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Is the Bank at Fault?

Some banks release borrowers’ money to contractors with little proof that the home under mortgage is actually being built.

As Florida’s housing boom rolled along, Michael Wood, a medical-equipment salesman from Inverness, read investment books and went to weekend real estate seminars to learn how to cash in. At the seminars, he was approached frequently by mortgage brokers offering loans to help him build a home and flip it. There were always catches, however — a big down payment or interest during the construction period, for example.

Michael Wood owes Coast Bank some $190,000 that it released to his builder for a home on one lot that is mostly built and another $90,000 for a lot that was never even cleared. Builder Jesse Battle didn’t pay subcontractors and suppliers in the first case, and liens are pouring in. The builder’s bankruptcy and the liens prevent Wood from finishing the home.
[Photo: Jeffrey Camp]
But in late 2004 he got a pitch that “satisfied everything.” A friend who worked for American Mortgage Link of Tampa brought him this deal: Wood would take out a mortgage from Bradenton-based Coast Bank of Florida for a home site and construction loan. He would need no money down; he wouldn’t be responsible for interest during the construction period; and the builder would pay all closing costs. The bank wouldn’t even report the mortgage on Wood’s credit report.

The way Florida’s housing market was going, Wood saw little risk. He felt sure he’d be able to flip the home for tens of thousands more than he paid. “It was strongly suggested that it was going to be 20% to 30% profit and that people were putting homes on the market and selling before construction was even complete.”

In early 2005, Wood signed up to build not one, but two homes, both in North Port. He had so much confidence in his friend that he let him handle everything from choosing the lots to the building plans. He took on more than $400,000 in debt and even started convincing his friends and family to sign up. “I’ve got seven or eight family members in this deal,” Wood says. “My cousin, my best friend and business partner since high school, a guy I was in the Navy with 15 years ago, other close friends and associates.”

But toward the end of 2005, Wood’s heavily mortgaged friends and family members began to harangue him with phone messages. They’d seen little or no construction activity on their lots, yet interest was piling up monthly on their loans. The builder, a relatively small St. Petersburg company called Construction Compliance Inc., had promised in its contracts with the buyers to pay construction interest and closing costs. But their contracts with the banks made clear that if CCI did not, those costs would fall to the borrowers.

In 2006, Construction Compliance finally broke ground on Wood’s first home. By August, it was nearly finished. But then “everything just stopped.” CCI President Jesse Battle abruptly halted construction on Wood’s home and nearly 500 others in November 2006 in the face of a falling real estate market and escalating costs.

For Wood, the bad news got worse. Liens started pouring in on the house that was nearly complete, filed by subcontractors and suppliers who had never been paid. Then, Wood discovered that Battle’s firm had drawn $80,000 of his Coast Bank loan for work on his other home but had never started construction. “The bank allowed the builder to draw $80,000 without ever touching the lot,” Wood says. “I am now out close to $90,000 for a lot that was never cleared — I don’t think anyone ever even walked on it.”

Today, both shareholders and borrowers are suing Coast Bank over $110 million in loans it made to 482 borrowers building homes through CCI. Battle’s firm, which filed for bankruptcy in April, drew a total of $66 million from Coast from the loan funds before it stopped working on the homes.

» “CCI did not have the management team” nor the wherewithal to build 30 houses a year, let alone 300.”
— Attorney Alan Tannenbaum

Sarasota lawyer Alan Tannenbaum, who is representing more than 100 of the borrowers, argues the mortgages were fraudulent. He charges that Coast Bank and American Mortgage Link schemed to extract excessive fees from lot closings and construction-period interest — with no regard for whether there would be enough money left to build the home, or for whether CCI could actually build it.

“CCI did not have the management team nor the wherewithal to build 30 houses a year, let alone 300,” Tannenbaum says. “Yet the lenders made no effort to qualify CCI as a builder able to perform.”

According to depositions in Battle’s banktruptcy case, American Mortgage Link earned a $5,000 “marketing fee” for each mortgage closed through the bank, as well as 2% in points on the loans.

Securities and Exchange Commission documents show the former Coast Bank executive vice president for lending, Phillip Coon, earned $434,000 in compensation in 2006, most of it in commissions based on the value of real estate loans originated in his department. Coon, who could not be reached, was fired last February.

Tramm Hudson, a veteran Florida banker who is acting as special counsel to Coast Bank, says Tannenbaum is glossing over the contractual and other obligations of home buyers, who have their own responsibility to check out contractors. “They borrowed the money to construct a home on their own free will — they did not have a gun to their head,” Hudson says. “Things didn’t work out the way they planned, but they still have a contractual obligation to repay the loan.”

While the CCI case is extreme (some of CCI’s customers went through other banks with the same outcome), it highlights questions asked by many Florida home buyers who’ve been left with liens or untouched lots: Where was the bank? Why aren’t banks more rigorous in making sure contractors have completed work before they release consumers’ loan funds?

Home-construction loans can be structured in different ways. Borrowers can set them up so that they themselves write checks to their contractors. Bret Rock, a spokesman for the Florida Bankers Association, says that when banks release the money directly, they generally hire independent inspectors to make sure construction is proceeding. In addition, they require contractors to sign affidavits promising all subcontractors and suppliers have been paid before releasing new draws.

Hudson says Coast Bank did both of those things and adds that when Battle’s customers signed their contracts, they agreed to give Battle the money for their lots, at the time selling for around $35,000, as well as up to 15% of the overall cost of the loan for permits, fees and related items before any work began. That’s how it’s possible, Tramm says, that someone like Wood could be out $90,000 on a $35,000 lot.

Commercial and public construction projects typically are able to avoid such situations because they often require surety bonds, says John Wiseman, president of the Florida Home Builders Association and CORE Construction in Florida. Bonds add to the overall cost of construction but ensure major businesses or school boards won’t lose money if a contractor has trouble paying the bills or goes bankrupt in the middle of the job. “If we keep seeing this sort of story in Florida,” says Wiseman, “I think you’ll see more consumers as well as banks requiring surety bonds for home loans.”