A federal judge this week ordered PricewaterhouseCoopers to pay more than $625 million to the Federal Deposit Insurance Corp. due to the auditor’s failure to discover the house of cards that was the mortgage business of Taylor, Bean & Whitaker.
TBW was, at one time, the largest privately held mortgage company in the country, employing more than 2,000 people. But the company imploded in spectacular fashion in 2009 after it was discovered that TBW Chairman Lee Farkas and others were cooking the books to cover for hundreds of millions of dollars in nonexistent mortgages.
PwC has already been forced to pay up over its role in the TBW collapse. Back in August 2016, the auditor settled a $5.5 billion lawsuit that accused the company of failing in its audit duties by not discovering the accounting malfeasance that led to the collapse of Colonial Bank, which funded TBW’s mortgages.
Colonial Bank was taken over by the FDIC, which then sued PwC after Colonial collapsed and claimed that the bank’s failure cost the insurer $5 billion, making it one of the country’s largest ever bank failures.
Earlier this year, a federal judge ruled that PwC was “negligent” in its role as Colonial Bank’s auditor, stating that the company could have done more to prevent Colonial’s collapse.
And now, the judge has lowered the boom on the auditor, ordering PwC to pay the full $625.31 million the FDIC claimed in damages.
According to District Judge Barbara Jacobs Rothstein, PwC was negligent in its audits of Colonial Bank’s business in 2003, 2004, 2005, and 2008. Rothstein ruled that PwC’s audits were not designed to detect fraud and did not fully inspect Colonial’s business in the relevant years.
In a statement provided to HousingWire, PwC said that it disagreed with Rothstein's ruling and plans to quickly appeal the decision.
“PwC US is disappointed by the ruling and we don’t believe the FDIC is entitled to the recovery of any damages in this case in light of the Court’s prior findings that numerous employees at Colonial actively and substantially interfered with our audits,” PwC's legal representation, Phil Beck of Barlit Beck, said in a statement. “We intend to pursue an appeal of this matter at the earliest opportunity.”
According to Rothstein, PwC did not inspect any of TBW’s loan files at Colonial in 2003 or 2004, failed to follow up on the “illogical” dates on Colonial’s financial reports, failed inspect any of the supposed collateral backing the mortgages in question, and failed to follow-up on sample loans that failed quality control checks.
Beginning in 2002 and stretching to 2009, Farkas and his fellow conspirators swept funds between accounts at Colonial and Ocala Funding, a TBW subsidiary that also provided funding for TBW’s mortgages to cover constant overdrafts.
By December 2003, the rolling overdraft had grown to more than $120 million and sweeping the funds back and forth became too complex, so Farkas and others began selling mortgages that didn’t exist to cover the shortages.
By 2009, Colonial Bank had more than $500 million in nonexistent loans on its books.
TBW also sold loans to Fannie Mae and Freddie Mac. In 2002, loans sold to Fannie represented 85% of TBW’s business, but Fannie Mae canceled its seller/servicer agreement with TBW when it learned that Farkas had personally taken out $2 million in loans that were not actually backed by homes or any other eligible collateral to pay for the buybacks on non-compliant loans that TBW sold to Fannie.
Basically, Farkas planned to sell the eight fraudulent loans (which totaled $2 million) to Fannie to cover the money he needed pay Fannie for other non-compliant loans.
Fannie Mae discovered this fraud when Farkas was unable to make payments on the eight fraudulent loans, but did not communicate its findings to Freddie Mac, its regulator or other interested parties.
Subsequently, Freddie considerably increased the volume of its business with TBW.
Farkas’ schemes were finally discovered when Colonial, which was on the verge of insolvency, applied for $553 million in funding from the Troubled Asset Relief Program.
Colonial’s application for TARP funding was tentatively approved on the condition that it raised $300 million from outside investors.
According to a 2014 report from the Federal Housing Finance Agency’s Office of the Inspector General, Farkas agreed to use TBW to invest $150 million in the failing bank and help raise the additional $150 million because he knew that without the investment, TBW’s fraud would be uncovered.
The additional $150 million wound end up being diverted from Ocala’s books to Colonial’s, but the entire nature of Colonial’s fundraising raised a red flag with the Special Inspector General for TARP. Investigators questioned whether the injection of funding from Farkas was a “round trip” transaction, where the $300 million from TBW would be paid back from the TARP funds.
In the process of the investigation, several of Farkas’ co-conspirators eventually revealed the details of the multi-year, multi-billion dollar fraud.
Farkas eventually received a 30-year prison sentence and was ordered to forfeit $38.5 million in ill-gotten gains for the $2.9 billion scheme after he was found guilty on 14 counts of bank, wire and securities fraud.
As for PwC, the judge found that the auditor did not do nearly enough to discover what was actually happening at TBW and Colonial.
From Rothstein’s ruling:
This Court has already determined that it was reasonably foreseeable that PWC’s failure to uncover the fraud allowed the fraud to continue. This Court now holds that it was equally reasonably foreseeable that PWC’s failure to uncover the fraud allowed Colonial’s business relationship with TBW to continue past February 20, 2004, the date PWC issued its 2003 audit opinion. There can be no real dispute (indeed PWC does not raise one) that it was foreseeable that because PWC failed to detect the fraud, Colonial would continue to fund TBW-originated mortgages, both legitimate and fake. Therefore, the money Colonial lost because it continued to fund TBW mortgages—legitimate or fake—after February 20, 2004 are damages that were proximately caused by PWC’s negligent 2003 audit.
And because of its actions (or lack thereof), Rothstein ordered PwC to pay the FDIC $625 million, rather than the $306.75 million that PwC contended it should pay the FDIC.
To read Rothstein’s decision in full, click here. Document courtesy of Reuters.
[Update: This article is updated with a statement from PwC.]