Case o' The Week: Better a Lender than a Borrower Be - Lindsey and Mortgage Fraud Defenses

 “Two wrongs do not make a right.”

Hon. Judge Ronald Gould

(Particularly if you’re the schmoe with the wrong that leads to a federal fraud conviction).

United States v. Lindsey, 2016 WL 3536659, *4. (9th Cir. June 28, 2016), decision available here.

Players: Decision by Judge Gould, joined by Judges Noonan and Friedland.  

Facts: Lindsey was a mortgage officer and real estate broker. Id. at *1. He was part of a complex mortgage fraud scheme. Id. The properties purchased by straw borrowers foreclosed, but Linsey earned commissions, rent payments, and diverted escrow moneys. Id. After trial he was convicted of nine counts of wire fraud, and one count of aggravated theft. Id. To contest the “materiality” of the false representations at trial, Lindsey tried to present evidence of the lenders’ practice and policies – but was thwarted by the district court during openings, and was warned off the issue of lender negligence later in trial. Id. at *1, *2.

Issue(s): “[Lindsey] appeals his convictions on the ground that he was denied his constitutional right to present a defense.” Id. “[He] contends that the district court erred by preventing him from presenting evidence about the ‘stated income/ no doc’ loans, thus barring him ‘from challenging the materiality of false statements on a loan type that invites the applicant to state their income without justification or support.’ According to Lindsey, this prevented him from presenting a complete defense, a right that is constitutionally protected.” Id. at *3.

Held: “[W]e hold that lender negligence in verifying loan application information, or even intentional disregard of the information, is not a defense to fraud, and so evidence of such negligence or intentional disregard is inadmissible as a defense against charges of mortgage fraud. We further hold that, when a lender requests specific information in its loan applications, that information is objectively material as a matter of law, regardless of the lenders' policies or practices with respect to use of that information.” Id. at *1. “We join several of our sister circuits in holding that a victim's negligence is not a defense to wire fraud. Evidence of lender negligence is thus not admissible as a defense to mortgage fraud.” Id. at *4.

Of Note: “But everyone was doing it,” is the first protest of our mortgage fraud clients. The second is, “the lenders knew precisely what was going on, and didn’t care about what was on the application.” For whatever its worth, Judge Gould acknowledges this fairness concern: he understands “the desire to see lenders should responsibility for their role in the mortgage crises of the last decade.” Id. at *3. Unfortunately, that sympathy is not enough to earn a defense on the materiality charge.

How to Use: What if (as we all know), the lenders were intentionally blind to these “liar loans” during the feeding frenzy of greed that produced the mortgage crisis? Surely these loan misstatements aren’t “material,” when made to lenders who were effectively co-conspirators? Not so much, sadly. Judge Gould pens a new Ninth rule: “We adopt the First Circuit's bright-line test, and hold, as a matter of law, that when a lender requests specific information in its loan applications, false responses to those specific requests are objectively material for purposes of proving fraud.” Id. at *5. Take note: this new rule effectively vitiates the materiality requirement for federal mortgage fraud, making these tough cases even more difficult to defend.

                                               

For Further Reading: Over several years, thirty-seven folks in two sweeps were prosecuted by ND Cal USAOP, for low-level drug sales in S.F.’s Tenderloin. They were all African American. This was despite the fact that many Asian, Latino, and White drug dealers also call the ‘Loin home. For over a year, the FPD fought for discovery on these cases based on selective prosecution and selective enforcement. The office commissioned statistical studies, undertook analysis of hundreds of incident reports, interviewed drug addicts --it was an unprecedented collaborative effort, headed by AFPD Galia Amram. 

  On June 30, 2016, the Honorable Judge Edward Chen granted the discovery motion based on selective enforcement, in a lengthy, carefully-reasoned opinion that is one of the first to find the defense had cleared the necessary Armstrong evidentiary hurdles. It is a remarkable opinion, both for its detailed analysis and its sobering account of the SF Police Department’s treatment of African Americans. See decision here. 

  It has been one hundred and thirty years since San Francisco’s treatment of Chinese launderers lead to the Supreme Court’s decision in Yick Wo, 188 U.S. 356 (1886). Sadly ironic that another historic discrimination opinion now comes from the City by the Bay. See article here. 

Image of the Honorable Judge Ronald Gould from http://www.ourcampaigns.com/images/candidates/b154/FullC154131D2007-01-01.jpg

Steven Kalar, Federal Public Defender, N.D. Cal. Website at www.ndcalfpd.org

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Case o' The Week: BOA, FDIC, and J/x: Bennett and "Financial Institutions" for Bank Fraud Cases

Mortgage fraud is rife, the viability of lending institutions is put in jeopardy, investors may end up losing their entire stake -- who is the only person on earth delighted that a lender is not insured by the FDIC?

James Davis Bennett.

United States v. Bennett, 2010 WL 3516438 (9th Cir. Sept. 10, 2010), decision available here.

Players: Decision by Judge Wardlaw (right), joined by Judge Kleinfeld; dissent by Judge Callahan.

Facts: Bennett ran a scheme to artificially inflate the value of Southern California property using relatives and straw borrowers, by “flipping” the real estate, and then pocketing the money from the inflated mortgage – leaving the lenders holding the bag. Id. at *1-*2. One lender victimized by this scheme was Equicredit. Id. at *2. Because it was not FDIC insured, Equicredit was not a “financial institution” within the meaning of the federal bank fraud statute, 18 USC § 1344. Id. Instead, it was a wholly-owned subsidiary of Bank of America (“BOA”) – which is a Section 1344 “financial institution.” Id. at *2. Bennett was convicted at trial of a number of counts; he appealed only his convictions from those counts involving fraud against Equicredit. Id. at *3.

Issue(s): “The sole issue raised on appeal is whether the government presented sufficient evidence from which any rational juror could find beyond a reasonable doubt that the ‘financial institution’ element of the bank fraud statute was satisfied in circumstances where the fraudulently obtained mortgages were loaned by Equicredit, a wholly-owned subsidiary of a ‘financial institution.’” Id. at *3.

Held: “Here, the government presented evidence that Bennett fraudulently procured funds from Equicredit; that Equicredit was a wholly-owned subsidiary of BOA; and that BOA was a ‘financial institution’ because it was FDIC insured. We hold that, based on these facts and the governing law at the time of the offense, no rational trier of fact could have found that Bennett procured assets ‘owned by’ a financial institution.” Id. at *6.

Of Note: This holding of this criminal case hinges on corporate law: Judge Wardlaw carefully works through decades of corporate decisions for the (now-familiar) principle that a parent corporation down not “own” the assets of a wholly-owned subsidiary company. Id. at *3-*6. The Court resolves the appeal on a Rule 29, “insufficiency of proof” analysis – but its interesting to wonder if the district court even had jurisdiction to preside over these charges? See United States v. Harris, 108 F.3d 1108 (9th Cir. 1997) (discussing federal jurisdiction conferred by FDIC insurance).

The beauty of jurisdictional challenges is that they can be raised anytime – including in a pretrial motion, or for the first time on appeal. See generally United States v. Moll, 988 F.2d 124 (9th Cir. 1993) (discussing jurisdictional challenges after a guilty plea). The downside of pretrial jurisdictional challenges? They invite the government to simply cure the problem by superceding or introducing facts at trial – without triggering the double jeopardy protections now enjoyed by Bennett from his appellate victory (see warnings in “How to Use” below).

How to Use: Is Bennett that elusive defense that we’ve been hunting in the recent deluge of mortgage fraud cases? Not so much. First, Judge Wardlaw observes that if Bennett was tried today, he would have been nailed by the newly amended statute which expands the definition of “financial” institution to include mortgage lending businesses. See id. at *6.

Moreover, even the old statute included the phrase “property in the custody and control.” If the government had bothered to prove that BOA actually had “custody and control” of Equicredit’s assets in the Bennett trial, the conviction might have survived. Id. at *7. Bennett is a good case for an intellectually-honest analysis of a sufficiency-of-evidence challenge, but the specific legal issue of wholly-owned subsidiaries may not give us much milage.

For Further Reading: The amendment referenced by Judge Wardlaw in Bennett was part of the Fraud Enforcement and Recovery Act of 2009 (“FERA.”) If you’re currently defending a federal white collar case, there’s a fair chance that FERA is playing some role in the prosecution. For a thoughtful and accessible summary of this new law, see the article here.


Image of the Honorable Judge Kim Wardlaw from http://thomas.loc.gov/cgi-bin/bdquery/z?d111:SN00386:@@@L&summ2=m&



Steven Kalar, Senior Litigator N.D. Cal. FPD. Website at www.ndcalfpd.org

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Case o' The Week: How Much Hurt from Condo Convert? Crandall

We cheat this week and reach back a bit to discuss the very interesting decision in United States v. Crandall, __ F.3d. __ , 2008 WL 2025071 (9th Cir. May 13, 2008), decision available here. While Crandall is a "condo conversion" case, it is destined to become one of the Ninth's leading cases for the tsunami of federal mortgage fraud prosecutions on the horizon.

Players: Decision by visiting Alaska District Judge Holland.

Facts: Crandall and cohorts conspired in condo conversions. Id. at *1. The scheme was to concoct fraudulent “stock cooperatives” to hold apartments, exploit a regulatory loophole, and avoid lengthy condo conversion requirements. Id. The feds charged mail, wire, and “honest services” fraud. Id. At trial, the defense unsuccessfully sought a mens rea instruction that required “knowing and conscious” engagement in “criminal wrongdoing.” Id. at *3. The defendants were convicted.

They were sentenced using loss amounts based on USSG § 2B1.1, comment. n. 2(F)(v)(III) – a rule for “regulatory scheme” frauds that permits no offset for “the value of those items or services.”

Issue(s): 1. Mens Rea: “Defendants argue that their convictions must be reversed because the district court erred in declining to give their proposed ‘intent to defraud’ instructions.” Id. at *3.

2. Sentencing Loss Amounts: “Defendants argue that their sentences must be vacated because the district court erred in relying on . . . 2(F)(v)(III) to calculate the loss caused by the fraud.” Id.

Held: 1. Mens Rea: “Defendants’ proposed ‘intent to defraud’ jury instruction was not supported by law. Arthur Anderson [an obstruction case upon which the defense had relied] did not involve either the mail or wire fraud statute and there is no indication that the Court intended its holding as to the mens rea requirement for obstruction of justice to extend to other federal statutes.” Id. at *3.

2. Sentencing Loss Amounts: “The district court erred in relying on Application Note 2(F)(v)(III) to calculate loss.” Id. at *4. “[T]he use of [this rule] was not a realistic, economic approach to calculating the loss caused by the fraud.” Id. (emphasis added).

Of Note: Crandall will be a key case in the wave of impending mortgage fraud prosecutions. Its mens rea holding, unfortunately, isn’t great. The Court emphasizes that “‘[T]he ‘intent to defraud’ instruction that was given adequately covered the defense theory of lack of intent.” Id. at *3 & n.4. That model instruction states, “An intent to defraud is an intent to deceive or cheat.” Id. The difference between the Ninth’s model instruction, and the proposed defense instruction, was the (rejected) requirement that the defendant “knowingly and consciously engaged in criminal wrongdoing.” This mens rea holding will haunt future mortgage fraud prosecutions.

Crandall also bears out our cynical ‘06 prediction that the feds would abuse the “honest services” fraud statute by broadly charging non-government employees with that offense. See COTW blog here, discussing United States v. Williams, 441 F.3d 716 (9th Cir. 2006).

How to Use: Crandall redeems its mens rea misstep with a valuable discussion of loss amount calculations for sentencing. First, the decision rejects the district court’s refusal to off-set the value of the condos: a critical holding where, for example, foreclosure sales can recoup much of the fraud “loss.”

Second, the decision correctly emphasizes a “realistic, economic approach” to loss calculations: again, critical to shaving offense levels off of economic fraud cases. Finally, the case suggests several good theories for calculating loss amounts in real estate fraud cases:

i) a “fair market appraisal” to determine “actual loss” to the victim;

ii) a “cost of repair” theory, using the price needed to get the apartments converted to condos, and;

iii) a “gain” theory – what the defendants gained by the sale of the condos, less what they paid for the apartments. Id. at *6.

Worry, though, about footnote 8: it appears to limit loss evaluation to the time of the fraud, instead of permitting the offset of subsequent gains (like a rising real estate market). Id. at *6.

For Further Reading: “Mortgage fraud” is the prosecution du jour in the ND Cal – and many other federal districts as well. Here’s a good website that collects cases and sentences on these prosecutions.

For the FBI’s spin on these cases (and a very useful overview) visit the Bureau's webpage here.


Map above from http://www.fbi.gov/publications/fraud/mortgage_fraud06.htm.

Steven Kalar, Senior Litigator N.D. Cal. FPD. Website at www.ndcalfpd.org

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