Stated Income at Issue in MI Lawsuit

PMI Mortgage Insurance Co. filed a counter-complaint against NovaStar Financial Inc. alleging the lender fraudulently obtained mortgage insurance for “stated income loans” by misrepresenting that it would use stated income data to underwrite the loans.

The counter-complaint and NovaStar’s opposition are just some of the many actions between the two companies that have stemmed from NovaStar’s October 2003 lawsuit, which alleged that PMI had breached its contract by rescinding coverage on 10 loans that were not paid in full. Since then, that number of loans has increased to a total 22, of which 10 are stated income loans.

Reasons PMI has given NovaStar for refusing to cover claims on disputed stated income loans, include that the income was false, incorrectly stated and overstated, according to initial complaint.

But now PMI said it “recently learned” that it was misled by NovaStar to insure 6,300 “stated income loans,” which require borrowers to truthfully state their income without providing documentation. The loans, made between 2000 to 2002, were allegedly underwritten under terms different than NovaStar represented it would follow when it was seeking insurance from PMI, according to the counter-complaint filed early May in the U.S. District Court for the district of Kansas.

“It has become clear that the loans that NovaStar represented were Stated Income loans actually were a different type of loan that had a higher risk,” the mortgage insurer said. “What PMI believed were Stated Income loans were more akin to ‘No-Ratio’ loans and other types of loans that require less documentation to qualify.”

While PMI and the Missouri-based lender have been in litigation since October 2003, PMI says it was until this March that a NovaStar executive “admitted that its representations were untrue.” In a deposition testimony, he informed that NovaStar did not use or rely on the incomes borrowers stated on applications to qualify the borrower for a stated income loan, according to court documents.

The executive, NovaStar President Lance Anderson, said the company looks “at the income they’re stating, if it seems reasonable, then we’re comfortable not verifying it and not using it in our underwriting decision,” according to PMI.

“It’s not a material part of the underwriting decision,” he continued. ” You’re using other factors like loan-to-value ratio, FICO score, those type of things.”

PMI stated in the counter-complaint that had it “known that NovaStar was not using borrowers’ stated incomes to qualify them for NovaStar’s Stated Income loan program, PMI would not have insured” the mortgages.

Additionally, PMI said that NovaStar also misrepresented that the debt-to-income ratio was an essential element in stated income loans. Anderson allegedly testified that the lender does not consider the ratio in its underwriting decisions, rather, it is just calculated.

NovaStar allegedly provided underwriting guidelines and matrices to PMI in which it “explicitly and implicitly represented that NovaStar would use the income stated on a borrower’s loan application to qualify the borrower for a Stated Income loan” — representations PMI relied on “in agreeing to insure the Stated Income loans and in setting premium rates,” PMI said in the lawsuit.

In a memorandum filing Monday opposing PMI’s counter-complaint, NovaStar said that “when the statements from the guidelines are taken in context and the testimony of Lance Anderson about those guidelines is considered in full, it is apparent that Mr. Anderson’s testimony is not contrary to the guidelines at all. Instead, PMI is attempting to generate a misrepresentation through a strained reading of the guidelines.”

“Ignoring for the moment the illogical bent of such a suggestion — that NovaStar would rely on information that had not been verified, rather than employment and credit information that was verified — PMI’s contention that it just “recently learned” that this was not so in depositions taken in March is demonstrably wrong,” the lender added.

NovaStar has also been subject of class action lawsuits from shareholders who accused it of artificially inflating shares, creating the illusion that its number of branches was increasing and that record results would follow. Allegations that were dismissed by NovaStar attorney, Lanny Davis, who called the lawsuits “false and misleading” and said he was confident that the suits would be dismissed “on their face” without the need for trial.

NovaStar announced earlier this month that a judge had denied the company’s motion to dismiss a class-action shareholder suit in the U.S. District Court for the Western District of Missouri that generally alleges real estate investment trust made misleading statements for failing to disclose certain regulatory and licensing matters in 2003 and 2004.

“The Court’s decision assumed the truth of the allegations in the complaint and viewed them in the light most favorable to plaintiffs,” Davis said in the announcement. “Plaintiffs’ allegations survived the motion to dismiss only because the Court made this assumption in plaintiffs’ favor.”