Capital One Financial Corp. is paying $3.5 million to settle federal civil charges of underreporting as much as $123 million in losses on auto loans in the months preceding the financial crisis.

According to the Securities and Exchange Commission, the bank “materially understated” its loan loss expenses within its auto-lending business and failed to maintain effective internal controls as losses mounted in 2007 and 2008. The SEC further contended that Peter A. Schnall, Capital One’s chief risk officer at the time, and David A. LaGassa, a lower-level executive, failed to prevent the improper statements.

The case illustrates a common financial misdeed during the crisis, with some Wall Street firms covering up the troubles from the public, prompting a wave of federal actions against Countrywide Financial and other lending giants.

“Accurate financial reporting is a fundamental obligation for any public company, particularly a bank’s accounting for its provision for loan losses during a time of severe financial distress,” George Canellos, the co-chief of the SEC's enforcement unit, said in a statement. “Capital One failed in this responsibility.”

But the SEC could face questions over whether its penalties fit the crime. Capital One was not required to admit or deny wrongdoing and the $3.5 million penalty is considered a blip for one of the nation's largest banks.

The settlement did not require Capital One to restate its financial results and a bank spokesperson said it did not impact any current or future business. Schnall agreed to pay an $85,000 penalty. LaGassa settled for $50,000. Neither was barred from the securities industry and both are still employed by Capital One, in different roles.

The SEC’s case began in early 2007, when the subprime lending market was starting to collapse. Losses began to mount at Capital One and the bank rushed to react. Ultimately, though, Capital One "materially" understated its loan loss expense in public filings.

In the second quarter that year alone, Capital One low-balled the expense by up to $72 million, or about 18%, despite an executive citing in an email mentioned by the SEC that the bank was “not optimistic that we are going to suddenly see a slowing in losses.” In fact, an internal “loss forecasting tool” traced the problems to “exogenous” factors - external problems such as the weakening economy.

But the bank, according to the SEC, looked the other way. For example, Capital One failed to include any “exogenous-driven losses” in its assessment of the second quarter in 2007. Capital One, the SEC said in the order, “gave insufficient weight to the evidence available at the time.”

Subscribe Now

Authoritative analysis and perspective for every segment of the payments industry

14-Day Free Trial

Authoritative analysis and perspective for every segment of the industry