A combination of poor lending practices, lack of oversight, and plain greed has led to unprecedented opportunity to perpetrate mortgage fraud. Because of its prevalence, lawyers may encounter a client who committed or was unknowingly involved in a potentially fraudulent mortgage transaction.

This article examines mortgage fraud schemes in a distressed market so that individuals can recognize a potentially suspect transaction and some of the primary, recent government initiatives in dealing with mortgage fraud.

Mortgage Fraud On the Rise

Mortgage originations are down from $2.5 to $3 trillion per year between 2005 and 2007 to approximately $1.5 trillion in 2008. However, the number of fraudulent loans issued during the second quarter of 2008 increased 45 percent, compared with the same period in 2007 . Similarly, the Treasury Department Financial Crimes Enforcement Network’s reports of suspected mortgage fraud have steadily increased from under 10,000 in 2002 to more than 66,000 in 2008 – with an increase of at least 15,000 reports between 2007 and 2008.

Ironically, plummeting values and uncertainty in the real estate market have led to more opportunities and incentives for committing mortgage fraud.

Recognizing Mortgage Fraud

The types of fraud in a distressed market are somewhat different from the most common types of mortgage fraud in a real estate bubble. The types of fraud more frequently seen today include:

(1) property flips, which have become arguably easier to commit because of the uncertainty in property values;

(2) builder bailout and excessive sales concession frauds, when the builder offers the buyer an incentive to purchase based upon an inflated appraisal;

(3) short sales, when a homeowner defaults and an individual acting with the homeowner buys the property at a reduced price and sells it back to the homeowner;

(4) foreclosure rescues, when perpetrators acquire deeds from homeowners facing foreclosure by falsely promising a rescue or payment modification plan; and

(5) home equity lines of credit, where perpetrators apply for multiple lines of credit in a short period of time so the lender does not discover that they hold a third or fourth lien instead of a second lien.

Government Initiatives

One of the problems with combating mortgage fraud has been a lack of resources. According to FBI statistics, the bureau’s budget in fiscal year 2009 is the same as 2008 – $6.8 billion.

However, there has been an effort to allocate more of those resources to fight financial fraud, including mortgage fraud. For example, the head of the FBI’s New York Criminal Division said last December that some agents were being reassigned from terrorism to white collar. There has also been a push for additional resources, such as Senate Judiciary Committee Chairman Patrick Leahy sponsoring legislation that would authorize increased spending to hire more fraud prosecutors and FBI fraud investigators.

The federal and many state governments have also recently unveiled initiatives to combat mortgage fraud. The Department of Justice’s Operation Malicious Mortgage has resulted in mortgage fraud prosecutions in the nation’s top 10 mortgage fraud states, including Texas. The number of mortgage fraud cases investigated by the FBI increased from 881 cases in 2006 to 1,600 cases in 2008. By February 2009, the FBI had 1,644 mortgage fraud cases under investigation. In 2008, DOJ charged more than 600 defendants for mortgage-fraud related offenses.

More recently, there has been speculation whether DOJ will actually form a task force to centralize mortgage fraud prosecutions or allow state attorneys general to develop their own cases. Various jurisdictions, such as the district attorneys’ offices in Brooklyn and Maryland have created units and/or task forces to combat mortgage fraud. Texas created the Texas Residential Mortgage Fraud Task Force to combat mortgage fraud. Locally, the Dallas and Collin County District Attorneys’ offices have been working on several mortgage fraud investigations and prosecutions.

There are also legislative proposals to criminalize conduct related to mortgage fraud, such as S. 386 introduced in the U.S. Senate, which amends the definition of financial institution to extend federal fraud laws to mortgage-lending business that the government does not directly regulate or insure. While the need for additional legislation can be debated, since there are already many statutes that squarely address the type of conduct that has occurred, the government is clearly focused on mortgage fraud.