NY AG Sues First American, Unit in Mortgage Probe

NEW YORK (Reuters) - New York Attorney General Andrew Cuomo on Thursday sued First American Corp (FAF.N) and one of its units for allegedly colluding with Washington Mutual Inc (WM.N) to inflate the appraisal values of homes, helping trigger the mortgage market meltdown.

The lawsuit is the first major development in Cuomo's ongoing, nine-month probe into the mortgage industry. The attorney general's office has sent hundreds of subpoenas and has uncovered "fundamental flaws" in two areas of the market -- appraisals and securitization of mortgage loans, officials said.

The lawsuit, filed in New York Supreme Court, contends that First American and its real estate appraisal subsidiary eAppraiseIT violated appraiser independence laws.

Washington Mutual, the largest U.S. savings and loan, was not named as a defendant in the case.

eAppraiseIT, known as EA, "caved to pressure" from Washington Mutual to use a list of preferred appraisers who provided inflated home appraisals, the attorney general's office said.

By using preferred appraisers, "First American helped set the current mortgage crisis in motion," Cuomo said in a statement.

"The independence of the appraiser is essential to maintaining the integrity of the mortgage industry," Cuomo said. "First American and eAppraiseIT violated that independence when Washington Mutual strong-armed them into a system designed to rip off homeowners and investors alike."

In a statement, Washington Mutual said it was "surprised and disappointed" by the allegations and was suspending its relationship with eAppraiseIT until it could investigate the situation further.

"We have absolutely no incentive to have appraisers inflate home values," the company said. "In fact, inflated appraisals are contrary to our interests. We use third-party appraisal companies to make sure that appraisals are objective and accurate."

First American could not be reached for comment immediately.

At a news conference, Cuomo said there were jurisdictional questions involving Washington Mutual that affect whether or not he brings a case against the bank.

"There are issues of federal preemption ... and questions about state attorney generals' jurisdiction on federal institutions," Cuomo said, when asked if he would bring a separate action against Washington Mutual.

Cuomo, who served as Secretary of Housing and Urban Development under U.S. President Bill Clinton, also said the issues surrounding appraisals were not new, and accused federal authorities of being "asleep at the switch once again."

Shares of Washington Mutual, one of the largest U.S. home loan providers, ended the day down $2.16, or 7.75 percent, to close at $25.72. First American ended the day up 40 cents or 1.33 percent at $30.50. Both companies trade on the New York Stock Exchange.

Washington Mutual pressured the First American unit to inflate appraisals as a condition for doing future business together, the AG's office said, adding that the alleged scheme was detailed in numerous e-mails.

Lenders and real estate agents generally want the highest appraisal possible because they benefit from pricey sales. Appraisal values are typically not problematic as long as home prices keep appreciating. But when prices slip, as in many markets now, appraisals are coming under scrutiny.

EA began providing appraisal services in April 2006 for Washington Mutual, also known as WaMu, which became the appraisal unit's biggest client, according to the AG.

Within weeks, WaMu began complaining to EA that its appraisals were not high enough, and pressured EA to exclusively employ new appraisers that WaMu had hand-selected, the AG's office said.

WaMu profited from the higher appraisals because they could close more loans at greater values, according to Cuomo. Between April 2006 and October 2007, EA provided about 262,000 appraisals for WaMu, according to the AG.

The lawsuit seeks to end what Cuomo called the illegal relationship between First American and WaMu. It also seeks penalties and disgorgement from First American and the appraisal unit.

(Additional reporting and Joseph Giannone and Dan Wilchins in New York and Patrick Rucker in Washington, editing by Gerald E. McCormick/Deborah Cohen/Richard Chang/Leslie Gevirtz)