Federal regulators ignored repeated warning signs about Pasadena's IndyMac Bancorp., and their failure to prevent the mortgage lender's collapse last summer cost the Federal Deposit Insurance Corp. $10.7 billion, according to a government report released Thursday.
The report by the Treasury Department's inspector general said regulators should have seen that IndyMac was built on a house of cards -- shaky loans based on inflated property values.
Underscoring the depth of the failure, the report said the loss was nearly $2 billion more than previous estimates.
The inspector general said the Office of Thrift Supervision should have taken enforcement action against IndyMac more than two years before the bank was finally seized by the FDIC on July 11.
In a 2005 review of the bank, the OTS reported that IndyMac was having trouble with its cash flow. The next year, an FDIC examiner sent a note to the OTS warning that one source of IndyMac's debts -- federal loans -- equaled more than a third of its assets, a huge proportion. Both problems ended up being factors in IndyMac's failure, yet OTS took no enforcement actions against the bank in response.
"OTS waited until June 2008 to issue its first informal enforcement action against IndyMac," said Marla Freedman, the assistant inspector general for audit. "That was much too late. They had a very risky business model, and the OTS should have been making recommendations much earlier about how IndyMac could manage its risk."
OTS Director John M. Reich said in a letter to the inspector general that he agreed with the agency's findings. In response to the report and earlier reports of failings by the agency, the OTS on Thursday announced that it was establishing a large bank unit in its Washington headquarters to oversee institutions with more than $10 billion in assets.
The report also dismisses the notion that Sen. Charles E. Schumer (D-N.Y.) caused IndyMac's failure by writing a letter to OTS that outlined his concerns with the bank. Reich said after IndyMac's failure that Schumer's letter had given IndyMac "a heart attack."
"We found no supporting evidence for that," Inspector Gen. Eric Thorson said. "The bank already was failing by the time that letter was made public."
Schumer said in a statement that the inspector general's report made a strong best case for financial regulatory reform.
"In extraordinary detail, the audit documents that federal regulators not only turned a blind eye to IndyMac's reckless lending practices but also actively participated in a cover-up to help the bank avoid scrutiny," he said. "It's no wonder the regulators tried to shift blame after the bank failed; they were making excuses for IndyMac's management until the very end because they were in bed together."
Thorson said that IndyMac was undone by its lax loan standards, specifically citing its reliance on so-called alt-A loans, which allowed people to borrow money without documenting their income.
In one case cited in the report, IndyMac gave a borrower a $926,000 loan to buy a $1.4-million home. The borrower did nothing to prove a stated income of $50,000 a month.
"This guy made, in total, payments of $5,300 before defaulting," Thorson said. "The property later went up for sale for $599,000. It was that kind of thing that they weren't checking out."
Inflated appraisals such as the one Thorson cited were regular culprits in IndyMac's bad loans. The report found that in one case IndyMac sought multiple appraisals on a property that ranged from $500,000 to $5 million.
"Which one do you think IndyMac went with?" said Freedman, the assistant inspector general. "They always went with the high appraisal because their goal was to get these loans done and make a profit."
The OTS had access to all of IndyMac's financial statements and noted problems with the thrift's reliance on risky loans and shrinking capital as early as 2001. But the agency did not follow through by making sure that IndyMac's managers implemented the agency's recommendations.
"Over and over again IndyMac assured OTS that it was taking action, but it wasn't," Freedman said. "And OTS didn't do anything about it, in spite of the fact that IndyMac management had a history of not taking any sort of corrective actions."
Even as late as April 2008, OTS examiners were concerned about the possibility that taking an enforcement action against IndyMac "would signal a problem with the institution and impact IndyMac's ability to raise capital," the report said.
That infuriates IndyMac depositors such as Agnes Huff, who lost $57,500 in uninsured deposits when the bank failed.
"They were pulling the wool over everyone's eyes and cheating their customers, and to make matters worse, the government was helping them do it," said Huff, who runs a public relations firm in Los Angeles. "The system is so broken and so totally chaotic that they need to purge the whole thing and start it all over."