Fees were another cash cow in subprime mortgage deals

EDITOR'S NOTE: This is the second in a five-part series on the subprime mortgage crisis.

· Day 1: Traders saw a cash cow in mortgage derivates
· Day 3: Making a profit on the crashing market
· Day 4: Credit ratings fueled subprime boom
· Day 5: Losses mount as unseen risks emerge

When Daniel Sadek was $6,000 short of covering the payroll for his new subprime mortgage company, Quick Loan Funding Corp., he flew to Las Vegas and put a $5,000 chip on the blackjack table.

"I could have borrowed the money, I suppose," Sadek says.

That wouldn't have been his style. With his shoulder-length hair and beard, torn jeans and T-shirts with slogans such as "Where is God?" Sadek looked more like a guitarist for Guns N' Roses than a mortgage banker.

Sadek says he was dealt a jack, then an ace. Blackjack. Quick Loan Funding, based in Costa Mesa, Calif., would survive and, for a while, prosper by satisfying Wall Street's thirst for subprime debt.

As home prices rose, Sadek pushed mortgages to borrowers with bad credit. Subprime loans grew to 21 percent of all U.S. home loans last year from 7 percent in 2001, according to Inside Mortgage Finance. Banks drove that growth because they could bundle subprime loans into securities, parts of which paid interest as much as 3 percentage points higher than 10-year Treasury notes.

"I never made a loan that Wall Street wouldn't buy," Sadek says. He says the company did nothing illegal.

Expansion of the subprime derivatives market by New York bankers created a new way to bet against the U.S. housing market and Fed demand for mortgage-backed securities. Investors from Germany to Japan poured about $1.2 trillion into the vehicles in 2005 and 2006, according to Global Insight Inc., an investment research firm in Waltham, Mass.

Sadek, now 39, collected exotic cars and was engaged to actress Nadia Bjorlin of "Days Of Our Lives." He spent $35 million producing "Redline," a feature film about car racing that starred Bjorlin.

When homeowner Christopher Aultman wanted to refinance the 30-year mortgage on his home in Victorville, Calif., he called Quick Loan Funding.

Aultman, a mechanic for Union Pacific Railroad, needed to tap $20,000 in equity to pay off mounting debts.

His credit score was 465 out of a possible 850, according to loan documents. That's below the median of 720, according to Fair Isaac Corp., a credit reporting service.

Quick Loan Funding was the only lender that would talk to him, Aultman says.

"We'd been struggling and running away from bills, and I was tired of living that way," says Aultman, now 35. "I was desperate."

The Quick Loan Funding workers who answered Aultman's call brought a car dealer's mentality to mortgages, says former employee Steven Espinoza, 39.

"It's the same type of hard sell," Espinoza says.

Espinoza's job: Get the caller's credit card and charge $475 for an appraisal, he says.

As vice president for compliance and risk management, Lisa Iannini's job was to make sure the hard sell didn't result in bad loans.

"I went to work every day as an uninvited hall monitor at a fraternity party," Iannini says.

A key selling point was the 50 percent rise in home prices nationally from 2001 to 2006, according to the National Association of Realtors. Salespeople told homeowners that as long as values increased, they could always refinance or sell.

It wasn't a lie. Year over year, prices hadn't fallen since the 1930s, according to the Realtors group.

Now, with home prices declining, the Mortgage Bankers Association says borrowers with subprime adjustable-rate mortgages are seven times more likely to default than those with prime fixed-rate mortgages.

Sadek says he fostered a competitive sales environment.

"If the loans were so bad, why did Wall Street keep buying them?" Sadek says.

To get $20,000 in cash, Aultman says, he was told that his monthly payments would rise to $2,264 from $1,464.

"I said 'I can't do this,' " Aultman says. "They said take the mortgage, make the payments and once everything is paid off, within 30 days your credit will shoot up 150 points and we'll get you a better rate."

Aultman says he didn't notice the prepayment penalty in his contract. If he refinanced within two years, he'd have to pay six months interest.

For a $247,500 mortgage, Aultman paid $10,813 to Quick Loan Funding in closing fees, according to loan documents.

The average closing costs for a mortgage of that amount in California is about $5,000, according to Pete Ogilvie, president of the California Association of Mortgage Brokers.

Sadek defends the fees by saying he took a risk by lending to people with lousy credit.

Aultman says he has received two notices of foreclosure since refinancing with Quick Loan Funding in November 2005.

"I didn't know what I was signing," he says. "There's a lot of nights I've gone into my son's room and watched him sleep and I've cried."

Sadek may be in trouble, too. The California Department of Corporations wants to revoke his lending license. The state says he tried to use the bank account of his escrow company, Platinum Coast, to apply for markers, or gambling loans, at Las Vegas casinos.

"It was a bank error," Sadek says. "No money ever left the account."

Sadek holds up a copy of the marker application. It has his name at the top and his signature at the bottom. In the middle of the page is a bank-account number. He says he thought it was his personal account. It wasn't. It turned out to be Platinum Coast's, Sadek says.

He says he didn't know what he was signing.

WEDNESDAY: A Texas hedge fund manager invents ways to bet against housing, targeting Sadek's loans.