Lehman Aided Lender’s Fraud, O.C. Jury Told

Desire to dominate the lucrative mortgage securities market caused Lehman Bros. to bankroll First Alliance Corp., even though the Wall Street firm knew the now-defunct Irvine lender was systematically swindling older homeowners, a lawyer for First Alliance customers told a jury Thursday.

Wrapping up a three-month fraud trial before U.S. District Judge David O. Carter in Santa Ana, attorney Richard Scruggs called the case “a shameful exploitation” of people under economic stress.

Scruggs said if Lehman hadn’t backed First Alliance, the mortgage company would have shut down in late 1998 amid lawsuits accusing it of abusive lending practices.

Instead, Scruggs alleged in his closing argument, First Alliance continued on in 1999 and early 2000, with squads of former used-car salesmen using scripts of detailed deception to cheat 4,700 additional borrowers. The victims, he said, “were expecting a helping hand” but instead “were walking into a trap baited by money from Wall Street.”

Lehman has contested the allegations that it aided and abetted First Alliance’s fraud.

Executives from the Wall Street firm testified during the trial that they scoured First Alliance’s loan files for improper practices, disclosed the lawsuits to buyers of the mortgage securities and believed that origination fees of 14% and higher could be justified because First Alliance’s customers were so-called sub-prime borrowers with blemished credit records.

The jury has heard testimony about how investment banks set up credit lines to fund First Alliance’s loans and then sold them as mortgage-backed securities.

Prudential Financial Inc. and Wachovia Corp.’s First Union unit, previously dismissed as defendants, abandoned that business to Lehman because litigation by several state attorneys general, AARP and other plaintiffs had become “radioactive,” said Scruggs, a Mississippi lawyer known for helping states win billion-dollar settlements from tobacco companies.

The trial is believed to be the first for a securities firm on allegations of helping a lender defraud borrowers. It is being watched closely by the firms that carve up sub-prime loans into securities, a multibillion-dollar industry that Scruggs said Lehman wanted to dominate. He predicted outside court that a verdict in the plaintiffs’ favor would be “the first time anyone has tagged a Wall Street firm for subsidizing a rogue of this kind.”

Sheila Canavan, another plaintiffs’ lawyer, added: “This is just the beginning of our focus on this.”

During the final arguments, plaintiffs’ attorney Don Barrett summarized the evidence against Lehman, including testimony from an elderly woman who said she’d walked away happy with what she believed was a $52,000 loan from First Alliance -- only to learn later it was really for $72,000.

Another woman, who wanted to refinance a $14,000 credit card debt, wound up wrapping it and two mortgages into a new loan for which First Alliance charged $18,000 in fees, Barrett said.

The plaintiffs initially hoped to win hundreds of millions of dollars but scaled back their damage claims to $87 million.

Carter told the seven-woman, three-man jury to award damages only if they believe Lehman “substantially assisted” First Alliance in perpetrating a fraud. If damages are awarded, jurors must divide the blame among Lehman; First Alliance and its former executives; and MBIA Insurance Corp., which insured the company. A previous $75-million settlement by First Alliance and its founder, Brian Chisick, would partially offset any damages.

Lead defense attorney Helen Duncan was scheduled to give her closing argument today. She told the jury previously that First Alliance had cleaned up its practices by the time Lehman became its main banker, and that the company helped thousands of borrowers who otherwise would have lost their homes or failed to qualify for loans.

But Scruggs cited internal memos from a Lehman executive who investigated First Alliance and wrote in 1995 that the company required employees “to leave your ethics at the door.” In a 1999 memo, the executive said First Alliance was still violating the spirit of the federal Truth in Lending Act.

Lehman “lost their moral compass,” Scruggs said.

“You’re the moral compass,” he told the jury, “not only for these guys [at Lehman] to follow in the future, but for all the industry to follow in the future.”