To resolve billions in failed-bank loans that had no buyers at the point of closure, the Federal Deposit Insurance Corp. (FDIC) has formed 32 complex vehicles to carry some of the agency's load from the crisis. But not everyone is a fan of the deals.
Two building developers told lawmakers Wednesday that the FDIC's shared-equity transactions with investors are having significant unintended consequences. They said construction borrowers impacted by the deals face challenges trying to repair their loans, some of the investors compete with developers who had taken out loans from the bank, and some of the ventures have hurt real estate values in their respective markets.
"While the joint ventures attempt to collect on loan guaranties rather than seeking to first recover on the collateral securing the loan, the collateral wastes away and surrounding properties experience depressed values," Scott Leventhal, president and chief executive of Tivoli Properties, said in prepared testimony before the oversight subcommittee in House Financial Services. "This results in a vicious cycle that has prolonged the recovery of many local economies, when we should be resurrecting development activity to spur the creation of new jobs."
The hearing came amid growing scrutiny of one of the investment groups with which the FDIC has partnered, Rialto Capital Management. Complaints about how Rialto have treated borrowers while managing certain failed-bank loans has prompted the FDIC's inspector general to investigate the matter further.
In the vast majority of FDIC bank seizures, the agency is able to find another bank to acquire all of the failed institution's loans. But the special vehicles — part of the agency's Structured Transaction Program — has been a primary way for the agency to dispose of unclaimed assets.
Essentially public-private partnerships, the joint ventures started up in 2008 after a similar model had been used in the savings-and-loan debacle. The FDIC forms a limited-liability company, provides seller-financing to the LLC and then places in it pools of primarily distressed residential and commercial real estate loans. A winning bidder, typically an asset management and investment firm, then purchases a share of the fund's equity. So far, the structured transactions have been used to resolve about 4% of the nearly $670 billion in total failed-bank assets from January 2008 to now.
The FDIC says the deals help move inventory back into the private sector, boosting the chance for better returns and helping the FDIC satisfy its legal mandate to resolve failed banks with the "least cost" to the Deposit Insurance Fund.
"For the 32 structured transactions completed to date, the FDIC estimates savings of over $4 billion versus the recoveries it would have realized in cash sales at the time these structured sales transactions were consummated," Bret Edwards, director of the FDIC's division of resolutions and receiverships, said in prepared testimony.
He added later that "we strive to implement the least costly resolution method in a manner that is the least disruptive to depositors, borrowers and communities."
"Structured transactions minimize the FDIC's holding and asset management expenses for the assets by transferring the management responsibility to private-sector asset management experts," Edwards said.
But Leventhal and another witness pointed to more negative implications.
Ed Fogg, the head of Fogg Construction Co. and Fogg Mortgage Co., who faces bankruptcy after defaulting on numerous loans from banks resolved through structured deals, said the handling of assets transferred in the transactions by the FDIC and their winning bidders has not been conducive to workouts.
"I believe the FDIC needs to recover as much money from each individual loan … from failed banks as possible. But, this should never be done by creating further additional economic problems in these communities," Fogg said in prepared testimony.
He specifically criticized Rialto, a participant in FDIC partnerships. Fogg said the company, a subsidiary of Lennar Corp., hounded him about his payment status, and is also in position to see privileged financial information of borrowers with which it competes in development deals.
"Within the partnership with the FDIC, is there any incentive in place for Rialto to work out solutions with the consumer or is there a greater incentive within their agreement to liquidate and sue the borrower at any cost?" he said.
Meanwhile, Jon Rymer, the FDIC's inspector general, testified that in addition to an audit released last month — that noted certain "control deficiencies" in some of the LLCs — his office is currently working on a report specifically related to borrower concerns in ventures involving Rialto.
"As of April 30, 2012, the FDIC reported that it had received a total of 57 inquiries or complaints associated with approximately 65 loans, from members of the Congress, the public, or the media," Rymer said in his testimony. "The inquiries and complaints dealt with Rialto's aggressiveness in pursuing balances owed on the loans; an unwillingness to compromise with borrowers; Rialto's treatment of the borrowers or guarantors; the FDIC's handling of the loans prior to their transfer to Rialto; the servicing of the loans by the loan servicer engaged by Rialto; and other general inquiries regarding Rialto's operations."
Numerous lawmakers expressed concerns about how some borrowers, whose loans are in an LLC, have been treated.
"What FDIC is hearing today is our dissatisfaction with the way they are disposing of these assets," said Rep. Maxine Waters, D-Calif.
Even House members who are not on Financial Services, but who have constituents affected by the deals involving Rialto, participated.
Rep. Jaime Herrera Beutler, R-Wash., said not only developers, but nonprofits as well, have complained about Rialto.
"My church came to me and said, 'Rialto wouldn't negotiate,'" said Jaime Herrera Beutler, R-Wash.
But Stuart Miller, Lennar's chief executive, testified that the company has operated fairly.
"Our process is time tested and well organized. It is crafted around professionalism and decency as we endeavor to work with each borrower individually and with propriety as we seek resolution," Miller said in his prepared testimony.
"By definition, the relationship between a defaulted borrower and a lender seeking resolution is adversarial and sometimes contentious. Simply put, the parties have very different objectives. With that said, our program is to work within the four corners of every loan agreement … and as well within the four corners of the rules and the spirit of our court system and the law."
Edwards said the FDIC makes clear to loan managers working with the LLC that borrowers and guarantors "are to be treated fairly and respectfully and that any concerns the borrowers or guarantors raise are to be addressed in a timely manner."
"Nevertheless, a number of borrowers and guarantors have raised concerns about the managing members not achieving the resolution the borrower or guarantor would desire," he said. "The FDIC investigates every borrower or guarantor inquiry and works with the managing member to address any of the concerns raised."
At the hearing, he reiterated that the FDIC's statutory mandate is to "maximize recovery to these receiverships." However, he added, "We spend a lot of time looking through those complaints and make sure that our partners have not violated the … agreements in any way."