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MORTGAGE FRAUD: A Real Crime with Pen
By Sarah Q. Wirskye and Charles W. Blau
I.
Introduction
A.
Mortgage
Fraud is on the Rise
1.
The
Scope of the Problem
According to the FBI, the estimated annual losses from mortgage fraud
are between $4 billion and $6 billion, and mortgage fraud is one of the
fastest growing white collar crimes in the United States.[i] Treasury Department’s Financial
Crimes Enforcement Network (“FinCEN”) reports of suspected
mortgage fraud have doubled since 2005 and increased eightfold since 2002.[ii]
Mortgage fraud has a negative effect on the economy, the soundness of
financial institutions as well as individuals and local communities. The recent collapse of Bear Sterns and
near collapse of Countrywide Mortgage Company under the weight of sub-prime
lending practices are illustrative of a lack of due diligence in the
mortgage process to detect potential fraud.
The list below is reflective of the Number of
Violations of Mortgage Related Fraud Suspicious Activity Reports (SARs)
received.[iii] It should be noted however, that
only regulated financial institutions are required to report suspicious
activity such as mortgage fraud. The vast majority of the mortgage
industry, such as mortgage companies, mortgage brokers and mortgage title
companies are not regulated and therefore do not report suspected fraud to
the FBI. Therefore, the below
numbers are likely understated.[iv]
Industry studies indicate
that a significant portion of the loss associated with residential real
estate loans can be attributed to fraud.
Industry experts estimate that up to 10% of all residential loan
applications, representing several hundred billion dollars of the annual U.S.
residential real estate market, have some form of material
misrepresentation, both inadvertent and malicious. An in-depth review by
The Prieston Group of Santa Rosa, California of early payment defaults, an
indicator of problem loans, revealed that 45-50% of these loans have some
form of misrepresentation. This study also showed that approximately 25% of
all foreclosed loans have at least some element of misrepresentation, and
losses on fraudulent loans equate to approximately 37% of the loan balance.[v]
A recent FinCEN report states that 43% of cases sampled in a FinCEN study
involved misrepresentation of income, assets or debts. However, available tools, such as
verifying a person’s income with the IRS, was only used in about 5%
of loans funded in 2006 according to industry experts.[vi]
2.
Why is Mortgage
Fraud Increasing so Rapidly?
There are a number of reasons for the increase in this type of
fraud. The overall best reason is greed. Mortgage fraud has been a
low-risk, high return endeavor. The
mortgage industry is self regulating.
Pressure to close mortgage applications translates in many instances
to inadequate quality controls by the lender or the title company in the
review process. There are no fees to
the participants in the mortgage process, such as mortgage brokers, until
the loan closes and funding takes place.
Automated loan processing, which in some cases resulted in lenders
never meeting borrowers has also contributed to an increased opportunity to
commit fraud.[vii]
An example of relaxed quality control is “stated-income” loans,
which require no proof of income.
“The stated-income loan deserves the nickname used by many in
the industry, the ‘liar’s loan,’” says the Mortgage
Asset Research Institute (“MARI”), which works with lenders to
prevent fraud. A recent review of a
sampling of about 100 stated-income loans revealed that almost 60% of the
stated amounts were exaggerated by more than 50%, MARI says.[viii] It would have been easy for institutions
to verify these representations. At
least 90% of borrowers have to submit a form 4506T which allows lenders to
verify income with the Internal Revenue Service. Lenders rarely did so – perhaps
because of the cost or perhaps because they turned a blind eye in hopes
that the borrowers could continue paying.
Of course, this was more likely when property values were continuing
to rise.[ix]
Investigative resources are also inadequate. Federal investigative
resources have decreased since 9/11 making the investigation of this type
of white collar crime more unlikely, unless the loss numbers are large
enough to warrant an investigation.
State resources to investigate this type of crime are almost
non-existent, except in the largest jurisdictions.
3.
Where is Mortgage
Fraud Taking Place?
Mortgage fraud is taking place all across America with about 6% of
all loan applications showing some type of deception. Fannie Mae, a federal lender, reports
that the Texas region, which includes Oklahoma, Arkansas and
Louisiana,
has shown a 9% increase in fraudulent loan applications in 2006-2007. The
largest increase in fraudulent loans applications was in the Florida region with
a rate of over 30%. Houston
is in the top 10 cities in the country where 25% of loan applications have
various forms of misrepresentations.[x]
According to 2006 statistics, the top ten mortgage fraud areas are California, Florida,
Georgia, Illinois, Indiana, Michigan, New York, Ohio, Texas and Utah. Other areas significantly affected by mortgage
fraud include Arizona, Colorado,
Maryland, Minnesota,
Missouri, Nevada,
North Carolina, Tennessee,
and Virginia.[xi]
4.
Who is Involved?
a.
Perpetrators - Anyone who knowingly participates in a
fraud. Professionals are often
necessary to carry out most mortgage fraud schemes involving the transfer
of real property. These
professionals include mortgage brokers, appraisers, and closing
attorneys.
b.
Victims - Normally the lender, the title company, the
underwriter and ultimately the federal government are the typical victims
in this type of fraud.
II.
Types
of Fraud
A.
Definition
and Types
Mortgage fraud is defined as a material misstatement, misrepresentation, or
omission relied upon by an underwriter or lender to fund, purchase, or
insure a loan.[xii] There are two types of mortgage
fraud: fraud for property and fraud
for profit.[xiii]
B.
Fraud
for Property
Fraud for property, also known as fraud for housing, usually involves the
borrower as the perpetrator on a single loan. The borrower makes a few
misrepresentations, usually regarding income, personal debt, and property
value or there are down payment problems.
The borrower wants the property and intends to repay the loan. Sometimes industry professionals are
involved in coaching the borrower so that they qualify. Fraud for property/housing accounts for
20 percent of all fraud.[xiv]
C.
Fraud
for Profit
Fraud for profit involves industry professionals. There are generally multiple loan
transactions with several financial institutions involved. These frauds include numerous gross
misrepresentations including: income
is overstated, assets are overstated, collateral is overstated, the length
of employment is overstated or fictitious employment is reported, and
employment is backstopped by co-conspirators. The borrower’s debts are not fully
disclosed, nor is the borrower’s credit history, which is often
altered. Often, the borrower assumes
the identity of another person (straw buyer). The borrower states he intends to use the
property for occupancy when he/she intends to use the property for rental
income, or is purchasing the property for another party (nominee). Appraisals almost always list the
property as owner-occupied. Down
payments do not exist or are borrowed and disguised with a fraudulent gift
letter. The property value is
inflated (faulty appraisal) to increase the sales value to make up for no
down payment and to generate cash proceeds in fraud for profit.[xv]
D.
Common
Frauds
The following are some examples of different types of mortgage fraud. According to FinCEN, the most common
suspicious activity reports, and likely mortgage fraud schemes, involve
false statements and identity theft is a fast growing secondary scheme.
According to a November 2006 FinCEN report, the
prevalence of the following types of fraud are as follows. Material misrepresentations and false
statements were reported on 66% of the SARs reviewed in a FinCEN
study. Identity fraud was reported
on 23% of the narratives and identity theft was reported on 4% of the
narratives. Misrepresentation of
loan purpose or misuse of loan proceeds was found in 12% of the narratives
and the most commonly reported of such misrepresentations was occupancy
fraud which was found in 80% of the 12% of the narratives. Fraudulent property flipping, based on
inflated appraisals, were described in 10% of the narratives and notably
42% of these reports stated they suspected the fraudulent activity was
perpetrated with the collusion of mortgage brokers, appraisals, brokers
and/or real estate agents/brokers.
Approximately 3% of the SARs involved the use of straw buyers. Approximately 2% of the SARs listed the
use of forged documents.[xvi]
Other
less commonly perpetrated frauds are air loans (non-existent
property loans where there is usually no collateral),[xvii]
double selling, (scheme
wherein a mortgage loan broker accepts a legitimate application, obtains
legitimate documents from a buyer, and induces two financial institutions
to each fully fund the loan),[xviii] mortgage warehousing, (a mortgage banker warehouses
the same mortgage on more than one institution),[xix]
obtaining multiple home equity lines of credit on the same property,[xx] false
statements regarding down
payments,[xxi] phantom sales, (identifying an
apparently abandoned property and record a fictitious quitclaim deed to
transfer the property and pocketing the loan proceeds), [xxii] and foreclosure fraud. [xxiii]
III.
Prosecutions
Overview
The following are some of the latest statistics on investigations and
prosecutions. FBI officials opened 1,210
mortgage related probes in 2007.[xxiv] There are 1,338 FBI Mortgage Fraud Task
Forces/Working Groups as of March 2008.[xxv] In 2007, 462 cases were opened and there
were 321 indictments and informations returned and 260 convictions.[xxvi]
The chart below reflects the number of pending cases from FY 2003 through
FY 2006.[xxvii]
The following are some
examples of recent prosecutions. As
discussed in further detail below, Courts are imposing significant
sentences on perpetrators of Mortgage Fraud.
CHALANA MCFARLAND (Atlanta): This case involves a mortgage fraud property flip
scheme which operated from the summer of 1999 through March 2004. Chalana McFarland was an attorney who operated
her own law firm. She acted as a title agent for title insurance companies
as well as the closing attorney for various lenders.[xxviii]
McFarland used the stolen identity of numerous victims to submit fraudulent
loan applications. Appraisals were inflated and straw buyers were used to
complete the fraudulent sales of over 100 properties. McFarland paid her
identity thief $10,000 per stolen identity, as well as paying the appraiser
who inflated property values over $400,000. Fraudulently obtained mortgages
valued in excess of $20 million with losses in excess of $12 million.[xxix]
McFarland and 16 other
subjects were indicted. Fifteen have been sentenced, with McFarland
receiving 30 years in prison—the largest sentence ever for Mortgage
Fraud.[xxx]
1.
BURGESS, SIEBERT AND MANNERS (Dallas): Dallas businessman
Charles Cooper Burgess, 52, was sentenced in March 2008 by U.S. District
Judge Barbara M.G. Lynn to 262 months (nearly 22 years) in prison and
ordered to pay more than $3 million in restitution. Burgess pled guilty in
January 2006 to his involvement in two fraudulent schemes, one involving
mortgage fraud and one involving defrauding individuals who invested in
golf course property in Arkansas.
In November and December 2006, Burgess testified against two co-defendants.[xxxi]
Relating to the mortgage fraud scheme, Burgess admitted that he recruited
20 straw buyers with good credit but limited funds to sign loan and closing
documents to purchase homes. As part of a signed “investor management
agreement,” Burgess promised to provide the down payment at closing
as well as make all mortgage payments, which he did not. The defendants
paid these straw buyers between $5,000 and $10,000 “for the use of
their credit” after the closing. Co-defendant Siebert agreed to
release escrow funds to Burgess for the borrowers’ down payment for a
kickback payment of $5,000. Burgess
also pled guilty to a fraudulent scheme involving the sale of golf course
property in Arkansas,
whereby he induced investors by making false representations and used the
funds to live on.[xxxii]
ROBERT
A. AMICO ET AL
(Buffalo): Robert A. Amico and his sons Robert J. Amico and
Richard N. Amico engaged in a large conspiracy with loan brokers,
appraisers, and buyers to submit over 100 fraudulent mortgage applications
that overstated the value of all houses so that no down payment was made
and so that the buyers could qualify for loans that they could not
otherwise afford. All of the conspirators plead guilty, with the exception
of the Amicos. Some of these conspirators were sentenced to probation and
testified at the Amicos trial. Others were sentenced to jail terms of up to
five years. After a six month jury trial the Amico sons were convicted and
the father died of cancer. Fraudulently obtained mortgage applications were
valued at $58 million with losses totaling $14.7 million. Robert J. Amico
was sentenced to 17 years in prison and Richard N. Amico was sentenced to 9
years in prison. This case was joint investigation with IRS/CID. [xxxiii]
IV.
Conclusion
The current credit crisis
facing the financial industry is directly related to fraudulent mortgage
practices and a lack of real due diligence by the mortgage industry.
Mortgage fraud is much easier to successfully commit than robbing a bank
and is much more profitable. Current investigative and prosecution
resources are at best inadequate to combat this crime.
Congress and the Federal
Reserve are discussing tightening the rules for the largely unregulated
mortgage industry, but financial lenders are concerned that more regulation
will drive the cost of lending higher. It is clear that some regulation is
necessary, otherwise we will continue to see large scale fraud in this
industry.
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