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.

Posted on August 16, 2008 .