It's a Boom Time for Mortgage Fraud New Schemes, Reporting Requirements Add to Surge

In mid-September, U.S. law enforcement authorities in New Jersey charged eight suspects in a $30 million mortgage fraud scheme.

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Around the same time, authorities announced the mastermind of a multimillion dollar Atlantic City mortgage fraud scheme was sentenced to 15 years in prison, while a real estate attorney in Massachusetts was convicted of a scam to defraud mortgage lenders.

It's a boom time for mortgage fraud news. In part, the surge owes to old cases being resolved, but fraud experts say institutions also are seeing new schemes and trends that require monitoring.

"Within the next year or so ... we will see a lot more of a focus on mortgage fraud through enforcement, investigations and fraud prosecutions," says Bob Bostrom, Freddie Mac's former general counsel, who is now head of global financial institutions and funds at law firm SNR Denton.

Why the Surge?

Federal authorities are taking mortgage fraud seriously, says Tim Coyle, senior director for real estate and mortgage fraud at LexisNexis.

In its 2012 Mortgage Fraud Report, Lexis Nexis Risk Solutions reports mortgage fraud continues to grow, despite high delinquency and foreclosure rates.

According to the FBI, more than $10 billion is lost annually to mortgage fraud. In 2011, suspicious activity reports collected by the FBI were up nearly 33 percent from 2010, growing to more than 93,500 reports with nearly $3 billion in losses. At the end of 2011, the FBI had 2,590 pending mortgage fraud investigations with 71 percent involving losses of more than $1 million.

In addition to the cases cited above, federal authorities in recent weeks also have announced:

  • A nine-year sentence handed down by a California court to the former owner a Pasadena brokerage firm who was convicted for the role he played in a scheme to obtain more than $30 million in loans;
  • A federal indictment in California of nine individuals who allegedly committed mail fraud and bank fraud in connection with a bailout scheme to buy 19 homes; and
  • The sentencing of two mortgage loan officers for their roles in a $9 million mortgage fraud scheme that involved fraudulent mortgage applications that matched straw buyers and loan processors with lending institutions.

Many of the cases announced by the FBI and the Department of Justice are connected to schemes that predate the financial crisis, Bostrom says.

"We are now seeing the investigations and cases that related to pre-2008 finally coming to the surface," Bostrom says. "Pre-2008, there was so much mortgage fraud going on."

According to LexisNexis Risk Solutions, 94 percent of all suspicious mortgage incidents reported to the Mortgage Industry Data Exchange in 2011 were for loans originated before 2011. And the Financial Crimes Enforcement Network notes the increased number of SARS received in 2011 is related to the mortgage repurchase demands made on banks. As loans are repurchased, older loans are investigated or re-investigated, resulting in more SARs.

But the uptick in mortgage fraud reports also relates to new SARs, Bostrom says. And that increase is just a primer for the massive influx of investigations expected in coming months.

The FinCEN's new SAR requirements took effect Aug. 13. Those requirements stipulate that institutional subsidiaries conform to AML and SAR regulations applicable to their parent financial institutions, and that examinations of those subsidiaries will be conducted by the same regulatory agencies that oversee the parent institutions.

Lenders and originators that historically fell outside the purview of regulatory anti-money-laundering and Bank Secrecy Act demands are now required to report what banks report.

Industry experts say those SAR increases will fuel more federal investigations.

For banking institutions, that means not only worrying about the increased scrutiny they face, but also the oversight of third parties with which they work, Bostrom says. He says regulators will hold banks "accountable for the bad acts of those third-party providers."

As a result of those increased pressures and demands, many larger lending institutions have simply left the mortgage-lending business all together. Detecting emerging fraud schemes and keeping up with regulatory oversight have become too costly and time-consuming to manage, Bostrom says.

Collusion: Detecting the New Scheme

According to the FBI, mortgage loan originations in 2011 were the lowest they've been since 2001. Because of that decrease, distressed homeowner fraud is now the No. 1 mortgage-fraud threat in the U.S., replacing loan-origination fraud. And while the FBI notes that loan-origination fraud is still considered to be the most damaging, because of the high-dollar losses, the FBI has now adapted its focus to include other new and emerging schemes.

Fraud schemes that exploit federally-funded programs continue to be, on the rise. But banking institutions need to keep their eyes out for emerging schemes that rely on what LexisNexis refers to as "collusion."

LexisNexis says collusion among buyers and sellers - and the agents and entities they work with - has become the mortgage-lending world's newest worry. "As the market has evolved, the obvious crush of fraud and misrepresentation in the foreclosure, short-sale and REO [real-estate-owned] worlds has forced the issue of collusion to the forefront," Coyle says.

LexisNexis sees the greatest amount of collusion on the devaluing of property. "Where we used to see flips, we now see flops," he says. "Someone bought a house in '06 or '07 and paid $500,000 for it, but now they're saying it's only appraising for $200,000."

The house sells for the lesser amount and then is quickly resold for what it's actually worth. By convincing the banking institution the property is worth less than its true market value, the fraudsters cut their expenses, and then increase their profits when the property is sold at market price. "We've even seen some of these schemes involve what we call 'reverse-staging,'" Coyle says.

Just like it sounds, reverse-staging could, for instance, involve marring or painting basement walls to give the appearance of water damage. "Or they will faux finish the walls to make it appear they have cracks," Coyle says.

When it comes to detecting collusion, banking institutions must alter their methods.

"Lenders need to be using tools now that look at the origination level, to see who's connected, to determine what and whom to track for potential fraud," Coyle says.

Understanding the number of different parties that could be involved in a collusion scheme is critical, he adds. "You have to have new fraud tools to monitor for this," he says. "You have to have systems in place that look at the entire ring, not just one party."

Shirely Inscoe, a fraud analyst at Aite, says mortgage-fraud schemes like collusion are difficult to detect.

"Often, a number of properties and lenders are involved, leading to millions of dollars being stolen," Inscoe says. "The banker approving the mortgage loan or loans may be part of crime ring, but also may be totally duped" (see 5 Plead Guilty to Mortgage Scheme).

Coyle says increased SARs will help curb mortgage fraud. The more information lenders share about schemes and suspicious activity, the better the industry can detect fraud sooner.

"All in all, I think this new regulation [from FinCEN] is there to help reduce fraud and ensure these types of crimes don't happen again."


About the Author

Tracy Kitten

Tracy Kitten

Executive Editor, BankInfoSecurity & CUInfoSecurity

A veteran journalist with more than 18 years' experience, Kitten has covered the financial sector for the last 11 years. Before joining Information Security Media Group in 2010, where she now serves as the Executive Editor of BankInfoSecurity and CUInfoSecurity, she covered the financial self-service industry as the senior editor of ATMmarketplace, part of Networld Media. Kitten has been a regular speaker at domestic and international conferences, and was the keynote at ATMIA's U.S. and Canadian conferences in 2009. She has been quoted by CNN.com, ABC News, Bankrate.com and MSN Money.





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