SEC Charges Three Subprime Lenders with Fraud

Three former mortgage executives were charged with fraud on Monday for activities growing out of their roles at the defunct New Century Mortgage

The charges were brought by the U.S. Securities and Exchange Commission (SEC) which accused the three of covering up the rapidly declining financial condition of their firm before it filed for bankruptcy in April, 2007.

The three are Brad Morrice, former Chief Executive; Patti Dodge the former CFO and former Controller David Kenneally.  The SEC is seeking to permanently enjoin the defendants from future violations of the federal securities laws, disgorgement of funds with prejudgment interest and to bar them from acting as an officer or director.  The suit, filed in federal court in the Central District of California also seeks unspecified civil penalties.  

New Century was one of the largest of the independent providers in the subprime lending market, lending to persons with poor credit or high debt ratios.

The government accused the officers of attempting to keep investors in the dark about the financial condition of New Century, assuring investors that the business was performing well while failing to disclose a growing incidence of loan defaults, mandatory loan repurchases and requests for repurchases.   

The SEC also charges that Dodge and Kenneally fraudulently accounted for some of the expenses associated with repurchasing bad loans.   Kenneally, with Dodge's knowledge, allegedly changed New Century's accounting method for loan repurchases.  These changes violated generally accepted accounting standards and led to what the SEC said were materially overstatements of the company's financial prospects.  

The executives are also charged with causing substantial investor losses.  The company announced in February 2007 that it had to restate its 2006 financial statements at which point its stock plunged 36 percent to the high teens.  It was trading at less than $1 when the company finally filed for bankruptcy.

Today's indictments come less than a month after U.S. Attorney General Eric Holder announced the creation of a new interagency fraud unit that will oversee investigations into the mortgage meltdown.  The SEC is a participant in that fraud unit.  At the time of that announcement Holder made it clear that investigations of subprime mortgage irregularities were already underway and that prosecutions would be forthcoming.