicial opinions regarding how to assess penalties under the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (“FIRREA”).
The suit began in 2011 as a whistleblower action, in which the government quickly intervened, alleging the submission of false Federal Housing Administration (“FHA”) insurance claims by Americus Mortgage Corporation (formerly known as Allied Home Mortgage Capital Corporation), one of its affiliates, and its CEO (collectively, “Allied”) between 2001 and 2011. The matter eventually proceeded to a five-week jury trial, where Allied was found liable for multiple violations of the False Claims Act (“FCA”) and FIRREA. The conduct proven at trial involved:
- Submission of 1,192 FHA insurance claims for loans that were recklessly underwritten and ineligible for FHA insurance;
- Submission of 103 FHA insurance claims for loans originated in branches without proper HUD registration, using registration numbers of other, registered branches;
- Submission of nine false annual certifications to HUD relating to compliance with quality control requirements; and
- Submission of an email from Allied to a HUD employee in 2009 containing 18 falsified quality control reports.
The dramatic increase from the $93 million jury verdict resulted from mandatory trebling of the government’s damages under the FCA as well as the court’s imposition of civil penalties.
In an attempt to lessen the blow of mandatory FCA trebling, Allied argued that “net” damages, rather than “gross” damages are the proper sum to treble. A “net” damages calculation would allow deduction of any payment the government had received back on the claims from the amount of loss prior to trebling. The court rejected this argument and Allied’s supporting case law from the Seventh Circuit, noting that Fifth Circuit precedent expressly prohibits such deductions. With trebling, the United States’ “gross” damages increased from $92,982,775 to $278,948,325 for the claims related to unregistered branches and underwriting failures.
The FCA also mandated penalties of $5,500 to $11,000 per claim for Allied’s conduct, in addition to treble damages. (This amount could have been higher had the conduct occurred more recently, as FCA penalties since 2015 have begun increasing each year with the inflation rate. The current range is $10,957 to $21,916.) Here, the court assessed $10,000 penalties, finding Allied’s conduct worthy of penalties at “the high end of the spectrum” for pre-2015 conduct, because of the many years across which the fraud occurred, the intentionality and severity of the conduct, the large amount of actual damages incurred by the government, and Allied’s failure to come clean when confronted by HUD during a routine audit years prior. The court assessed a penalty for each of the 103 claims submitted by unregistered branches and the 1,192 claims with underwriting failures—for a total of $12,950,000 in FCA penalties.
The court then turned to assessing FIRREA penalties, for which it has broad discretion and a dearth of case law to provide guidance. The statute allows for the assessment of penalties up to $1,100,000 per violation, up to $5,500,000 for a continuing violation, or the amount of the pecuniary gain or loss resulting from the violation. Although FIRREA has been on the books since 1989, there is little authority available for defendants to gauge where their conduct falls on the penalty spectrum when considering whether to settle with the government or take the risk of trial. The court in this matter appears to be only the third court in the country to address the calculation in an opinion, and to date, assessed the most severe FIRREA penalties. See United States v. Luce, No. 11 C 05158, 2016 WL 6892857, at *5 (N.D. Ill. Nov. 23, 2016) ($0 penalty) and United States v. Menendez, No. CV 11-06313 MMM JCGX, 2013 WL 828926, at *10 (C.D. Cal. Mar. 6, 2013) ($40,000 penalty). As a result, the court’s method of assessing FIRREA civil penalties in this case is worth careful study by financial institutions.
The court adopted a “totality of the circumstances” inquiry and considered the following factors:
- the good or bad faith of the defendant and the degree of his scienter;
- the injury to the public, and whether the defendant’s conduct created a substantial loss or the risk of substantial loss to other persons;
- the egregiousness of the violation;
- the isolated or repeated nature of the violation; and
- the defendant’s financial condition and ability to pay.
The court also rejected Allied’s argument that it would be unconstitutional to assess both FCA and FIRREA penalties for the same conduct, finding instead that the false certifications and quality control reports were different conduct than the problematic FHA insurance claims.
Testimony of former executives seemed to damn Allied in the court’s eyes, as one executive admitted that she and other officers knew that Allied was not in compliance with quality control rules and yet signed the certifications nonetheless. The court found that the conduct had continued for years and reflected a “high level of scienter and egregiousness” but that the defendants’ financial situation “weigh[ed] slightly in favor of a less than maximum allowable” penalty. The court assessed separate FIRREA penalties against the Company, its affiliate, and its CEO of $1,100,000 for the false certifications and $1,100,000 for the falsified quality control reports. The FIRREA penalties alone thus totaled $6,600,000.
Although the damages and penalties imposed in this case are shocking, there is a silver lining for financial institutions. The Allied ruling has now provided some guidance as to the ceiling for FIRREA penalties where no such guidance previously existed. Moreover, although the penalties seem harsh, the court actually declined to penalize Allied to the fullest extent requested by the government—which sought imposition of $9,900,000 in FIRREA penalties across the three defendants. Where defendants can demonstrate that conduct is more akin to “an isolated or occasional mistake,” rather than “a prolonged, consistent enterprise of defrauding,” they may successfully lessen the impact of civil penalties under FCA or FIRREA. We will continue to provide you updates as this area of the law develops.