How Mortgage Fraud Works

Mortgage Fraud – Are you being targeted?

 

The recent slow down in the UK property market, has exposed a rise in mortgage fraud by organised criminals and the potential vulnerability of professionals to be exploited by organised crime syndicates.

How is the fraud perpetrated?

- A criminal syndicate will usually organise finance on a number of properties. The buy-to-let market is particularly vulnerable to mortgage fraud, whether through new build apartment complexes or large scale renovation projects.

- The nominated purchasers, who are taking out the mortgage, are likely to have no beneficial interest in the property and may even be fictitious.

- The value of the property is inflated and the mortgage will be taken out for the full inflated valuation.

- Often, mortgage payments are not met and the properties are allowed to deteriorate. The properties can also be used for other criminal or fraudulent activities such as drug production, unlicensed gambling and prostitution.

- When the bank seeks payment of the mortgage, the crime syndicate raises mortgages with another bank through further fictitious purchasers and effectively sells the property back to themselves, but at an even greater leveraged valuation.

- Because the second mortgage is inflated, the first mortgage is repaid together with the arrears, leaving a substantial profit. This may be repeated many times, until a bank finally forecloses on the property, only to find it in disrepair and worth significantly less than the current mortgage and its arrears.

Using the services of professionals

Organised criminals will generally involve at least one professional at the core of the fraud, to provide reassurance and direction to the other professionals instructed to act around the periphery. There is evidence that mortgage brokers and introducers have been used in this role in the past.

Mortgage lenders often rely on professionals to verify the legitimacy of a transaction and safeguard their interests. Lenders may not extensively verify the information they receive, especially in a rising market. They will subscribe to the CML Handbook and expect their solicitors or conveyancers to comply with their guidelines as a means of protecting their lending.

Solicitors or licensed conveyancers are likely to be approached with packaged transactions and completed paper work. The lender will often have already received the loan applications, and granted the loan before they are instructed. The solicitor or conveyancer will simply be required to transfer title to exchange and complete the transaction.

The solicitor or conveyancer will be encouraged to complete the Certificate of Title at the gross price and not the actual price paid for the property after allowances and discounts, while being discouraged from complying with obligations in the CML Handbook.

How are you affected?

With the introduction of the Fraud Act 2006, it is now much easier for the prosecution to establish a case of mortgage fraud. If a mortgage has been obtained by fraud, it is then the proceeds of crime. If solicitors complete a property transaction where the mortgage has been obtained by fraud, you risk committing a principal money laundering offence. Courts will assume a high level of legal knowledge and education, and be less willing to accept claims that a solicitor was unwittingly involved in a fraud if they have not applied appropriate due diligence to a transaction.

How can you protect yourself?

Know the warning signs for fraudulent mortgage transactions. Ask yourself the following questions:

- Has the property been owned by the current owner for less than six months?

- Has the value of the property significantly increased in a short period of time?

- Does the client usually engage in property investment of this scale?

- Does the client seem unusually disinterested in their purchase?

- Is the mortgage for the full value of the property?

- Is the deposit being paid by someone other than the purchaser?

- If there is money left over from the mortgage after the purchase price has been paid, are you being asked to pay this money to the account of someone you don't know, or to the introducer, or to someone else on his instructions?

- Have you been asked to enter a price on the title that is greater than you know was paid for the property?

Where any of these warning signs exist, applying anti-money laundering checks and applying the requirements set out in the CML handbook will help you to understand whether you are involved in a legitimate transaction or if you are being used to facilitate mortgage fraud.

Relevant checks and procedures include:

1. Know your client and any beneficial owners – ascertain and verify the identity of the purchaser. Ensure the identities you have been given correspond with the information on the mortgage documents and the bank accounts relating to the transaction.

2. Undertake enhanced due diligence – many organised crime syndicates conducting mortgage fraud provide only paperwork, and avoid a meeting. If you do not meet your client you are required under the Money Laundering Regulations 2007 to undertake enhanced due diligence.

3. Relying on other professionals – if you asked to use the new reliance provisions in the Money Laundering Regulations 2007 to minimise client due diligence activities, consider who you are relying upon.

• Are they regulated for anti-money laundering purposes?
• Do you know them personally?
• Are they from an established firm?
• What is their reputation?
• Are they able to provide you with the client due diligence material they have?
• Even if you rely on someone else, you are still responsible for ensuring due diligence has been appropriately conducted.

4. Reporting – if you suspect you are being asked to facilitate money laundering, you should consider making a disclosure to the Serious Organised Crime Agency.

5. Disclose material facts - inform your lender client providing the mortgage of all material facts as required under the CML Handbook.

For more information on how to protect yourself from this type of fraud, you should have regard to:

The Law Society's anti-money laundering practice note: http://www.lawsociety.org.uk/newsandevents/news/view=newsarticle.law?NEWSID=375873 – good practice on meeting the new regulations, and full information on client due diligence requirements, forming a suspicion of money laundering and making a disclosure to SOCA

Council of Mortgage Lenders' Handbook: http://www.cml.org.uk/handbook/frontpage.aspx – further information on mitigating mortgage fraud risk

How Mortgage Loan Fraud works

Introduction

The Prieston Group, a risk management solutions provider that administers an insurance product covering losses due to fraud and misrepresentation, calculated that losses attributed to mortgage fraud will most likely reach $4.2 billion for 2006. This figure does not take into account another estimated $1.2 billion spent on fraud prevention tools.

- The Prieston Group, 2006 Data, 16 February 2007,and 2 April 2007.

Mortgage Fraud is defined as the intentional misstatement, misrepresentation, or omission by an applicant or other interested parties, relied on by a lender or underwriter to provide funding for, to purchase, or to insure a mortgage loan. Although no central repository collects all mortgage fraud complaints, statistics from multiple sources indicate that mortgage fraud is on the rise. Some industry explanations for this increase point to recent high mortgage loan origination volumes that strained quality control efforts, the persistent desire of mortgage lenders to hasten the mortgage loan process, the escalation of home prices in recent years, and the introduction of non-traditional loans which contain fewer quality control restraints such as low documentation and no documentation loans1.

Mortgage loan fraud is divided into two categories: fraud for property and fraud for profit. Fraud for property/housing entails minor misrepresentations by the applicant solely for the purpose of purchasing a property for a primary residence. This scheme usually involves a single loan. Although applicants may embellish income and conceal debt, their intent is to repay the loan. Fraud for profit, however, often involves multiple loans and elaborate schemes perpetrated to gain illicit proceeds from property sales. It is this second category that is of most concern to law enforcement and the mortgage industry. Gross misrepresentations concerning appraisals and loan documents are common in fraud for profit schemes and participants are frequently paid for their participation. Recent events likely resulted in an increase in mortgage fraud as higher housing prices tempted borrowers to commit fraud for property in order to qualify for a mortgage loan. Also, mortgage fraud perpetrators likely seized the opportunity to take advantage of the relaxed lending practices to commit fraud for profit.

The most common form of mortgage fraud is illegal property flipping which entails false appraisals and other fraudulent loan documents (see figure 1). Combating mortgage fraud effectively requires the cooperation of law enforcement and industry entities. No single regulatory agency is charged with monitoring this crime. The FBI, Department of Housing and Urban Development-Office of Inspector General (HUD-OIG), Internal Revenue Service, Postal Inspection Service, and state and local agencies are among those investigating mortgage fraud.

Illegal Property Flipping Scheme

Mortgage fraud is a relatively low-risk, high-yield criminal activity that tempts many. However, according a May 2006 Financial Crimes Enforcement Network (FinCEN) report, finance-related occupations, including accountants, mortgage brokers, and lenders, were the most common suspect occupations associated with reported mortgage fraud2. Perpetrators in these occupations are familiar with the mortgage loan process and therefore know how to exploit vulnerabilities in the system.

Victims of mortgage fraud may include borrowers, mortgage industry entities, and those living in the neighborhoods affected by mortgage fraud. Lenders are plagued with high foreclosure costs, broker commissions, reappraisals, attorney fees, rehabilitation costs, and other related expenses when a mortgage fraud is committed3. As properties affected by mortgage fraud are sold at artificially inflated prices, properties in surrounding neighborhoods also become artificially inflated. When property values increase, property taxes increase as well. Legitimate homeowners also find it difficult to sell their homes as surrounding properties affected by fraud deteriorate.

During boom periods, high mortgage loan volume impacts expedited quality control efforts which often focus on production. Therefore, perpetrators may submit loans based on fraudulent information anticipating that the bogus information will be overlooked. On the other hand, loan officers, brokers, and others in the industry are paid by commission and may be tempted to approve questionable loans when the housing market is down to maintain current levels of income.

Analysis of mortgage originations indicates a decrease in demand. As a result of the declining housing market, mortgage fraud perpetrators may take advantage of eager loan originators attempting to generate loans for commission. Mortgage loan originations, including purchases and refinances declined during 2006 across the United States. The Mortgage Bankers Association (MBA) estimates that mortgage loan originations will reach $2.28 trillion during 2007 (see figure 2)4. According to an MBA December 2006 report, total home sales during 2006 decreased by approximately 10 percent from 2005 sales. New home sales declined by 17 percent and existing home sales dipped by 8 percent. In response to a decrease in demand for housing, builders reduced single-family starts (through November 2006) which were 14 percent lower than during the same time period in 2005. The MBA estimates that the oversupply of housing will continue to affect new home construction, home sales, and home prices until mid-20075.

Mortgage loans based on fraudulent information usually result in delinquency, default, or foreclosure in a bear market. According to the MBA, both delinquency and foreclosures rates increased during 2006 and were largely concentrated in adjustable rate mortgage (ARM) loans, especially sub-prime ARMs. This is partly attributable to the recent rise in interest rates, placing a strain on ARMs borrowers6.

BasePoint Analytics, a fraud analytics company, analyzed more than 3 million loans and found that between 30 and 70 percent of early payment defaults (EPDs) are linked to significant misrepresentations in the original loan applications7. Radian Guaranty, Inc. is a leading provider of mortgage insurance which protects lenders against loan default. Of the top ten states Radian Guaranty Inc. ranked highest for mortgage fraud, seven of them also ranked in the company’s top ten for EPDs. This suggests that EPDs are a good mortgage fraud indicator.

During 2006 there were more than 1.2 million foreclosure filings nationally, which represents a 42 percent increase from 2005 figures. The foreclosure rate for 2006 was one foreclosure filing for every 92 households8. Foreclosures for 2006 surpassed foreclosures for 2005 during every month of the year9.

Emerging Schemes

Foreclosure Fraud

Recent statistics suggest that escalating foreclosures provide criminals with the opportunity to exploit and defraud vulnerable homeowners seeking financial guidance.

The perpetrators convince homeowners that they can save their homes from foreclosure through deed transfers and the payment of up-front fees.

This “foreclosure rescue” often involves a manipulated deed process that results in the preparation of forged deeds. In extreme instances, perpetrators may sell the home or secure a second loan without the homeowners’ knowledge, stripping the property’s equity for personal enrichment.

While foreclosure scams vary, they may be used in combination with other fraudulent schemes. For instance, perpetrators may view foreclosure-rescue scams as a new method for fraudulently acquiring properties to facilitate illegal property-flipping and equity-skimming.

Home Equity Lines of Credit

According to a DOJ press release, Mi Su Yi and her husband, Paul Amorello, were sentenced in California in July 2006 for operating a $3 million bust-out scheme involving business lines of credit and HELOCs. The couple accessed lines of credit that had been obtained by others and paid the balances with worthless checks. They subsequently withdrew cash from the lines of credit before the checks were returned for insufficient funds. The couple laundered their proceeds through bank accounts opened under three false identities. In an attempt to avoid detection, the couple deposited cash amounts of less than $10,000 into these accounts.

-US DOJ, “New Jersey Residents Sentenced to Prison for Running a $3 Million ‘Bust-Out’ Scheme,” Press Release, 25 July 2006, available at http://www.usdoj.gov Individuals and criminal groups are exploiting the home equity line of credit (HELOC) application process to conduct multiple-funding mortgage fraud schemes, check fraud schemes, and potentially money laundering-related activity. HELOCs differ from standard home equity loans because the homeowner may borrow against the line of credit over a period of time using a checkbook or credit card. HELOCs are aggressively marketed by lenders as an easy, fast, and inexpensive means to obtain funds.

HELOC funds are normally withdrawn on an as-needed basis to conduct home repairs or to pay bills, but fraud perpetrators may withdraw the entire amount within a short time period. Lenders typically focus on property equity prior to funding HELOCs. As such, many lenders do not demand a full property appraisal or a full property title search.

Perpetrators apply for multiple HELOCs to different lending institutions for a single property within a short time period. Prior to providing the funding, lenders conduct searches to determine if the property is encumbered by a lien. However, liens on a property may not be recorded for several days or months and thus cannot be immediately verified. Consequently, lenders do not discover that they hold a third, fourth, or fifth lien on a property (rather than the expected second lien) until later. The money obtained from the multiple HELOCs totals more than the original property purchase price, exceeding the out-of-pocket expenses incurred to secure the property.

Perpetrators conducting check fraud schemes may manipulate HELOC accounts and cause lenders to incur losses. For example, a perpetrator secures a HELOC and withdraws the entire allotted amount. A fraudulent check is then used to pay the balance owed on the HELOC.

However, the perpetrator quickly withdraws the check amount from the HELOC before the bank realizes the check is worthless. When the check is returned for insufficient funds, the line of credit surpasses its maximum limit and the lender experiences a loss. HELOC accounts have also been used in common check frauds where perpetrators stole HELOC checks, fraudulently completed them, and deposited the funds into their own personal accounts.

HELOCs may also be used as a means of depositing and withdrawing laundered proceeds to further conceal the original funding source. As long as withdrawals from the HELOC do not exceed the line of credit limit, payments deposited into the account may be withdrawn later.

FBI and Industry Respond to Escalating Mortgage Fraud

The FBI is proactively working with the mortgage industry in an effort to curb mortgage fraud crimes. On March 8, 2007, the FBI signed a memorandum of agreement with the MBA to promote the FBI’s Mortgage Fraud Warning Notice (see figure 5). The Notice states that it is illegal to make any false statement regarding income, assets, debt or matters of identification, or to willfully inflate property value to influence the action of a financial institution. Under the agreement, the MBA and the FBI will make the notice available to mortgage lenders to use voluntarily as a means of educating consumers and mortgage professionals of the penalties and consequences of mortgage fraud.10

Source: www.fbi.gov/publications/fraud/mortgage_fraud06.htm

Anti-money laundering

This practice note is to help you comply with the Proceeds of Crime Act 2002, Terrorism Act 2000 and Money Laundering Regulations 2007. It also details good practice. The 2007 regulations entered force on 15 December 2007.

- Using this practice note
- Click on a chapter heading below to navigate this practice note.
- We recommend that you refer to this online version to stay up-to-date with changes. You can print the entire practice note, and each chapter can be printed individually.

For suspected money laundering occurring before 15 December 2007, refer to our previous version of the practice note at the bottom of the page.

Anti-money laundering practice note – 15 December 2007

Print this entire practice note
Table of contents
Definitions and glossary
Chapter 1 – introduction
Chapter 2 – the risk-based approach
Chapter 3 – systems, policies and procedures
Chapter 4 – customer due diligence
Chapter 5 – money laundering offences
Chapter 6 – legal professional privilege
Chapter 7 – terrorism offences
Chapter 8 – making a disclosure
Chapter 9 – enforcement
Chapter 10 – civil liability
Chapter 11 – money laundering warning signs
Chapter 12 – offences and reporting practical examples

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Anti-money laundering practice note - 03 September 2007
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Source: www.lawsociety.org.uk/productsandservices/practicenotes/aml.page

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