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Collins v. Federal Housing Finance Agency

United States District Court, S.D. Texas, Houston Division

May 22, 2017

PATRICK J. COLLINS, Plaintiffs,
v.
FEDERAL HOUSING FINANCE AGENCY, et al., Defendants.

          MEMORANDUM AND ORDER

          NANCY F. ATLAS, SENIOR UNITED STATES DISTRICT JUDGE

         Plaintiffs Patrick J. Collins, Marcus J. Liotta and William M. Hitchcock are shareholders in the Federal National Mortgage Association ("Fannie Mae") and/or the Federal Home Loan Mortgage Corporation ("Freddie Mac"). Plaintiffs complain that actions by the Federal Housing Finance Agency ("FHFA") and the United States Department of Treasury ("Treasury") adversely affected the value of Plaintiffs' shares. The case is now before the Court on the Motion to Dismiss [Doc. # 23] filed by Defendants FHFA and its Director Melvin L. Watt. Also pending is the Motion to Dismiss [Doc. # 25] filed by Treasury and its Secretary Steven Mnuchin, [1] the Motion for Summary Judgment on Constitutional Claim [Doc. #33] filed by Plaintiffs, and the Cross-Motion for Summary Judgment on Constitutional Claim [Doc. #35] filed by the FHFA and Watt.[2] The Court has reviewed the full record and the applicable legal authorities. Based on that review, the Court grants Defendants' Motions and denies Plaintiffs' Motion.

         I. BACKGROUND

         The historical background of this dispute is set forth fully in the well-reasoned decision of the United States Court of Appeals for the District of Columbia in Perry Capital, LLC v. Mnuchin, 948 F.3d 1072 (D.C. Cir. 2017). The Federal National Mortgage Association ("Fannie Mae") and the Federal Home Loan Mortgage Corporation ("Freddie Mac") became major players in the United States housing market. By 2008, they controlled combined mortgage portfolios valued at $5 trillion, nearly half of the United States mortgage market.

         In 2008, the United States housing market suffered a severe decline. Fannie Mae and Freddie Mac suffered a precipitous drop in the value of their mortgage portfolios. As a result, Congress enacted the Housing and Economic Recovery Act ("HERA"), which established FHFA. HERA classified Fannie Mae and Freddie Mac as "regulated entities" subject to the direct supervision of FHFA. See 12 U.S.C. § 4511(b)(1). Fannie Mae and Freddie Mac were subject also to the general regulatory authority of FHFA's Director. See 12 U.S.C. § 4511(b)(1), (2). HERA charged FHFA's Director with overseeing the prudential operations of Fannie Mae and Freddie Mac, and ensuring that they operated in a safe and sound manner, consistent with the public interest. See 12 U.S.C. § 4513(a)(1)(A), (B)(i), (B)(v).

         HERA also authorized the FHFA Director to appoint FHFA as either conservator or receiver for Fannie Mae and Freddie Mac, "for the purpose of reorganizing, rehabilitating, or winding up the[ir] affairs." 12 U.S.C. § 4617(a)(2). HERA grants to FHFA as conservator broad authority and discretion over the operation of Fannie Mae and Freddie Mac. For example, upon appointment as conservator of a regulated entity, FHFA immediately succeeds to "all rights, titles, powers, and privileges of the regulated entity, and of any stockholder, officer, or director of such regulated entity with respect to the regulated entity and the assets of the regulated entity." 12 U.S.C. § 4617(b)(2)(A). Additionally, FHFA is authorized to "take over the assets of and operate the regulated entity, " and to "preserve and conserve the assets and property of the regulated entity." 12 U.S.C. § 4617(b)(2)(B)(i), (iv).

         HERA also grants to FHFA expansive general powers, authorizing FHFA to, inter alia, "take such action as may be . . . necessary to put the regulated entity in a sound and solvent condition" and "appropriate to carry on the business of the regulated entity and preserve and conserve [its] assets and property[.]" 12 U.S.C. § 4617(b)(2), (2)(D). FHFA is also authorized, in its discretion, to "transfer or sell any asset or liability of the regulated entity in default . . . without any approval, assignment, or consent." 12 U.S.C. § 4617(b)(2)(G). Additionally, FHFA is authorized to "disaffirm or repudiate [certain] contract[s] or lease[s]." 12 U.S.C. § 4617(d)(1). HERA, to enable the FHFA Director to protect the "public interest, " granted to FHFA as conservator the authority to exercise its statutory authority and any necessary "incidental powers" in the manner that FHFA "determines is in the best interests of the regulated entity or the Agency." 12 U.S.C. § 4617(b)(2)(J).

         Separately, HERA granted Treasury temporary authority to "purchase any obligations and other securities issued by" Fannie Mae and Freddie Mac. 12 U.S.C. §§ 1455(F)(1)(A), 1719. This enabled Treasury to buy large numbers of Fannie Mae and Freddie Mac shares, and thereby infuse the companies with capital to ensure their continued liquidity and stability. HERA conditioned such purchases of stock on Treasury's specific determination that the terms of the purchase would "protect the taxpayer." 12 U.S.C. § 1719(g)(1)(B)(iii). A sunset provision terminated Treasury's authority to purchase shares after December 31, 2009. 12 U.S.C. § 1719(g)(4). Thereafter, Treasury was authorized only "to hold, exercise any rights received in connection with, or sell, any obligations or securities purchased." 12 U.S.C. § 1719(g)(2)(D).

         Importantly for the pending lawsuit, HERA sharply limits judicial review of FHFA's conservatorship activities, directing that "no court may take any action to restrain or affectthe exercise of powers or functions of the Agency as a conservator." 12 U.S.C. § 4617(f) (emphasis added).

         On September 6, 2008, FHFA's Director placed both Fannie Mae and Freddie Mac into conservatorship. The next day, Treasury entered into Preferred Stock Purchase Agreements ("PSPAs") with Fannie Mae and Freddie Mac, under which Treasury committed to invest billions of dollars in the two companies to keep them from defaulting. In exchange for Treasury's capital infusion, Treasury received one million senior preferred shares in each company. Those shares entitled Treasury to: (i) a $1 billion senior liquidation preference - a priority right above all other shareholders, whether preferred or otherwise, to receive distributions from assets if the entities were dissolved; (ii) a dollar-for-dollar increase in that liquidation preference each time Fannie Mae and Freddie Mac drew upon Treasury's funding commitment; (iii) quarterly dividends that the companies could either pay at a rate of 10% of Treasury's liquidation preference or a commitment to increase the liquidation preference by 12%; (iv) warrants allowing Treasury to purchase up to 79.9% of Fannie Mae's and Freddie Mac's common stock; and (v) the possibility of periodic commitment fees over and above any dividends. The PSPAs also included a covenant that Fannie Mae and Freddie Mac could not "declare or pay any dividend (preferred or otherwise) or make any other distribution (by reduction of capital or otherwise), whether in cash, property, securities or a combination thereof without Treasury's advance consent (unless the dividend or distribution was for Treasury's Senior Preferred Stock or warrants).

         The PSPAs initially capped Treasury's commitment to invest capital at $100 billion per company. When it appeared that Fannie Mae and Freddie Mac would require even greater capital infusions by Treasury, FHFA and Treasury adopted the First Amendment to the PSPAs in May 2009, under which Treasury agreed to double the funding commitment to $200 billion for each company. Seven months later, in a Second Amendment to the PSPAs, FHFA and Treasury again agreed to raise the cap, this time to an adjustable figure determined in part by the amount of Fannie Mae's and Freddie Mac's quarterly cumulative losses between 2010 and 2012. As of June 30, 2012, Fannie Mae and Freddie Mac together had drawn $187.5 billion from Treasury's funding commitment.

         Through the first quarter of 2012, Fannie Mae and Freddie Mac repeatedly struggled to generate enough capital to pay the 10% dividend they owed to Treasury under the amended PSPAs. As a result, FHFA and Treasury adopted the Third Amendment to the PSPAs on August 17, 2012. The Third Amendment to the PSPAs replaced the previous quarterly 10% dividend formula with a requirement that Fannie Mae and Freddie Mac pay as dividends only the amount, if any, by which their net worth for the quarter exceeded a capital buffer of $3 billion, with that buffer decreasing annually down to zero by 2018. Stated differently, the Third Amendment requires Fannie Mae and Freddie Mac to pay to Treasury quarterly dividends equal to their excess net worth. Under the new dividend formula in the Third Amendment, Fannie Mae and Freddie Mac would no longer incur additional debt in order to make their quarterly dividend payments, but they would no longer accrue capital during good quarters. Under the Third Amendment, Fannie Mae and Freddie Mac together paid Treasury $130 billion in dividends in 2013, and another $40 billion in 2014. In 2015, however, Fannie Mae's and Freddie Mac's quarterly net worth was much lower, such that Fannie Mae paid Treasury $10.3 billion and Freddie Mac paid Treasury $5.5 billion. By comparison, without the Third Amendment, Fannie Mae and Freddie Mac together would have been required to pay Treasury $19 billion in 2015. If they had been unable to make the 2015 payments, the companies would have been required to draw on Treasury's commitment of funds and thereby increase Treasury's liquidation preference. In the first quarter of 2016, Fannie Mae paid Treasury $2.9 billion and Freddie Mac paid Treasury no dividend at all.

         Plaintiffs in this case are shareholders in Fannie Mae and/or Freddie Mac. They filed this lawsuit in October 2016. Counts 1-3 of the Complaint [Doc. # 1] seek relief under the Administrative Procedure Act ("APA"). Count 4 challenges the provision in HERA that requires cause for removal of the FHFA Director ("Removal Provision"), arguing that it is an unconstitutional violation of the separation of powers. Plaintiffs seek a declaratory judgment that the Third Amendment violated HERA, that Treasury acted arbitrarily and capriciously by executing the Third Amendment, and that FHFA's structure violates the separation of powers. Plaintiffs also seek an injunction requiring a "return" to Fannie Mae and Freddie Mac of all dividend payments made pursuant to the Third Amendment, and enjoining the FHFA from applying the Third Amendment in the future. Plaintiffs ask this Court to vacate and set aside the Third Amendment.

         Defendants moved to dismiss Counts 1-3 based on the limit on judicial review set forth in 12 U.S.C. § 4617(f). Both sides moved for summary judgment on Count 4, the constitutional challenge. The pending ...


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