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

Monday, March 16, 2009

Report: Mortgage Fraud Increased in 2008

by Calculated Risk on 3/16/2009 03:21:00 PM

Update: Housing Wire has more: Mortgage Fraud at All-Time High: Report

This report appears to deal with Fraud for Housing, and not Fraud for Profit (what most people think of as mortgage fraud).

From Dina ElBoghdady at the WaPo: Mortgage Fraud Rises Even as Loans Decline

Mortgage fraud rose last year even though fewer loans were issued nationwide ... Fraud jumped by 26 percent in 2008 from the previous year, the study concluded, based on data collected from roughly 70 percent of the nation's lenders as well as mortgage insurance companies and mortgage investors. The study was prepared by the Mortgage Asset Research Institute, an arm of LexisNexis, for the Mortgage Bankers Association.
"With fewer loan originations today, the data suggest that the economic downturn may have created more desperation, causing more people than ever before to try to commit mortgage fraud," said Denise James, one of the study's authors.

The most common type of fraud continues to be application misrepresentation, which includes falsifying a borrower's income. That kind of fraud represented about 61 percent of all the reported cases last year, followed by fraud on tax returns and financial statements. The volume of reported fraud related to credit reports dropped from 9 percent to 4 percent in the past year.
The study noted that the spike in fraudulent activity cases can be partially attributed to more vigorous reporting and investigations.
Historically there have been two types of mortgage fraud: fraud for housing, and fraud for profit. The MBA/MARI report focuses on fraud for housing (and that probably includes refinance fraud because borrowers are desperate).

Tanta explained this well: Unwinding the Fraud for Bubbles
There is a tradition in the mortgage business of distinguishing between two major types of mortgage fraud, called “Fraud for Housing” and “Fraud for Profit.” The former is the borrower-initiated fraud—inflating income or assets, lying about employment, etc.—that is motivated by the borrower’s desire to get housing (not the same thing as “real estate”), by means of getting a loan he or she doesn’t actually qualify for. It may require some collusion by the loan originator or appraiser, but it may not. It is usually the least expensive kind of fraud to lenders and investors, since the goal is getting (and keeping) the property, so the borrower is at least usually motivated to make the payments. The problems come about, of course, because these borrowers failed to qualify honestly for a reason. Borrower-initiated fraud loans may be considered “self-underwritten,” and such loans do have a much higher failure rate than the “lender-underwritten” ones. Their only saving grace is that the lender tends to recover more in a foreclosure than in a fraud for profit case. Penalties to the borrower rarely ever come in the form of prosecution; losing the home and becoming a subprime borrower for the next four to seven years—with the credit costs that implies—are the borrower's punishment.

Fraud for profit is simply someone trying to extract cash—not housing—out of the transaction somewhere. If it is borrower-initiated fraud, it’s not a borrower who wants a house; it’s a borrower who wants to flip a piece of real estate or launder money or in some other way grab the cash and leave the lender holding the bag. Most of it, however, is initiated by a seller, real estate broker, lender, or closing agent (or all of them in collusion). It generally requires additional collusion by bribable appraisers, although it can certainly be initiated by a corrupt appraiser looking for a kickback, or can merely take advantage of a trainee or gullible appraiser. This is the flip scam, straw borrower, equity skimming, misappropriation of payoff funds, identity theft kind of fraud. It may not be as common as fraud for housing, at least in some markets, but it’s much, much more expensive to the bagholder. At minimum, the fraud-for-housing borrower wants to take clear, merchantable title to the property and maintain it at an acceptable level. That’s either unnecessary expense or (in the case of title) a hurdle to be gotten over by the fraud-for-profit participant.
As Tanta noted, during the housing bubble, these two frauds merged, and that is probably not happening now. I suspect most of the fraud today is "fraud for housing" by homeowners desperate to refinance.