Bank of America (BAC) is the latest big financial firm to post second-quarter results that weren’t as bad as Wall Street had feared. Bank of America made $3.4 billion, or 72 cents a share, down from the year-ago $5.76 billion, or $1.28 a share. Analysts surveyed by Thomson Financial were looking for a 53-cent profit. The bank set aside $5.8 billion to cover credit losses, up from $1.8 billion a year earlier, as credit quality continues to deteriorate. But revenue surged, driven by strong deposit growth, and writedowns slowed.

Perhaps the best news is that Bank of America now expects its acquisition of struggling mortgage lender Countrywide Financial, completed earlier this month, to add to earnings this year, as the bank boosted its estimates of cost savings tied to the deal. Bank of America had previously expected the Countrywide deal to be earnings-neutral for 2008. The shift comes in spite of the declining fortunes of Countrywide, which wasn’t part of BofA during the second quarter. The mortgage lender lost $2.33 billion for the second quarter, as credit costs were just under $4 billion. Bank of America, which said it will offer details later Monday on a conference call with analysts and investors, surged 8% in premarket trading Monday.

There are some new wrinkles in Bank of America’s (BAC) plan to buy struggling mortgage lender Countrywide (CFC). Illinois’ attorney general is planning to sue Countrywide, claiming the mortgage lender misled consumers and eased its lending standards to pump up loan volume, boosting its profits. The suit is expected to be filed in state court Wednesday, asks the court to rescind or reform questionable loans written in the state over the past four years, The New York Times reports.

The news comes as Countrywide shareholders prepare to vote on Bank of America’s $2.8 billion takeover plan. Countrywide investors are expected to approve the merger, which stands to rescue the Calabasas, Calif., lender from rising problems in its mortgage portfolio and questions about its business practices. Worries that the Countrywide deal will saddle Bank of America with heavy loan losses and legal bills have pulled BofA shares down 30% since the deal was struck in January. But a Bloomberg report Wednesday says not to worry: Taxpayers, via tax write-offs available to Bank of America, are actually footing the bill, to the tune of as much as $5 billion over 20 years, according to accounting watchdog Robert Willens.

“Ken Lewis got a break,” Willens said, referring to Bank of America’s chief. “What these losses do is reduce the effective cost of the deal so the headline price isn’t really what they’re paying. It’s entirely possible that the entire equity purchase price could be financed by tax savings.” Whether those savings can offset the hit BofA’s reputation may take in future Countrywide litigation remains to be seen.

Bank of America (BAC) shares sold off again Monday amid deepening worries about the credit crunch. The bank’s shares were off 2% midmorning after earlier hitting a seven-year low at $26.25. At that level, shares of the Charlotte, N.C., bank - which has fared better in the subprime meltdown than rivals such as Citi (C) and Merrill Lynch (MER), but has nonetheless been forced to raise billions in new capital - have lost half their value over the past year.

The latest selloff comes as Bank of America, the country’s largest commercial bank by assets, prepares to complete its planned purchase of struggling mortgage lender Countrywide (CFC). Countrywide shareholders are expected to approve the all-stock deal Wednesday. At the time the merger was announced, Countrywide investors were due to get $4 billion in Bank of America stock. But the 30% decline in BofA shares since the deal was unveiled Jan. 11 mean it’s now worth just $2.8 billion.

Even at that price, some people doubt Bank of America is getting its money’s worth, what with Countrywide’s legal woes and the plunging prices of houses that back banks’ loan portfolios. CEO Ken Lewis disagrees with the naysayers, as seen in Bank of America’s recent decision to move up the planned completion of the merger to July 1, from sometime in the third quarter. Speaking at a conference earlier this month, he said, “From everything we know, we think we got it right.”

Financial stocks sold off again Wednesday as investors continue to worry about the outlook for firms with exposure to the declining housing and mortgage markets. Washington Mutual (WM), the nation’s biggest thrift and a big mortgage player in recent years, fell 11% in early trading, putting the stock down 50% since the beginning of May. Lehman Brothers (LEH) dropped for the fourth straight day, as the Financial Times reported the investment bank might raise further capital, via a sale of stock to investors in Korea. Lehman shares are down 21% this week.

The selloff came despite some modest good news in the form of an Oppenheimer note on Bank of America (BAC). Analyst Meredith Whitney said BofA chief Ken Lewis reaffirmed he intends to complete the bank’s purchase of struggling lender Countrywide (CFC), saying the $4 billion acquisition is attractively priced even if writedowns on Countrywide’s portfolios exceed BofA’s expectations. Lewis also told Whitney that Bank of America’s quarterly dividend is safe even at the current rate of 64 cents, which gives the stock an eye-popping dividend yield above 8% - a level at which rivals such as Wachovia (WB) have recently cut their payouts. Despite the largely positive comments, Bank of America shares fell 2%. Maybe investors in bank stocks have heard the dividend-is-safe story before.

If the credit crisis is winding down, it’s hard to tell by looking at Friday’s morning trading in the financial sector. Banking stocks sank after The Wall Street Journal reported regulators are increasingly concerned about possible losses on loans to homebuilders, and pushing National City (NCC) to make sure it has adequate capital and sound lending practices. The memorandum of understanding between the bank and the Office of the Comptroller of the Currency comes just two months after National City sold a $7 billion slug of common and preferred stock to shore up its capital base.

The notion that bank balance sheets may still be unsteady even in the wake of recent capital-raising moves unnerved investors with stakes in other recent capital-raisers, including Washington Mutual (WM) and Wachovia (WB). Washington Mutual and Wachovia raised new money in April and fell to 52-week lows in early trading Friday. Another bank making a new low is Bank of America (BAC). The Charlotte-based banking giant has been seen as one of the stronger U.S. financial institutions, but has seen its shares drop 23% since May 2, when the market was buzzing about the prospect that the bank could walk away from its planned buyout of Countrywide (CFC). Since then, Bank of America has reaffirmed it plans to complete the purchase, which is good news for investors in the struggling mortgage lender, but perhaps less so for holders of Bank of America stock.

Bank of America (BAC) has thrown a top Countrywide (CFC) exec overboard. BofA said Wednesday that David Sambol, the Countrywide operating chief who was to lead the combined company’s mortgage business after they merge this summer, will retire. Charlotte-based Bank of America said a restructured consumer banking business will instead be led by three top BofA officers - mortgage chief Barbara Desoer, consumer bank president Liam McGee, and credit card lending chief Bruce Hammond.

“These changes reflect our commitment to aligning our best talent to our greatest growth opportunities,” CEO Ken Lewis said. “We are focusing our consumer organization to drive growth in our three largest and most critical consumer profit pools — deposits, card and mortgage.”

Few tears will be shed over Sambol’s fall. As Countrywide chief Angelo Mozilo’s right hand man during the mortgage boom, Sambol raked in millions of dollars in pay while the company was extending billions of dollars in bad loans to questionable borrowers. BofA’s decision to pay him as much as $28 million to stick around for three years after the merger’s completion, despite his prominent role in the poor underwriting practices that led Countrywide to the abyss in the first place, raised some eyebrows earlier this year.

“Sambol is one of the focal points of what has caused this recession,” one vocal Countrywide critic, Sen. Charles Schumer, said back in March. “Having the chief cook and bottle washer in charge is a mistake.”

Wednesday’s decision to put BofA execs in charge of the combined lending business looks a good sign for the future of the merger, however. Countrywide shares have traded at a considerable discount to the implied value of BofA’s $4 billion all-stock offer since the merger agreement was struck back in January, reflecting fears that BofA might ask for better terms. Those fears rose earlier this month after BofA said in a regulatory filing that it hadn’t decided whether to guarantee Countrywide’s debt - language that suggested to some observers that BofA could even be weighing whether to walk away from the deal. For now, those bets are off. Countrywide stock rose 6%.

A lawsuit accusing Countrywide (CFC) of fraud is moving forward. The mortgage lender’s officers and directors must answer shareholder claims that they failed to adequately monitor the company’s lending practices, The New York Times reports. The Times reports the decision was made Tuesday by federal Judge Mariana R. Pfaelzer in Los Angeles, who rejected a motion to dismiss the suit. The lead plaintiff, the Arkansas Teacher Retirement System, said “it is our duty to seek recourse when a company’s directors engage in practices that are not in the best interests of shareholders.”

The legal problems at Countrywide could be a source of anxiety for investors who are wondering whether Bank of America (BAC) will go through with its agreement to buy the lender for around $4 billion in stock. Bank of America said again this week that it plans to complete the deal in the third quarter and is looking forward to becoming the nation’s biggest mortgage lender after the closing.

But the suit, which also alleges insider trading, brings renewed scrutiny of the millions of dollars in stock-sale profits reaped by Countrywide executives as the company was making thousands of ill-advised loans. CEO Angelo Mozilo’s $474 million in stock sales between 2004 and 2007 will get particular attention because the exec repeatedly changed the terms of his 10b5-1 prearranged stock-sale program to allow more shares to be sold. “Mozilo’s actions,” the judge wrote, “appear to defeat the very purpose of 10b5-1 plans.”

It has been another tough week for shareholders in Countrywide (CFC), the mortgage lender that agreed in January to sell itself under duress to Bank of America (BAC). Countrywide shares were down 19% for the week on Friday afternoon. The big hit came Monday, when a Friedman Billings Ramsey analyst said BofA should walk away from the deal in light of a filing last week that said BofA hadn’t decided whether it would guarantee Countrywide’s debt. Not everyone was persuaded by that argument, but Countrywide also came under fire in Congress. On Tuesday, Sen. Charles Schumer criticized the company’s handling of bankruptcy debts and questioned whether BofA should even be paying the agreed-upon $7 or so a share in stock.

The selloff had Countrywide shares trading Friday afternoon at a 28% discount to the implied value of Bank of America’s takeout offer. That spread suggests that some investors are betting the deal won’t get done at the agreed-upon terms of 0.1822 Bank of America share for each Countrywide share.

Still, the chart below, put together by Fortune’s Sarah Slobin, shows that the spread isn’t as wide as it was two months ago. The high remains 38% - reached March 17, the day after JPMorgan (JPM) agreed to buy Bear Stearns (BSC) for $2 a share, accelerating investors’ flight to the safety of Treasuries. With any luck, that’s a scene we won’t have to revisit anytime soon.

Not everyone is persuaded by speculation that Bank of America (BAC) could renegotiate or walk away from its $4 billion agreement to buy Countrywide (CFC). At The New York Times DealBook blog, law professor Steven Davidoff writes that the steep decline of the mortgage markets Countrywide operates in - and the fact that those conditions were known back in January, when BofA agreed to make the purchase - will make it difficult for BofA to claim a so-called material adverse event that would let it walk.

“BofA is going to have a hard time claiming an MAE,” Davidoff writes, “given that Countrywide’s woes appear to be the result of general economic conditions generally affecting its industry.”

Davidoff concedes that the status of the BofA-Countrywide deal isn’t clear-cut, but he says that without knowing the content of documents such as disclosure schedules, investors can’t know whether Bank of America might have grounds to terminate the deal.

“Ultimately, the only thing this analyst’s report tells us is that BofA might have a financial incentive to walk or cut the price,” he writes, in reference to a report Monday that said BofA might face outsize losses on Countrywide’s loan book. “But to do so, it must have grounds under the merger agreement. And as I said, it appears that any MAE claim will be tough to prove, at least based on the public facts. Perhaps the legal investigations may qualify, or shareholder or customer lawsuits. But again, we just don’t know without seeing what is in the disclosure schedules.”

All that said, Davidoff notes that the collapse of buyout deals such as those for Sallie Mae (SLM) and Harman (HAR) is making investors in targets understandably suspicious. “Irrational fear in today’s buyout market,” he writes, “has unfortunately proven correct too many times.”

Countrywide (CFC) is under fire again in Washington. Sen. Charles Schumer said Tuesday that buyer Bank of America (BAC) should cut the price it has agreed to pay in a $4 billion buyout of Countrywide if it turns out that Countrywide engaged in unscrupulous lending during the housing boom. “These latest revelations should make Bank of America think even harder about how they want to proceed,” Schumer said in prepared remarks before the Senate Judiciary Subcommittee on Administrative Oversight and the Courts, Bloomberg reports.

Schumer is chairman of the subcommittee, which on Tuesday held a hearing into alleged misconduct by lenders toward borrowers in bankruptcy. Countrywide issued a statement Tuesday afternoon defending its practices, saying that “allegations made in the media recently relating systemic errors in bankruptcy servicing practices” are “unfounded.” The firm said it “believes its bankruptcy servicing processes are best in class and result in minimal instances of error.”

The hearing comes just days after BofA said in a filing that it wouldn’t commit to guaranteeing Countrywide debt. That remark led S&P to downgrade Countrywide’s credit ratings, citing the uncertain status of the company’s creditors. On Monday, an analyst at Friedman Billings Ramsey said BofA should walk away from the deal because of the prospect that loan losses on Countrywide’s high-risk loan book will outstrip the cushion BofA has built into its all-stock acquisition of the company.

Chris Whalen of Institutional Risk Analytics goes a step further in his latest ruminations on the subject. He believes that in addition to the potentially large loan losses, Countrywide faces massive and open-ended legal risk that Bank of America cannot afford to take on, tied to the allegations centering on Countrywide’s aggressive lending. “We don’t believe that the BAC+CFC transaction can get done without a re-organization to address the litigation and other off-balance sheet, contigent claims,” he writes. Whalen says he believes Countrywide creditors would be best off trying to push the firm into an involuntary bankruptcy proceeding.