By Nate Raymond
NEW YORK (Reuters) - A U.S. judge is considering an alternative that could result in Bank of America Corp paying much less than the $863.6 million the government is seeking as a penalty for the sale of defective mortgages before the financial crisis.
At a hearing on Thursday, U.S. District Judge Jed Rakoff in Manhattan asked the bank and the Justice Department to brief him on the alternative, which is based on the grains rather than the losses resulting from the sales.
The hearing followed a jury verdict on October 23 in which a federal jury found Bank of America liable for fraud for selling substandard mortgage to government sponsored mortgage finance companies Fannie Mae and Freddie Mac.
The verdict was a big win for the government in its efforts to hold Wall Street accountable for the financial crisis, and the Justice Department has requested a penalty based on the gross losses Fannie Mae and Freddie Mac incurred.
But at Thursday's hearing Rakoff said he wanted a "more full presentation" on how to calculate the penalty based instead on how much Countrywide gained through the fraud, calling it a simpler approach.
The judge said that his comments should not signal how he will ultimately rule. Rakoff said he would issue a decision sometime in February.
A penalty based on gains rather than losses would likely be significantly smaller than prosecutors in U.S. Attorney Preet Bharara's office have requested.
Evidence the government presented at trial indicated that Countrywide made $165.2 million selling the loans.
The case, launched in October 2012, focused on a mortgage lending process at Countrywide called the "High Speed Swim Lane," or alternatively "HSSL" or "Hustle," that the government said emphasized speed and quantity over quality.
The Department of Justice wants Bank of America to pay $863.6 million based on the gross loss incurred on the HSSL loans by Fannie and Freddie, which the government took into conservatorship in 2008.
The Justice Department has also asked that Rakoff require that former Countrywide executive Rebecca Mairone, who was also found liable by the jury, pay $1.1 million.
"We're here to assess civil penalties, the purpose of which is to deter and punish," Jaimie Nawaday, a lawyer at the Justice Department, said in court on Thursday.
She urged the judge to award a penalty based on the losses through a "broad interpretation" of the Financial Institutions Reform, Recovery, and Enforcement Act, a law passed after the 1980s savings-and-loan scandals.
The law, which carries a lower burden of proof than criminal cases and a 10-year statute of limitations, has become central in a wave of Justice Department investigations focused on the financial crisis.
But Rakoff prodded Nawaday on why assessing a penalty based on Countrywide's gain rather than loss is not "a more natural way" to look at the case.
"The point of a fraud is to get money you're not entitled to," he said.
Kenneth Smurzynski, a lawyer for the bank at Williams & Connolly, urged the judge to find that the maximum penalty allowed under the statute was $1.1 million, and asked Rakoff to use his discretion to award nothing.
He also criticized the government's calculation of Fannie and Freddie's loss, saying it ignored that they continued to receive value from the mortgages.
"What the government calls gross loss is simply preposterous," Smurzynski said.
But Rakoff questioned how Bank of America could be right that under the law the maximum penalty could just be $1.1 million, saying a finding like that would provide a "windfall" in a massive fraud case.
"That wouldn't serve any deterrent value at all," Rakoff said.
Michael Mukasey, a lawyer for Mairone at Bracewell & Giuliani, urged the judge to be lenient with his client, saying she had been "punished enough already" through enduring publicity connected to the case.
He urged that no penalty be awarded against Mairone, 46, saying he did not expect the bank to indemnify her for any award.
"Just because someone committed an act that in the eyes of the jury and maybe the court is a legal violation, it doesn't mean you're a bad person," he said.
The case is U.S. ex rel O'Donnell v. Bank of America Corp et al, U.S. District Court, Southern District of New York, No. 12-01422.
(Reporting by Nate Raymond in New York. Editing by Andre Grenon)