Thursday, August 19, 2010

Do You Know the Red Flags of Mortgage Fraud?

Mortgage fraud is not going away any time soon. The FBI has been working with bureaus of investigation in states that recently passed residential mortgage fraud acts to stay abreast of the latest fraud tactics.


The FBI has found that fraudsters are evolving new ways to take advantage of others and hide their intent. For this reason, anyone involved in the mortgage industry needs to be educated on the red flags of possible mortgage fraud, such as those outlined below:

Flipping vs. Serial Flipping:A fraudulent flip is one that erroneously increases the value of the property by using an inflated appraised value. If a property was purchased for $175,000 and soon thereafter was sold for $500,000, most professionals would notice. However, serial flipping is trickier. Say a house sold for $175,000, soon after sold for $250,000, then $325,000, then $400,000 and then $500,000. Fewer professionals would even raise an eyebrow. This scheme takes more time, but the end result is the same: fraud.

Multiple Contracts & HUD-1 Settlement StatementsIn this scheme, unbeknownst to the seller, the contract and settlement statement that is sent to lender shows inflated sales price. This enables the buyer to obtain a higher mortgage. In the end, the seller believes the property was sold for $300,000, but lender, agent and buyer believe the sales price was $500,000 (the amount on which the agent’s commission is calculated).

Fraudulent Qualification DocumentsIn this scenario, the borrower’s ability to qualify for a loan is misrepresented by fabricated employment history, income, credit records, and bank statement balances. FBI calls this is an “emerging issue” and a result of sophisticated Photoshop and editing software.

Bogus Assignment FeesBuyer #1 enters into an assignable contract with the seller at an inflated price. Buyer #1 locates Buyer #2 who may be a co-conspirator or a na├»ve investor. Buyer #2 takes an assignment of the contract at the inflated price and agrees to pay Buyer #1 an assignment fee. Inflated appraisal is used and Buyer #2’s application may contain misrepresentations.

Bogus Liens or InvoicesA buyer contracts with a seller at an inflated price. At closing, the difference between the true sales price and the inflated contract piece is paid to a bogus shell company of the buyer or individuals affiliated with the buyer.

ChunkingChunking transactions are similar to flipping, but instead of multiple sales of the same property, it involves multiple loans to the same borrower. In this situation, a borrower purchases more properties than underwriting guidelines would allow or obtains multiple refinance loans secured by the same property.

Chunking usually begins with an unsophisticated borrower attending a “how to get rich quick” seminar. At or following the seminar, a third party contacts the unsuspecting borrower to encourage investment in a specific property with no money down. The third party acts as an agent for the borrower and simultaneously submits loan applications on the borrower’s behalf to multiple financial institutions for the various properties. The borrower may not be aware of this.

The third party acts as agent for the borrower during the closing, and often, unbeknownst to the borrower, pockets the loan proceeds. The “unsophisticated” borrower is left with numerous loans from various financial institutions and usually has insufficient cash flow to repay the debt.

Builder BailoutsThese bailouts often occur when a builder is highly motivated to move inventory that has been sitting in a declining or depressed market. According to the FBI, condominium conversions are particularly vulnerable to this type of fraud.

In a builder bailout, the builder may use a variety of ways to quickly dispose of the property. Some of the methods are:
  • Aiding in fraudulent borrower qualification.
  • Offering excessive incentives not disclosed to the buyer’s lender.
  • Offering no down payment by inflating the sales price by the buyer’s down payment and forgiving the buyer of that amount.
  • Inflating the sales prices and using bogus liens or invoices.

Straw Borrowers
This type of fraud intentionally disguises the true beneficiary of the loan proceeds.
It may be used to:
  • Conceal questionable transactions;
  • Replace a legitimate borrower who may not qualify for the mortgage or intend to occupy the property
  • Circumvent applicable lending limit regulations by applying for and receiving credit on behalf of a third party who may not qualify or want to be contractually obligated for the debt. The straw borrower may be a friend or relative of the true beneficiary, or merely a paid participant.

Mortgage Elimination
Mortgage elimination is an attack on an existing mortgage through forced cancellations and unusual cancellations (usually called a “declaration of avoidance”).

Purchase Disguised as Refinance
In this scenario, the buyer executes a contract for purchase and convinces seller to quitclaim the title to buyer prior to closing. This is done with or without a security deed from buyer to seller and is done without the payment of the sales price to seller. At this point, the buyer then applies for a refinance of the property instead of a property purchase.

Reverse Mortgage Fraud
The FBI calls reverse mortgage fraud an emerging type of scheme that takes years to identify. In this scenario, fraudsters identify foreclosed, distressed or abandoned properties and use straw buyers to commit occupancy fraud. Seniors are recruited to purchase the property from the straw buyers without the exchange of money. After living in the property for 60 days, the seniors obtain a reverse mortgage. A fraudulently inflated appraisal is used as justification, possibly based on repairs or renovations that may not have been performed. At this point, a lump sum disbursement of the equity is requested, which the fraudsters abscond with at closing. Unfortunately, this type of fraud usually is not discovered until after the death of the borrower.

Short Sales
Many argue that residential mortgage fraud cannot be involved in a short sale transaction. The misstatement, misrepresentation or omission of fact to the seller’s existing lender would not be in the mortgage loan process. Nevertheless, mortgage fraud is often involved! Not against the seller’s lender (although other crimes may be involved), but usually against the buyer’s lender. Sellers, agents, buyers, and others involved in the process find a way for the buyer to pay some money to the seller for the purchase of personal property or as rent for the buyer taking possession prior to closing.

The issue is whether the buyer made a misstatement, misrepresentation or omission of fact in the mortgage loan process for the new loan being obtained. If the buyer is paying $2,000 to the seller for personal property or rent that expenditure would have to appear on the Loan Application Form or itemized on the HUD-1 Settlement Statement. Otherwise, the buyer is misstating assets. The lender believes the buyer has $2,000 more in liquid assets than the buyer actually has. If the buyer became committed to pay $2,000 for a car or furniture prior to closing, this would have to be disclosed to the lender. That requirement is not changed merely because the payment is to the seller. Even if the seller has not committed residential mortgage fraud against the existing lender by receiving the undisclosed funds, the existing lender could refuse to accept the negotiated payoff.

Buyer brokers in particular, beware! How can a broker or agent avoid becoming involved in such fraudulent activity? Here is my advice:

  • Closely evaluate the “chain of sales”
  • Communicate with other agents involved in the most recent transactions
  • Consider if the sales price is congruent with the sales and list price of other homes in the area
  • Communicate with the loan officer…and your broker…if unsure
  • Consider the buyer’s apparent ability to qualify for the purchase
  • Avoid assignment fees payable to “original” buyers
  • Avoid multiple transactions involving the same borrower in a short period of time
  • Realize that any attempt to satisfy a mortgage without payment in full typically is NOT going to work. In a short sale, it might work, but ensure the lender has given written consent for the acceptance of a lesser amount…
  • …and, be sure the conditions for the lender to accept a lesser amount are fulfilled
Howell Haunson

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