First Horizon, SunTrust Face New Round of Mortgage Scrutiny

Add First Horizon National (FHN) and SunTrust Banks (STI) to the growing list of banks facing another potential mortgage-related headache.

The banks have met with representatives from the Justice Department and the Department of Housing and Urban Development to discuss a probe into how they originate mortgages insured by the Federal Housing Administration. The companies disclosed the meetings in their second-quarter regulatory filings.

Compared to loans sold to Fannie Mae and Freddie Mac, FHA loans comprise a smaller portion of the banks' overall mortgage business. Still, the FHA portfolios that federal officials are scrutinizing include tens of billions of dollars in loans.

The government is looking for violations of the False Claims Act, which lets federal officials assess "treble and other special damages substantially in excess of actual losses," First Horizon said in its filing.

The $168 billion-asset SunTrust and the $25 billion-asset First Horizon have provided few details on the nature of the probes, making it difficult to assess their total exposure, says Kevin Fitzsimmons, an analyst at Sandler O'Neill.

"It's still very early" in the probe, Fitzsimmons says. "They only had their initial meeting."

It is unclear if the investigation is tied to an FHA plan under consideration that would let the agency adopt a new method for calculating lenders' liability for poorly underwritten loans. That plan could significantly increase the banking industry's cost of doing business with the FHA.

For SunTrust and First Horizon, the threat of large fines is another worry for companies that have dealt with a fair share of mortgage woes, says Jeff Davis, managing director of the financial institutions group at Mercer Capital. "We just can't seem to put these issues to bed," Davis says.

SunTrust and First Horizon were hammered by mortgage repurchase requests from Fannie and Freddie. Those claims have recently abated, though the companies said in recent regulatory filings that they still receive repurchase requests.

In the case of the FHA-mortgage probe, the assets under review were rarely the subject of repurchase requests, the companies say. Loans backed by the FHA are sold to the Government National Mortgage Association — better known as Ginnie Mae.

SunTrust, in Atlanta, and First Horizon, in Memphis, Tenn., have taken different paths when it comes to FHA lending. SunTrust has steadily increased its origination of FHA-insured loans, selling $33 billion in such loans to Ginnie Mae since the beginning of 2005.

First Horizon all but exited the business in 2008 by selling its national mortgage platform to MetLife (MET).

The companies have yet to disclose the amount of reserves they plan to set aside to cover potential exposure. Since the companies have said so little about the investigations, it is tough to determine what federal officials aim to uncover, Davis says.

"Is the government on a fishing expedition?" Davis says. "Or maybe the government simply moved the goalposts in the wake of the mortgage banking debacle."

The federal government may be using First Horizon and SunTrust to test theories that could later be used against the biggest banks, Davis says.

"It's hard to conceive that those institutions had not been acting with the best intentions," Davis says. "Perhaps if [the federal agencies] extract notable settlements from First Horizon and [SunTrust], there could be a push to larger players."

Marta Metelko, a spokeswoman for HUD's Inspector General, declined to comment. Spokesmen for SunTrust and First Horizon also declined to comment, referring questions to the companies' quarterly filings.

SunTrust said in its quarterly filing that it disagrees "with the analysis and methodology used to support" the allegations, though it is cooperating with the government as it holds negotiations. First Horizon said in its filing that it has also been cooperating with the civil investigation.

The probe into FHA-backed mortgages is likely smaller in scale than the $25 billion mortgage settlement that the government and big mortgage servicers reached early last year, Davis says. Bank of America (BAC) and JPMorgan Chase (JPM) said this week that they had fulfilled their requirements under that settlement.

The investigation of SunTrust and First Horizon could involve other banks.

When HUD and the Justice Department disclosed the investigation last year, they said that First Horizon, SunTrust and another unnamed bank were the subjects, Davis says. Still, Davis says he is unaware of an any other bank disclosing that it is facing the same type of probe.

The $304 billion-asset PNC Financial Services Group (PNC) disclosed in its second-quarter regulatory filing that it received a subpoena from the U.S. Attorney for the Southern District of New York.

The subpoena asked the Pittsburgh company to provide information on "claims for foreclosure expenses that are incurred in connection with the foreclosure of loans insured or guaranteed by FHA, Fannie Mae or Freddie Mac," PNC's filing said, without providing additional details.

Marcey Zwiebel, a PNC spokeswoman, declined to comment.