Mortgage scams thrive amid soaring home prices,
little regulation and, in some cases, complicit borrowers. Higher
Real estate fraud is surging, fueled by a booming
housing market, feverish refinancing activity and lax regulation,
In the last two years, according to the FBI, reports of mortgage
fraud nationally have tripled to 21,994, while the dollar value of
the alleged crimes quadrupled to $1.01 billion.
The dramatic run-up in the housing market during the
last four years was a boom with few equals. Abnormally low interest
rates spurred refinancings, construction and speculation, while the
industry developed loan products for every income and attitude.
Swindlers have lots of room to hide in an industry so flush, so busy
and so much more complex than it used to be.
Mortgage fraud can be as simple as a loan applicant lying about
income and as complicated as a ring of conspirators using identity
theft, fake appraisals and straw buyers to steal properties from
Much of the industry is not required to report fraud to regulators,
so it doesn't.
The amount of deceit is undoubtedly much greater than the reports
indicate, FBI officials say. Fraud increases the price of mortgages
for all buyers as lenders pass on their higher costs.
Consumers will take out $2.8 trillion in mortgages this year, but
regulation is a hazy patchwork of local and national agencies that
have minimal communication with each other.
This is especially true in regard to mortgage brokers, who barely
existed 30 years ago but now are key players in the loan process.
Two-thirds of home buyers turn to brokers to find financing for the
biggest purchase of their lives, industry associations say.
Yet in California the agencies that monitor these middlemen say they
don't know the most basic facts about them, including how many
brokers are operating in the state or how often there are
Regulation of brokers "has sort of fallen through the cracks," FBI
Assistant Director Chris Swecker said.
Some brokers think this neglect opens the door to trouble.
"We've got to do something to better protect the consumer," said
John Marcell Jr., an Upland, Calif., broker who is president of the
California Assn. of Mortgage Brokers. "We need better education, and
But policing requires a regulatory agency with teeth. Real estate
has no equivalent to the U.S. financial industry's overseer, the
Securities and Exchange Commission. The number of fraud cases
investigated by the FBI is not keeping pace with the rise in
reports. The bureau's conviction rate is falling, from a national
total of 256 in 2003 to 170 this year.
Policing also requires victims to come forward. In a boom, they can
be hard to find.
"It's not like you have a bunch of bullet casings on the ground and
a victim in the hospital," said Bill Denny, a deputy district
attorney in Alameda County who prosecutes criminal real estate
"The whole industry hates regulation," he added. "Lenders never
write to us and say, 'Please [pursue] this case.' "
The urge to ignore includes some of the industry's biggest players.
Last summer, the Office of Federal Housing Enterprise Oversight,
which oversees Fannie Mae and Freddie Mac, the two largest federally
chartered lending institutions, ordered them to start informing it
of mortgage fraud "in a timely manner."
The regulation was developed after Fannie Mae was accused of
covering up a $6-million fraud instead of reporting it.
Last week, the FBI arrested two people who operated real estate and
escrow agencies in Downey and Seal Beach. Martha Rodriguez and
Edward Seung Ok were charged with 10 counts of mail fraud in an
alleged scheme that preyed on 70 homeowners facing foreclosure.
According to the FBI, the pair would promise to clean up the
homeowners' credit by having a third party cosign the refinancing
papers. But the homeowners ended up losing title to their houses
while Rodriguez and Ok netted $8 million, the FBI said.
Ok's lawyer, Roger J. Rosen, said his client "didn't do anything
illegal. He helped these folks out." Rodriguez's lawyer didn't
return a call for comment.
In another, more wide-ranging scheme that has only partially come to
light, homeowners were not victims but eager participants. This
hustle, which allegedly was orchestrated by a California broker, is
said to have involved hundreds of people. It illustrates just how
easy it is to break the mortgage rules on a large scale, and how
minimal the punishment can be if you do.
The scheme worked like this, according to the lender that issued the
broker's loans: The broker put his clients in loans in which they
paid a higher-than-normal interest rate in return for negligible
closing costs. These loans generate so much money for lenders that
they pay brokers a big finder's fee for them.
To keep the homeowners quiet, the broker split the loot with them.
Many of the participating homeowners liked the deal so much they
allowed the broker to keep refinancing their loans every few months.
Each time, the broker received a new finder's fee and the homeowners
earned enough cash to pay their mortgages for a month or two.
The scheme violated California regulations against deception by
brokers. But here's what happened when the broker's deceit was
finally discovered: nothing. In fact, California regulators say they
never heard of the case.
The broker's first victim was Cleveland-based National City
Mortgage, one of the country's biggest lenders. National City gave
$300 million in loans to the broker's clients under the mistaken
impression that they would have a shelf life longer than milk.
Lenders rely on the assurances of the borrower and broker that the
borrower needs the mortgage and will use it in a normal manner. If,
in fact, the borrower is taking the loan only for a few months
because he can get paid for doing so, then the lender is going to
pay excessive fees for something that is worthless.
Most lenders sell their mortgages. National City sold the California
loans to Freddie Mac, which repackaged them as mortgage-backed
securities for sale to investors.
The only public acknowledgment of the scheme came last April when
Freddie Mac alerted buyers of 48 of its investment pools that they
were, in essence, tainted. Because some of the loans in the pools
were being refinanced almost immediately, the buyers of the
securities weren't getting the returns they expected.
Freddie Mac's announcement "raised an eyebrow," said Gary Greenberg,
a mortgage specialist at Los Angeles investment firm Payden & Rygel.
"This was the first time I had heard of something like this
Despite getting burned, neither National City nor Freddie Mac
complained about the broker to California regulators.
That's in keeping with the industry's inclination to sweep its
problems under the rug, according to some in the mortgage business
as well as observers of the industry.
"National City wanted to let this incident die a natural death,"
said Marcell, the broker association's president. "They don't want
their counterparts to know they're so stupid as to allow this to
National City said it cut off the broker, which it declined to
identify, and disciplined the salesmen who worked with him.
"No laws were broken," said John Gellhausen, executive vice
president of National City's consumer finance unit.
If not, said Eric Von der Porten, a Silicon Valley money manager who
closely follows the housing industry, that's evidence that oversight
of brokers is extremely casual.
"Is it suddenly OK to hoodwink national banks and
government-sponsored mortgage companies?" he asked.
Freddie Mac said it referred the scheme to its regulator, the Office
of Federal Housing Enterprise Oversight. A spokeswoman for the
agency said the regulator didn't have authority over either National
City or the broker.
Both Freddie Mac and its regulator declined to identify the broker.
Jack Guttentag, who runs a mortgage-advice website at
about a dozen readers have asked him whether it would be permissible
to collude with their brokers to refinance at a high interest rate
to get a large premium.
"For every one person that's asked me, there must be at least a
hundred who just went ahead and did it," said Guttentag, a professor
of finance emeritus at the Wharton School of the University of
Such schemes are so common, Guttentag said, that they victimize
anyone who had the income to obtain a monthly mortgage but not the
cash to pay settlement costs. These are the people who legitimately
need high-interest mortgages, which wrap the closing fees into the
Experts say there is so much misrepresentation and outright fraud at
this end of the mortgage market that lenders build the cost of fraud
into the loan rates, much the way retailers raise the price of items
that frequently are shoplifted.
Paying slightly more for your mortgage because of the unethical
schemes of others might not have been much of a problem when houses
were appreciating 25% a year. But they're likely to become more of
an issue as the market cools.
A slowing market might fuel further abuses. A slack market with
rising interest rates would cut down on refinancings. That would
create more incentive for a few brokers to churn the market by
refinancing the same customers over and over, just like the broker
in the National City case.
Brokers in California come under the supervision of two agencies.
The Department of Real Estate says there are 127,000 people in the
state who hold advanced real estate licenses. All of them can act as
brokers. License revocations have doubled in the last two years, the
department says, but it had no data on how many of the cases
The California Department of Corporations has issued 3,705 licenses
to firms that can then act as brokerages. The firms are not required
to report how many employees they have. The department received 386
written complaints about its brokers in the first 11 months of this
year, a number that has held steady for the last three years.
Two firms have had their licenses revoked in the last year, a
spokeswoman said, while another two have been told to refrain from
If mortgage brokers are so lightly regulated, that's partly because
the industry has changed so much so quickly.
Thirty years ago, people obtained their mortgages directly from the
local savings and loan, often from a person they already knew
socially. Now, most buyers use a broker to scout out the best deal
and never even talk to their actual lender unless they refinance.
Brokers will earn an estimated $33 billion in commissions this year.
They don't get paid until the customer gets a loan, which gives them
a major incentive to make the deal happen. But they're paid by the
lender, and the higher the rate on the loan above normal, or par,
the more they get paid.
This bounty is known as a yield spread premium. It's what National
City was paying the California broker involved in the questionable
Yield spread premiums are controversial because the mortgage seeker
rarely realizes what they are. The biggest study on premiums, done
with data from the late 1990s, found that nearly all the brokers
surveyed were putting their clients into more expensive loans so
they could get bounties averaging nearly $2,000.
Although the homeowners paid lower closing costs on these mortgages,
"they still weren't a good deal," said the author of the study,
Harvard Law School professor Howell E. Jackson.
"People should ask their broker how much they're making, including
both yield spread premiums and direct fees, and if it's over $2,000
they should question why," said Jackson. "No one says the broker has
to make a certain amount. It's negotiable."