Former Mortgage Head Guilty in $2.9 Billion Fraud

By Kevin Chiu

The former chairman of a mortgage corporation, once one of the 25 largest in the U.S. has been convicted by a federal jury in a $2.9-billion fraud scheme that drove Colonial Bank Lee Farkas and its lending empire, Taylor, Bean and Whitaker out of business and into bankruptcy. The scheme is believed to be one of the longest and largest single bank frauds in U.S. history.

After a 10-day trial, a federal jury in the Eastern District of Virginia convicted Lee B. Farkas on six counts of bank fraud, one count of conspiracy to commit bank, wire and securities fraud, four counts of wire fraud and three counts of securities fraud. Farkas faces up to more than 150 years in prison for his part in the scheme. The former bank chairman was remanded into custody to await sentencing, scheduled for July 1, 2011.

Farkas was convicted of master-minding a scheme that misappropriated more than $1.4 billion from Colonial Bank’s Mortgage Warehouse Lending Division in Orlando, Florida and approximately $1.5 billion from Ocala Funding, a mortgage lending facility controlled by TBW, according to testimony presented at trial. The money was used to cover the company’s operating expenses, which was losing massive volumes of cash daily as a result of failing mortgages.

“In 2008, Lee Farkas boasted that he ‘could rob a bank with a pencil.’ And he did just that,” said U.S. Attorney Neil MacBride. “His staggering greed led him to steal nearly $3 billion from Colonial Bank and other investors. Farkas’s mammoth fraud contributed to the toppling of a financial institution and the ripple effects were felt from Wall Street to Main Street.”

Six other individuals have pleaded guilty for their roles in the scheme, including: Paul Allen, former chief executive officer of TBW; Raymond Bowman, former president of TBW; Desiree Brown, former treasurer of TBW; Catherine Kissick, former senior vice president of Colonial Bank and head of its Mortgage Warehouse Lending Division; Teresa Kelly, former operations supervisor of the warehousing division; and Sean Ragland, a former senior financial analyst.

Colonial Bank

“Lee Farkas, the former chairman of TBW, masterminded one of the largest bank fraud schemes in history,” said U.S. Assistant Attorney General Breuer. “His shockingly brazen scheme poured fuel on the fire of the financial crisis. It not only led to the downfall of TBW, one of the largest private mortgage lending companies in the United States, but also contributed to the failure of one of the country’s largest commercial banks.”

The scheme began in 2002 when bank employees ran overdraft protection on bank checking accounts at Colonial Bank in order to cover cash shortfalls. Employees were instructed to transfer money between accounts to hide the overdrafts, which grew over time to cover up mortgage losses of more than $1.5 billion, including loans that had already been sold to investors as mortgage-backed securities.

The company sold commercial paper to institutional investors, including Deutsche Bank and BNP Paribas Bank. However, Ocala Funding was required to maintain collateral in the form of cash or mortgages at least equal to the value of outstanding commercial paper.

Farkas and his co-conspirators diverted cash from Ocala Funding to TBW to cover its operating losses, creating large deficits in the amount of collateral Ocala Funding held to back the outstanding commercial paper. To hide their actions, employees sent false information to Deutsche Bank, BNP Paribas Bank and other investors leading them to falsely believe they had sufficient collateral backing the commercial paper they had purchased.

When TBW failed in August 2009, the banks were unable to redeem their commercial paper. Farkas and his co-workers also said the bank held $900 million in mortgages on Colonial Bank’s books when the loans had actually already been sold to Freddie Mac and other investors.

Colonial Bank’s holding company applied for $570 million in taxpayer funding through the Troubled Asset Relief Program (TARP). In connection with the application, Colonial submitted financial data and filings that included false information, according to federal authorities that related to mortgage loans and securities held by Colonial.