How Wall Street Perverted the 4 Cs of Mortgage Underwriting

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Editor’s Comment: 

For thousands of years since the dawn of money credit has been an integral part of the equation.  Anytime a person, company or institution takes your money or valuables in exchange for a promise that it will return your money or property or pay it to someone else (like in a check) credit is involved.  Most bank customers do not realize that they are creditors of the bank in which they deposit their money.  But all of them recognize that on some level they need to know or believe that the bank will be able to make good on its promise to honor the check or pay the money as instructed. 

Most people who use banks to hold their money do so in the belief that the bank has a history of being financially stable and always honoring withdrawals.  Some depositors may look a little further to see what the balance sheet of the bank looks like.   Of course the first thing they look at is the amount of cash shown on the balance sheet so that a perspective depositor can make an intelligent decision about the liquidity or availability of the funds they deposit. 

So the depositor is in essence lending money to the bank upon the assumption of repayment based upon the operating history of the bank, the cash in the bank and any other collateral (like FDIC guarantees).

As it turns out these are the 4 Cs of loan underwriting which has been followed since the first person was given money to hold and issued a paper certificate in exchange. The paper certificate was intended to be used as either a negotiable instrument for payment in a far away land or for withdrawal when directly presented to the person who took the money and issued the promise on paper to return it.

Eventually some people developed good reputations for safe keeping the money.  Those that developed good reputations were allowed by the depositors to keep the money for longer and longer periods.  After a while, the persons holding the money (now called banks) realized that in addition to charging a fee to the depositor they could use the depositor’s money to lend out to other people.  The good banks correctly calculated the probable amount of time for the original depositor to ask for his money back and adjusted loan terms to third parties that would be due before the depositor demanded his money.

The banks adopted the exact same strategy as the depositors.  The 4 Cs of underwriting a loan—Capacity, Credit, Cash and Collateral—are the keystones of conventional loan underwriting. 

The capacity of a borrower is determined by their ability to repay the debt without reference to any other source or collateral.  For the most part, banks successfully followed this model until the late 1990s when they discovered that losing money could be more profitable than making money.  In order to lose money they obviously had to invert the ratios they used to determine the capacity of the borrower to repay the money.  To accomplish this, they needed to trick or deceive the borrower into believing that he was getting a loan that he could repay, when in fact the bank knew that he could not repay it.  To create maximum confusion for borrowers the number of home loan products grew from a total of 5 different types of loans in 1974 to a total of 456 types of loans in 2006.  Thus the bank was assured that a loss could be claimed on the loan and that the borrower would be too confused to understand how the loss had occurred.  As it turned out the regulators had the same problem as the borrowers and completely missed the obscure way in which the banks sought to declare losses on residential loans.

Like the depositor who is trusting the bank based upon its operating history, the bank normally places its trust in the borrower to repay the loan based upon the borrowers operating history which is commonly referred to as their credit worthiness, credit score or credit history.  Like the capacity of the borrower this model was used effectively until the late 1990s when it too was inverted.  The banks discovered that a higher risk of non-payment was directly related to the “reasonableness” of charging a much higher interest rate than prevailing rates.  This created profits, fees and premiums of previously unimaginable proportions.  The bank’s depositors were expecting a very low rate of interest in exchange for what appeared as a very low risk of nonpayment from the bank.  By lending the depositor’s money to high risk borrowers whose interest rate was often expressed in multiples of the rate paid to depositors, the banks realized they could loan much less in principal than the amount given to them by the depositor leaving an enormous profit for the bank.  The only way the bank could lose money under this scenario would be if the loan was actually repaid.  Since some loans would be repaid, the banks instituted a power in the master servicer to declare a pool of loans to be in default even if many of the individual loans were not in default.  This declaration of default was passed along to investors (depositors) and borrowers alike where eventually both would in many, if not most cases, perceive the investment as a total loss without any knowledge that the banks had succeeded in grabbing “profits” that were illegal and improper regardless if one referred to common law or statutory law.

Capacity and credit are usually intertwined with the actual or stated income of the borrower.  Most borrowers and unfortunately most attorneys are under the mistaken belief that an inflated income shown on the application for the loan, subjects the borrower to potential liability for fraud.  In fact, the reverse is true.  Because of the complexity of real estate transactions, a history of common law dating back hundreds of years together with modern statutory law, requires the lender to perform due diligence in verifying the ability of the borrower to repay the loan and in assessing the viability of the loan.  Some loans had a teaser rate of a few hundred dollars per month.  The bank had full knowledge that the amount of the monthly payment would change to an amount exceeding the gross income of the borrower.   In actuality the loan had a lifespan that could only be computed by reference to the date of closing and the date that payments reset.  The illusion of a 30-year loan along with empty promises of refinancing in a market that would always increase in value, led borrowers to accept prices that were at times a multiple of the value of the property or the value of the loan.  Banks have at their fingertips numerous websites in which they can confirm the likelihood of a perspective borrower to repay the loan simply by knowing the borrower’s occupation and geographical location.  Instead, they allowed mortgage brokers to insert absurd income amounts in occupations which never generate those levels of income.  In fact, we have seen acceptance and funding of loans based upon projected income from investments that had not yet occurred where the perspective investment was part of a scam in which the mortgage broker was intimately involved.  See Merendon Mining scandal.

The Cash component of the 4 Cs.  Either you have cash or you don’t have cash.  If you don’t have cash, it’s highly unlikely that anyone would consider a substantial loan much less a deposit into a bank that was obviously about to go out of business.   This rule again was followed for centuries until the 1990s when the banks replaced the requirement of cash from the borrower with a second loan or even a third loan in order to “seal the deal”.  In short, the cash requirement was similarily inverted from past practices.  The parties involved at the closing table were all strawmen performing fees for service.  The borrower believed that a loan underwriting was taking place wherein a party was named on the note as the lender and also named in the security instrument as the secured party. The borrower believed that the closing could never have occurred but for the finding by the “underwriting lender” that the loan was proper and viable.  The people at the closing table other than the borrower, all knew that the loan was neither proper nor viable.  In many cases the borrower had just enough cash to move into a new house and perhaps purchase some window treatments.  Since the same credit game was being played at furniture stores and on credit cards, more money was given to the borrower to create fictitious transactions in which furniture, appliances, and home improvements were made at the encouragement of retailers and loan brokers.  Hence the cash requirement was also inverted from a positive to a negative with full knowledge by the alleged bank who didn’t bother to pass this knowledge on to its “depositors” (actually, investors in bogus mortgage bonds). 

Collateral is the last of the 4 Cs in conventional loan underwriting.  Collateral is used in the event that the party responsible for repayment fails to make the repayment and is unable to cure it or work out the difference with the bank.  In the case of depositors, the collateral is often viewed as the full faith and credit of the United States government as expressed by the bank’s membership in the Federal Deposit Insurance Corporation (FDIC).  For borrowers collateral refers to property which they pledge can be used or sold to satisfy obligation to repay the loan.  Normally banks send one or even two or three appraisers to visit real estate which is intended to be used as collateral.  The standard practice lenders used was to apply the lower appraisals as the basis for the maximum amount that they would lend.  The banks understood that the higher appraisals represented a higher risk that they would lose money in the event that the borrower failed to repay the loan and property values declined.  This principal was also used for hundreds of years until the 1990s when the banks, operating under the new business model described above, started to run out of people who could serve as borrowers.  Since the deposits (purchases of mortgage bonds) were pouring in, the banks either had to return the deposits or use a portion of the deposits to fund mortgages regardless of the quality of the mortgage, the cash, the collateral, the capacity or any other indicator that a normal reasonable business person would use.  The solution was to inflate the appraisals of the real estate by presenting appraisers with “an offer they couldn’t refuse”.  Either the appraiser came in with an appraisal of the real property at least $20,000 above the price being used in the contract or the appraiser would never work again.  By inflating the appraisals the banks were able to move more money and of course “earn” more fees and profits. 

The appraisals were the weakest link in the false scheme of securitization launched by the banks and still barely understood by regulators.  As the number of potential borrowers dwindled and even with the help of developers raising their prices by as much as 20% per month the appearance of a rising market collapsed in the absence of any more buyers.

Since all the banks involved were holding an Ace High Straight Flush, they were able to place bets using insurance, credit default swaps and other credit enhancements wherein a movement of as little as 8% in the value of a pool would result in the collapse of the entire pool.  This created the appearance of losses to the banks which they falsely presented to the U.S. government as a threat to the financial system and the financial security of the United States.  Having succeeded in terrorizing the executive and legislative branches and the Federal Reserve system, the banks realized that they still had a new revenue generator.  By manufacturing additional losses the government or the Federal Reserve would fund those losses under the mistaken belief that the losses were real and that the country’s future was at stake.  In fact, the country’s future is now at stake because of the perversion of the basic rules of commerce and lending stated above.  The assumption that the economy or the housing market can recover without undoing the fraud perpetrated by the banks is dangerous and false.  It is dangerous because more than 17 trillion dollars in “relief” to the banks has been provided to cover mortgage defaults which are at most estimated at 2.6 trillion.  The advantage given to the megabanks who accepted this surplus “aid” has made it difficult for community banks and credit unions to operate or compete.   The assumption is false because there is literally not enough money in the world to accomplish the dual objectives of allowing the banks to keep their ill gotten gains and providing the necessary stimulus and rebuilding of our physical and educational infrastructure.  

The simple solution that is growing more and more complex is the only way that the U.S. can recover.  With the same effort that it took in 1941 to convert an isolationist largely unarmed United States to the most formidable military power on the planet, the banks who perpetrated this fraud should be treated as terrorists with nothing less than unconditional surrender as the outcome.  The remaining 7,000 community banks and credit unions together with the existing infrastructure for electronic funds transfer will easily allow the rest of the banking community to resume normal activity and provide the capital needed for a starving economy. 

See article:  www.kcmblog.com/2012/04/05/the-4-cs-of-mortgage-underwriting-2

10 Responses

  1. For those of you who think peaceful protests will bring about the change we need, I’d like to point out that the first Revolution involved force and without it, we would never have achieved our sovereignty. We are a country with a history of taking on the bad guys with force and winnning. While the pacifist plan sounds good, many a Christian was beheaded by the Romans. This time they have the means to get rid of us on a large scale. A foe that can’t shoot back and is busy praying is an easy target, and one I don’t plan to be.
    We also don’t need banks AT ALL, and certainly not central ones. The starving economy only needs jobs. We can create them if we get busy before they starve, poison, infect and irradiate us.

  2. Instead of whining, have you joined The 99 Declaration yet?

    Want change? Make it happen!

  3. You need only to read this article to understand why the government is behind all the foreclosures, and they will continue until there are no individual property owners if they’re not stopped.
    http://www.theblaze.com/stories/is-the-soros-sponsored-agenda-21-a-hidden-plan-for-world-government-yes-only-it-is-not-hidden/

  4. Plain and simple. Wall Street and the Banks own the government who claim no mistake and cover for the crime.

  5. I’d love to see a debate between Neil and Martin Andelman who utterly rejects the notion that credit default innovations have absolutely nothing to do with this
    .
    http://mandelman.ml-implode.com/2012/04/hawaii-court-rules-no-valid-assignment-means-deutsche-has-no-standing-to-foreclose/

  6. The government is complicit along with the Banksters (mafia) in the biggest grand theft in the history of the world. We need to replace this government with a new one, plain and simple. It’s no longer lib vs conserv, Dem vs GOP. It’s US vs THEM.

  7. i agree but do you honestly think that justice is going to happen with obama in office and theres no decent replacement they all poo in the same pot- excuse the expression but it suits them…”the system is broken” and has been for a very long time we are dealing with the mob here, more poweful than ever befor the people are sheeple lulled into a misinformed stupor and overburdened by debt and living in fear for their jobs and future they do not understand that we shape our future and if we dont get real busy real soon about it…life is not going to be funny – the fear factor is what this is all about, frankly i fear the fear because it cripples people.

  8. “The simple solution that is growing more and more complex is the only way that the U.S. can recover. With the same effort that it took in 1941 to convert an isolationist largely unarmed United States to the most formidable military power on the planet, the banks who perpetrated this fraud should be treated as terrorists with nothing less than unconditional surrender as the outcome. The remaining 7,000 community banks and credit unions together with the existing infrastructure for electronic funds transfer will easily allow the rest of the banking community to resume normal activity and provide the capital needed for a starving economy.”

    Many of the middle-men who increased the cost of money but produced nothing of value in return have to go. As simple as that. It may be through government take-over (not necessarily the best idea…) or through communities keeping their money local so that it does, indeed, serve the community. Going global does not mean relinquishing every and all control over our money, the money we earn by working hard and long hours. Close your big bank accounts and open new ones in local and regional credit unions.

  9. From the web:

    If you cannot afford an attorney, you can still fight, AND WIN. Under our Constitution, you have every right to represent yourself in a court of law. It is called “pro se.” It’s sad that a lot of people feel fearful when it’s so easy to do it yourself. The best system I’ve seen at any price (It’s downright cheap compared to attorney fees!) for this is found at: http://www.jurisdictionary.com?refercode=FR0006 . (Copy & paste the link to a new IE window, if necessary.)

  10. Not only should the banks be treated as terrorist, additionally every judge and lawyer & politition knowingly supporting and enabling the banksters to pull of this heist this horrific crime against innocent human beings should be tried as terrorist. They are terrorist!

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