GAO Cites Fraud in Failures of S&Ls; : Official Calls Misconduct Rampant in Troubled Firms Examined by Agency

A massive wave of fraud and other criminal behavior may have played a much bigger role in the financial collapse of hundreds of savings and loan associations than has previously been disclosed, the General Accounting Office said Friday.

In an intensive investigation of a group of failed S&Ls;, including some of the largest of them, the GAO found that fraud or insider abuse existed in every case, GAO official Frederick D. Wolf said during a hearing here of the House Banking Committee at which he previewed a GAO report that will be issued soon.

The report implies that the massive wave of collapses in the U.S. savings and loan industry will be viewed ultimately as the biggest white-collar crime in history.

Fraud Discounted

Previously, federal regulators had insisted that, although fraud was a problem, it was only a minor issue compared with the collapse of oil prices and real estate values in Texas and Oklahoma.

Federal Home Loan Bank Board Chairman M. Danny Wall told Congress earlier this week that fraud apparently was involved in just 20% or 25% of thrift failures.

But Wolf said Friday that illegal behavior was rampant.

“Fraud or insider abuse existed at each and every one of the failed thrifts (surveyed),” said Wolf, who is director of the accounting and financial management division of the GAO, which is the investigative arm of Congress.

The illegal activities combined with the impact of an economic slump to drive S&Ls; into financial collapse.

Honestly run S&Ls;, by contrast, weathered the economic slump. As the report puts it: “On the other hand, many thrifts which operated prudently survived the same adverse conditions.”

The pervasiveness of corruption was uncovered in the GAO’s review of 26 institutions from among the 284 failed or failing S&Ls; that were merged, liquidated or helped by federal regulators between the beginning of 1985 and Sept. 30, 1987.

The companies in the sample accounted for $11.4 billion in losses to the Federal Savings and Loan Insurance Corp. fund, or 57% of the losses suffered by the fund in connection with all 284 cases.

The 26 companies were not identified, Wolf said, because disclosure could jeopardize “the government’s efforts to seek recoveries in civil suits or to prosecute alleged criminal acts.”

The frauds included a wide variety of abuses. For example, the owner of one thrift used $2 million of the S&L;’s funds to buy himself a beach house and spent an additional $500,000 on furnishings and maintenance while he lived there.

S&L; owners often would arrange for loans to friends and business associates based on hugely inflated and false appraisals of real estate properties.

Phony Land Sales

Parcels of land would be swapped and sold among S&Ls; at ever-higher appraisals. A piece of land might be sold from one dummy company to another, getting a higher appraisal each time. When the ostensible value was swollen to millions of dollars, a loan would be arranged. There are many pieces of land in Texas and other properties whose true value is a tiny fraction of the money that was lent on these properties.

Some borrowers received large amounts of money under false pretenses. One received $2 million to buy land for a ski resort but used only $200,000 to buy the land and directed the rest of the money to personal uses.

FBI agents and other investigators expect to continue their probes into the extent of the frauds in the Southwest for years.

Wolf told the hearing also that the federal bailouts of insolvent thrifts last year may only worsen the crisis. He said the sales to private investors could cost the taxpayers more than if the government had simply closed the institutions and paid off depositors.

The bank board provided more than $37 billion in federal notes and tax breaks to private investors who agreed to take over insolvent thrifts in 1988. But Wolf said the actual cost of the deals may be closer to $50 billion by the time all the notes are paid off.

May Prolong Problem

“We also have serious reservations about whether these assistance actions will result in permanent solutions or simply prolong the problem and increase its ultimate cost,” he said.

Another witness, James Cirona, president of the San Francisco Home Loan Bank, told the committee that the FBI and the Justice Department need more money to pursue white-collar criminals in the savings and loan business.

“Judges must take these crimes more seriously and sentence convicted felons to substantial prison terms,” Cirona said. “Some sentences in this district have been scandalously weak. We must deter future looting of thrifts.”

Rep. Richard H. Lehman (D-Sanger) asked witness Larry Taggart, who served as California savings and loan commissioner during a period of major savings and loan growth in 1983 and 1984: “How did all these crooks get into the S&L; industry in the state?”

Taggart responded: “I’d have to have your definition of a crook.” Taggart said many of the industry’s problems could have been managed if federal regulators had not acted too quickly in closing down troubled institutions. “There was a tremendous amount of seizure mania,” he said.

Many industry observers say just the opposite--that many thrifts were allowed to remain alive long after it was clear that they would never return to profitability. The losses such companies continued to accumulate, these critics say, greatly intensified the crisis in the industry.

Letter to Regan Cited

The committee distributed a letter that Taggart wrote in 1986, when he was a private consultant, appealing to White House Chief of Staff Donald T. Regan for help against federal S&L; regulators. The bank board’s actions “are likely to have a very adverse impact on the ability of our party to raise needed campaign funds in the upcoming elections,” Taggart’s letter said.

Taggart said he sent the letter because federal regulators were acting unfairly toward the industry, especially in Texas.

However, Banking Committee members were sharply critical of Taggart and had particularly strong praise for Edwin J. Gray, former chairman of the Federal Home Loan Bank Board, who undertook a stepped-up enforcement campaign during his 1983-87 term.

When asked about Taggart, Gray told the committee: “It seems as if he was running a little club out there (in California). I get the impression he saw the people he was regulating as people he would do business with after leaving.”

Gray spoke at length of his frustrations in trying to get more money to hire additional examiners and to increase regulation despite the opposition of the S&L; industry and of Reagan Administration budget officials.

Had ‘Ragtag Band’

“We had a little ragtag band of examiners. We were being denied the kind of help we needed,” Gray said.

Rep. Norman D. Shumway (R-Stockton) said: “I can corroborate Ed Gray’s message during the time of his tenure.”

Drawing laughter from the audience, Rep. Lehman said to Gray, “You are damn near always right. You deserve all the credit you’ve given yourself this morning.”

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