Who Stole the American Dream? (29 page)

Guardado was wary but admitted that William’s call had started him thinking. William took him out to see a white shingled home in Hyattsville—price tag $310,000. Then William took him to a loan office, Congressional Funding in Vienna, Virginia. There, Guardado met a Peruvian-born mortgage man named Carlos. Guardado told them he couldn’t afford that house on $2,000 a month, but he says Carlos reassured him: “Don’t worry. We’ll fix it. You’ll get your loan”—100 percent financing.

Despite his misgivings, Guardado persuaded his brother, Armando, to go in fifty-fifty with him to buy the house and live together. They were never shown the documents that federal law requires loan applicants be shown prior to closing. When they got to the closing, Eliseo and Armando were told to sign documents prepared by Carlos. It was rush, rush rush, Guardado said. Sign here. Sign there. Because they could not read English, the brothers relied on William and Carlos to fill out the forms honestly. Only years later, when he turned to a nonprofit for help, did Guardado find out that his loan application falsely showed his monthly income as $8,750, not the $2,000 he had told Carlos. It also listed him, wrongly, as a U.S. citizen. By 2010, when I tried to check Guardado’s information,
the Congressional Funding office was closed. Two former employees, Freddy Cova and Brian Rios, confirmed that Carlos had worked in the Tysons Corner office, but that office had closed in 2007 and the firm went out of business. Both had lost track of Carlos.

Guardado showed me his loan documents, which he kept in neat, well-organized folders. There were two 2/28 subprime ARMs—adjustable-rate mortgages with 8.65 percent interest on the first and 10.85 percent on the second. After two years, the interest floated as high as 14 percent. The monthly payments were $2,600—difficult even when shared by the brothers—plus another $4,400 a year in taxes and insurance, which Eliseo said the broker had never mentioned to him. He said he spent his precious $15,000 in savings to
cover his payments, but when the mortgage charges bumped up, his brother left and things got beyond him.

With the economy turning sour, Guardado lost contracting work. He managed to land a steady job working for a landscaper, but with his savings depleted, he quit paying the mortgage in April 2008. Four months later, the foreclosure notices started.

“
It was a nightmare. It was chaos,” he said in a crushed voice. “I was depressed. I did not know if I was going to get kicked out of the house. Where was I going to go? To the street? Begging?… I was angry—angry at myself because I shouldn’t have believed the promises they made to me. And I was angry at the loan officer and the realtor. They knew better. They knew I could not afford that loan. They should have told me very seriously, ‘You can’t make the payments. You can’t afford a house.’ ”

Lili Sotello, an attorney for the Los Angeles Legal Aid Foundation, heard that same story thousands of times. Her team of five public service attorneys was flooded with complaints from home buyers who claimed to have been defrauded by mortgage brokers. The office handled about two thousand cases a year and turned away many times more. “We know that in 2006
there was a high demand for subprime loans on Wall Street,” Sotello said. “There were not enough subprime loans to satisfy demand from the mortgage-backed trusts. That created very loose underwriting by the lenders, which allowed for predatory loans. It became a very aggressive business.”

“Affinity marketing” was how loans were mass-produced, she explained. That is, Latinos, blacks, Asian Americans, and church members were being marketed by others in their own community, even relatives. By Sotello’s account, thousands of seniors living on Social Security checks or lower-middle-class workers making the minimum wage were sweet-talked into home ownership on totally unrealistic terms.

“
Waves of defaults were inevitable,” Sotello said. “It was so easy to originate loans. All a broker had to do was fill out the application for the borrower, upload it to the loan office. They were not refusing anybody. They were overriding their own risk assessments. I filed hundreds of lawsuits on behalf of African American families, the elderly, Spanish-speaking people. Many didn’t understand English very well. These were people who should not have been given loans.”

Their mortgages became known as “liars’ loans.” But contrary to public opinion, Sotello asserted, most of the lying was done by the brokers and bank loan officers rather than by the customers. Perhaps collusion, but always with broker involvement, she said. Why? Because it took an insider’s knowledge to plug in the right numbers to qualify the loan, Sotello said, and non-English-speaking borrowers could not even read the forms.

A Long Beach insider confirmed Sotello’s story—a quality control officer named Diane Kosch, who confessed to me her constant angst about fraud at Long Beach. Kosch, who is in her early sixties, had spent a lifetime in the mortgage business, eight years as a senior loan closer for Washington Mutual in Seattle. She knew how loans should be processed, and she was horrified when she moved to the Long Beach office in California’s central valley region in 2004. Loan officers didn’t seem to care whether they were making good loans or bad loans. “They were in business to make money for themselves, not to do good for the company,” she said.

In theory, Kosch’s team at quality assurance was there to stop bad loans—to protect the company and investors in Long Beach Mortgage bonds. But quality control was constantly overruled by upper management, she said, and was regarded as pariahs by everyone else because their reviews slowed the loan process, threatening to reduce loan volume and profits. Management treated the quality control staff like second-class citizens, cramming them in a conference room
instead of giving them offices and then ousting them during meetings. “I don’t think there was ever a time when people in the firm paid attention to us,” Kosch said. “We were the black sheep of the family. Everyone hated us….

“
The fraud was there—you could see it,” she went on. “I am not saying everyone was fraudulent. But the loan officers who were making the most money and the most loans were the most fraudulent. And they were rewarded with trips to Hawaii and to Florida. Two or three years down the road, a lot of those loans turned out to be foreclosures because the borrowers couldn’t make the payments.”

The most obvious fraud, she said, was on stated income loans, especially for relatively low earners like self-employed gardeners and housekeepers. To Kosch, one telltale sign was that brokers would use the same inflated income figures loan after loan—about $4,000 a month—without any documentation, and they would cite impossible bank balances. When I asked if she saw fraudulent pay stubs, she shot back: “We saw that all the time—pay stubs, or statements saying people made so much money. You can forge a letterhead or a credit statement or a 1099 form.”

When Kosch or other quality control officers challenged dubious loan applications, they were overridden by management. “The loan officers went over our heads and submitted the loan anyway,” she said. Output was all that counted. “
Loan officers were fired because they couldn’t meet their goal of so many dollars per month,” Kosch reported. “In quality control, we got incentive pay for the number of loans we reviewed. Some of our people would review a file in five minutes.”

Financial kickbacks and fancy gifts from brokers to mortgage loan officers were a constant office topic. “I never actually saw it happen,” Kosch told me, “but you overheard a lot of people saying, ‘I closed this loan, so I get this much money.’ Brokers talking to loan officers or loan processors, they would say: ‘Do not alter the amount that I am putting on the loan application. I will give you so much money not to change the application, and to pass it.’ ”

This was more than office gossip. In December 2007, the Justice
Department indicted
John Ngo, a senior loan officer at the Long Beach office in Dublin, California, where Kosch worked, for taking $100,000 in kickbacks from a mortgage broker. Ngo pleaded guilty. He admitted that he also received payments from certain Long Beach sales representatives to push loan applications through, knowing that many were fraudulent. Ngo said that he had “fixed” loan applications by creating false documents or adding false information.

One major popular misconception was that subprime loans were sold mainly to low-income people with bad records. But in fact, most of the people who were sold subprime mortgages at the height of the housing boom were solid middle-class borrowers who would have qualified financially for prime loans and probably did not understand how they were being stung. In 2005,
The Wall Street Journal
found that
55 percent of subprime borrowers should have been given prime-rate loans. In 2006, 61 percent of subprime borrowers qualified for prime, according to First American Loan Performance.

In other words, millions of middle-class home buyers were manipulated into loans that profited the brokers, the banks, and Wall Street but cost middle-class borrowers with good credit records billions of dollars in excess fees and interest. Many are probably still paying excess rates today.

Washington Mutual had a potent variation on subprime that lured millions of solid middle-class and upper-middle-class borrowers. It was a below-prime loan known as “the Option ARM.” This was WaMu’s signature product. It was a floating-rate mortgage that fooled lots of well-educated people and was especially lucrative for the bank and for brokers. WaMu’s prime targets for its Option ARMs
were professionals, small-business owners, college-educated office workers, or high-tech employees, borrowers who qualified for a prime loan at favorable rates but got steered into Option ARMs often by a misleading teaser rate. Interest on the Option ARM could balloon suddenly. The loan usually carried a stiff prepayment penalty in case the borrower suddenly wanted out. Since it cost big money to bail out, borrowers typically hung on, and WaMu moved them onto a treadmill of refinancing with ever-rising loan balances.

The floating-rate mortgage, Bre Heller told me, is “the biggest dupe of all” for home buyers “because you just can’t predict them,” meaning the cusomer cannot know how high the interest rates will go. For the banks, she explained, the easiest target “was a customer wanting a beautiful home at the lowest rate possible. That is the perfect scenario. The broker would give the customer a choice—the cheapest rate with an adjustable-rate mortgage, or a higher rate on a straight, fixed-rate mortgage. Nine times out of ten, the customer would take the adjustable rate. And the pitch to the client was, ‘Look how quickly house values are appreciating. You’ll be able to refinance after it appreciates.’ That was a gamble, and everybody took it.”

WaMu’s Option ARM had a bait-and-switch lure. It was an extremely low teaser rate, often as low as 1 or 2 percent, way below the loan’s normal rate of 7 percent or higher. So if the bank or the broker didn’t spell out the terms very clearly, borrowers could get hoodwinked into thinking they were getting an unbelievable bargain.

The second stinger was the “option” feature. Like a credit card, the Option ARM let the borrower choose the monthly payment level. The four options typically included (a) a bare-bones minimum payment; (b) an interest-only payment; (c) principal plus interest on a thirty-year loan; and (d) principal and interest for a speeded-up fifteen-year payoff.

For people who picked option (a), the catch-22, the most perilous aspect of the Option ARM, was that it generated what bankers call “negative amortization.” That is, instead of your loan balance going down, it went up. If a borrower made the minimum payment, that was not enough even to pay the monthly interest on the loan, let alone any of the principal. So making the minimum payment left a big chunk of interest unpaid, and the bank simply tacked on that unpaid interest to the loan balance. So the balance went up month after month.

But there was another catch—a ceiling. When the rising loan balance hit a prescribed ceiling, usually 110 percent of the original loan balance, the borrower immediately had to start paying the full interest and principal on the new, larger loan balance. In most households, that caused acute payment shock—an instant doubling or tripling of the monthly payment—that pushed the borrower into either hasty refinancing or foreclosure.

John Terboss, a small-business owner in North Miami Beach, got a triple sting. He was trapped into serial refinancing by WaMu’s Option ARM—plus he was victimized by yet another hidden wrinkle in WaMu’s sales arsenal known as “the yield spread premium.”

This was WaMu’s most enticing kickback payment to brokers, to spur them to sell loans with the highest possible interest rates, costing the homeowner dearly. The yield spread premium was based on “the interest spread”—the difference between the interest rate at which the bank borrowed money and the rate that it charged on the loan. The higher the yield spread, the higher the bonus for the broker. If an aggressive broker could maneuver an unknowing buyer into a high-interest $500,000 or $600,000 loan, he could net a bonus of $11,000 to $20,000.

The borrower paid that fee but didn’t know it—because the yield spread premium was disguised. It was not shown in the column that
most buyers check on the HUD-1, the main document at closing, in the column labeled “Paid from Borrower’s Funds.” Bre Heller showed me how the yield spread premium is typically disguised on page 2, off on the left, on line 806, in small print—“ysp” with a number. If a borrower happened to be sharp-eyed enough to spot the “ysp” and ask about it, she said, the broker would typically say that it was a fee paid to the broker by the bank. Technically that was true, but what the broker didn’t explain was that the bank simply added the “ysp” amount to the interest on the loan. The borrower wound up paying for it.

WaMu’s “ysp” bonus was so attractive that brokers scoured the country hunting for borrowers who could be talked into an Option ARM. John Terboss in Miami was pitched by a broker with Homegate Mortgage in Ohio in late 2007.