A second US Senator has raised the alarm about the ongoing foreclosure fraud scandal that has stopped evictions from several major lenders. Following in the footsteps of Sen. Al Franken, Sen. Jeff Merkley (D-OR) has called for an independent investigation of foreclosure practices at the nation’s top lenders. The acting head of the Office of the Comptroller of the Currency, John Walsh, has ordered an internal review by the top seven lenders in the industry, but Merkley’s independent review would go further.

Merkley’s letter to Treasury Secretary Tim Geithner and HUD Secretary Shaun Donovan also states that he wants a freeze on all evictions and foreclosure proceedings at Ally Financial and any other lender shown to have problems with their foreclosures. An excerpt:

As you know, more than two million American families are expected to lose their homes this year, setting a sobering new record for foreclosures in our country. Having one’s home foreclosed upon is a devastating experience for any homeowner, and it has repercussions for many years into the future. Our families deserve to know that an action with such a huge and lasting impact is the absolute last resort, and that every effort has been made to keep them in their homes prior to foreclosure. Given the dramatic impact of the foreclosure epidemic on the larger economy, avoiding unnecessary foreclosures is also in the larger public interest [...]

I believe that foreclosures initiated by Ally Financial and other servicers with established problems should not be allowed to move forward until it can be ascertained that all proper steps were followed for any affected homeowner. Furthermore, it is essential that completed foreclosure actions be reviewed, and that proper restitution under the law be made for every family not treated properly during the foreclosure process.

As Merkley notes, by participating in HAMP or other programs from the FHA, and because the US still holds a substantial chunk of ownership in many US banks, the lenders now seen with faulty foreclosure practices are either receiving incentive payments from the government or have bailout money in their coffers. This should give the government the ability to shut down bad foreclosure practices that serve to hustle people out of their homes.

My favorite part of the letter is this:

CC: Elizabeth Warren, Assistant to the President and Special Advisor to the Secretary of the Treasury on the Consumer Financial Protection Bureau

I just want to go back to Rick Aster’s cogent explanation of the role that title insurance plays in all of this, and why these mistakes, designed to cover over additional fraud in how mortgages were sold and securitized, will remain with us for a long time.

A bank doesn’t foreclose on a house just so that it can take possession of the house. There is no gain to the bank unless it can then sell the house. For a bank to sell a house, there has to be a buyer, and most buyers will need financing — they’ll need a mortgage of their own. A mortgage can’t be issued without title insurance, however. The title insurance protects the bank that issues the new mortgage from prior mistakes in acquiring the real estate — mistakes such as the ones that occur in foreclosure fraud. Without title insurance, there is no new mortgage, and the property can’t be sold. If the property can’t be sold, there is nothing for the bank to gain by foreclosing.

So if the title insurance may not be available, a bank is almost forced to suspend its foreclosures, as several banks have announced in the last week. In a practical sense, the bank won’t be able to sell the foreclosed house. In theory, it could sell the house, but only to a cash customer — and the people who are financially strong enough to pay cash for a house tend also to be savvy enough to say, “I know this is a hurt property you’re selling, one that ordinary people aren’t able to bid on. I want it for a 30 percent discount.”

A bank that chose to continue its foreclosure express when the title insurance isn’t there can plan on taking huge losses on the process in addition to the risk of extraordinary legal expenses. It risks losing liquidity because of foreclosures, when the whole purpose of foreclosing, from the bank’s point of view is to gain liquidity. If done on a large enough scale, this course of action could put a bank of any size into insolvency.

That’s why we need an investigation, so the banks get held to account for their mistakes, and so homeowners don’t get removed from their homes at great risk to the overall economy.

Merkley’s full letter is on the flip:

October 4, 2010

The Honorable Timothy Geithner
U.S. Secretary of the Treasury
1500 Pennsylvania Avenue, NW
Washington, DC 20520

The Honorable Shaun Donovan
U.S. Secretary of Housing and Urban Development
451 7th Street, SW
Washington, DC 20410

Dear Secretary Geithner and Secretary Donovan,

I am deeply concerned about recent reports that Ally Financial and several leading banks have been processing home foreclosures without adequate review of key documents, and perhaps with fraudulent approval signatures of company representatives.

As you know, more than two million American families are expected to lose their homes this year, setting a sobering new record for foreclosures in our country. Having one’s home foreclosed upon is a devastating experience for any homeowner, and it has repercussions for many years into the future. Our families deserve to know that an action with such a huge and lasting impact is the absolute last resort, and that every effort has been made to keep them in their homes prior to foreclosure. Given the dramatic impact of the foreclosure epidemic on the larger economy, avoiding unnecessary foreclosures is also in the larger public interest.

According to credible reports in the Washington Post and other media, Ally Financial did not exercise proper professional standards as decisions were made about the fate of families struggling to maintain their homes. These reports are even more disturbing because the U. S. Government is a majority stakeholder in Ally Financial. The recent freeze in foreclosures announced by J.P. Morgan Chase, GMAC Mortgage, and Bank of America while internal investigations take place suggests that this problem may be widespread and not limited to poor management at a single company.

Accordingly, I request that the full resources of your departments, and of other relevant agencies of the U. S. Government, be brought to bear on this situation. Specifically, I urge you to jointly appoint an independent investigator to examine the foreclosure actions at the major loan servicers. I believe that foreclosures initiated by Ally Financial and other servicers with established problems should not be allowed to move forward until it can be ascertained that all proper steps were followed for any affected homeowner. Furthermore, it is essential that completed foreclosure actions be reviewed, and that proper restitution under the law be made for every family not treated properly during the foreclosure process.

Millions of families have applied to the Home Affordable Modification Program (HAMP) or sought to access programs offered by the Federal Housing Administration in an effort to remain in their homes. It is essential that we can assure these homeowners that their applications are being reviewed in a fair and accurate manner. Organizations that are receiving incentive payments from our government programs should not be resorting to “foreclosure mills” and utilize inappropriate shortcuts to expedite foreclosures, at the expense of fair treatment for their customers.

Please inform me as to the steps you intend to take to deal with this situation, so that we can be sure American families are not unjustly evicted from their homes.

I appreciate the efforts you have made in recent months to implement new foreclosure prevention programs. I look forward to your prompt response to this letter and to continuing to work with you to speed those efforts.

Sincerely,

Jeffrey A. Merkley
United States Senator

CC: Elizabeth Warren, Assistant to the President and Special Advisor to the Secretary of the Treasury on the Consumer Financial Protection Bureau