Fraud and Prevention

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Looking Backward, Thinking Forward

Perspectives by Ann Fulmer
September 2, 2009

Soren Kierkegaard once said that life can only be understood backwards. That's not entirely true in the world of mortgage fraud. While the investigation of defaulted mortgages gives lenders the opportunity to recognize the fraud in the origination of loans, today's technology gives them the ability to see into the future.

It's common knowledge that fraud continues to flourish despite lower origination volumes. The fraudsters have been busy adapting to the changing times and if we as an industry have any hope of defeating them, we must analyze where mortgage fraud is increasing and understand why. We have to look at the various types of mortgage fraud and examine what methods will work best to stop them. We must understand our own strengths and weaknesses as an industry and make the necessary adjustments to tighten our defense.

To assist in that examination, Interthinx recently unveiled a new quarterly report that includes an in-depth analysis of nationwide risk as well as indices for the four most common types of mortgage fraud. The Interthinx Mortgage Fraud Risk Report, with forward and backward-looking data and analysis, provides deeper insight into the extensive pool of data amassed over the years from the industry's use of its FraudGuard loan-level fraud detection tool.

The report covers the second quarter of 2009. One of the most surprising findings is that fraud risk, especially valuation fraud, occurs in any market with unstable pricing, regardless of whether home prices are rising or falling. It was previously believed by many that fraud occurs only in a rising market.

Another interesting finding is that fraud risk is a leading indicator of foreclosure risk. By analyzing fraud indicator data generated since 2004 and comparing it to current RealtyTrac foreclosure reports, Interthinx analysts noted a correlation between states with historically high fraud risk and current foreclosure levels. The highest level of fraud risk ever recorded was in 2004 in Nevada, which now leads all states in foreclosure activity.

RealtyTrac reports showed a startling spike in foreclosure activity in the Silver State beginning in 2006, before the credit crunch and while employment was at historically high levels, which is consistent with evidence that fraudulently originated loans generally perform for one to three years, depending on the scheme involved, before imploding. This means it is reasonable to expect that the nation's hottest fraud spots today - Nevada, California, Arizona, Colorado and Ohio - will likely see additional spikes in foreclosures within two years.

Currently, the national fraud index stands at 130 (n=100), a 7% increase from the second quarter of 2008. So, for anyone who thought mortgage fraud would decline with the collapse of the housing market, my advice is to pay attention to the numbers. With valuation fraud leading the way as fraud shifts into short and REO sales and foreclosure "rescues," fraudsters continue to put the mortgage industry at risk.

Based on the large number of adjustable-rate mortgage loans, especially option ARMs with negative amortization, scheduled to reset between now and the first quarter of 2012, it looks like we can expect fraud indices to continue to rise over the next three years.

That's why we need to engage in forward thinking and take proactive measures to prevent the inevitable rise in foreclosures from being accompanied by a wave of valuation fraud to match. Using the numbers we now have at our disposal, we can come together as an industry to beat the fraudsters at their own game.