Understanding Defending Colorado Mortgage Fraud Cases
The FBI Financial Crimes Section defines “Mortgage Fraud” as a “material misstatement, misrepresentation, or omission relied upon by an underwriter or lender to fund, purchase or insure a loan.”
The proliferation of mortgage fraud investigations and prosecutions increases the likelihood that criminal defense practitioners less familiar with mortgage fraud or other areas of white collar criminal defense may be called upon to represent alleged mortgage fraud participants.
An understanding of the mortgage fraud basics is, therefore, increasingly important to criminal defense counsel.The Players and the Schemes The Investigators
Mortgage fraud is investigated by numerous state and federal law enforcement agencies and is prosecuted by both state and federal prosecutors. While there is no federal mortgage fraud statute per se, federal law enforcement authorities have at their disposal a wide variety of existing criminal statutes to investigate and prosecute mortgage fraud schemes, including bank fraud, mail and wire fraud, and money laundering, which are commonly used.
Mortgage fraud schemes are generally divided by law enforcement investigators into two basic categories — fraud for housing and fraud for profit.
Fraud for housing occurs when the fraud is perpetrated only by the borrower for the purpose of obtaining a property for which he or she would otherwise not qualify. This fraud is usually limited to a single perpetrator and a single property.
The bulk of criminal mortgage fraud cases originate from fraud for profit schemes, and these schemes are, therefore, the focus of this article. Fraud for profit or “industry insider fraud” is a scheme whose purpose is to profit from either creating fictitious properties or falsely creating high property values and then looting the value in the properties.The Participants
Unlike fraud for housing, fraud for profit often involves multiple conspirators acting in concert. Adding to the complexity of these cases, it is not always obvious which participants in the loan process are involved in any given fraudulent scheme. A fundamental understanding of the participants and their roles in the mortgage process is important to assessing the client’s role in a criminal investigation or indictment. Here is a list of the typical participants and their roles in the mortgage loan process.
- The buyer or borroweris the person acquiring the property.
- The selleris the person divesting himself of the real estate in exchange for cash or other assets.
- The real estate agent is an individual or company that represents the buyer and/or seller and receives a commission based on the sale price of the house.
- An originatoris a person or entity (i.e., a loan officer at the lender, a mortgage broker, or a correspondent) who assists a borrower with the loan application by gathering the necessary data to complete it.
- An appraiseris a person who prepares the written valuation of the property.
- An underwriter isthe person who reviews the loan package and makes the decision for the lender as to whether to extend credit. The underwriter considers such information as the credit report, the appraisal, the verification of deposit, income, and employment.
- A lenderis the entity that provides the funding for the loan.
- A warehouse lenderis a short term lender for mortgage bankers that provides financing until the mortgage is sold to a permanent investor.
- A closing or settlement agentis the person who oversees the consummation of the mortgage transaction at which the legal documents are signed and the loan proceeds are disbursed. Some states require that the closing agent be an attorney.
- A mortgage bankeris an individual or company that originates, purchases, sells, and/or services mortgage loans.
- A mortgage brokeris an individual or company that receives a commission for pairing borrowers with lenders.
- A correspondentis a mortgage banker who originates mortgage loans that are sold to other mortgage bankers or to lenders.
- A title companyis the company that verifies the title by researching the recorded ownership of and liens filed against real property.
In addition to the participants, mortgage loan transactions also have certain specific documents associated with them. These documents are often critical evidence in mortgage fraud cases, and the criminal defense practitioner therefore should have a working knowledge of them.
A loan application is the document that the borrower must complete (at times with assistance from a broker, real estate agent, etc.) to qualify for the loan. A traditional mortgage loan application will ask for such information as social security number, income, employment, purpose of the property for which the loan is sought, debts and assets, etc. The standardized loan application form used for residential mortgage transactions is Form 1003.18
The HUD-1 Form (also called the “closing statement” or “settlement sheet”) is a standardized form prescribed by the Department of Housing and Urban Development (“HUD”) that provides an itemization of funds paid at closing, such as real estate commissions, loan fees, points, taxes, escrow amounts, and other parties receiving distributions (i.e., seller).
Form 4506 is the IRS form that authorizes the IRS to release past tax returns to lenders as part of the income verification process.
A mortgageis the document that conveys real property to a mortagee (usually the lender) as collateral for repayment by the borrower (also called the mortgager).
A quitclaim deedis a deed that transfers whatever interest or title the grantor has at the time of conveyance without warranty as to that interest or clear title.
A warranty deedis a deed that transfers title with a warranty that the grantor has good title.
A title opinionis a written opinion that an examination has been made of public records, laws and court decisions to ensure that the seller has a valid claim to the property. The opinion should disclose past and current facts regarding ownership of the property.
A suspicious activity reportor SAR is a standardized report that federally insured lenders and their affiliates are required to file as soon as there is a reasonable basis to believe that fraud of greater than $5000 or involving an industry insider has occurred. The form contains a variety of suspected offenses, including violations of federal criminal law, the Bank Secrecy Act and money laundering offenses.
A verification of depositis a written document sent to the borrower’s bank to confirm that the borrower has cash reserves sufficient for the down payment.
A verification of employmentis a written document sent to the borrower’s employer to confirm the employment and income listed on the loan application.Common Mortgage Fraud Schemes
Mortgage fraud schemes are limited only by the imagination and ingenuity of their participants. Certain types of fraudulent schemes, however, recur with frequency.
Property flipping is one of the oldest and most common mortgage fraud schemes.
Flipping occurs when properties are purchased and then their value is artificially inflated (often through false or fraudulent appraisals) before they are quickly resold. This process is repeated several times by the co-conspirators until eventually the properties are foreclosed by the lenders. The scheme is designed to extract as much cash as possible from the property. While there are many variations on property flipping schemes, it is possible for the final buyer of the property in the flipping process to be an innocent owner unaware that he or she is purchasing the property at an artificially inflated value. Sophisticated perpetrators are using more complex tools — such as identity theft, straw borrowers and shell companies — to assist in flipping schemes.Equity Skimmingis a More Complex Scheme
In a common equity skimmingcase, the investor/fraudster uses a straw (also called a nominee) buyer to obtain a mortgage loan in the straw buyer’s name. After closing, the straw buyer signs the property over to the investor/fraudster in a quitclaim deed (which relinquishes all rights to the property but provides no title guaranty). The investor/fraudster rents the property out and pockets the rental payments, but he makes no payments toward the mortgage. Eventually the property is foreclosed by the lender for non-payment.
Chunkingoccurs when a company recruits buyers by telling them that they can be landlords or own investment property. Often the recruited buyers are promised some combination of the following incentives: no down payment; that the company will provide tenants for the property or properties for a specified period of time; that the company will manage the property for that period of time; that the company will remit the payments to the lender; and that the company will sell the property on behalf of the buyer at a profit at the end of a specific time period.
In reality, the company that recruits the buyer (and receives a large fee or commission upfront) usually fails to obtain tenants, does not make the mortgage payments, and does not arrange for the sale of the property.
False down payment fraud occurs when the buyer colludes with a third party (i.e., a broker, a closing agent, the seller, etc.) to show a down payment that was not paid or whose source is disguised. When the down payment is disguised by the issuance of a second mortgage that is not reported to the lender, that scam is also called a silent second.
Air loansare used when either there is non-existent or low value property. In the case of non-existent property, the broker invents borrowers and properties and establishes false accounts for payments and escrows. In another variation of this theme, a vacant piece of property worth a small amount of money (i.e., $10,000) is appraised as though it is worth significantly more (i.e., $10,000,000). Led by the appraisal to believe that the property is more valuable than it is, the lender makes a loan to a straw or nominee buyer, who distributes the monies to the other co-conspirators.
Double sellingoccurs when a mortgage loan broker induces two or more lenders to fully fund an otherwise legitimate mortgage loan. The broker accomplishes this by either submitting the original documents from the legitimate buyer to one lender and a copy to the other lender(s), by submitting sets of “originals” after inducing the borrower to sign multiple copies of the same documents, or by submitting the original documents to one lender and stalling their submission to the other lender(s) by promising their imminent arrival.”32 The broker and any co-conspirators abscond with the proceeds from the additional loans.
Foreclosure fraud(also known as “mortgage rescue” fraud) is a specific form of equity skimming, and it has emerged as a strong new trend as the housing market has cooled. There are several variations on the fraudulent foreclosure theme, but common to all of them is that the fraudsters identify homeowners who are at risk of defaulting on loans or who are already in foreclosure.34 The schemes then can take a number of forms and have a number of names, including “phantom help,” “bailout,” and “bait and switch.”
In a “phantom help” scheme, the rescuer/fraudster charges outrageous fees to either make a few simple phone calls and do light paperwork on the distressed homeowner’s behalf or for the promise of more active representation that never happens.
The “bailout” schemeinvolves the rescuer/fraudster offering to help the distressed homeowner save his or her home by having the homeowner surrender title of the property to the rescuer/fraudster, often under the guise of securing better interest rates on a re-financing. The homeowner believes that he or she will remain a renter and buy the property back over a longer period of time. Usually the terms permitting buy back of the property cannot be met and the homeowner is stripped of both the ownership and the equity in the home.
The “bait and switch” schemeis similar to the bailout, but the distressed homeowner does not realize that he or she is surrendering ownership of the house in exchange for a rescue.Tactics In Colorado Mortgage Fraud Cases
To perpetrate any of these common mortgage fraud schemes, the conspirators must utilize a combination of certain tactics. In handling a criminal mortgage fraud matter, defense attorneys should be alert for the presence or absence of these badges of fraud.
False documentation is by far the most common aspect of all mortgage fraud schemes. Without falsifying the loan application and supporting documentation, most of the mortgage fraud schemes simply could not be executed. False statements on the loan application are the most prevalent example of false documentation.
According to the Mortgage Asset Research Institute Inc. (“MARI”), false statements in the loan application occurred in 55 percent of mortgage fraud cases in 2006 and in 64 percent of cases in 2005 and 2004. These false statements typically relate to the applicant’s income and employment, the purpose of the subject property (whether primary residence or investment property), and the source of funding for the down payment. In a fraud scheme involving identity theft, false names, addresses, dates of birth and social security numbers will also be on the application.
Documents other than the loan application are also routinely falsified, altered or forged to provide the necessary backup for the loan application and to otherwise perpetrate the mortgage fraud scheme. Frequent examples include false or forged financial documents including tax documents, HUD-1 forms, verification of deposit forms, verification of employment forms, escrow and other closing documents, and credit reports.
Appraisal fraud is a linchpin in many mortgage fraud cases. Because the core goal in most schemes is to inflate the price of the property, a falsely inflated appraisal (or a series of them) is often critical to the success of the scam. Examples of appraisal fraud include inflating comparable values or using outdated comparables, falsifying the true condition of the property, and failing to include negative factors that affect the property’s true value.
Identity theft or fraudis sometimes part of these cases. In an increasing number of mortgage fraud schemes, an unsuspecting person’s identity is stolen to be utilized by the straw buyers or straw sellers in the transaction.43 In other cases, a fraudster obtains confidential personal information (i.e., social security numbers, name, date of birth) about a person who owns a particular property and then uses that information to apply for a home equity line of credit on that property.44Defending the Mortgage Fraud Client
Criminal mortgage fraud cases present unique challenges for defense counsel because of their hybrid nature. On the one hand, mortgage fraud cases are the typical white collar crime investigations, which are usually historical and document intensive. On the other hand, law enforcement is utilizing the proactive investigative techniques more traditionally associated with street crime, such as undercover operations, wiretaps, and surveillance, with increasing frequency in mortgage fraud investigations.
Additionally, prosecutors often indict mortgage fraud cases as multi-level, multi-defendant conspiracies, an indictment structure often seen in drug conspiracy cases. Given this hybrid nature of mortgage fraud investigations, defense counsel should take into account the characteristics of both white collar and street crime prosecutions in developing defense strategies.
Mortgage fraud is constantly evolving. Every mortgage fraud scheme is unique and has its own distinct participants, which makes hard and fast rules about defending such cases difficult to prescribe. Defense counsel should consider the benefit of the following steps in preparing a client’s defense.
*Taken from an excellent article by the National Association of Criminal Defense Lawyers (NACDL)