A federal appeals court on Friday upheld a jury's decision that Wall Street giant Lehman Bros. Holdings Inc. was liable for aiding and abetting a carefully scripted fraud committed against elderly and financially strapped homeowners by a now-defunct Irvine mortgage firm.
The 9th Circuit Court of Appeals in San Francisco ruled that the federal jury in Santa Ana had decided correctly in 2003 that Lehman Bros. shared blame for the fraud perpetrated by First Alliance Corp.
First Alliance was a sub-prime lender, concentrating on people with poor credit or other troubles that prevented them from obtaining lower-cost bank loans. Its telemarketers pitched mortgage refinancings to struggling borrowers who had significant equity in their homes. According to testimony, it used an intricate sales pitch to conceal fees that added as much as 24% to the balances of its loans.
Lehman Bros., one of Wall Street's oldest firms, had provided funding and other services that enabled First Alliance to continue in business in 1999 and early 2000 despite lawsuits filed by several state attorneys general, borrowers' groups and AARP.
In its 60-page ruling Friday, a three-judge panel of the appeals court said the jurors' decision to hold Lehman liable was based on evidence that Lehman had "actual knowledge" that borrowers were being misled about loan terms and nonetheless provided "substantial assistance" to First Alliance.
Plaintiffs' attorneys had focused on internal memos, especially a Lehman report that said First Alliance required its employees "to leave your ethics at the door."
The appeals court said, however, that the jury had been improperly instructed about damages and sent that part of the case back for recalculation. The jury had set total damages to 4,500 borrowers at $51 million and held Lehman liable for 10% of that amount, or $5.1 million. The appeals court let stand the 10% assessment but said the overall amount awarded had been set too high.
Richard Scruggs, lead attorney for the borrowers, couldn't be reached for comment. A spokesman for Lehman Bros. declined to comment.
First Alliance collapsed into bankruptcy proceedings in March 2000. In 2002, its founder, Brian Chisick, and the company settled fraud charges filed by the Federal Trade Commission for about $75 million.
Lehman defense attorney Helen Duncan maintained during the trial that the Wall Street bank believed that First Alliance had cleaned up its practices by the time Lehman became its chief financial backer. Duncan didn't return a phone call Friday.
Although the jury's decision carved out a new area of potential liability for Wall Street, Lehman managed to limit the damage. U.S. District Judge David O. Carter ruled at the trial that the borrowers could not seek punitive awards and that the bankruptcy trustee could not seek to recover tens of millions of dollars in fees that Lehman earned for its role in funding First Alliance. The appeals court let those decisions stand.
Carter said at the time of the trial that despite a growing controversy over sub-prime lending Congress had not set clear legal standards governing the loans, creating a murky backdrop against which states passed their own laws and state regulators often took the lead in pursuing alleged wrongdoers.
At the time of the jury's verdict, legal experts said it was the first time that a financial backer of an abusive lender had been held liable in federal court.