I field a lot of phone calls from newspaper reporters trying to understand the 3 S’s of real estate and mortgage fraud: Size, Scope, and Specifics. Any mention on my part that ‘credit enhancement’ is one specific we should all be concerned about, and I am usually greeted with uncomfortable silence followed by something along the lines of, “What’s credit enhancement?”

The last time I wrote about this topic was March 6 of last year, so for those of you who aren’t familiar with the term, )from a real estate and mortgage fraud perspective) credit enhancement is any action taken by an individual that intentionally results in falsely boosting one’s credit score for the sole purpose of obtaining a real estate-related loan. Practically speaking, the most popular way of enhancing one’s credit is to have their name and Social Security number added as an authorized user to a credit card account connected to an individual with stellar credit.

Unfortunately, this practice is not illegal, but it should be. The idea behind this is that by listing a family member or trusted friend as an ‘authorized user’ on your credit card account, you are establishing some sort of “collective” credit history. That practice certainly makes sense in families in which members trust one another and actually operate as a team to ensure financial stability and build wealth as a unit. Unfortunately, though, and more often than not, credit enhancement is a service people buy, and in the end, no one but the fly-by-night credit enhancement companies actually benefit from the practice.

These credit enhancement companies that seem to be popping up all over the place apparently want to create an “extended family” that consists not only of family members but also includes complete strangers. Many credit card companies enable you to legally add anyone to your account, so someone with poor credit can ride the coattails of a more responsible borrower. I would strongly caution account holders from adding the name of anyone they do not know and trust implicitly to their account. After all, if they default on a loan, your credit suffers. Moreover, the practice is unethical. It dupes lenders into approving loans for those who have less stellar credit ratings, and provides those people with lower-interest loans that they would otherwise be unable to qualify for.

To fix the problem, credit reporting agencies need to change the formulas they use to calculate credit scores so that the credit scores of additional cardholders do not benefit from the primary cardholder’s credit history. For many homeowners who participate in credit enhancement schemes, the benefits are temporary at best. All of us should be after the three main credit-reporting agencies–Equifax, Experian, and Trans Union–to see what, if anything, they are doing to remedy this problem.

A report released yesterday by RealtyTrac shows more than 1.2 million foreclosure filings were recorded nationwide in 2006, up 42 percent from 2005. The 2006 RealtyTrac Foreclosure Market Report also revealed that there is one foreclosure filing for every 92 U.S. households. While foreclosures are not at historically high levels, a 42 percent year-over-year increase is certainly noteworthy and cause for concern. When foreclosure rates rise, con artists crawl out from the rocks they were hiding under to prey on the vulnerable homeowners. To protect yourself, you should know your options and know your rights.

According to the report, the total number of foreclosure filings rose from a little over 885,000 in 2005 to 1,259,118 in 2006. Colorado documented the nation’s highest state foreclosure rate for the year, one foreclosure filing for every 33 households or 3 percent of the state’s households. The state reported 54,747 foreclosure filings during the year, an 85 percent increase from 2005 and the eighth highest total among all states.

Georgia and Nevada both reported one foreclosure filing for every 41 households in 2006, but Georgia edged out Nevada with a slightly higher percentage of households in foreclosure, 2.5 percent compared to 2.4 percent in Nevada. Georgia reported 75,975 foreclosure filings during the year, the sixth most of any state and a 67 percent year-over-year increase. Nevada foreclosures surged in fourth quarter, pushing the state’s total for the year to 21,045, nearly three times the number reported in 2005.

Other states with foreclosure rates among the nation’s 10 highest included Texas, Michigan, Indiana, Florida, Ohio, Utah and Tennessee. Texas reported 156,876 foreclosure filings for the year, the most of any state, and nearly 13 percent of the national total. The state consistently reported big foreclosure numbers throughout 2006, documenting the highest monthly total eight times, and foreclosures for the year were up more than 14 percent from 2005. Texas’ foreclosure total represented nearly 2 percent of the state’s households, or one foreclosure filing for every 51 households, giving the Lone Star state the nation’s fourth highest state foreclosure rate.

Rising foreclosure activity in the fourth quarter pushed California’s 2006 foreclosure total to second highest among all U.S. states. California reported 142,429 foreclosure filings during the year, more than twice the number reported in 2005, and accounting for more than 11 percent of the national total. California’s 2006 foreclosure rate of one filing for every 86 households ranked 14th in the U.S.

Florida’s foreclosure activity remained relatively flat in 2006, up just 2 percent from 2005, but the state’s foreclosure total still placed third highest among all the states. Florida reported 124,721 foreclosure filings during the year, a foreclosure rate of one foreclosure filing for every 59 households. The state’s foreclosure rate dropped to seventh highest in 2006 after claiming the top spot in 2005.

With an average of more than 10,000 foreclosure filings in each quarter, Detroit, Michigan, documented the highest annual foreclosure rate among the nation’s 100 largest metropolitan areas. Atlanta, Georgia’s 2006 foreclosure total of 63,737 represented 4.4 percent of the city’s households, ranking it second in the nation. Indianapolis, Indiana’s foreclosures decreased in the second, third and fourth quarters of 2006, but the city still documented the nation’s third highest metro foreclosure rate: 4.3 percent of all households.

Other cities with foreclosure rates among the nation’s 10 highest include Denver, Dallas, Fort Worth, Las Vegas, Memphis, Fort Lauderdale, and Miami.

On the heels of The Arizona Republic’s ground-breaking article on cash back at closing schemes, an Arizona State Senator is attempting to revise a state statute to make it a crime to misrepresent financial information when attempting to purchase a home or obtain a home mortgage. AZ State Senator Jay Tibshraeny (R, 21st Dist.) yesterday introduced Senate Bill 1221, which states:

A. A person commits residential mortgage fraud if, with the intent to defraud, the person does any of the following:

1. Knowingly makes any deliberate misstatement, misrepresentation or omission during the mortgage lending process that is relied on by a mortgage lender, borrower or other party to the mortgage lending process.
2. Knowingly uses or facilitates the use of any deliberate misstatement, misrepresentation or omission during the mortgage lending process that is relied on by a mortgage lender, borrower or other party to the mortgage lending process.
3. Receives any proceeds or other monies in connection with a residential mortgage that the person knows resulted from a violation of paragraph 1 or 2 of this subsection.
4. Files or causes to be filed with the office of the county recorder of any county of this state any residential mortgage loan document that the person knows to contain a deliberate misstatement, misrepresentation or omission.

B. An offense involving residential mortgage fraud shall not be based solely on information that is lawfully disclosed under federal disclosure laws, regulations and interpretations related to the mortgage lending process.

C. A person who violates this section is guilty of a class 4 felony, except that a person who engages or participates in a pattern of residential mortgage fraud or who conspires to engage or participate in a pattern of residential mortgage fraud is guilty of a class 2 felony.

D. For the purposes of this section:

1. “Mortgage lending process” means the process through which a person seeks or obtains a residential mortgage loan including solicitation, application, origination, negotiation of terms, third-party provider services, underwriting, signing, closing and funding of the loan.
2. “Pattern of residential mortgage fraud” means one or more misstatements, misrepresentations or omissions that are made during the mortgage lending process, that involve two or more residential properties and that have the same or similar intents, results, accomplices, victims or methods of commission or are otherwise interrelated by distinguishing characteristics.
3. “Residential mortgage loan” means a loan or agreement to extend credit to a person that is secured by a deed to secure debt, security deed, mortgage, security interest, deed of trust or other document representing a security interest or lien on any interest in one-to-four family residential property and includes the renewal or refinancing of any loan.

So, what does all of this mean? According to the Arizona Daily Star:

Just a single offense could result in a 2 1/2 year prison term. And those who are involved in multiple schemes potentially face five years behind bars.

Felecia Rotellini, superintendent of the state Department of Financial Institutions, acknowledged there already are both criminal and civil laws designed to go after those who commit fraud. And she said her agency already has managed to convict people involved in such schemes. But Rotellini said SB 1221 likely would make prosecutions easier. Potentially more significant, Rotellini said this law spells out that homebuyers involved in these kinds of frauds are equally culpable — and can be equally punished. “It will help to cover the gamut of players,” she said.

Rotellini goes on to tell the Daily Star that while her agency has broad powers over both mortgage bankers and mortgage brokers, she has no authority over home buyers, who in many cases may be the primary perpetrators of real estate fraud:

“In fact the buyer in these cash-back schemes is the primary perpetrator,” Rotellini said. “They’re the one that’s getting the loan that’s been misrepresenting the value of the property or other aspects of it.” If nothing else, Rotellini said she believes having a specific law on the books making mortgage fraud a crime will act as a deterrent. “Maybe that’s wishful thinking,” she said. But Rotellini said a new statute — and the stiff penalties — might convince would-be schemers to reconsider.

Left unchecked, cash back at closing deals cost homeowners and lenders millions of dollars, and according to an in depth article in yesterday’s The Arizona Republic, could erode confidence and values in Arizona’s real estate market. From yesterday’s online edition of the Republic:

A wave of mortgage fraud is rippling through pockets of the Valley, inflating home values through scams called cash-back deals. The fraud involves obtaining a mortgage for more than a home is worth and pocketing the extra money in cash. Neighbors may then discover home values in the area are exaggerated. Homeowners stuck with overpriced mortgages may never recover the difference. And lenders end up with bad loans that, in the long run, could hurt the Arizona real estate market, the largest segment of the state economy.

While the extent of the fraud is unclear, an Arizona Republic investigation into these cash-back deals found organized groups of speculators have bought multiple homes this way, leaving whole neighborhoods with inflated values. Add to these the individual deals done by amateurs who hear others talk about the easy money they made from cash-back sales.

State investigators and real estate industry leaders want more enforcement and greater public awareness to stop the spread of cash-back deals before the damage mounts.

As The Republic correctly points out, under federal law it is illegal to misrepresent the value of a home to a lender. Everyone who is a party to a deal involving inflated valuations is subject to prosecution. Need proof? As I have mentioned before, all you have to do is look at a 1003 (that’s the code name for the Uniform Residential Loan Application) that every homebuyer must sign when applying for a home loan. The 1003, which is authorized by Title 18 of the United States Code, Section 1001, is very clear in this regard. To paraphrase, you cannot lie on a loan application or any other document related to a transaction. When a buyer, appraiser, real estate agent, loan officer, or another party provides a false statement of a property’s value on a 1003 or any other document, they have lied, which means they have also broken the law.

More from The Republic:

Felecia Rotellini is a Notre Dame law school graduate and former assistant attorney general who is now superintendent of the Arizona Department of Financial Institutions. Her agency regulates mortgage lenders, state banks and credit unions in the state. Alarmed by what she was hearing from lenders and real estate agents, she has just pulled together state and federal regulators to form an Arizona mortgage fraud task force.

“People need to understand these cash-back deals are illegal and stop,” she said. “We are going after mortgage fraud.”

As I told Catherine Reagor, The Republic writer who penned the article, Arizona was like a housing gold rush for speculators from California, Florida and Texas a few years ago, but home prices stopped climbing, and speculators got greedy. Now the cash back scam is going to make the savings and loan crisis of the 1980s look like a soft landing.

If you suspect or are aware of cash back deals involving Arizona home sales, contact Catherine Reagor, who is looking for additional help with The Republic’s continuing coverage of this story. Reagor can be reached via email by writing to catherine.reagor at arizonarepublic dot com.

The United States Attorney for the Southern District of Texas, along with special agents from the Federal Bureau of Investigation combined efforts to convict a Houston, TX, man for his role in a multi-million dollar mortgage fraud scheme. At a hearing held last Friday before a United States District Judge, Lawrence Benham was sentenced in connection with his guilty plea to wire fraud and mail fraud involving a financial institution. The court sentenced Benham to 8 years in prison, and ordered him to pay restitution of $412,800. Benham, who has been in federal custody without bond since his arrest in September 2005, will remain in federal custody to serve his sentence.

The 42-year-old Benham was convicted of devising a mortgage fraud scheme in which he located residential properties for sale and persuaded and used others as nominee purchasers of the properties for his benefit. Using the nominee borrower’s credit and identifying information on loan applications, Benham exaggerated the their financial resources and ability to repay loans, and arranged for nominee borrowers to purchase properties at prices far in excess of their true value. Benham then directed as much as $1.5 million from the closing on the residential properties to be paid to himself or to accounts he controlled.

At a previous hearing, Benham admitted that on July 7, 2003, he caused a federally insured financial institution to wire transfer $325,151 as a result of a fraudulent loan application he submitted in the name of a nominee borrower, without the borrower’s permission. Not surprisingly, he used those funds for his own benefit, knowing he was not legally entitled to do so. On October 3, 2003, Benham admitted having caused a payment on the mortgage to be sent by commercial courier to a lender for the purpose of avoiding detection and continuing the fraudulent scheme.

Benham conceded in court that the amount of gain from his mortgage fraud scheme was between $1.5 and $2.0 million, and that he used the proceeds to purchase or lease assets for himself and his business, including a Land Rover, furnishings, and luxury items like plasma televisions.

At industry events lately, real estate professionals gather to talk shop and discuss market trends for 2007, but I notice that nobody’s talking about the elephant in the conference hall. We’re predicting the health of the market. We’re exploring new technologies. We’re trading secrets. We’re swapping ideas and business cards. But the silence over what I believe is a looming foreclosure epidemic, is deafening. Nobody utters the words “flipping,” “fraud,” or “foreclosure.” It’s almost as if these three words have been banned from the industry.

I’ve attended dozens of conferences, and very few of them schedule sessions devoted to real estate and mortgage fraud. The topic tends to have more of a following at conferences for mortgage bankers. Perhaps real estate professionals are simply too busy helping their clients buy and sell houses, or they find the topic less stimulating than others.

By not paying sufficient attention to real estate and mortgage fraud, however, we’ve become blind to the fact that illegal flipping, cash back at closing, and other forms of real estate and mortgage fraud are chipping away at the very foundation of the real estate industry, leading to shameful foreclosure rates that only promise to become tragically worse. While we’re discussing lead generation, marketing techniques, and the power of blogging, absent from our discussion is any mention of what to do to protect the homeowners, our clients-the people who butter our bread.

What is currently happening in the real estate and mortgage industry can only be described as the perfect storm. Fraudsters are ripping off lenders and homeowners with impunity. Artificially inflated housing values are soaring, and with them, so are property taxes and insurance premiums. Lenders are losing billions to fraud and then turning around and ripping off homeowners by selling them adjustable-rate mortgages and other high-interest loans they can’t possibly afford. And personal income just isn’t rising fast enough to keep up with the market. Strapped-for-cash homeowners are beginning to use their homes as ATMs, mortgaging themselves into foreclosure and bankruptcy.

Yet, few real estate professionals express any concern. They continue to carry on business as usual, and often “business as usual” includes actively participating in the fraudulent activities that threaten the American Dream of homeownership. In fact, the FBI estimates that 80% of all real estate and mortgage fraud involves industry insiders!

We need to turn these numbers around in a hurry before our entire industry collapses. We need to wake up and realize that our clients-average homeowners-are hurting. We need to recognize that fraud is destroying the very industry that feeds our families and that it directly contributes to the rising foreclosure rates around the country. We need to educate ourselves and our clients, and then take action to spot, stop, and report and post fraudulent transactions that we witness, regardless of whether the person committing fraud happens to be a client, colleague, friend, or family member.

If we fail to take action now, none of us will have the right to complain when our children and grandchildren cannot afford to purchase a house, when our friends and relatives have their homes stolen right out from under them, and when our businesses crumble because the average citizen cannot afford a home.

I would like to see future conferences focus a little more on that elephant we all seem to be ignoring.

In an ongoing effort to curb mortgage and foreclosure fraud in his state, Colorado’s Attorney General announced yesterday a legislative proposal that targets appraisal fraud and mortgage brokers who engage in deceptive trade practices.

Last year, thanks to the efforts of a state-appointed Mortgage Fraud Task Force, new consumer protections were adopted for Colorado families facing foreclosure and stiffer penalties were enacted to address mortgage fraud. This year, Colorado’s AG is interested in taking further steps to protect homeowners. The legislation he announced yesterday targets the growing problem of appraisal fraud, and adds additional penalties against mortgage brokers who engage in unfair practices.

Under the proposed legislation:

• Colorado’s Division of Real Estate will have the authority to deny or revoke the registration of a mortgage broker who has been prohibited by any court from engaging in deceptive conduct relating to brokering a mortgage loan.
• To address the growing wave of appraisal fraud, the legislation will also prohibit a mortgage broker from compensating, coercing, or intimidating a real estate appraiser in order to obtain an artificially inflated appraisal.
• Finally, the legislation will prohibit anyone else, including realtors, other brokers, lenders, or investors from improperly influencing, or attempting to influence an appraiser and the value of a residence, and prohibits an appraiser from knowingly submitting a false appraisal.
• Violators will be subject to criminal prosecution as a Class One misdemeanor upon a first conviction and a class 6 felony upon a second or subsequent conviction. They will also be subject to civil liability under the state’s Consumer Protection Act.

In July 2005, Colorado’s AG formed a Mortgage and Foreclosure Fraud Task Force. The Task Force’s recommendations subsequently led to new laws requiring that all transactions between homeowners and foreclosure consultants or equity purchasers be in writing, and which prohibits consultants who provide advice or assistance from acquiring any interest in a homeowner’s property, and calls for a three-day cooling off period.

Last night I hosted a teleconference call with consumers and real estate industry insiders from across the country. The topic: How to avoid real estate and mortgage fraud, and what to do if you believe fraudsters and scammers have targeted you. The teleconference, attended by nearly 45 people, was the first in a series of free calls I will be hosting at 7:00 p.m. Eastern Time the first Tuesday of each month.

If you participated in last night’s call and would like to continue the dialogue here, please feel free to leave a comment below. If you would like to be added to our mailing list for future calls, please send an email message to my assistant, Kym Johnson, by writing to kymjohnson at ralphroberts dot com.

Thank you to everyone who participated in yesterday’s call, especially Debbie, Ed, Michael, and Jerome (your contributions were great).

Have you ever heard of Second Life? For the uninitiated, Second Life is an online subscription-based 3-D virtual world where registered users can explore, meet new people, participate in individual and group activities, and buy, build, and sell real estate (among other things). Second Life has its own economy and a currency called Linden Dollars (L$). Site users create new goods and services, and buy and sell them in the Second Life virtual world. There are also currency exchanges where residents can exchange U.S. dollars or other real world currencies for L$. These exchanges are open markets, except that San Francisco-based Linden Lab–the site’s creator–sometimes buys or sells L$ to attempt to keep the exchange rate relatively stable.

With over 2,000,000 registered users, Second Life is starting to attract a lot of attention, but not all of it is good.

The latest issue of The AvaStar (an online newspaper for Second Life users) reveals that a large scale real estate fraud scheme was recently uncovered, and a report due out this month from Deloitte will say the nascent economies that have developed inside internet-based games such as Second Life could be exploited by criminal gangs. According to The New Zealand Herald, the Deloitte report will warn that Second Life could tempt organized criminals, because players can trade virtual property and convert profits into real currency.

Just when you thought you knew all there was to know about real estate fraud, along comes virtual real estate fraud. Unbelievable!