Financial Fraud Fannie Mae Review of Fraud

Financial Fraud Fannie Mae

Review of Fraud Schemes within Fannie Mae 1998-2004

Scope

The agency found the fraud understatements of earnings and illegal gratuities that led to accounting violations and inability to meet Wall Street goals.

The investigation of Lee Frakas, executive of a major mortgage company which had dealings with Fannie Mae with hundreds of fake mortgages. The Securities Exchange Commission cited that Fannie Mae had to repay earnings and correct their books for the period 2001 through 2004. This major undertaking will cost the company over $11 billion by SEC estimates. In addition the Department of Justice has conducted a criminal investigation on the board members.

Summary

The top executive managing Fannie Mae were found guilty of illegally reporting accounting information that led to their receiving million dollar payments. Under Fraudulent Financial Statement Schemes this case is one of corruption and financial fraud. The specific areas include Illegal Gratuities, Asset/Revenue Overstatements and Understatements. Accounting records were falsified to satisfy investing partners according to the OFHEO (Oversight Office of Federal Housing Enterprise). The result was a substantial fine of several million dollars (Associated Press, 2006). The investigation by the Oversight Office took nearly three years and the entire overstatement of financial reports totaled a staggering $11 billion dollars (Associated Press, 2006). The Security Exchange Commission also penalized Fannie Mae levying over $400 million dollars in civil fees that are to be repaid to investors. These extensive violations of accounting and financial reporting caused major damage to investors that contributed to nearly crippling of the U.S. Housing market which still has yet to recover.

Many of Fannie Mae's executive board leaders were removed from office in 2004 due to the charges brought against the federal mortgage company (Associated Press, 2006). Earnings were misstated by failure to report accurate numbers by the competing Freddie Mac for over $4 billion dollars according to OFHEO. This fraudulent reporting took place for over two years in the period from 2000 through 2002 (Associated Press, 2006).

The auditing committee for Fannie Mae was similarly removed from their positions and new members were hired to review all the accounting books from the late 1990s through 2008.

To add insult to injury $3 billion in fraud was uncovered as an executive at Fannie Mae, Samuel Smith found a loan that had been resold a second time from Bean & Whitaker, which is a Mortgage Company (Schoenberg, 2011). As a government authorized sponsor to cover mortgages, Fannie Mae had discovered a major problem involving Taylor Bean with hundreds more loans that were invalid and had no mortgage insurance coverage (Associated Press, 2006).

The main contact at Taylor Bean that setup these fraudulent deals was Lee Frakas, he was under investigation, however, Fannie Mae continued to accept bad loans.

Summary of Conclusions

In order to make corrections to the current practices in the accounting policies, audit procedures, and corporate structure, the company has agreed to hire in all new management and employees after dismissing all involved in the scandal. A cap has been placed on the amount of growth allowable which has been set at $720 billion (Associated Press, 2006). The number of executives and others dismissed from the company was more than forty. This included the CEO named Daniel Mudd, who is being reviewed by the SEC and may be charged with fines or other disciplinary action (Associated Press, 2006). Fannie Mae never plead guilty to any charges nor did they deny any allegations. Instead the company settled the matter out of court by submitting to a full investigation and agreement to abide by the SEC laws and avoid any further violations (Associated Press, 2006).

The appointed director for OFHEO reports that Fannie Mae was operating under a guise of being the 'best and safest risk in mortgage lending, when in fact it was a facade" says James Lockhart. The reports uncovered a culture where any thing goes as long as the result showed growth, he further stated. "Senior leaders in the company falsified accounting, awarded huge undeserved bonuses, and kept the investors and auditing office in the dark, along with the rest of the public" (Associated Press, 2006).

The report also charged the board with using unethical practices in guaranteeing loans of mortgages throughout the United States. In fact the findings covering millions of documents that cover total violations of the SEC and accounting practice standards. With false information being reported to investors, the SEC, and other regulatory organizations including banks, mortgage lenders, and investors for the years 1998 all the way through 2004. The executive management team was found deliberately changes the numbers reported to show growth and report higher earnings than were actually received.

The decision to wait until 2002 for Fannie Mae to end the contract with the fraudulent Taylor Bean Mortgage company due to bad loans and what was cited as "serious problems" based on the OFHEO report. This delay caused the amount of the accounting failure to spiral into over $189 million in delinquent advances on payment.

The standards that Fannie Mae set corporate wide need to be revised to remove risk factors and add more management of risk governance reports Randal Quales, who is from the Domestic Finance Department of the Treasury (Associated Press, 2006).

Fannie Mae failed to report the fraudulent loans to the authorities and instead attempted to discontinue any business with Taylor Bean. Yet somehow the bad loans were not corrected. Obviously Fannie Mae executives decided to overlook these errors.

In fact Fannie Mae recorded an internal paper trail designed to show an attempt to disconnect from Taylor Bean. There were memos and documents written that explained the situation and how it was "ridding itself of liabilities and cut ties with a mortgage firm selling loans "that had no value," as Smith, the former vice president of Fannie Mae's single family operations, said in a 2008 deposition" (Schoenberg, 2011).

Fannie Mae has agreed to make the required changes to become compliant with federal regulation guidelines.

A statement made by the CEO Mudd recognizes that the company made some serious mistakes. He says "We are glad to resolve these matters. We have all learned some powerful lessons here about getting things right and about hubris and humility," Mudd said in a statement. "We are a much different company than before. But we also recognize that we have a long road ahead of us Mudd" (Schoenberg, 2011).