Rise in REO Flips with Cash, Pooled Funds, LLCs

Freddie Mac is seeing more REO property-flip fraud cases in which investors recruit people to pool money in an LLC and purchase bank-owned properties for cash, according to Martin Abad, associate director, Freddie Mac.

“The logic behind it is that if you submit a cash offer, it’s more likely to get approval from the bank, get a better deal and close quickly,” Abad said at the Mortgage Bankers Association’s National Fraud Issues Conference in Chicago.

Property theft is a new type of fraud hitting the market, he told attendees at the general session on mortgage fraud and the secondary market. “Given my 18 years of doing this, I haven’t seen this type of fraud. I have an active case right now that involves property theft,” he said. When a lender or Fannie or Freddie takes a property back at REO, there are people who will record fake rent deeds, transferring title from the banks or GSE into an LLC. “There is an online recording service where you can pay a fee and record any document you want. You don’t have to go to the county recorder’s office.”

Once the individual takes possession of the house, he or she will list the property for rent on Craigslist. The locks are changed, tenants move in, and rent and security fees are collected. “You multiply that by a hundred properties, you are making some money,” Abad said.

Now some of these fraudsters who have taken title to these properties are beginning to sell the homes. “Trying to undo the mess will create a nightmare for lenders.”

Half of the loans involved in Freddie Mac’s fraud cases involve non-owner-occupied properties. What had been loan modification fraud is turning into short sale fraud, “because scammers can make more money in a shorter period of time,” he said.

In 2009, short sale activity at Freddie Mac increased by 250% from the previous year. In the first three months of 2010, it has increased 65%. In order to keep up with the pace, the fraud unit at Freddie Mac has doubled its staff since 2006, from 10 to 21.

For 2008-2009 originations, Fannie Mae discovered the highest amount of fraud in the Southeast at 32%, followed by the Midwest, California and the Northeast.

“The Northeast region has increased dramatically in the last couple of years. It accounted for only 6% of our fraud in 2006. It’s 15% now. That spike happened rather quickly,” said Amy Heinz, director, mortgage fraud program, at Fannie Mae.

“We’ve seen blatant rings with inflated values, undisclosed liabilities or 'shot-gunning,’ and frauds involving closing attorneys and settlement companies.”

Florida accounts for more fraud than in any single region at 22%, she said. The Midwest accounted for 18% of the fraud Fannie Mae has seen.

“One current New Jersey investigation came to us as a fraud tip from one of our customers at the same time our data mining found a concentration of defaults all delivered by one originator,” Heinz told the conference.

“A review of just nine loans in that case showed us that all were 90% loan-to-values in the Newark area. They were purchase transactions closed between March 2008 and March 2009. All were early payment defaults. Six of them, reverse payment defaults. Misrepresentation of downpayment was proved on eight of the nine. In addition, excessive nondisclosed seller contributions were proved on four of the loans.”

In this case, she said all the borrowers shared the same ethnicity. Most were documented as being employed in the construction trade. Attempts to contact the employers were unsuccessful. “This could be organized crime. Or affinity fraud, investment club, straw buyers,” she said.

In one scam, taking place in Pennsylvania primarily, fraudsters applied for multiple mortgages at different lenders at the same time. They don’t tell a single lender about the other applications, using the delay to their advantage.

In a “sinister version of shot-gunning,” Heinz said the perpetrator simultaneously obtained eight cash-out refinances, telling each lender the property was owned free and clear. They netted over $2 million.

“This was a ring operating out of the Philadelphia area. The kingpins attracted immigrants on work visas to purchase these properties. As soon as the loans were taken out, the purchaser would go back to their native country.”

Fannie also is seeing a trend toward back-to-back property flips perpetrated by individuals who “flock into these neighborhoods, buy low in an REO sale and because of the instability in values, convince lenders to sell at inflated prices.”

After these sales occur, the properties default, Heinz said.