What Is Mortgage Loan Fraud?
Mortgage Loan Fraud for Profit Schemes
Lender/Bank/Originator
Mortgage Loan Brokers
Appraiser
Flipper/Seller
Borrowers
Title Company
Recipients of Improper Payments
Mortgage Loan Fraud for Housing Schemes.

The following article was written by William M. Rudow, Esq. (www.RudowLaw.com).  Mr Rudow has represented financial institutions in mortgage fraud recovery litigation for over 10 years.

What Is Mortgage Loan Fraud?

Mortgage loan fraud consists of obtaining a mortgage loan based on known false information. There are two general types of mortgage loan fraud schemes - mortgage loan fraud for profit and mortgage loan fraud for housing. Mortgage loan fraud can be used to purchase real estate, refinance real estate and/or take false equity out of real estate. Mortgage loan fraud for profit often involves portfolios of loans with the same fraud related characteristics and conspirators with defined roles. Mortgage loan originators, banks, lenders, securitizers, hedge funds, and other mortgage loan holders are usually more concerned with mortgage loan fraud for profit because the loss potential is much greater than mortgage loan fraud for housing. More loans are involved with each scheme and the loss per loan is usually greater since appraisal fraud is almost always involved.

 Mortgage Loan Fraud for Profit Schemes

             Mortgage loan fraud for profit schemes vary, but there tend to be three (3) main types of conspirators – appraisers, title companies and loan brokers. Other miscellaneous conspirators include flippers, loan officers, real estate agents, builders, consultants and investors. These different conspirators often have the same roles in the mortgage loan fraud for profit schemes. To understand mortgage loan fraud issues, it will help to understand the roles of the various persons involved in mortgage loans. 

Lender/Bank/Originator 

The lender/bank/originator makes the mortgage loan. The lender/bank/originator has certain underwriting requirements that are conditions precedent to making the real estate secured loan. The lender/bank/originator may be regulated by the state or federal government. If the lender/bank/originator is a state chartered bank the state governs the lender/bank/originator. If the lender/bank/originator is a federally charted financial institution, the Office of Comptroller of Currency (“OCC”) governs the lender/bank/originator.

The type of loan products may also trigger federal compliance requirements. Many subprime and non-Fannie Mae or Freddie Mac conforming (“non-confirming”) loans are pooled, packaged and sold on the secondary mortgage market. Subprime does not have a clear definition. A subprime loan could be a loan made to a person with less than an “A” or “prime rating,” but each financial institution has the right to create its own rating system. For instance certain credit score like FICO (Fair Isaac Corporation) scores could be used by lender/bank/originator to distinguishing between A-D credit. Fannie Mae and Freddie Mac also have standards for distinguishing between A-D credit.

Often Fannie Mae is the initial purchaser. To do this, the lender/bank/originator must comply with the rules of the secondary mortgage market. For instance, Fannie Mae and Freddie Mac require certain standard loan document forms be used to memorialize loans that Fannie Mae or Freddie Mac may purchase. This requires the lender/bank/originator to use Fannie Mae or Freddie Mac complying forms to document all loans that it might sell to Fannie Mae or Freddie Mac on the secondary market. In reality, the Fannie Mae or Freddie Mac forms are the standard forms used for most of the real estate secured loans.

It seems that community banks are the exception. Since community banks generally hold their own loans, they do not need to be concerned with Fannie Mae or Freddie Mac form compliance. This also allows the community banks to specifically tailor their forms for their state and local needs. (Community banks tend not to have mortgage loan fraud related problems since they know their customers, process and underwrite their own loans, and are familiar with the neighborhoods in which the loans are being made.)

The lender/bank/originator’s underwriting requirements usually include without limitation:

v bank account information to be accurately identified on the borrower’s credit application and verification of deposit. The funds held in the borrower’s bank account are used to pay for the differential between the mortgage loan and the purchase price for the real estate and closing costs. The bank account information's accuracy is proven by a verification of deposit (“VOD”) usually filled out by the borrower’s bank and obtained by the broker.

v The borrower must meet certain creditworthiness based, in part, on accurate employment information and a debt to income ratio (“DTI”) specifically related to the mortgage loan product in use.

v The information on the HUD-1 Settlement Sheet (under stated penalties of violation of 18 USC § 1001 and 18 USC § 1010 including fine and imprisonment) must be accurate, including without limitation, the cash at closing identified as being paid by the borrower was actually the borrower’s funds and was paid at closing.

v The property must appraise for a certain amount meeting a specified loan to value ratio (“LTV”) specifically related to the mortgage loan product in use.

v The title company must close the mortgage loan according to written instructions supplied by the lender/bank/originator.

v The borrower must properly state the purpose of the mortgage loan. This allows the lender/bank/originator to underwrite the loan based on criteria related to the particular loan product sought. For instance, if the loan is an investment loan for the purchase of real estate for a second house at the beach, the loan product may require a higher debt to income ratio and require a certain amount of cash above the loan amount to be invested by the borrower in the purchase of the real estate. The interest rate charged may be higher as an investment real estate secured loan is generally considered to be riskier than a real estate secured loan to be used to purchase the borrower's primary residence. Some lender/bank/originators only have loan products designed to allow borrowers to purchase their primary residence and may not make investment loans.

These mortgage loan requirements are violated in a mortgage loan fraud scheme to trick the bank into making a mortgage loan when the lender/bank/originator’s underwriting requirements would prohibit making the mortgage loan. 

Mortgage Loan Brokers 

A mortgage loan broker “puts together” the mortgage loan, including, inter alia, finding the real estate, buyer and seller, gathering and/or manufacturing the borrower’s financial information and credit application and forwarding this package to the lender/bank/originator. Brokers coordinate the real estate loan closing, appraisals and provide information to the title company for closing.

            To do so, brokers usually have access to materials explaining, inter alia, the lender/bank/originator’s loan products and lending requirements. As a result of the information supplied by the broker, the lender/bank/originator will approve or reject each mortgage loan applicant.

The types of fraud committed by a broker in typical mortgage loan fraud case includes:

Ø Obtaining an inflated appraisal.

Ø False verification of deposit.

Ø False verification of income.

Ø False identification of the purpose of the loan. (The purpose of the loan is a very material lending requirement because the other lending requirements vary based on the loan’s purpose.)

Ø False verification of employment.

Ø Identity theft of the borrower.

Ø False social security number.

The brokers use this false information to trick the lender/bank/originator into making the real estate secured loan. 

Appraiser 

An appraiser is a person who is usually a member of a state licensed profession and is often classified as a professional. An appraiser creates an appraisal valuing the real estate. According to the Uniform Standards of Professional Appraisal Practice (“USPAP”) http://commerce.appraisalfoundation.org/html/USPAP2008/ (“USPAP”) an appraisal is the act or process of developing an opinion of value; an opinion of value. Most consumer real estate loan transaction related appraisals consist of a Fannie Mae and Freddie Mac conforming uniform residential appraisal report. The appraisal is governed by the Financial Industry Reform, Recovery and Enforcement Act of 1989 12 U.S.C. § 3338 (“FIRREA”), 12 CFR 225.65(b), 12 CFR 323.5(b), 12 CFR 722.5(b), 12 CFR 34.45(b), and 12 CFR 564.5(b) and USPAP http://commerce.appraisalfoundation.org/html/USPAP2008/. Upon completion of each typical consumer appraisal, the appraiser certifies that the appraisal complies with USAP. The purpose of the appraisal is to satisfy the lender/bank/originator’s underwriting LTV requirement. 

Typical ways in which appraisers commit mortgage let fraud include fraudulently inflating the value of the subject property by:

v Failing to use or disclose the prior sale of the real property as required. According to USPAP Standards Rule 1-5 (b) the appraiser must analyze all sales of the subject property that occurred within the three years prior to the effective date of the appraisal.

v Failing to use or disclose the prior listing of the real property on the Multiple Listing Service. I.e. The property was listed for $100,000.00 but sold for $200,000.00.

v Failing to use or disclose relevant comparables of similar sales of identical houses in identical condition to the subject property on the same block as the subject property that sold recently for a lower value. For instance an appraiser might use comparables from outside the subject property’s blighted neighborhood. These comparables might be waterfront properties or on a golf course while the subject property is miles away in a drug infested war zone. At the same time, there could be a sale of the identical townhouse next door to the subject property one month before the appraisal date that is ignored.

v The appraiser making up or misstating comparables.

v The appraiser overstating the neighborhood sales thereby falsely concluding the value of the subject property was typical for the area.

v The appraiser naming the incorrect party as owner of the real property hiding a flip.

v The appraiser failing to correctly identify if the property is occupied by the owner.

v The appraiser failing to identify or use the real condition of the subject property.

v The appraiser failing to disclose the accurate gross parcel area of the subject property.

The Appraisers’ inflated value causes the foreclosure sale to be significantly lower than normally expected. For instance in one portfolio of fifty-two (52) fraudulent loans, the average recovery at the foreclosure sale of eleven (11) loans was thirty point one percent (30.1%) of the appraised value. 

Flipper/Seller 

The flipper/seller purchased a parcel of real property and resells the real property for an amount in excess of the property’s true market value. The lender/bank/originator funds the purchase loan. There is nothing inherently wrong with “flipping” a property. Buying a property for a low price (perhaps in a distress sale), renovating it or waiting for the market to move upwards and selling the property for a higher price is perfectly fine. “Flipping” in the context of a mortgage loan fraud case is not fine because the sales price or purchase was based on fraud – an inflated appraisal, underwriting fraud
. 

Borrowers 

The borrower purchased or refinanced a house funded by a mortgage loan from the lender/bank/originator. The borrower signs the credit application and HUD-1 Settlement Statement verifying that the information in each of these documents is accurate. Remember, the information on the HUD-1 Settlement Sheet and credit application is usually made under stated penalties of violation of 18 USC § 1001 and 18 USC § 1010 including fine and imprisonment. This information is not accurate in mortgage loan fraud cases. It is common for borrowers to receive a cash “kickback” for making the loan. This means that borrowers are active participants in mortgage loan fraud loans. 

Title Company 

The title company/settlement agent/settlement officer performs the real estate settlement and closing. The title company/settlement agent/settlement officer acts on behalf of the lender, borrower and title underwriter. The title company/settlement agent/settlement officer usually witnesses and/or notarizes the borrower and flipper/seller’s signatures on certain documents, including the HUD-1 (often under stated penalties of violation of 18 USC § 1001 and 1010 including fine and imprisonment). The title company/settlement agent/settlement officer receives written closing instructions and the loan funds from the lender/bank/originator. The title company/settlement agent/settlement officer prepares, signs and prints checks in connection with each mortgage loan.

The title company/settlement agent/settlement officer is also responsible for:

v Directing the preparation and recording of the loan documents, deeds and/or assignments.

v Title abstracting and examination.

v Preparing a title commitment. A title commitment has two (2) schedules. Schedule A and Schedule B. Schedule A identifies the present ownership of the property. Schedule B identifies the actions needed to be taken to complete the transaction and for title insurance to be issued.

v Issuing title insurance.

v Obtaining an Insured Closing Letter aka Closing Protection Letter. This is a letter of indemnity from the title insurance company usually agreeing to pay the lender if the title agent, inter alia, steals the loan proceeds.

v Preparing the HUD-1.

v Conducting the mortgage loan settlement. This includes overseeing execution of all of the loan documents and disclosures.

v Collecting payments from the buyer and seller.

v Verifying the identity of each buyer.

Some things that title company/settlement agent/settlement officers may do as conspirators in mortgage loan fraud cases include:

v Drafting, overseeing and executing HUD-1 Settlement Statement containing false information such as:

Ø Incorrectly stating on line 303 of the HUD-1 the amount of cash paid by the purchaser at the closing.

Ø Incorrectly stating on the title commitment Schedule A that the seller/flipper is the current owner of the real property.

Ø Failing to inform the Lender that the Seller acquired the property less than one year prior to the closing for an amount substantially lower than the price being paid by the purchaser/borrower.

Ø Failing to disclose on the HUD-1 disbursements made at the closing.

Ø Incorrectly identifying a disbursement on the HUD-1 so as to disguise an unauthorized payment to a person or entity.

Ø Allowing a party to receive funds from closing not identified, or inaccurately identified, on the HUD-1 Settlement Statement.

Ø Omitting all information concerning the Seller on the HUD-1 and identifying the buyer as the existing title holder on the title commitment Schedule A so that the transaction appears to be a refinancing when, it was really a disguised purchase of the real estate.

Ø Disbursing payment to a person or entity not authorized by the lender/bank/originator.

v Failing to verify the identification of the buyer. 

Recipients of Improper Payments 

Some people receive disbursements at the closings of mortgage loans which were unauthorized by lender/bank/originator. This allows fraudsters to receive money from real estate loans that they should not receive. Such people often are paid for fake renovations, fees for non-existent services, escrows for non-existent municipal charges or financial consulting, use of their credit or social security number. Sometimes these payments are identified on the HUD-1 Settlement Statement. Sometimes they are not. 

Mortgage Loan Fraud for Housing Schemes. 

In most fraud for housing schemes, borrowers intend to keep their houses. These borrowers try to pay for their houses, but can not afford to do so. The fraud for housing schemes typically involve underwriting and broker fraud. In fraud for housing schemes, losses to originators, lenders, securitizers, hedge funds, and other loan holders are usually minimized as appraisal fraud usually is not involved and borrowers make payments to the best of their ability to try to keep their homes.