Subprime Lender Accused by SEC of Fraud on $100 Million Deal

(Bloomberg) -- U.S. regulators accused the co-founders of “deep subprime” auto lender Honor Finance LLC with defrauding investors in a 2016 offering of $100 million of asset-backed securities.

According to the Securities and Exchange Commission’s complaint, James Collins and Robert DiMeo artificially inflated the value of the collateral underlying the deal.

This is not their first brush with trouble. Along with Michael Walsh, an accountant, they were indicted on fraud charges by the U.S. Department of Justice in May 2020 for misappropriating more than $5 million in company funds. The DOJ alleged that the trio improperly transferred money to themselves and their family.

The deal that caught the SEC’s eye, known as HATS 2016-1, sustained huge losses and became the first subprime auto ABS transaction that S&P downgraded since the 2008 financial crisis. The SEC alleges fraud was committed against bond investors and rating agencies, among others.

The complaint alleges Collins and DiMeo included ineligible loans in the deal, extended loan repayment dates without borrowers knowing about it, and forgave payments due from delinquent borrowers. As a result, Honor gave false information to investors during the offering, the SEC said.

“We charge Collins and DiMeo with intentionally misleading investors, the underwriter, and ratings agencies in order to securitize loans that should not have been included in HATS and hide Honor’s improper servicing practices,” Jennifer S. Leete, associate director of the SEC’s Division of Enforcement, said in a statement. “In addition, because of their alleged misconduct, Honor continued to overstate the performance of the deal long after the securitization was issued.”

Losses from HATS were so high that rating agencies including S&P and Kroll Bond Ratings downgraded some of the subordinate tranches at least two times. Kroll cut the the slice originally rated BBB, which is investment grade, down to a junk rating of B+, and the Class C rating, which was originally BB-, was downgraded to single C.

During its 2018 downgrade of the ABS, S&P noted that Honor’s high level of loan extensions to borrowers “are a complicating factor” and “the way in which Honor serviced the pool was outside of industry norms.”

The company went defunct in 2018 and transferred its servicing to Westlake Portfolio Management, which paid down the subordinate tranches, according to a June 2019 Kroll press release.

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