The American Civil Liberties Union sued Morgan Stanley on Monday, charging the Wall Street firm discriminated against minority homeowners and violated federal civil rights laws by providing funding for risky mortgages.
The suit, filed in U.S. District Court in New York, is the first lending discrimination case to go after the investment banks that funded the subprime mortgages. Previous suits of this kind targeted the lenders that made the loans.
Wall Street funded the subprime lending boom by bundling the risky loans into mortgage-backed securities. Those securities were then sold to institutional investors and pension funds.
The lawsuit was filed on behalf of five Detroit residents, and asks the court to certify the case as a class action.
"With this lawsuit, real victims of the subprime lending scandal are stepping forward to hold investment banks like Morgan Stanley accountable for the devastation the banks wrought in their lives and in our economy," said Anthony Romero, ACLU executive director, in a statement.
Morgan Stanley ( denied the allegations. )
"We believe these allegations are completely without merit and plan to defend ourselves vigorously," said the firm in a statement.
Romero said Morgan Stanley is not the only Wall Street firm that participated in funding improper subprime mortgages and that similar suits against other firms could be forthcoming.
Subprime mortgages are higher-interest loans made to homeowners or buyers with low credit ratings. The higher rates made subprime mortgages lucrative for lenders to make and Wall Street firms to fund during the housing boom.
The ACLU's suit charges that during the housing bubble years -- between 2004 and 2007 -- Morgan Stanley ramped up its funding of subprime and other high-risk mortgages, becoming the principal financing source for New Century Mortgage Co., one of the most active subprime lenders at that time. New Century filed for bankruptcy in 2007 and has since gone out of business.
The ACLU claims that Morgan Stanley pushed New Century to issue certain types of loans with no concern about risk, because it made its profit at the outset, when the mortgage-backed securities were created and sold.
"The targeting of communities of color for loans that unfairly raises the risk of default and foreclosure is the quintessential 'reverse-redlining' outlawed by the Federal Fair Housing Act," said Elizabeth Cabraser, one of the lawyers bringing the suit.
State and federal authorities have brought their own cases charging that banks discriminated against minority borrowers through their subprime lending practices.
Among the major cases was a $175 million lending discrimination settlement with Wells Fargo ( in July 2012 and a $335 million settlement with )Bank of America ( in December 2011 over discriminatory lending practice at )Countrywide Financial, a subprime lender that the bank purchased.
Romero said the ACLU was pleased with some of the actions taken by state and federal authorities, but felt more needed to be done.
"Certainly if we had felt that the response was as vigorous as it should have been, we might not have started down this path," he said. "Banks have not been held accountable."