In Depth Analysis: CalculatedRisk Newsletter on Real Estate (Ad Free) Read it here.

Wednesday, July 30, 2008

Fraud in the 2008 Mortgage Vintage

by Tanta on 7/30/2008 10:04:00 AM

If you haven't yet had a chance to read this article by John Gittelsohn in the Orange County Register about a real estate sale that was financed by Wells Fargo in January of this year, please do so now. And if you were, like most people, working on the assumption that lenders and other industry participants had at least cleaned up their acts in time for the 2008 mortgage vintage to be worth something, think again.

There isn't any significant fact about this transaction I can identify that isn't a red flag. A home in a foreclosure-wracked neighborhood was purchased at foreclosure auction in October of 2007 for $304,500, just over half what the defaulted buyer had paid in 2006. In January of 2008, the house was flipped to a non-English-speaking couple for an apparent sales price of $625,000 after some "sprucing up" by the property seller.

Ridiculous? Sure. It turns out that the seller provided the $125,000 down payment, and also executed an "addendum" to the sales contract agreeing to pay the buyers $30,000 in cash, cover the borrowers' first three mortgage payments, and toss in a 52-inch TV. Subtract out all that, and the true sales price of the property was $460,000. But apparently nobody did subtract out any of that, because Wells Fargo made a $500,000 loan to these buyers to purchase this property.

The OC Register reporter, bless his heart, tracked down the various parties who had their hands in this transaction, and got the following comments:

From the mortgage broker who put the deal together: "Whatever agreement the buyer and seller made, it was between them."

From the appraiser who dutifully came up with a value of $625,000: "Like Sanchez, she had no knowledge of the terms of the sale."

From the escrow agent who closed this loan: "It sounds to me like the seller helped out," she said. "If someone gave them $125,000, what's the problem? That's a beautiful thing, if you ask me."

From Wells Fargo: "In many instances, borrowers are able to use gifts from family members or friends for a portion of their down payment, provided the amount and source of the gifts are documented."

Excellent point, Wells Fargo. Too bad in this case the down payment didn't come from friends or family members and wasn't documented. Too bad that the broker who originated the loan seems to think the details of the purchase contract aren't any of his business. Too bad your escrow agent doesn't care where the down payment money came from, either. Too bad your appraiser has apparently never heard of the Uniform Standards of Professional Appraisal Practice, to which she is obligated to conform if she wants to do appraisals for Wells Fargo, that say she is required to inquire into "the terms of the sale."

I don't think the real issue with this story is the problem of whether or not to use foreclosure or "distressed" sales as comparables in an appraisal report. The problem is that there are no comparable sales of any kind that are a reliable measure of market value if they all involved transactions in which nobody ever actually bothered to verify and analyze the terms of the sale.

If this is the level of elementary due diligence we can expect after the most atrocious mortgage blowup in history, what will it take to scare people into doing their jobs?