Three Way News

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Monday, December 11, 2006

Criminal liability

First Alliance trained its loan officers to follow a manual and script known as the “Track,” which was to be memorized verbatim by sales personnel and executed as taught. The Track manual did not instruct loan officers to offer a specific lie to borrowers, but the elaborate and detailed sales presentation prescribed by the manual was unquestionably designed to obfuscate points, fees, interest rate, and the true principal amount of the loan. First Alliance’s loan officers were taught to present the state and federal disclosure documents in a misleading manner, and the presentation was so well performed that at least some borrowers had no idea they were being charged points and other fees and costs averaging 11 percent above the amount they thought they had agreed to.

The analysis:

First Alliance needed big money in order ramp up this game, and Lehman Brothers saw an opportunity to be the “secondary lender” who could “profit from interest and fees as the credit line was repaid as well as from fees earned for underwriting the securitizations.” So Lehman Brothers did its own investigation before diving in, and sure enough, learned that First Alliance was dirty. This didn’t stop Lehman Brothers, however, and they dove in to the tune of $500 million dollars.
...From an analytical perspective, one might wonder why we need to hold Lehman Brothers accountable for the sins of its brother, First Alliance? The answer is in the theory of deterrence. You may recall my post from last week discussing judgment proofing. The tort system can’t deter fly-by-night firms like First Alliance, since when the going gets tough, they will just run to bankruptcy court and absolve themselves of their liabilities (as they did in this case). But a deep-pockets firm like Lehman Brothers can be held accountable for knowingly supporting the fraud.

I agree with the analysis, but think it's vital to highlight another point of accountability. While First Alliance can declare bankruptcy, Brian Chisick belongs in jail:

First Alliance collapsed into bankruptcy proceedings in March 2000. In 2002, its founder, Brian Chisick, and the company settled fraud charges filed by the Federal Trade Commission for about $75 million.

Shoplift $75 worth of CDs from Wal-mart and you're on your way to criminal prosecution. Steal millions from the elderly, and you get a hefty fine and an injunction from doing it again.