Bank of America has to pay a record settlement of $17 BILLION dollars due to bad mortgage lending during the financial crisis. This is the same amount as the bank’s profit during the last 3 years, not to mention Bank of America has spent roughly $60 billion navigating all legal issues. The bank was cited as having bad lending practices with companies they bought: Merrill Lynch and Countrywide Financial. Bank of America’s argument was that they were not the ones making the loans and these loans were originated prior to them merging. However, the Justice Department claimed that Bank of America benefited from the merger since both mergers were completed without government assistance and were not forced by the government. Citigroup, who had more private ties (with Treasury Secretary, Tim Geithner) and was in more dire financial trouble, only had to pay $7 billion in settlements for bad mortgage loans.
So, what does this settlement mean? It means that any future merges in the banking industry will be more heavily scrutinized by lawyers prior to closing. No bank can afford this settlement over and over again and many banks would fail with such a high legal obligation. Since bank mergers usually only occur when one bank is declining, there is an adverse selection issue with merged banks. Banks looking to merge are usually in trouble. It may become too costly for a private (healthy) bank to merge with a declining bank if the costs of litigation and possible settlements with the government for past wrongdoings are high. Look for more government forced and assisted mergers, where taxpayers implicitly are guaranteeing stock prices or debt for a troubled bank.