Suit says Irwin Union Bank execs missed snowballing risk

Irwin Union Bank & Trust expanded aggressively in the 2000s, diving into commercial lending in markets as far away as California and doling out residential loans for as much as 125 percent of a home’s value.

Risky stuff, to be sure. And ultimately disastrous. The onset of the financial crisis in 2008 sent it into a tailspin, and a year later it failed—wiping away one of the most storied names in Hoosier banking.

Now, a federal bankruptcy trustee overseeing the liquidation of Columbus, Ind.-based Irwin Financial Corp., Irwin Union’s parent, wants a pound of flesh from the trio of executives who set the bank on the road to ruin.

The newly filed suit from Trustee Elliott Levin says that, as Irwin evolved from a “community banking operation to a large, complex nationwide banking enterprise,” CEO William Miller, Chief Financial Officer Gregory Ehlinger and Executive Vice President Thomas Washburn failed to put in place an adequate, company-wide risk-management system.

“The defendants allowed the various lines of business … to operate on a virtually autonomous basis without managing or understanding at the enterprise level the risks being undertaken by the various lines of business, resulting in an ultimately fatal concentration … of real estate loans,” the 41-page suit alleges.

Levin’s suit alleges breaches of fiduciary duty and seeks to collect more than $500 million.

“We made a complete investigation, and the complaint speaks for itself,” Levin told IBJ.

Jim Knauer, an Indianapolis attorney representing the three executives, noted that the suit includes no allegations of wrongdoing. He said Levin was overreaching by “attacking business judgments made during the worst recession during anyone’s memory.”

The suit says that Irwin Financial did not begin to develop an effective company-wide risk-management system until the middle of 2006, and “by that time it was too late to save [the company] from the looming freeze in the credit markets that attended the bursting of the real estate bubble.”

By 2005, so-called no-equity home loans made up 56 percent of Irwin Home Equity’s portfolio. Around the same time, commercial real estate loans to borrowers in the Midwest and West grew to 84 percent of the bank’s commercial loan portfolio, according to the suit.

A report issued by the Federal Reserve’s inspector general in April 2010 included similar allegations and chastised regulators for failing to take strong action despite seeing red flags as early as 2001.

The failure of IUBT resulted in estimated losses to the FDIC’s deposit insurance fund of more than $550 million, according to the inspector general’s report.

Knauer said Irwin management tried to be responsive to regulators’ concerns and spent millions of dollars on consultants at their request.

For example, he said, after regulators asked Irwin in 2001 to hire a company-wide risk manager, it struggled to find someone with the appropriate experience. As a result, it chose a person experienced in finance but not in risk management.

Aiming for insurance

Bankruptcy trustees have filed similar lawsuits in the wake of some of the nearly 400 U.S. bank failures that have occurred since 2008, according to Kevin LaCroix, an attorney and executive vice president with OakBridge Insurance Services in Beachwood, Ohio.

The end game, he said, is to collect millions of dollars from directors’ and officers’ liability insurance. Levin and Knauer wouldn’t say how much coverage Irwin had, but LaCroix said institutions of its size typically carry in the neighborhood of $20 million.

Such cases often are settled, he said, but the personal assets of executives could be on the line if a judgment exceeded the amount of coverage or if litigation costs ate up a large portion of the D&O coverage.

Directors not named

IBJ reported in November that Levin was contemplating suing insiders—including board members—for breach of fiduciary duty.

The suit didn’t end up blaming directors, however. It says the board “was presented with an inaccurate picture of the financial condition. … This inaccurate picture inhibited the IFC board from taking timely action to preserve IFC’s precious capital.”

The 10-person board included central Indiana business heavyweights, including OneAmerica CEO Dayton Molendorp and former Central Indiana Corporate Partnership CEO David Goodrich.

Directors aren’t entirely off the hook. The trustee this summer sued them to recoup payments they received in the 90 days before Irwin failed. The Goodrich suit seeks $18,500 while the Molendorp case seeks $14,000.•