WASHINGTON - When the government took over mortgage giants Fannie Mae and Freddie Mac, taxpayers inherited more than just bad debts. They're also potentially on the hook for tens of millions of dollars in legal fees for the executives at the center of the housing market's collapse.
With the Justice Department investigating companies involved in the mortgage and financial meltdown, executives around the country are hiring defense lawyers. Like many large companies, Fannie and Freddie had contracts promising to cover legal bills for their executives.
When the Treasury Department delivered a $200 billion bailout to Fannie and Freddie, that obligation passed to the government, which may find itself paying for the lawyers defending the executives against the government's own prosecutors.
"To defend the economy from the havoc that's been created, we're going to defend the havoc creators?" asked Doug Heller, executive director of Consumer Watchdog, a Santa Monica, Calif.-based group that has been critical of the financial bailout packages.
Neither Fannie nor Freddie has said whether they have advanced any legal fees to former executives. The companies are required to make general disclosures about such payments but only on quarterly corporate filings.
Fannie's and Freddie's contracts also cover legal fees from shareholder lawsuits. Taxpayers could be forced to pay those legal bills, too. If the shareholders can prove the companies were mismanaged the government could be liable for millions of dollars to make up for the executives' failures.
Both Fannie Mae and Freddie Mac have been subpoenaed as part of the wide-ranging Justice Department investigation into the companies' accounting, disclosure, and governance practices.
After banks make loans to home buyers, Fannie and Freddie buy the mortgages from the banks and bundle them to sell as mortgage-backed securities.
In recent years, however, the companies purchased more risky mortgages made to borrowers with shaky credit. When the housing bubble burst, investors feared the risk of buying Fannie and Freddie's mortgage-backed securities.
Combined, Fannie and Freddie own or guarantee nearly half of all U.S. mortgages. The Treasury Department stepped in to keep the companies from collapsing and taking the mortgage industry with them.
When the government took over, Fannie Mae's chief executive officer, Daniel Mudd; Freddie Mac's CEO, Richard Syron; and the rest of the companies' leadership was dismissed.
All those executives would be entitled to have their legal fees covered.
The obligations could easily stretch into millions of dollars.