Foreclosure Scandal Cost Banks $42 Billion

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Big banks are reeling under the pressure of the burgeoning foreclosure mess. Toxic foreclosures resulting from faulty oversight practices have already caused a public relations disaster for banks, but now the scandal could hit big banks in the wallet, too – about $42 billion by one estimate.

That was the conclusion reached by analysts at Royal Bank of Scotland (Stock Quote: RBS). The bank ran the numbers and came up with the $42 billion tab for big banks linked to the foreclosure scandal. The number could be higher, depending the legal outcome (borrowers, investors and state attorney generals are all either already in court or are planning to bring charges against mortgage lenders in court).

RBS breaks it down like this:

  • Legal/settlement fees               $4.3 billion
  • Mortgage repurchases              $25 billion
  • Other claims                            $25 billion and up

RBS claims that up to 3% of all mortgage files kept by big banks may be "materially and adversely incomplete as a result of original documents that were never conveyed to the custodian."

The “fab four” banks that will pay the cost line up like this, according to RBS:

  • Bank of America (Stock Quote: BAC)
  • Citibank (Stock Quote: C)
  • JP Morgan Chase (Stock Quote: JPM)
  • Wells Fargo (Stock Quote: WFC)

For the record, Bank of America did suspend its foreclosures across the country in order to review its books, but will resume them in 23 states as of Oct. 25.

“Our initial assessment findings show the basis for our foreclosure decisions is accurate,” Bank of America said in a statement. “Our decision to review our process and later, to extend our review to all 50 states, has been an important step to give customers confidence they are being treated fairly.”

JP Morgan is still reviewing about 115,000 foreclosure cases in 41 states, but Citibank and Wells Fargo have kept the foreclosure wheel turning all along, with both firms claiming that their internal procedures were on the up-and-up.

“We have no indication that our employees are not following our current procedures, and we do not believe a suspension is necessary,” Citibank officials said in a statement. “We have many safeguards in place to prevent improper filings. We require annual certification of our employees' understanding of the proper procedures, and managers are accountable for regularly reviewing files to make certain that our employees comply with the procedures. Finally, foreclosures are monitored to make certain that staffing is adequate to review the affidavits properly. We will work with the Attorneys General in any way we can as they seek to improve the process."

It’s full speed ahead for Wells Fargo, as well: “Our records show that Wells Fargo’s foreclosure affidavits are accurate,” the company said in a statement.

Overall, the cost to banks could be much higher than the estimates reached by Royal Bank of Scotland. Simon Johnson, the former chief economist for the International Monetary Fund, pegs the total cost at up to $100 million.

“This is a fast-evolving situation in which every day brings potentially significant news, but our baseline view is that the losses are in the range of $50 billion to $100 billion — that is, these are ‘new’ losses not yet recognized by banks,” writes Johnson in the October 21 edition of the New York Times. “(Our downside possibility, with perhaps a 10 percent probability, is that the losses are much larger).”

That’s not good news for banks, or the housing market at large. One year from now we might look back at the foreclosure scandal and see it as a historic turning point in the way banks handle mortgage loans.

Hopefully, it will be a turning point for the better – or all bets are off.

—For the best rates on loans, bank accounts and credit cards, enter your ZIP code at BankingMyWay.com.

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