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Judge OKs Probe of Countrywide's Bankruptcy Tactics

A Justice Department official can pursue her investigation into whether mortgage lender Countrywide Home Loans has serially cheated bankrupt borrowers in their bankruptcy cases, a Pennsylvania federal judge has ruled.

Judge Thomas P. Agresti of the U.S. Bankruptcy Court for the Western District of Pennsylvania said U.S. trustee Kelly Beaudin Stapleton has the power to subpoena documents and question Countrywide officials under oath about questionable actions the lender allegedly took in a slew of borrower-bankruptcy cases.

U.S. trustees are Justice Department officials charged with enforcing bankruptcy laws.

Judge Agresti's decision confirms that trustees have sweeping authority to investigate alleged bankruptcy abuses.

Countrywide itself narrowly avoided bankruptcy due to its exposure to subprime mortgages when Bank of America agreed to purchase the home mortgage giant in January.

The lender had argued that the U.S. trustee had limited authority to investigate specific issues in particular cases or proceedings and could not seek discovery related to general policies and procedures Countrywide followed in its business affairs.

Stapleton alleges that the company may have filed inaccurate proofs of claim, filed unwarranted motions for relief from the bankruptcy stay, inaccurately accounted for funds and made unfounded payment demands to debtors after discharge.

Stapleton's allegations mirror similar claims against the lender across the country. Countrywide has faced increasing scrutiny over its practices in bankruptcy cases, with trustees suing it in Georgia, Ohio and Florida.

According to Judge Agresti's opinion, similar allegations have been raised against Countrywide in at least 293 separate borrower-bankruptcy cases in the Western District of Pennsylvania.

Stapleton filed notices of examination under Federal Rule of Bankruptcy Procedure 2004 in 10 of the 293 cases, identifying allegedly "questionable" actions by Countrywide that "raised issues going to the integrity of the bankruptcy system."

She sought subpoenas for various documents and examinations under oath of Countrywide representatives regarding the lender's bankruptcy procedures.

Rule 2004 allows a "party in interest" to seek discovery from any entity regarding matters affecting the administration of a debtor's bankruptcy estate.

Judge Agresti consolidated the motions into a single case.

Countrywide objected to the notices, arguing that Stapleton overstepped her statutory authority and lacked standing to seek the requested discovery. The U.S. trustee only has the specific powers enumerated in the federal Bankruptcy Code, and the type of investigation Stapleton sought is not listed, it said.

Countrywide further contended that Stapleton had no basis for her requests under Rule 2004 because that rule exists to identify assets and transactions involving a debtor's estate and not to "launch into a wholesale investigation of a non-debtor's private business affairs."

Judge Agresti ruled that Stapleton had the authority to conduct the requested examinations and require the production of documents.

The federal bankruptcy rules give U.S. trustees broad powers beyond those specifically listed because Congress intended the officials to act as the "watchdogs" of the bankruptcy system, the judge held.

Judge Agresti also found that Stapleton demonstrated good cause for the requested discovery. The trustee demonstrated "a common thread" among the various cases involving questions as to Countrywide's calculations of its claims against debtors, he said.

However, the judge held that Stapleton's authority has its limits, recognizing the "potential for the abuse of this power."

Any party to be examined by the trustee may object, and Stapleton will have to demonstrate the good cause for her request, which will be evaluated on a "sliding scale" requiring "more justification as the level of intrusiveness increases," Judge Agresti said.

To comment, ask questions or contribute articles, contact West.Andrews.Editor@Thomson.com.

Thomas A. Connop of Locke, Lord, Bissell & Liddell in Dallas and Dorothy A. Davis of Eckert, Seamans, Cherin & Mellott in Pittsburgh represent Countrywide. Leonard J. DePasquale of the U.S. trustee's office in Washington and Norma Hildenbrand of the U.S. trustee's office in Pittsburgh represent Stapleton.