The courts may wind up adjudicating another aspect of the CU National Mortgage fraud.The $313 million Educational Systems Federal Credit Union has filed suit in federal court seeking a declaration that the loss it suffered in the CU National Mortgage fraud is covered by its bond with CUNA Mutual.In papers filed with the U.S. District Court for Maryland, the credit union asserted that the bond had been in effect during the time when the fraud took place and that the bond defined servicing contractors as credit union employees for purposes of insurance against dishonest actions by employees.The case stems from the actions of Mike McGrath, former president of U.S. Mortgage and CU National Mortgage, who defrauded multiple credit unions that were his firm’s clients in a scheme that ended up totaling about $139 million.The fraud has given rise to several lawsuits designed to both assess liability for the fraud and get back at least some of the lost funds. Some of the credit unions victimized in the fraud have sued Fannie Mae in an attempt to get the mortgage buyer to return the loans. And, now, Educational Systems has filed suit seeking to make clear that CUNA Mutual has to honor its claim for losses in the fraud.Chris Conway, CEO of Educational Services, described the credit union’s litigation as primarily preemptive and blamed CUNA Mutual for it having had to go to court.“Essentially, they really forced our hand,” Conway explained. “We had to file our suit because we had been served about their suit in Wisconsin.”In August of 2009, according to Conway and CUNA Mutual, the insurer filed litigation in a Wisconsin state court to try to get the court to declare that the CUNA Mutual bond would not cover the losses the credit unions suffered in the fraud. That first suit has been dismissed, but it was been refiled in October.ESFCU, based in Greenbelt, Md., had 36 of its loans unlawfully sold in the fraud, Conway said, and the CU was adamant that it had employed CU National solely to service the mortgages, collect the payments, keep the records and manage the escrow accounts for the loans, not to sell them.“We have never sold any of our mortgage loans,” Conway said, explaining that the credit unions uses other financial strategies to manage interest rate risk from keeping the loans on its own books.ESCFU related in its court documents, and Conway confirmed, that Educational Systems said it had never been served the original CUNA Mutual suit. Educational Systems had only found out about the suit, the CU said in its court filing, when officers for the credit union asked CUNA Mutual and its legal counsel in a face-to-face meeting whether the insurer had filed any suit involving the credit union.It was after being served with the papers relating to the October suit that ECFCU chose to file its case in federal court in Baltimore, Conway explained, to protect its interest and because it had no business, offices or presence in Wisconsin.For its part, CUNA Mutual contended other parties have responsibility and liability for the ESFCU losses and only went to court to establish that fact.“We believe other entities have liability for the losses the credit unions have suffered, and we are continuing to look for ways to assist the affected credit unions in seeking compensation for those losses,” wrote a spokesman for CUNA Mutual in an e-mail.“The declaratory judgment action we filed seeks only to have the court resolve the question around coverage. The action doesn’t seek damages against the credit union.We were hoping not to have to move forward with the litigation and have been working toward that end. However, in fairness to all of our policyholders, we need to abide by and defend the limits of our coverages to avoid having some credit union subsidize the inactions of others. We remain hopeful this can be resolved in a manner that is fair for everyone.”Based on information from Conway and sources familiar with the case, the court will likely have to rule on a matter that both sides see as clear cut.From ESFCU’s point of view, CUNA Mutual’s bond absolutely covered its losses because the bond explicitly makes clear that losses suffered through dishonesty among the employees or “service contractors,” such as CU National Mortgage had been, were absolutely covered.But from CUNA Mutual’s point of view, the ESFCU losses are absolutely not covered because the bond makes it clear that employees of brokers or sales firms, such as CU National Mortgage was, are explicitly not covered by the dishonest employee clause of the bond.The question the court will face is whether CU National Mortgage, which offered multiple sorts of services, was acting as a mortgage broker or as a mortgage servicer for the purposes of CUNA Mutual’s bond coverage when the loans were stolen since the firm offered both services.Conway explained that this meant that other credit unions that took losses in the CU National fraud might not have the same claim on CUNA Mutual or the same defense should the insurer dispute their claims. “Every credit union that had mortgages with CU National had them under somewhat different circumstances,” he said. –[email protected]

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