Citi is one of the banks that has found itself caught up in the recent foreclosure mess, could be facing more problems, including litigation. Not only is the bank being hit by homeowners challenging foreclosures, it is also facing possible liability to investors who bought Citi’s mortgages. To understand Citi’s potential problems (as well as other major banks), and also to better understand the current “foreclosure crisis,” it is important to understand just exactly what the big banks did with your mortgage (and the thousands of other mortgages they acquired).
Remember the movie “It’s A Wonderful Life”? Of course you do, it’s a holiday classic. The movie’s main character, George Bailey, had a small savings and loan bank in Bedford Falls. “Bailey Building & Loan” lent money to the citizens of Bedford Falls to build homes, stores, etc. Bailey Building & Loan loaned its actual funds, and when the homeowners of Bedford Falls made their mortgage payments, they sent a check to Bailey B&L (okay, those details weren’t actually in the movie…because who wants to watch a movie about banking).
The banking and mortgage industry today is nothing like what we saw in It’s A Wonderful Life. The company you got your mortgage from (the “originator”) most likely funded it with money from another financial institution. That originator then packaged a number of mortgages together and sold them to a big bank (such as Citi, JP Morgan, Bank of America, or Wells Fargo). The large banks then took thousands of home loans, pooled them together, and put that pool of loans through a process called “securitization.”
Through securitization, the banks would essentially create a corporate entity or trust that held this large pool of loans, then sell off interests in this new entity or trust to investors. This process was similar to setting up a traditional company and selling shares of stock in it. However, instead of owning tractors or equipment, this new entity only owned home loans. Investors would then have the right to revenues that came in as the homeowners repaid the loans.
In short, your mortgage is most likely not owned by the community bank down the street. It was probably sold to a big bank, pooled with thousands of other loans and “securitized,” and then sold off to third party investors (such as pension funds, university endowments, charitable trusts, etc.). This is where banks such as Citi, Bank of America, and Wells Fargo are finding themselves in trouble. These banks made certain representations to potential investors about the securities (generally referred to as “mortgage back securities”). As the deficiencies in the underlying mortgages have come to light in recent months, these mortgage backed securities have also taken a hit. And the investors are now looking at the banks that created and sold them these securities.
So the current mortgage and foreclosure mess that the banks created runs very deep. When they played fast and loose with mortgages, not only are they affecting the homeowners who just want to keep a roof over their family, they’re impacting innocent investors as well.