The United States District Court for the Eastern District of Michigan recently refused to dismiss the federal government’s complaint under the False Claims Act (FCA) against a mortgage lender. The complaint alleged the mortgage lender falsely certified to the Department of Housing and Urban Development (HUD) that certain loans were eligible for Federal Housing Administration (FHA) insurance. The district court found that the government had sufficiently alleged the mortgage lender had knowledge that it did not comply with underwriting requirements, and that its certification of compliance was material to the government’s decision to pay claims. However, the district court dismissed one of the government’s FCA theories concerning the alleged practice of data manipulation.
The government’s claims were based on the mortgage lender’s participation in the Direct Endorsement Lender program, under which the FHA authorizes lenders to underwrite loans and certify the loans as qualified for FHA mortgage insurance without HUD review or approval. Once the loan is endorsed by the lender, it is insured by FHA. If the loan defaults, the holder of the note makes an insurance claim to HUD and receives payment of the claim once it is approved. The government brought suit under the FCA, claiming that the mortgage lender at issue certified loans as qualified for FHA mortgage insurance despite its knowledge that they were not.
The government’s complaint provided ten specific examples of loans submitted as purportedly false claims, which fell within four different categories of practices it alleged violated the FCA. First, the government alleged that the mortgage lender permitted “value appeals,” whereby underwriters requested specific inflated values from appraisers so that a loan could qualify for FHA insurance. Second, the complaint alleged that the mortgage lender’s management-exception process allowed underwriters to receive management approval for exceptions to FHA underwriting requirements that could not be met in order to approve loans that were not eligible for FHA insurance. Third, the government alleged that the mortgage lender’s underwriters miscalculated borrowers’ income and certified that the loans were eligible for FHA insurance based on the overstated income. Finally, the government alleged that the mortgage lender’s underwriters manipulated data they entered into the government’s automatic underwriting system (AUS) to achieve approvals, and ignored certain red flags as to the integrity of the data.
The court found that these practices sufficiently stated violations of the FCA, except for the data manipulation claim. With respect to this claim, the government offered only one loan as factual support. The data manipulation claim failed because it rested on the underwriter’s decision to wait to verify assets until the day the borrower received her paycheck in order to maximize the borrower’s account assets. The court found there were no allegations suggesting that it was a violation of any FHA requirement to verify assets in this manner, and therefore dismissed that claim.
The mortgage lender also argued that the government had not properly alleged materiality and knowledge to state a claim under the FCA. The district court disagreed with the mortgage lender and found that the allegations showed the certifications were material because absent certification, the mortgage loans would be ineligible for FHA insurance. According to the court, the complaint plausibly alleged that the certification requirement was not “minor or insubstantial,” but instead went “to the essence of the bargain” between HUD and the mortgage lender. Moreover, it was evident that the mortgage lender knew the requirements were material because of alleged emails and statements. If true, the emails and statements reveal the mortgage lender knew that HUD would not permit the loans to be endorsed for FHA insurance if HUD was aware of the alleged violations.
The district court also denied the mortgage lender’s argument that the government had not sufficiently alleged causation, because it was reasonably foreseeable that the mortgage lender’s underwriting practices could result in default of the mortgage loan. For example, the alleged underwriting practices resulted in the overvaluation of properties, which bore directly on the ability of a borrower to repay, and therefore upon the likelihood that the borrower would default. The court found that the government plausibly pled the defaults were proximately caused by the mortgage lender’s actions.
Finally, the district court denied the mortgage lender’s motion to dismiss the government’s federal common-law claims of breach of fiduciary duty and negligence. The district court also limited the time period for the government’s FCA claims based upon the applicable statute of limitations.