Mortgage Fraud and crooks in banks? I'm Shocked!

In today's online editon of the Wall Street Journal a story was reported that makes me feel like I'm watching the old Claude Raines character in the classic film, Casablanca. You all remember the scene, where the Nazi's come into Ricks bar and casino and when Raines, who is the local police chief and a regular at the illicit gambling hall, is told that "there is gambling going on here." He professes himself to be Shocked, all while getting paid his winnings. 

I feel like much the same is going on now that the real estate market has utterly collapsed and the insane lending practices of the unregulated mortgage industry are being exposed to the harsh glare of daylight.

The FBI investigation mentioned in the story centers around something that anyone who has lived in the booming southwest knew was going on first hand, much as anyone in Casablanca knew "Ricks" was the place to go for forged transit papers and gambling. That practice was the use by big corporate builders, and even some not so big builders, of having in house mortgage brokerage companies that would package loans and financial options that kept the prices on the builders homes high, but allowed the buyer/borrower to receive incentives as large as $100,000 to purchase the house.

Basically the scheme was for the builder to pay off a buyers car loans, credit cards, student loans, etc, so that their debt ratio and lending profile was dramatically improved and they would then qualify for a substantially larger house and loan then other wise would be possible. The buyer wins in the short term because even though they are paying an inflated price for the house, they are exchanging, off the books, expensive debt for cheap mortgage debt. The only problem is when you buy a house for $400,000 that is only worth $285,000, if it doesn't appreciate, or as is happening now it depreciates, the buyer is so far underwater on the loan it will take years, if not a decade, to catch up in value.

The builder however, who built the house on land he bought years prior at cheap prices, flips a property and books a big gain, the broker gets a huge commission on the inflated mortgage loan, often at a higher then normal commission rate as a pay off to look the other way, and the appraiser goes along for the ride as he can plausibly say that "comps in the area" are consistent with the price.

The problem is it is a massive shell game with huge transaction costs and now the US taxpayer is going to be picking up the tab for these crooks. Too strong a word, you say, crooks? Well, apparently the FBI and the Justice department think so too and as someone who watched this sickening fraud occurring for the last 5 years here in Arizona you have to wonder where in the world were the regulators then. Oh that's right, some of the single largest contributors to house and senate campaigns just happen to be corporate builders, banks and mortgage company's, not to mention their pervasive influence in state and local elections as well.

The fact is a lot of politicians from both parties got fat on the real estate boom and it's fraudulent lending and sales practices, and the lightly regulated mortgage lending business was a haven for con-men, crooks and others looking to flip a property and the eventual liability to the next sucker. 

Now when the politicians in both parties stand up in an election year and and do their best Claude Rains impersonation, saying they are shocked that this could have been going on right under the noses of the state and federal authorities, I suggest taxpayers and the FBI take a line from another Humphrey Bogart movie, The Maltese Falcon. In that one, at the end, Sam Spade is asked what the Falcon is and his reply is the often misquoted " This is the stuff that dreams are made of." Well, the real estate ponzi scheme was the stuff of dreams for years, but now it's a nightmare for the taxpayers and I hope the Justice Department as well as the trial bar take this opportunity to hold the crooks accountable for this disaster rather then letting another round of campaign contributions flush this latest financial sewage away and hope we forget who got us into this mess.

If you are in the settlement industry i'd suggest you sharpen up on the mass tort and non-qualified structure area as we are going to see a massive wave of litigation tied to the billions of dollars in losses from these types of criminal lending practices.

Comments

[Frank tiringer]

The very sad part about this whole thing is that at the end of each one of these transactions people are being hurt..families are being destroyed..lives are thrown in to a ten year cycle of destruction & regrowth, if possible. My local paper carried an article about a man who killed his wife and kids, then killed himself because they were being forclosed/evicted. The story is being repeated to varying degrees all over the country. As an appraiser I wondered how long these, yes, crooks were going to get away with these activities? Well, I believe we should not bail any of these builders, investment, mortgage companies out with the tax money collected from our children/grand children. All thes people belong in jail and the market will take car of itself. People always need shelter not these monsters the builders have been building. God help us all.

[MIchael Bryan]

I started in the banking industry in the early 1970's. These were the days when everything was in house, the loan officer, the appraiser and the "bank's" money. There was little outside money. I remember a meeting at which time were were told that we has 25 million to loan out. This was the banks money. Debt to income ratio were tight as well as loan to value ratios. We never made a loan on an income property that would'nt dept service. It was all AAA, quality loans.

The market open up with the elimination of "red lining," mostly a practive of excluding certain areas because of racial make-up. With this change a tighter risk analysis came into play and the first suttle change in lending.

The bean counters comith. The accounting department begins to look at cost savings. Let's make the loan officers income based on production, giv'm a percentage. What an incentative. Oh, the appraisers, cut the staf, that will save money. The appraiser and the loan officer are now contract agents. They have no allegiance to the "bank" only to their own well being.

The "bean counters" are looking for more opertunities to generate more money. Some leners actively courted insurance companies, pension funds and other potential lenders. I recall driving investor around an area where we had made a number of loans. The agreement was if they purchased a "block" (number of loans) we would guarantee them against non-productivity and so it went. Fanny and Freddie would eventually become the biggest investor.

Where when I started it was "our" money that the banked loaned out, it then became someone elses money. Whose, who cared? The goal of the "bean counter" was make more money, pass the risk on.

Thirty years forward. Martgage brokers are making the majority of the loans. There are few if any in house appraiserr. Yes, we'll mahe you a 125% loan. No money, no problem, no documentation, no problem and the regulators could see the train in this tunnel, they were on the smoking deck of the Hinderberg.

Where was the problem??? It's all about the money when it sould have been all about "quality," the quality of the staff as wella s the quality of the product. When all is said and done, there will still be mortgage brokers, there will be no more in-house appraisers and a few years down the road we'll say again "how could this happen?"

[Alex bond]

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[The Settlement Channel]

Guys, Great commentary and historical perspective. I also remember back when I obtained my loans for real estate from local banks who sent out their own in house appraiser, took the loan in front of a loan committee in house every Thursday and who took a keen interest in the quality of the borrower. Point was if the loan went bad they were the one's who felt it.

What I have watched out here in the Southwest over the last 5 to 10 years is sickening. Mortgage brokers reading off a script, 3.5% in points for a no-document loan on college students with no income, no assets and appraisals that were from guys who were part of the same loop of friends. Who cared if it failed as they all got paid up front and passed the fraud on to the ultimate owner of the paper?

Lives will be ruined as a result of this process, where as in the past a local banker would have told these potential borrowers to come back when they had more cash, better jobs, less debt and could qualify for a loan. Sound advice instead of some scheme to enrich the brokers and put clueless people into a house they could never afford.

[K L Parker, Appraiser]

Most Borrowers Jumped in With Eyes Wide Open!

Yes, I do feel sorry for the very small number of homebuyers who were 'tricked' into buying more home than they could afford. However, they were a very small percentage.
So don't feel too sorry for most of these borrowers! Think about all the people that helped these Mortgage Brokers fix the paper work.

What to know how a homeowner and a mortgage broker estimate the value of a house? First, you do a credit check to make sure that, on paper, the borrower has a good FICO score. Next, you estimate the maximum percentage of monthly income that you can show for the housing allowance. This number is translated into a desired loan amount. The desired loan amount is divided by 80%. Thus, you have the value of the house!

I can tell you that most people do not appreciate a valuation that tells them their house is not worth enough to support the cash out loan they want!

The lending system has plenty of good rules in place that, for the most part, prevent fraud and insure the safety of the system. However, they don’t work because the rule makers (i.e., lawyers working for government, banks and investors) make sure that enforcement is never fully funded! After all, enforcement is an operating cost!

Where is the weakest link in the lending system? It is at the point where a Mortgage Broker or a Loan Officer chooses an appraiser! Is that aspect of the loan process slated to change anytime time soon? No, in fact there is a lot of action going on right now to prevent that sort of change.

Therefore, for that reason alone I do not have any hope that the system will improve in a way that protects the honest homeowner or the average taxpayer!