An investigation by the New York attorney general into Washington Mutual's role in a case of alleged real estate appraisal fraud could have broader implications for the mortgage industry.

As part of his investigation, New York Attorney General Andrew Cuomo is probing industrywide appraisal practices and whether lenders have pressured appraisers into inflating property values. Cuomo's office sees the alleged unscrupulous behavior as a catalyst for the mortgage industry meltdown, leading to home foreclosures and massive investment losses.

Cuomo has sued eAppraiseIT, one of the largest real estate appraisal management companies, and its parent company First American Corp. Cuomo is alleging that eAppraiseIT buckled under pressure from Washington Mutual to use appraisers who would inflate property values for the bank. As part of his investigation, Cuomo has also issued Martin Act subpoenas to Fannie Mae and Freddie Mac, seeking a full review of all Washington Mutual mortgages purchased by the nation's two largest financiers of home mortgages.

The Martin Act establishes the guidelines by which securities are sold in New York state. Fannie and Freddie have each agreed to hire an independent examiner to conduct the review of its business dealings with WaMu.

According to Eric Corngold, executive deputy general for economic justice in New York, the state has reviewed a series of e-mails that show a "systemic and far-reaching pattern of illegal behavior among the top executives at First American and [eAppraiseIT]." The executives broke federal and state laws and regulations by agreeing to exclusively use a list of Washington Mutual's approved appraisers, he said.

The executives allegedly admitted they were breaking laws in the-, but "caved into the pressure applied by this massive bank, according to Corngold. "The e-mails were being written, and the deals were being made, right in the middle of the market meltdown that's now swept the nation," he said in a Webcast.

The New York attorney general's office has spoken to hundreds of appraisers, bankers and brokers during its investigation. "The one uniform message we've gotten is that the appraisal process is broken," said Corngold. "If the appraisal process is broken, the loans and investments [on them] may not be worth what the investors believe they are worth."

WaMu, which began conducting business with eAppraiseIT in April 2006, has now suspended that partnership and launched its own investigation into the allegations. It said in a statement that it would "vigorously defend itself from all unfounded allegations and lawsuits."

First American Corporation issued a statement denying any wrongdoing, saying Cuomo's complaint "has no foundation in fact or law." The company also claims the e-mails "have been taken out of context, or mischaracterized, and an incomplete review of the facts belies our record of compliance with applicable law."

Terry Dunkin, president of the Appraisal Institute, a 22,000-member global organization that provides support to real estate appraisers, said the independence of appraisers was "severely challenged" during the mortgage industry's boom. He alleges that banks have threatened to withhold work and coerced appraisers to provide inflated property values "to feed the demand for mortgage and mortgage-backed securities. Such behavior has helped set the nation's mortgage crisis in motion."

But Frank McKenna, co-founder and chief fraud strategist for BasePoint Analytics, is skeptical that any alleged impropriety between WaMu and its appraisers could have had a broad impact on the mortgage crisis. "To say that this particular issue set the wheels in motion for the industry collapse seems unlikely," he said. "Given that this relationship wasn't set up until the middle of 2006 and the industry was already well on its way to where it is today, I don't think you can say that at all."

McKenna also noted that appraisal fraud only makes up about 15% of the fraud cases facing the mortgage industry, with most of the impropriety stemming from broker malfeasance. In cases of appraisal fraud, he added, by far most are done without the lender's knowledge. Brokers and real estate agents have typically been the ones charged with pressuring appraisers for higher property values, according to McKenna.

Al Gabberty, co-founder of the New York Appraisal Management Co., said he receives phone calls from lenders asking whether he can provide a specific value on a property. If he won't, he says, they say they will look somewhere else. "They work down a list of appraisers until they find someone who says, I need the money enough, and I'm going to do what I have to do."

McKenna believes Cuomo's lawsuit could ultimately strike another severe blow to an industry that already has its share of scars. "The lawsuit by Cuomo comes at a really hard time for the industry because the industry is already battered down, and this has far-reaching effects," he said. "In the short term it definitely doesn't instill any confidence that lenders are going to be able to come back and the secondary market is going to bounce back. It's another dark cloud hanging over the industry right now."

(c) 2007 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.

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