The Securities and Exchange Commission has charged two KPMG auditors for their part in a failed audit of TierOne bank, which hid millions in loan losses through the financial crisis and eventually filed for bankruptcy. KPMG said the auditors plan to challenge the charges.

The SEC has initiated administrative proceedings against KPMG partner John Aesoph and senior manager Darren Bennett, based in Omaha, Neb., accusing them of failing to adequately challenge management's assertions around trouble loans and leases as the bank faltered in the financial crisis. According to the SEC, Aesoph and Bennett failed to verify the fair value of collateral underlying troubled loans, relied on outdated appraisals, and overlooked numerous red flags in handing out an unqualified opinion on TierOne's 2008 financial statements.

KPMG spokesman Tim Connolly said Aesoph and Bennett “look forward to presenting the facts in support of the work that was performed at TierOne. KPMG had no further comment.

The SEC earlier pursued charges against three TierOne executives, two of whom have already settled the charges. The SEC said the bank's chairman, chief operating officer, and chief credit officer cooked a scheme to understate millions of dollars in loan losses and mislead investors and federal regulators at the peak of the financial crisis. The bank was deep into risky lending territory in high-growth real estate markets in Las Vegas, Arizona, and Florida. When the Office of Thrift Supervision directed the bank to maintain higher capital ratios, the officers relied on inflated collateral values, overstated values for repossessed properties, and stale and inadequately discounted appraisals to appear to comply, according to the SEC.

“Aesoph and Bennett merely rubber-stamped TierOne's collateral value estimates,” said Robert Khuzami, SEC director of enforcement, in a statement. The order says the auditors failed to comply with professional auditing standards in auditing the bank's valuation of loan losses by overlooking evidence that management's estimates were biased and inconsistent with independent market data. The SEC says the auditors failed to exercise appropriate professional skepticism and obtain sufficient evidence. They also failed to flag internal control problems related to the valuation of collateral, the SEC says.

The allowance for loan losses is an often-criticized area in inspection reports published by the Public Company Accounting Oversight Board. KPMG's inspection report covering 2008 financial statements flags one particular audit for problems with allowance for loan losses. PCAOB reports do not identify issuers, but the report says KPMG failed in the audit of “Issuer A” to assess the reasonableness of certain significant assumptions, including the time period for inherent losses to be recognized, the probability-to-default rates, and the collateral-value adjustment factors. It says KPMG also failed in this particular audit to test the completeness and accuracy of loan data that the issuers used to calculate those components.

The SEC said a hearing will be scheduled before an administrative law judge to air the evidence against the KPMG auditors and determine if any remedial actions are warranted. The ALJ has 300 days to issue an initial decision.