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Residential Capital Files Bankruptcy: Part 1 of 2

Robert M. Siegel

Subsidiary of Ally Financial Inc. Files Chapter 11 Bankruptcy

Residential Capital, a residential mortgage loan originator and a subsidiary of Ally Financial Inc. (formerly GMAC), filed for Chapter 11 bankruptcy protection in New York on May 14, 2012. Ally Financial was the financial arm of General Motors and, while taxpayers currently own only approximately 25% of G.M. after the $17.2 billion bailout, they still own 74% of Ally.

The bankruptcy filing resulted from the failure of Residential Capital (ResCap) to pay a $20 million installment of debt which became due and payable in mid-April, and the prospect of having to pay approximately $300 million in debt payments coming due through June, 2012. ResCap had continued to absorb enormous losses from bad loans, and continues to face demands to buy back mortgage loans it sold to investors.

Mounting Litigation

At the end of the first quarter of 2012, ResCap had $654 million in cash and cash equivalents on its balance sheet. Therefore, missing the $20 million debt payment hinted that ResCap was preparing for a bankruptcy filing. Upon filing for bankruptcy, ResCap listed $15.7 billion in assets and $15.3 billion in debt.

Additionally, it is rumored that Warren Buffett’s Berkshire Hathaway Inc., which is an unsecured debt holder of ResCap, approached Ally with an offer to purchase ResCap, offering to pay very little upfront but willing to take on potential liabilities such as the mounting litigation arising out of the loan repurchase claims. Ally declined the offer apparently being of the view that a bankruptcy filing and sale of assets would provide more protection to the company from future liabilities.

ResCap’s board approved the bankruptcy filing and the sale of substantially all the mortgage servicing and related assets to Fortress Investment Group LLC and Nationstar Mortgage Holdings Inc. for approximately $2.4 billion.

It is interesting to note that according to Chairman and CEO of ResCap, Thomas Marano, Fortress and Nationstar will not assume the liabilities that Berkshire had proposed assuming.

Stay tuned for Part 2.

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