In many ways the problems of the mortgage crisis come down to one thing: fraud. Take a look at most of the troubled loans now and you will likely find some sort of fraud in it. The loan that was the biggest culprit was the so called stated income loans (where income is stated on the application but not verified). Of course, the problem wasn't so much that the income was stated, but rather that it was lied.
In fact, fraud was so prevalent on such loans that it was several years in the business before I was informed that in fact lying on a stated loan was NOT allowed.
Fraud in mortgages takes on all sorts forms. One of the most prevalent frauds is the so called occupancy fraud. In this type of fraudulent loan, the occupancy of the property is fraudulently stated. In other words, property is claimed to be one that the borrower will live in when in actuality they are going to be used for investment purposes. Because rates are much better on a property that borrowers intend to live in, there is all sorts of motivation for this sort of fraud.
The most obscene fraud I have ever heard about involved a company doctoring bank statements to create enough money to qualify. For 10% of the "balance" the company would actually create real looking bank statements had enough in the account. In other words, if a borrower required $10,000 in the bank but didn't have it, this company would create bank statements that had enough. (for a fee of $1,000)
The reason there is so much fraud is layered. The main reason is that it is almost always a no lose proposition. The reason that fraud occurs is that without it a loan couldn't be done. The problem is that when fraud is discovered the normal remedy is to deny the loan. In other words, the punishment is the same as the punishment if there is no fraud, no approved loan. There is almost no motivation for the victimed bank to take the matter any further. If a bank ever carried any fraud any further, the perpetrating broker would certainly let each and every colleague know of the investigation. If word came out that a bank was carrying a fraud investigation beyond the denial of a loan, that bank would lose all sorts of business. In other words, banks have nearly no motivation to do anything with fraud beyond denying the loan.
To understand the problems of mortgage fraud we must also stop pretending the politically correct idea that it is being perpetrated without the knowledge of the borrower. The borrowers are almost always either actively or passively involved. Borrowers almost always know what is going on. For most borrowers, the only thing that matters is that they get the best loan or qualify to purchase the property they want. (I have already written about the scheme buy and bail. Here is one such scheme that is not only perpetrated by borrowers but created by them) If we are all to address the issue of fraud in mortgages, we must identify all the perpetrators.
In order to tackle the problems of fraud, the federal government needs to make a statement. They need to make an example of the sort of common place fraud that currently continues to go on with impugnity. They can't simply go after the sort of fraud that is so obscene that it forces them to act.
The best way for the Feds to do this is to begin aggressively targeting fraud in loans that are currently in foreclosure. Foreclosure notices are already a matter of public record, and as I mentioned earlier, there is already a significant chance of fraud. I don't know if it would take a new bill to allow Feds to be able to grab files in foreclosure but whatever it would take. The Feds would then need to investigate and prosecute each and every instance of fraud within any file they discovered. Furthermore, they would need to create media attention to their newfound aggressive stance. Fraud investigations will have no impact if the mortgage community isn't aware of them.
In order to really address fraud so that it changes the culture, the Feds need to make it clear that fraud, small or large, will no longer be tolerated. To do this, they need to make an example of someone. Of course, this can't be done in a politically correct manner. As I said, the fraud is perpetrated usually at the behest of the borrower. Furthermore, borrowers sign documents attesting to the accuracy of the information in the file. If information is inaccurate their signature makes them responsible. If the sort of ordinary fraud that continues to go on is made an example of, the whole mortgage community would get the message that fraud is no longer worth it. As I said, right now there is no downside to most fraud. What the Feds need to do is make sure the mortgage community realize there is no, make an example, and publicize it.
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Thursday, July 17, 2008
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As a mortgage banker, I had made stated income loans for borrowers for years before the sub-prime market opened up. My borrowers had excellent credit,good loan to value on the property and generally a complicated tax return. The default rate on these loans was all but non-existant.
The problems began when the sub-prime market started lending to sub-prime people who should not have been granted a loan under any circumstances, much less a stated income loan.
I agree with you that there was fraud, that it was massive and the borrowers were involved. But you neglect the Investment Bankers who pushed these products and knew or should have known that they were funding all sorts of products that invited fraud.
There is a place and a need for stated income loans. The self-employed and commissioned borrower needs these loans. With high credit scores and loan to value restrictions the foreclosure rates are acceptable. But offering a stated income loan for someone working at Burger King is inviting fraud and that fraud started at the Banker offering the program not the fry cook.
You are absolutely correct in each of your analyses. In fact, I have said many of the things you have pointed out just not in this particular piece.
There is no doubt that opening so called stated loans to W2'd borrowers who are on salary opens things up strictly to fraud. Why in the world would you take a Burger King employee stated unless it was because you needed to lie?
You are also correct that stated loans were and still are appropriate to business owners, commissioned employees and others with uneven incomes, as long as they have otherwise strong credit.
That said, I think you would agree that fraud is a cancer to the industry and on many more things than just stated loans. It needs to be rooted out and this is my proposal for doing that.
I appreciate the information and perspective you offered about the repeal of the glass- steagall act. I wonder what your analysis is of the other major deregulations which have occurred. I disagree that there should be persons "made an example of," because this will lead to an arbitrary and therfore inequitable application of the law. Punitive consequenses are not always the solution. The entire country needs to be re-educated to understand the value of "the commons." That goes for all persons, especially those at the top. Responsibility does not divide, it multiplies and ignorance is not an excuse. If these giant banks were entering into an industry of which they knew little about, that is not an excuse to be negligent. I think that the latter deregulations were far more detrimental to the finance industry since the bank culture became one of tremendous risk taking.
When I say make an example of someone, it's important that everyone understands what I mean. I mean to seek out fraud that is committed everyday and not only prosecute it but to publicize the prosecution. This is about finally being aggressive in enforcing the laws of fraud but also making sure that the country knows you are doing it and sending such a message.
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