One of the most surprising questions I get on a regular basis is “Why are you still talking about mortgage fraud? Hasn’t it gone away now that property values are declining, lenders are requiring full documentation to support an application, and they are checking with the Internal Revenue Service to verify borrower income?” The short answer is: no, it has not gone away, and lenders, servicers, and loss mitigation personnel need to be on their guard because the federal government now stands behind the vast majority of new loan originations and federal regulators are ready, willing and able to bring the hammer down on the perpetrators and facilitators.
In order to understand today's mortgage fraud environment, it's important to understand that fraud schemes are always evolving in order to take advantage of economic and market trends. In fact, the schemes we are seeing today at Interthinx are, at heart, the same types of schemes we saw back in the mid-1990s. Back then, the market was ripe for flipping because 1996 was the bottom of the last boom and bust real estate cycle. The market had experienced several years of elevated foreclosure levels, reduced origination volumes and price declines, and everyone was eager for the bleeding to end.
The criminally minded were helped along by desperate sellers, hungry real estate agents and incompetent appraisers. (I'll never forget the horrifying conversation I had with an appraiser involved in a flipping scheme that defended her inflated values because “It’s my job to help raise property values for the neighborhood. That helps everybody, doesn’t it?”).
The market is ripe for flipping again, but this time there’s a twist to accommodate current economic conditions: instead of buying low and getting an artificially high price on the resale, today’s fraudsters are “flopping” properties by artificially depressing the price on short sales in order to “flip” to a buyer who’s willing to pay a higher (and often actual market) price. They’re succeeding, too, because servicers and loss mitigation departments, generally speaking, don’t have the training or the tools to know when they’re being played.
In addition to facing possible liability to investors when money is left on the table because of a flop, servicers risk False Claim Act suits—with up to a $11,000 fine per occurrence plus treble damages—if the loans involve Ginnie Mae, FHA, or the GSEs.
To minimize these risks, servicing and loss mitigation departments need to approach short sale negotiations as if they’re loan originations. Technology and the Internet have made it ridiculously easy to manufacture any of the documents necessary to support a sale, so it’s critical to verify the accuracy of the data those documents contain. Automated technology can help increase the accuracy and efficiency of these verifications, but staff will also need training in order to know what to look for. A pre-closing review to identify red flags and variances is called for, including verification that: the preliminary HUD-1 was prepared by the lender or servicer and not one of the participants; the seller and buyer names on the HUD-1 match the names on the purchase contract; the property was appropriately exposed to the market, including that the MLS listing (if any) was correct as to property characteristics and location and that the listing agent’s MLS number is valid and belongs to that agent; the seller is aware of all of the terms and conditions of the sale; the seller is still on the title to the property; there are no undisclosed relationships between any of the parties (whether they be familial or corporate); and the buyer has funds to close.
Finally, since manipulation of the property value is what creates the profit margin for the flipper (and the excess loss for the investor, originator or insurer), it’s critical to check the BPO values against an automated valuation model or other independent valuation source, and to take additional steps to confirm the value if discrepancies are revealed. While there is no silver bullet to stop fraud, taking these simple precautions will go a long way toward reducing that risk.
