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Federal judge refuses to dismiss shareholder lawsuit against Bank of America

A judge for the US District Court for the Southern District of New York (SDNY) [official website] on Wednesday rejected a motion by Bank of America (BOA) [corporate website] to dismiss a shareholder lawsuit alleging BOA's purposeful concealment of the bank's exposure to billions of dollars in loan repurchase claims and its problematic reliance on an electronic loan registry. Judge William Pauley ruled [order, PDF] that the shareholder plaintiffs' complaint raises a "strong inference" that BOA knowingly or recklessly acted to mislead shareholders regarding its vulnerability to mortgage buyback claims, its reliance on the Mortgage Electronic Registration Systems (MERS) [corporate website] loan registry, its internal controls, and its compliance with accounting and securities rules and regulations. The complaint alleges that BOA made representations and warranties that it had good title to mortgages it sold to third parties and that it had adhered to certain underwriting standards in approving those mortgages. Aside from the accusation that BOA used underwriting standards that were far less stringent than represented, the plaintiffs allege that BOA breached its representations, exposing the bank to billions in mortgage buyback claims from third parties. The situation was caused partly by BOA's use of MERS, a private computerized registry system created by member banks for processing and tracking loans in order to eliminate the need for physically recording a mortgage. When a mortgage is transferred from one MERS member to another, a notation is made in the system without filing a public record of the transfer, and MERS lists itself as the mortgagee. Because there is no public record of the transfer and MERS is the listed mortgagee, courts have ruled that such a loan may be unsecured, and regardless that the issuing bank does not have standing to foreclose on the loan. As such BOA's representations that it held a particular amount of loan assets was rendered misleading by its failure to disclose that MERS "clouded" ownership for a substantial number of those loans. The court dismissed the plaintiffs' claims against individual BOA officers and executives.

The investor plaintiffs in the case maintain that BOA is liable to investors for billions of dollars in repurchase claims as a result of the alleged breaches, and that the BOA misled investors about the magnitude of repurchase claims BOA faced, and so the shareholders claim they were misled into purchasing BOA stock in 2009 and 2010. In 2009 the US Treasury Department [official website] issued a series of rules to restrict executive compensation [JURIST report] for firms that had accepted special assistance from the Troubled Asset Relief Program (TARP) [text]. As such, BOA executives had a strong motivation to repay the $45 billion in federal bailout funds the bank had borrowed, but they could not raise capital through issuance of BOA stock because BOA had already issued all the shares of common stock authorized under its certificate of incorporation. Instead BOA offered Common Equivalent Securities, which would convert into BOA common stock upon shareholder approval of an amendment to BOA's certificate of incorporation. While the amendment was approved and the securities converted to BOA stock, the plaintiffs claim executives concealed BOA's reliance on MERS and its exposure to billions of dollars in repurchase claims to ensure the offering's success, enabling repayment of the TARP funds and freeing the company from the federally imposed executive pay restrictions. In December BOA reached a $315 million settlement of claims brought by investors alleging they were misled with respect to mortgage-backed investments, and a $335 million settlement [JURIST reports] with the Department of Justice, relating to discriminatory lending practices. In June 2011 BOA announced an $8.5 billion settlement [JURIST report] agreement arising from claims that it had sold bad securities that contributed to the housing market collapse.

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