What Is FIRREA, and Was It a Success or Failure?

The Financial Institutions Reform, Recovery, and Enforcement Act

FIRREA for homeowners
••• Photo: Joe Raedle/Getty Images

FIRREA is the Financial Institutions Reform, Recovery, and Enforcement Act. It allows the Justice Department to sue for civil penalties for violations of one of 14 criminal statutes. These include bank fraud, false statements, mail fraud and wire fraud that affect federally-insured financial institutions. The DOJ can ask for penalties that equal the total gain or loss resulting from the fraud. (Source: Andrew. W. Schilling, "U.S. Using Subpoenas Under 1989 Act as New Tool to Probe Financial Firms," Reuters, January 3, 2013)

FIRREA and the Savings and Loan Crisis

Congress passed FIRREA on August 9, 1989, to respond to the Savings and Loan Crisis.  It provided $50 billion to close failed banks and stop further losses. It set up a new government agency called the Resolution Trust Corporation to resell S&L assets, mostly real estate, and use the proceeds to pay back depositors.

Why did it take a literal Act of Congress to address this bank crisis? More than half the nation's Savings and Loans banks were failing. The Federal Savings and Loan Insurance Corporation had spent $20 billion to insure depositors of the failed banks. That bankrupted it. Without FIRREA, depositors in bankrupt S&Ls would have simply lost their money.

FIRREA also changed Savings and Loan regulations to help prevent further unsound investments and fraud. (Source: "The Savings and Loan Crisis and Its Relationship to Banking," FDIC)

How FIRREA Is Used Today

FIRREA is now a useful tool for the Justice Department in probing poor-quality bank loans today. That's because Section 951 gives prosecutors the ability to show the burden of proof needed for civil cases, not criminal ones. That means they only have to show "a preponderance of evidence" instead of "beyond a reasonable doubt."

FIRREA increased enforcement of the Community Reinvestment Act. It sought to eliminate bank “redlining” of poor neighborhoods, which had contributed to the growth of ghettos in the 1970s. Regulators now publicly ranked banks as to how well they “greenlined” neighborhoods.  Fannie Mae and Freddie Mac reassured banks that they would securitize these subprime loans. It was the “pull” factor that complimented the “push” factor of the CRA.  

The Justice Department successfully used FIRREA to prosecute banks that made bad loans during the subprime mortgage crisis. The six largest banks paid $108 billion in fines. They also had to buy back tens of billions of bad mortgage-backed securities sold to investors on the secondary market. FIRREA was also used to prosecute rating agency Standard & Poors for saying those bad loans were safe investments.

FIRREA allows the government to subpoena any documents it wishes and call witnesses, including the person under investigation. Evidence gathered under FIRREA civil cases can be used in any subsequent criminal case. The government can also investigate anyone who may damage a federally-insured bank, including the bank itself. (Source: Peter J. Henning, "U.S. Finds Fresh Use for Seldom-Used Statute in Subprime Case," NYT Dealbook, August 11, 2014)

In 2014, federal and state prosecutors went after subprime auto loans. Subpoenas were issued to GM Financial and Santander Consumer requesting documents related to violations of FIRREA. These, and other, banks may have issued auto loans to borrowers who recently filed for bankruptcy, otherwise had poor credit, or were for cars that were clearly "lemons." (Source: John Carney, "Hazard Lights Are Flashing for Auto Lenders," Wall Street Journal, February 11, 2015)