Mortgage Fraud - How it works
I’ve never written about the mechanics of mortgage fraud, mostly because I didn’t think it was such a good idea to outline how these things work while the markets were allowing it. Times have changed, lenders are being more cautious, so I think it’s probably safe to talk about without being accused of promoting it. This isn’t a manual on all the ways mortgage fraud can be accomplished, just one very common way I’ve seen signs of for many years.
The first requirement is for a real estate area that has wide differences in property values, these areas will usually be in the lower spectrum of price for a larger area. Not quite war zone, but heading in that direction. Next requirement is an investor, who often has significant real estate knowledge. Third requirement is for an appraiser who is willing to come up with a value for a property where that value is significantly higher than true area values. Fourth requirement is for a buyer. There will often be other players from the lending and title fields, but they aren’t necessarily mandatory.
To explain how it goes, I’ll use simple values that probably aren’t accurate for many areas.
First, in an area where property sales may range from $50,000 to $150,000 , the investor will find and purchase a property at the low end of the spectrum, let’s say $50,000. They may use a loan to purchase, or the purchase might be structured as a subject-to, or take over payments kind of purchase.
The investor then does a small amount of cosmetic rehab to the property along the lines of cleanup and exterior paint. The property can then be listed for sale in the $100,000 to $150,000 range. Now, no buyer with a functioning brain is going to purchase an over-priced crappy house when other true market value houses are available, so the investor needs to bring in his own buyer.
There are people who will allow their name and credit to be used for the purchase of property in exchange for either a one-time cash payment, or the promise of monthly returns from the property. Those kinds of people are the buyer pool.
So, the buyer comes in with a purchase offer of $125,000, the appraiser states the property is worth that amount even though it’s a $50,000 property with a crappy paint job. The buyer gets a stated everything loan with no verification of either income or assets and the loan closes.
When the loan has funded and the property now belonging to the “buyer”, the investor has received a gross profit of $75,000. There would be costs involved in the transaction, but it’s still a tempting amount of money for the unscrupulous.
These type of transactions often end up with the “buyer” not making payments sometime during the first year of the loan. It might take a little longer, but it’s obvious that there isn’t much point in keeping payments current on a loan that is so much higher than true property value. With the payments not being made, the property heads to foreclosure.
Who loses?
You do. You, and everyone else that ever seeks a loan for the purchase of real estate end up paying for the people who cheat the system. In the example used, it illustrated a lender taking a probable $75,000 loss, or more considering the costs of foreclosure and re-selling the property. Sure, they are insured for losses, but all the costs they end up incurring will eventually lead to repricing on real property interest rates. It’s a little more complicated than that because most loans end up as securities on Wall Street, not with one individual lender, but the basic concept is valid.
What’s sad is that this is but one variation of mortgage fraud, I only hope the recent credit tightening will severely limit all the variations.
April 4th, 2008 at 2:28 am
new homes for sale
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