Case

©2014 by the Kellogg School of Management at Northwestern University. This case was prepared by Professor Adam Waytz and Vasilia Kilibarda. Cases are developed solely as the basis for class discussion. Cases are not intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective management. To order copies or request permission to reproduce materials, call 847.491.5400 or e-mail [email protected]. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of Kellogg Case Publishing.

Winner of the 2014 competition for Outstanding Case on Anti-Corruption, supported by the Principles for Responsible Management Education (PRME), an initiative of the United Nations Global Compact, which seeks to inspire and champion responsible management education, research, and thought leadership globally.

ADAM WAYTZ AND VASILIA KILIBARDA 5-214-256

Through the Eyes of a Whistle-Blower: How Sherry Hunt Spoke Up About Citibank’s Mortgage Fraud

On March 22, 2011, Sherry Hunt, vice president and chief underwriter at CitiMortgage, raced down the endless rows of cubicles until she reached her office and closed the door behind her. Her hands were shaking, her heart pounding. Moments before, Jeffery Polkinghorne—an executive three levels above her—had requested an impromptu meeting with Hunt and her colleague in a conference room. His face had reddened as he raised his voice and pointed at her. If the mortgage defect rate reported by Hunt and her quality control unit did not fall substantially and immediately, he said, menacingly, “It’s your asses on the line.”1

As she struggled to regain her composure, Hunt considered her options. She knew the defects she was finding were legitimate and some even indicated fraud. They put Citi at serious risk, and she could not sign off on reports that obscured the facts. However, the financial crisis had hit the mortgage industry hard and there were no available jobs for someone with her qualifications.

She fell heavily into a chair and put her head in her hands. She felt both scared and angry that she was being asked to fudge reports. What was she going to do?

Sherry Hunt

Sherry Hunt was raised in rural Michigan. The reserved and warm mother of two sons, she worked hard, prided herself on following the rules, and built a long, successful career in the mortgagei business. She began her career as a mortgage processer at a small bank in Alaska and later returned home to the Midwest, moving from state to state as she worked her way up the corporate ladder at some of the top banks in the United States. All the while, however, Hunt

i Mortgage: Residential mortgages are loans made to individuals for large real estate purchases for which they cannot pay the full value up front. Through a predetermined number of payments, the borrower (the home buyer) repays the loan plus interest to the lender (the bank). One key element of a mortgage is the fact that the home buyer must pledge his or her home to the bank as collateral in case the home buyer defaults on paying the mortgage. If the home buyer does not make his or her mortgage payments, the bank can evict the home’s tenants, sell the home, and use the income from the sale to repay the mortgage debt.

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stayed true to her roots—raising horses, fishing in her free time, and playing legendary cowgirl Annie Oakley in Wild West shows in her community.

When she was 47, her sons grown and off starting families of their own, she moved to Missouri in November 2004 to accept a post as vice president and chief underwriter of the correspondent channel at CitiMortgage’s headquarters. “I loved the mortgage business. I was helping people purchase their first homes or refinance [their homes] to pay for their kids’ college educations. It was a thrill to put together the puzzle of someone’s life, making sure they meet all the different rules. Everyone is different. I was never bored . . . it was fascinating,” said Hunt.2

Citigroup, REL, and the Correspondent Channel

Citigroup (Citi) was a multinational financial services company headquartered in Manhattan, New York. It was the sixth largest residential lender in the United States in 2004 and was rapidly growing.3 Shortly after Hunt joined the company in 2004, Citigroup restructured. The consumer lending group was formed, which brought together Citi’s consumer lending activities, including prime and subprime mortgages, home equity, student loans, and automobile loans. All of the mortgage-lending operations within the consumer lending group were then grouped under the real estate lending (REL) division.4

REL comprised the following subsidiaries: CitiMortgage (primeii mortgage lending), CitiFinancial Mortgage (subprimeiii mortgage lending), and Citi Home Equity.5 Mortgage lending was an important line of business for Citi and all large U.S. banks, as mortgages kept them in the black. A dependable and low-risk source of profits, mortgages were typically the last expense homeowners defaultediv on when faced with financial troubles.6

When REL was formed, most of the new upper management came from CitiFinancial.7 Among them was Richard Bowen, who became REL’s business chief underwriter for correspondent channels. Correspondent channels were the channels through which Citi purchased mortgages from external mortgage companies (called correspondent lenders) and then sold the mortgages to investors—primarily government-sponsored enterprises (GSEs) such as Fannie Mae and Freddie Mac, as well as government entities such as the Government National Mortgage Association (“Ginnie Mae”). There were two distinct underwriting workflows for processing loans that were purchased from correspondent lenders (see Figure 1). Underwriting is the process by which a bank checks that each mortgage file contains all policy-required documents (e.g., proof of income, employment verification, etc.) and meets the minimum criteria established by a bank’s credit policy.

After receiving this promotion, Bowen thought it critical to familiarize himself with REL’s entire correspondent business, which he oversaw from Citi’s new office in Irving, Texas. Having come from CitiFinancial, he was inexperienced in prime mortgage underwriting, so he visited teams across the country that reported to him—from Hunt and her team at CitiMortgage in

ii Prime: Prime refers to the credit quality of the mortgage borrower, as determined by various credit rating bureaus (e.g., FICO, Equifax, and Experian). The highest-quality borrowers (or individuals with the lowest risk of default) are referred to as prime. iii Subprime: Subprime borrowers are those with tarnished or limited credit history and poor-quality collateral. They have lower credit scores and are more likely to default than prime borrowers. iv Default: When a home buyer defaults on a mortgage, they have failed to pay the lending bank their monthly mortgage payment.

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C o rr e sp o n d e n t B u si n e ss

C h an

n e l

Th e  p u rc h as in g  o f  lo an s  fr o m  e xt er n al  le n d er s

Underwritten Flow:

Citi underwriters reviewed each mortgage file before Citi agreed to purchase it  from a correspondent lender. In this flow, Citi had not delegated the  responsibility to the correspondent lenders to underwrite the mortgages  themselves (because they had not met certain criteria).

Delegated Flow:

Citi underwriters underwrote only a small sample of mortgage files (in essence,  spot‐checking the quality of mortgage pools) after large volumes of mortgages  had already been purchased from the correspondent lenders. In this flow, Citi  had fully delegated the responsibility to the correspondent lenders to  underwrite the mortgages. Only prime mortgages were purchased in this flow. 

Missouri, who worked on the underwritten flow, to the employees that sat on the floor above his, many of whom worked on CitiMortgage’s delegated flow.

Figure 1: The Two Flows of the Correspondent Business Channel

Source: Testimony of Richard M. Bowen, III, Hearing on Subprime Lending and Securitization and Government Sponsored Enterprises, Presented to the Financial Crisis Inquiry Commission, April 7, 2010, and Sherry Hunt, in interview with the authors, April 14, 2014.

“There was a real learning curve for Richard and the folks from CitiFinancial. They didn’t understand my business [prime lending], and I didn’t understand theirs [subprime lending],” recalled Hunt.8 In learning about the work of the underwriters in his building, Bowen began to uncover problems. “I discovered that [front-line employees] were telling me one thing, yet their boss was telling me something completely different.”9 Their boss was Conniev—Hunt’s direct supervisor, who reported directly to Bowen and who led both the underwritten and delegated flows. Bowen suspected that Connie was being dishonest, as Hunt had informed him that often when she would tell Connie that a loan was bad and that Citi should not purchase it, Connie would overrule her.10 He dug deeper and found that reporting done by the quality assurance (QA) underwriters whom Connie oversaw was dubious.

QA was the group of underwriters who underwrote a small sample of already-purchased loans obtained through the delegated flow. The QA underwriters would assign each mortgage file in their sample an agree, disagree, or agree-contingent decision. This signified whether QA did or did not agree with the originating mortgage company (the correspondent lender) that the file adhered to Citi credit policy. The agree-contingent designation meant that the QA underwriters agreed with the originating mortgage company, pending the file’s receipt of missing policy- required documents. The results were then reported to a committee, which Bowen had recently joined.

v First name only provided, as this was how interviewees preferred to refer to Sherry Hunt’s original direct supervisor.

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While on the committee, Bowen learned of Citi’s expectation that if the flow were functioning properly, 95 percent of loans purchased through the delegated flow should receive the agree designation. In 2006, the results that QA reported to the committee confirmed the 95 percent agree to 5 percent disagree ratio. However, upon further investigation, Bowen discovered that the total of the agree and agree-contingent decisions was being reported as the agree rate. To Bowen’s shock, most of the Citi underwriters with whom he spoke believed that over half of the 95 percent agree rate comprised agree-contingent files that were missing required documents. The reports should have reflected that QA’s results were 40 percent agree, 55 percent agree-contingent, and 5 percent disagree. This meant that 60 percent of the mortgages that Citi had purchased in 2006, had represented and warranted, then had sold to GSEs were likely defective.11

Bowen quickly acted to improve the accuracy of reporting and to terminate Connie in September 2006. Now, Hunt reported directly to Bowen (see Exhibit 1). “I was very impressed with Sherry when we met in Missouri. She’s a very sharp lady. That’s why I wanted to promote her,” Bowen recalled.12

CitiMortgage

Far from Citigroup’s new Irving office and its Manhattan headquarters stood three glass buildings in O’Fallon, Missouri—CitiMortgage’s headquarters. This prime mortgage lending organization employed over 3,000 people.

Prior to the U.S. financial crisis in 2008, CitiMortgage purchased approximately $90 billion annually in home loans from correspondent lenders.13 Different teams within CitiMortgage worked on the different parts of this high-volume pipeline. The sales team actively solicited and purchased loans from correspondent lenders (smaller banks that, to increase their cash flow, would sell their mortgages to Citi). Underwriting teams checked that mortgage files were complete and adhered to policy— both Citi’s credit policy and any additional criteria required by government entities, such as the Federal Housing Administration (FHA), in order for that entity to insurevi a loan. Finally, another team sold the mortgages to GSEs, which bundled the loans into securities to sell to investors.14

vi Government insurance: When a government agency such as the FHA or the U.S. Department of Veteran Affairs insured (or “guaranteed”) a loan, it promised to pay the lending bank a percentage of the losses it would incur if the borrower defaulted on his or her loan. By insuring loans, government agencies could enable certain groups of people (e.g., first-time home buyers or veterans) to more easily obtain home loans.

What does “reps and warrants” mean?

Citi represents and warrants to GSEs that the mortgages sold to them comply with Citi policy. If a mortgage file was not in compliance with Citi policy or had missing policy- required documentation, the mortgage file was considered defective. If a mortgage that Citi represented and warranted was discovered to be defective, the owning GSE could force Citi to purchase it back.

What is a defect?

Defects ranged from missing tax forms and missing signatures on documents to more egregious fraud such as straw buyers, borrowers who listed nonexistent employers, and loan officers who fabricated borrower income.

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HUNT’S TEAM

Hunt—who by 2007 was CitiMortgage’s chief underwriter for both of the correspondent flows—had 65 direct reports working the underwritten and delegated flows in O’Fallon, as well as a group of indirect reports working in QA in Irving. In ensuring that loans met Citi’s standards, her team gave Citi’s seal of approval to investors (i.e., the documentation indicated that borrowers were likely to repay the mortgages). This responsibility took on an amplified level of importance with the FHA, the largest insurer of mortgages in the world, which was part of the U.S. Department of Housing and Urban Development (HUD). Unlike Fannie Mae and Freddie Mac—which double-checked samples of the mortgages they guaranteed for defects—the FHA did not have this layer of quality control. Instead, it delegated all quality control to lenders. From 2007 to 2012, the FHA increased the number of loans it guaranteed from $700 billion to $1.1 trillion, all of which depended upon the quality control processes of lenders (such as Citi and its correspondent lenders) to ensure that U.S. taxpayers’ dollars that supported the FHA were being responsibly invested.15

Hunt’s team found all kinds of defects in the loans that Citi had already purchased from correspondent lenders. “For example, to get an FHA loan, you have to live in the home as your primary residence. We found a guy who had nine [FHA loans] with nine different banks, saying he was going to live in all of these houses, and then he didn’t live in any,” Hunt recalled.16 And the borrowers were not always the perpetrators. Sometimes it was the bank’s loan officers.

“We found that loan officers sometimes backed into the numbers. When filling out applications for stated income loans, which did not require back-up documentation, they would think, ‘What income do I need to put down that the borrower earns in order to qualify for the loan?’ Whether the borrower earned that or not, the loan officer would write that income on the mortgage application. The loan officer may have said something along the lines of, ‘Don’t worry about that. It’s no big deal. Do you want that house or don’t you?’” Hunt elaborated, “How many nail technicians do you know who make $10,000 a month? Think about the number of manicures a technician would need to do to earn that amount, and that’s when your mind starts telling you this doesn’t make any sense. The loan applicant only has $50 in the bank. How could they buy a half-million-dollar home at 100 percent financing? Shouldn’t somebody be looking a little deeper?”17 Hunt reported the defects in regular reports, but colleagues did not welcome her warnings.

“Instead of the manager of an underwriter who made a mistake [like misstating a borrower’s income] sitting down with the underwriter, addressing the problem, and sending the underwriter on probation or to additional training, they fought us on why or how we found the problems. It ended up being a war every day,” Hunt recalled. “They didn’t like me very much. I had been working with the FHA since 1986, while many of these people had been for two or three years. I could quote like scripture where the [FHA] rules applied to each loan. They would try to tell me a mortgage fit FHA guidelines, and I could assure them that it didn’t.”18

Being disliked was not new to Hunt. There had been objections from upper management when Bowen tried to formally promote her to Connie’s position. Hunt explained, “They knew I was by the book. I offered solutions for every instance that I could [to close a loan] but only through staying within our policy’s guidelines . . . I wasn’t as flexible as they needed me to be for their paychecks.”19

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The Culture within REL

In the years that followed Citigroup’s restructuring, a significant corporate emphasis was placed on growth and market share, with all REL employees receiving quarterly memos congratulating them on consecutive quarters of growth in mortgage originations and highlighting their rising rank in market share—from thirteenth place in market share for real estate lending in 2001 to third place in 2006. Corporate headquarters praised employees’ valiant efforts.20

To continue on this trajectory and meet investors’ high demand for mortgage-backed securities at the time, Citi had incentives in place. The discretionary salary and bonuses of CitiMortgage employees up to its CEO depended upon the percentage of loans approved.21 “My bonus was based on how many loans we processed. My former direct supervisor [Connie] used to brag about how she paid cash for her cars when she got her bonus,” said Hunt. “My thought has always been that loan officers should not be paid on commission because it can lead people to do things that aren’t ethical or moral to get a paycheck.”22

Bloomberg journalist Bob Ivry described the interaction between Citi corporate headquarters and CitiMortgage headquarters: “Connecting the mother ship from the far-flung outpost was a corporate ladder whose every rung was populated with go-getters who lived to please those above them . . . The only glimpses New York had into what O’Fallon was up to were periodic reports on the quality of the home loans CitiMortage was processing . . . the reports conveyed the message to the top that the mortgage factory was well greased and purring. Performance was improving every day.”23

Hunt believed that most employees of Citi were ethical. “Citi is full of wonderful people, conscientious people [too],” she said.24 She fondly recalled times when her office ran informal fundraisers during which employees contributed $20 to a local nonprofit for the privilege of wearing blue jeans to work, resulting in donations of nearly $25,000 per month.25 But overall she felt there was a culture on the surface of doing the right thing—for example, offering Sarbanes- Oxleyvii training and management classes—but ultimately fostering a diffusion of responsibility and a strong catering to the sales department. “Anything that opposed sales [those who bought loans from correspondent lenders] or getting new business in the door was squashed a lot of times. We were expected to play nice in the sandbox and if sales wanted a new program, we needed to go along with it, even if I thought it wasn’t a good program to have on our books,” explained Hunt.26

The constant change in upper management also was a major cultural issue. “Say you have a box. And once every two to three months you take all of upper management, throw them into the box, shake it up, and dump it out. Wherever they land, that’s what their specialty is now. They didn’t have experience in those areas. I can’t tell you how frustrating that was,” remembered Hunt.27 She estimated that the position of second in command under CitiMortgage’s CEO changed fifteen times from 2004 to 2011.

vii The Sarbanes-Oxley Act of 2002 was a federal law in the United States that set new standards for all U.S. public companies and public accounting firms in order to further protect investors and enhance corporate responsibility. Section 302 of Sarbanes-Oxley, called “Disclosure Controls,” required that a company’s principal officers (e.g., CEO and CFO) certify and approve the integrity of their company’s financial reports on a quarterly basis. Officers’ signatures verified that they had reviewed a report, and—to the best of their knowledge—the report did not contain any untrue statement of material fact or omit to state a material fact necessary in order to make the statements not misleading.

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2006–2007: Hunt’s and Bowen’s Problems Continue

During this period, Hunt and Bowen recalled the defect rate of REL’s mortgages hovering between 60 and 80 percent. The industry’s rule of thumb was to keep the rate below 5 percent. Starting in 2006, they worked together to try to identify and fix the myriad problems underlying the high defect rate: Citi’s systems could not effectively track important criteria. For instance, Citi’s computer system could not stop a loan officer from moving forward with a loan application if he or she entered an applicant who did not meet a loan program’s minimum credit score. The fact that this simple indicator could not be flagged was one among many reasons that Hunt and Bowen could not systematically prevent Citi from buying loans from correspondent lenders that did not meet Citi’s requirements. “We had a very small, understaffed QA group. Citi was buying 5,000 to 8,000 loans per month [from correspondent lenders], and we had four people looking at what they could, [manually] sending out notices to the lenders. But we had no method to follow up to see if these lenders were fixing the problems,” said Hunt.28

At the time, there were numerous initiatives within REL to become more efficient and drastically reduce the number of employees.29 Hunt and Bowen were frustrated with the hiring freezes and refusals to authorize overtime. They were fighting a spiraling problem with shrinking resources.

Bowen recalled, “I would make presentations, capture people in the hallways, warn my superiors. No one could tell me that what I was finding wasn’t true, but they would argue that it was just technical exceptions that I was finding. The real estate market was in a bubble phase, and there really were no delinquencies yet, so there was no hard evidence that the defects [we were] finding would translate into losses. They were just ‘exceptions to policies.’ There was no empirical evidence. I was hearing [these excuses] even from the chief risk officer who presided over CitiMortgage. He’d say, ‘These are prime mortgages. They just don’t default. We won’t have losses on them.’”30

When Hunt sent another increasingly grave summary of her defect findings to Bowen in late 2007, he concluded that Citigroup was at dangerous risk. If the defective mortgages were to default, the affected GSEs might require Citi to repurchase billions of dollars in defective loans that it had represented and warranted. Hearing in the press that on Sunday, November 4, 2007, Robert Rubin would be named Citigroup’s new chairman of the board, Bowen knew he needed to warn him. From his home on Saturday, he sent an email to Robert Rubin, copying Citi’s chief auditor (who reported to the board of directors), Citi’s chief financial officer, and Citi’s senior risk officer in Manhattan. “The reason for this urgent email concerns breakdowns of internal controls and resulting significant but possibly unrecognized financial losses existing within our organization,” Bowen wrote, hoping to be invited to speak at the board meeting on Sunday. (Read the full email in Exhibit 2.)

On Tuesday he received a call from one of Citigroup’s top general counsels, who said, “We got your email, and we’re taking this seriously. Don’t call us. We’ll call you.”31 However, Bowen said, general counsel never called back despite the emails he sent in November and December, offering to share more details. “They didn’t want to know the details,” Bowen concluded. “They wanted to sign off on Sarbanes-Oxley at the end of the year.”32

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An Unexpected Personal Crisis for Hunt

Hunt did not know Bowen had sent this email until months later because the weekend after Bowen sent it, she and her husband were involved in an automobile accident with an elderly drunk driver. Hunt spent time out of the office while she and her husband recovered from serious injuries. They befriended a lawyer named Finley Gibbs, who became a trusted advisor throughout the traumatic experience. “You come out of an experience like that with a commitment to making the most of the time you have and making the world a better place,” said Hunt.33

With her husband on disability and a stack of medical bills, Hunt returned to work at CitiMortgage. She was promptly told that Richard Bowen had taken a medical leave and that she would now report to Bowen’s boss.34 Saddened, Hunt knew that Bowen had been dealing with recent illnesses in his immediate family, and she decided not to contact him out of respect to allow him to deal with those matters.

Soon thereafter Hunt was asked to meet with a group of Citi’s lawyers, who had flown in from New York.35 She assumed their questions would pertain to collecting information about litigation-related issues that CitiMortgage was having with some of its lenders at the time. However, after meeting with the attorneys and ruminating on the questions they had asked, she began to suspect they had something to do with Bowen.36

When she and Bowen finally spoke by phone, “[s]he said, Dick, I’m going to take very careful notes, and I’m going to keep copies of documents at my desk. And I said, ‘Good for you’!” Bowen recalled with admiration.37 From that point forward, Hunt began keeping a detailed spreadsheet on her home computer, recording every problematic encounter or email she had at work each day.

2008: Citi Reacts and Crisis Hits

In early 2008, Bowen was stripped of his underwriting responsibilities,38 and the number of people he managed was reduced from 220 people to 2.39 In April 2008, he filed a complaint—in line with procedures under the Sarbanes-Oxley Act—with the Occupational Safety and Health Administration (OSHA), claiming that Citigroup had retaliated against him for the email he had sent to Robert Rubin.40

That April, Citi modified Hunt’s responsibilities as well. She went from supervising 65 people to 1. “I was literally put in a corner [with the supervisor under me] and told I was going to be ‘quality,’ but we were placed as far away in the office as possible from the underwriters, who couldn’t really come talk to us. They didn’t change my title or my salary, but they changed everything else.”41

In July 2008, Bowen testified before the U.S. Securities and Exchange Commission (SEC), which had approached him with interest after reviewing his OSHA complaint. Bowen presented over 1,000 pages of documents to the SEC to verify his experiences and was told the commission would pursue his case, but he never heard back.42

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“Looking back, I think that [the U.S. government] couldn’t pursue fraud charges and at the same time give Citi a $45 billion bailout. The public wouldn’t have accepted that,” Bowen surmised.43

Citi’s Bailout during the U.S. Financial Crisis

In 2008, big changes were underway at Citi: the housing bubble had burst and there were widespread defaults on mortgages, causing the company to lose over $30 billion during 2007– 2008.44 Vikram Pandit joined Citigroup as its new CEO in December 2007, and Sanjiv Das became CitiMortgage’s new CEO during 2008. Pandit embarked on a campaign to create a culture of what he called “responsible finance” at Citi. “We’re going to stand for the financial services company that practices responsible finance—making sure we’re transparent, making sure we’re honest, making sure we manage our shareholders’ money prudently,” he pledged to clients and stakeholders in a video on Citi’s blog.45

As Citi was considered a SIFI (systemically important financial institution), the U.S. government stepped in to stabilize the bank during the financial crisis. Starting in October 2008, the U.S. Department of the Treasury bought $45 billion in preferred stock to provide Citi with a capital infusion. And the government went on to guarantee $301 billion in toxic assets (many of which were pools of defective loans) on Citi’s balance sheets. Combined with approximately $100 billion in emergency overnight loans from the Federal Reserve, these sums made Citigroup the bank that received the most bailout dollars in the United States.46

2009–2010: Hunt’s Situation Worsens

By 2009, Hunt had been moved from her two-person team in the corner to the quality control (QC) unit. “They said they didn’t have anything else for me to do, until a leader from the quality control unit—who was based out of CitiMortgage’s Ann Arbor, Michigan, office— reached out to me. I remained in O’Fallon but became a supervisor in that unit,”47 Hunt recalled. “Citi had lots of silos. You had different groups all responsible for doing the same things, but nobody knew what the others were doing.”48 In QC, Hunt and her team reviewed not only mortgage files from the correspondent lenders but also mortgages that Citi had directly issued to home buyers and had approved for government insurance.

While working for QC, Hunt continued to witness fraud. “This wasn’t my first rodeo,” she said. She had seen fraud in three or four of the other major banks in which she had worked throughout her career in the mortgage industry. “You know when they say people tend to have a fight or flight response? Ordinarily, I took flight. I’d leave a company each time I saw unethical behavior. But this time I was trapped. I couldn’t leave. Nobody was hiring, especially not at the VP level, during the economic crisis.”49

In November 2009—a year after Citi received its bailout—Hunt discovered 1,000 loans that had been flagged by her team for not just defects but fraud and had been escalated to CitiMortgage’s fraud prevention and investigation group. “The thousand loans I found were Fannie, Freddie, and FHA loans that should have been clean as a whistle, but they weren’t,” explained Hunt.50 Citi had made a commitment to the FHA that it would alert the administration within one month if it found anything suspicious in the loans that the FHA had guaranteed. The fraud prevention and investigation group had not taken action on some of the loans in this group

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for over two years.51 Previously, when Hunt’s team had escalated loans to the fraud prevention and investigation group and it had responded, approximately 80 to 90 percent were confirmed as fraud.52 “I kept squawking [about these] outstanding fraud referrals, and then I realized that they weren’t ever going to go back and get caught up [on the backlog]. They were too far behind, and my boss told me they were concentrating on current events. They were just going to start from scratch. I thought, ‘You’re kidding me.’ There are a thousand loans I know of with suspected fraud that you won’t be responding to?” Hunt recalled.53

Soon thereafter, CitiMortgage created a new group in 2009 called the quality rebuttal committee. Its task was to review and potentially refute the defects in the mortgages identified by QC. For example, a document called a HUD-1—a form that itemizes all charges imposed on the buyer and the seller in a real estate transaction—was required to be signed and submitted for every loan that was approved for FHA insurance. Government guidelines stated that a loan should be rejected if missing the HUD-1. The quality rebuttal committee would overrule Hunt, claiming that the absence of a signed HUD-1 did not necessarily indicate that a loan was bad and approving the file for FHA insurance. Hunt felt disrespected and ignored as she watched members of the quality rebuttal committee receive employee-of-the-month awards in January 2010.54

Bowen Leaves Citi and Testifies to Congress

In January 2009, Bowen—who had continued to be employed by Citi but had been placed on paid administrative leave from the moment he had been stripped of his underwriting responsibilities—left the company. “I had to move on with my life. [All this] had taken a real toll on my family and my health, and I had to end it,” he said.55 He signed a separation agreement with Citigroup, which settled his OSHA complaint and granted him a severance package of less than $1 million.56

In May 2009, Congress formed the Financial Crisis Inquiry Commission (FCIC), whose mandate was to investigate the causes of the financial crisis. Freed from the provisions of his confidentiality agreement with Citigroup for the government investigation, Bowen felt hopeful when the committee invited him for an interview on February 27, 2010. His lawyers by his side, Bowen spoke with two FCIC investigators for four hours, the recording and transcript of which were sealed and sent to the National Archives (available for public review starting in 2016).57 He was then asked to testify publicly in front of the commission on April 7, 2010, though in the final days leading up to his public testimony, the deputy general counsel of the commission—under pressure from Citigroup’s lawyers—made Bowen remove pieces of his 28-page testimony. Bowen was asked to delete any mention of his concern that Citi had materially misrepresented its certifications of internal controls, delete the names of individuals within Citi, and delete information about his essential demotion after having sent the email to Robert Rubin.58

Phil Angelides—the former state treasurer of California who led the FCIC—told the New York Times that “[Wall Street banks] and their phalanx of attorneys were putting enormous pressure [on the commission] every day of every week with every witness [in an effort] to discredit people who were testifying against their interests.”59 Bowen’s attorney also told the media that he felt Bowen had been censored.60

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The output of the commission was a 500-page report61 that was criticized for not drawing concrete conclusions. “It basically said that the financial crisis was caused by a combination of so many things . . . that it was nobody’s individual fault,” recalled Bowen.62 When reflecting on his journey, the word that came to mind was devastating. “It truly was,” he said. “From my standpoint, the corruption extends to the highest levels of government. I feel absolutely, completely violated. Every principle that I grew up with, and even when I did a brief stint in the R.O.T.C. and the Air Force, [is] just completely violated.”63

Bowen later embarked on a second career as an accounting professor at the University of Texas at Dallas, where he shared his experiences with his students and continued to be a public speaker for companies and associations working to build more accountable corporate cultures. “By God, I’ve got to leave this country better off than the way I found it,” he said.64

Hunt Begins to Study the Dodd-Frank Act

In November 2010, a colleague forwarded Hunt an email from a senior executive at CitiMortgage.65 The executive had emailed all of his subordinates, ordering them to meet the bank’s goal of a maximum 5 percent defect rate on home loans. That month Hunt’s QC team had found 10 loans with severe defects from a pool of 138 loans, which represented a 7.25 percent defect rate. The executive told his subordinates to use “brute force” if necessary on Hunt’s team to drive down the rate.66 Hunt soon saw reports that showed decreasing defect rates, but she knew that this wasn’t the result of fewer defective mortgages. Hunt could not understand why Citigroup’s leaders did not appear to want to address the root problems. “You can’t look at these reports and think everything is rosy,” she thought. “How can you effectively lead thousands of employees here in O’Fallon from a high rise in New York City? [CitiMortgage CEO] Das came into town about once a year.”67

It was at this point that Hunt began to study the Dodd- Frank Actviii at home, hoping to educate herself on how she might report the violations she was witnessing.

viii It is important to note that when the Act was passed on July 21, 2010, the provisions were slightly different than they were when the case was published in 2014. At the time this case was written, the most up-to-date terms of Dodd-Frank had been released and took effect on August 12, 2011. Among this version’s most controversial proposed rules was the absence of any requirement that a whistle-blower report initial findings through a company’s internal compliance program, prior to approaching the SEC. See D. Michael Crites and Christian Gonzalez, Dinsmore & Shohl LLP, “Dodd-Frank: Final Whistleblower Provisions Take Effect August 12th: Is Your Company Ready?” July 28, 2011, http://www.dinsmore.com/final_whistleblower_provisions.

What is the Dodd-Frank Act?

The Dodd-Frank Wall Street Reform and Consumer Protection Act was a piece of financial reform legislation that was signed into federal law under the administration of U.S. President Barack Obama on July 21, 2010. Its provisions intended to decrease risks in the U.S. financial system.

Section 922 of Dodd-Frank required the SEC to establish a new Whistleblower Program that paid awards (when certain limitations and conditions were met) to whistle-blowers who voluntarily provided the SEC with original information about violations of securities laws. For more information, visit the SEC Office of the Whistleblower, www.sec.gov/whistleblower.

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In the months that followed, Hunt reported Citi’s fraud anonymously on HUD’s website. When there was no response, she did the same on the FBI’s website. “I kept trying and thinking—how could I be anonymous with this? I created a new email address. I just wanted them to investigate the claims. I thought the FBI would certainly be interested in fraud, but I never heard back. It was so frustrating.”68

At work she would peer at the lyrics of the Rascal Flatts song Stand that she had pinned to her office wall:

Decide you’ve had enough. You get mad. You get strong. Wipe your hands. Shake it off.

Then you stand.

The Last Straw

The night of March 22, 2011, after Citi executive Jeffery Polkinghorne had threatened her in the conference room—insisting that she change reports—Hunt lay awake in bed. For almost a year she had applied to hundreds of other jobs across the country to no avail. She had sold her horses, even sold her truck. She was ready to leave Citi and move in an instant, but there was nowhere to go.

The time had finally come. She had to take a stand. But who should she go to, and what should she say?

(See Figure 2 on the next page for a timeline summarizing the events leading up to March 2011.)

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Citigroup Consumer Lending Group CLG Chief Risk Officer 

Citigroup Real Estate Lending REL Chief Underwriter

REL Business Chief Underwriter  Correspondent Channels

Richard Bowen

CitiMortgage VP & Chief Underwriter of  Correspondent Channels

(Underwritten & Delegated Flows)

Sherry Hunt

REL Business Chief Underwriter  Direct Lending Channel

REL Business Chief Underwriter 

Wholesale Channel

Exhibit 1: Hunt’s Place in the Underwriting Reporting Structure

Source: This figure was created from information retrieved from Sherry Hunt, in interview with the authors, April 14, 2014; Richard Bowen, in interview with the authors, April 21, 2014; and Testimony of Richard M. Bowen, III, Hearing on Subprime Lending and Securitization and Government Sponsored Enterprises, Presented to the Financial Crisis Inquiry Commission, April 7, 2010, http://fcic- static.law.stanford.edu/cdn_media/fcic-docs/2010-04-07%20Richard%20Bowen%20Written%20Testimony.pdf.

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Exhibit 2: Richard Bowen’s Email

From: Bowen, Dick [GCG-REO] [[email protected]]

Sent: Saturday, November 03, 2007 5:47 PM

To: Rubin, Robert E [CCC]; Bushnell, David C [CCC]; Crittenden, Gary [CCC]; Howard, Bonnie [CCC]

Cc: Bowen, Dick [GCG-REO]

Subject: URGENT—READ IMMEDIATELY—FINANCIAL ISSUES

TO: Robert Rubin, Chairman of Executive Committee David Bushnell, Senior Risk Officer Gary Crittenden, Chief Financial Officer Bonnie Howard, Chief Auditor

Gentlemen:

I am currently (since early 2006) the Business Chief Underwriter for the Real Estate Lending Correspondent channel, which is within the Consumer Lending Group. From 2002 to 2006 I was SVP and Chief Underwriter for the Correspondent and Acquisitions channel within CitiFinancial Mortgage. I am also licensed as a Certified Public Accountant in the State of Texas.

The reason for this urgent email concerns breakdowns of internal controls and resulting significant but possibly unrecognized financial losses existing within our organization.

Since mid-2006, I have continually identified these breakdowns in processes and internal controls. The REL Chief Underwriter (my 2006 manager) and I have widely communicated these breakdowns, with possible ramifications, in weekly reports, emails, and discussions (which included the CLG Chief Risk Officer). There have also been two special investigations by CLG Business Risk and Control (the first initiated by me), with the findings confirming these breakdowns.

However, to my knowledge, these breakdowns have not been communicated to or recognized by either Audit or Finance.

I have been agonizing for some time over these issues, and in all good conscience feel I must now communicate these concerns outside of the Consumer Lending Group. I sincerely regret the delay.

Concern #1—Correspondent Fundings Through Delegated Authority

We currently purchase from mortgage companies and sell to third party investors approximately $50 billion annually ($42 billion YTD 2007) of mortgage loans which have not been underwritten by us but which we rep and warrant to the investors (primarily Fannie/Freddie) that these files are complete and have been underwritten to our policy criteria.

Our internal Quality Assurance function, which underwrites a small sample of these files post-purchase, has reflected since 2006 (when this function started reporting to me) that 40–60% of these files are either outside of policy criteria or have documentation missing from the files. QA for recent months indicate 80% of the files fall into this category.

If any of the mortgages in this category default, the investor may require that Citi repurchase the defaulted files based upon our reps and warrants. Under seller reps and warrants Citi may then force the selling mortgage company to repurchase the files, if the seller mortgage company remains financially viable at that

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Exhibit 2 (continued)

time. (As one example, QA results indicate that Citi may be responsible for in excess of 50% of the losses associated with files purchased from the failed Aegis Mortgage—$2.5 billion purchased since Jan ’06).

A CLG BRC investigation, requested by me, confirmed the breakdowns associated with the QA process and the fact that the QA findings were significantly out of compliance with QA Risk Policy. The Chief Underwriter responsible for this function was terminated and a new QA Risk Policy was approved in 2006. We continue to be significantly out of compliance with the new QA Risk Policy.

I do not believe that our company has recognized the material financial losses inevitably associated with the above Citi liability.

Concern #2—Correspondent Fundings Through Wall Street Bulk Purchases

During 2006–07, there were pools of mortgage loans aggregating $10 billion which were purchased from large mortgage companies with significant numbers of files identified as “exceptions” (higher risk and substantially outside of our credit policy criteria). These exceptions were approved by the Wall Street Channel Chief Risk Officer, many times over underwriting objections and with the files having been turned down by underwriting. These pools involved files aggregated and originated by Merrill Lynch, Residential Funding Corp, New Century, First NLC, and others.

The purchase decisions on many of these pools were approved even though the execution rates and other criteria established by the CLG Bulk Acquisition Policy were not met.

Because of the initial high losses associated with many of these pools, CLG BRC investigated and reviewed correspondence which documented underwriting objections to purchasing identified pools.

BRC conducted an investigation of one Merrill Lynch pool, identifying generic breakdowns of process required by policy and recommended needed changes.

Changes were made in the bulk purchase process, but I do not know if the expected material financial losses from these pools has been recognized.

I know that this will prompt an investigation of the above circumstances which will hopefully be conducted by officers of the company outside of the Consumer Lending Group, and I pledge my full cooperation.

As a professional, as well as a shareholder of this company, I am deeply distressed with having to report the above.

I will be in the office Monday, and can be available by cell phone, if needed, this weekend.

Dick Bowen 469-220-1151 office 214-497-0241 cell Confidential

Source: Testimony of Richard M. Bowen, III, Hearing on Subprime Lending and Securitization and Government Sponsored Enterprises, Presented to the Financial Crisis Inquiry Commission, April 7, 2010, http://fcic-static.law.stanford.edu/cdn_media/fcic-docs/2010-04- 07%20Richard%20Bowen%20Written%20Testimony.pdf.

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Endnotes

1 Bob Ivry, The Seven Sins of Wall Street: Big Banks, Their Washington Lackeys, and the Next Financial Crisis (New York: PublicAffairs, 2014). 2 Sherry Hunt, in interview with the authors, April 14, 2014. 3 Ivry, The Seven Sins of Wall Street. 4 Testimony of Richard M. Bowen, III, Hearing on Subprime Lending and Securitization and Government Sponsored Enterprises, Presented to the Financial Crisis Inquiry Commission, April 7, 2010, http://fcic-static.law.stanford.edu/cdn_media/fcic-docs/2010-04- 07%20Richard%20Bowen%20Written%20Testimony.pdf. 5 Ibid. 6 Ivry, The Seven Sins of Wall Street. 7 Sherry Hunt, in interview with the authors, April 14, 2014. 8 Ibid. 9 Richard Bowen, in interview with the authors, April 21, 2014. 10 Sherry Hunt, in interview with the authors, April 14, 2014. 11 The facts in this paragraph came from Testimony of Richard M. Bowen, III, Hearing on Subprime Lending. 12 Richard Bowen, in interview with the authors, April 21, 2014. 13 Ivry, The Seven Sins of Wall Street. 14 Bob Ivry, “Woman Who Couldn’t Be Intimidated by Citigroup Wins $31 Million,” Bloomberg, May 30, 2012. 15 Ivry, The Seven Sins of Wall Street. 16 Sherry Hunt, in interview with the authors, April 14, 2014. 17 Ibid. 18 Ibid. 19 Ibid. 20 Testimony of Richard M. Bowen, III, Hearing on Subprime Lending. 21 Ivry, “Woman Who Couldn’t Be Intimidated by Citigroup Wins $31 Million.” 22 Sherry Hunt, in interview with the authors, April 14, 2014. 23 Ivry, The Seven Sins of Wall Street. 24 Ivry, “Woman Who Couldn’t Be Intimidated by Citigroup Wins $31 Million.” 25 Ibid. 26 Sherry Hunt, in interview with the authors, April 14, 2014. 27 Ibid. 28 Ibid. 29 Testimony of Richard M. Bowen, III, Hearing on Subprime Lending. 30 Richard Bowen, in interview with the authors, April 21, 2014. 31 Ibid. 32 Ibid. 33 Ivry, The Seven Sins of Wall Street. 34 Sherry Hunt, in interview with the authors, April 14, 2014. 35 Ivry, The Seven Sins of Wall Street. 36 Sherry Hunt, in interview with the authors, April 14, 2014. 37 Richard Bowen, in interview with the authors, April 21, 2014. 38 Ibid. 39 The Financial Crisis Inquiry Report: Final Report of the National Commission on the Causes of the Financial and Economic Crisis in the United States, Official Government Edition, January 2011, http://fcic-static.law.stanford.edu/cdn_media/fcic- reports/fcic_final_report_full.pdf. 40 William D. Cohan, “Was This Whistle-Blower Muzzled?” New York Times, September 21, 2013. 41 Sherry Hunt, in interview with the authors, May 9, 2014. 42 Cohan, “Was This Whistle-Blower Muzzled?” 43 Richard Bowen, in interview with the authors, April 21, 2014. 44 Ivry, The Seven Sins of Wall Street.

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45 “The Cornerstone of a New Citi: Responsible Finance,” Citi Blog, February 1, 2010, http://blog.citigroup.com/2010/02/our-ceo-on- the-new-citi-and-creating-a-culture-of-responsible-finance.shtml. See also Ivry, “Woman Who Couldn’t Be Intimidated by Citigroup Wins $31 Million.” 46 Ivry, The Seven Sins of Wall Street. 47 Sherry Hunt, in interview with the authors, May 9, 2014. 48 Sherry Hunt, in interview with the authors, April 14, 2014. 49 Sherry Hunt, in interview with the authors, May 9, 2014. 50 Sherry Hunt, in interview with the authors, April 14, 2014. 51 Ivry, The Seven Sins of Wall Street. 52 Sherry Hunt, in interview with the authors, April 14, 2014. 53 Ibid. 54 Ivry, The Seven Sins of Wall Street. 55 Richard Bowen, in interview with the authors, April 21, 2014. 56 Cohan, “Was This Whistle-Blower Muzzled?” 57 Ibid. 58 Ibid. 59 Ibid. 60 Ibid. 61 The Financial Crisis Inquiry Report. 62 Richard Bowen, in interview with the authors, April 21, 2014. 63 Cohan, “Was This Whistle-Blower Muzzled?” 64 Ibid. 65 Ivry, The Seven Sins of Wall Street. 66 Ivry, “Woman Who Couldn’t Be Intimidated by Citigroup Wins $31 Million.” 67 Sherry Hunt, in interview with the authors, April 14, 2014. 68 Ibid.