NEW YORK –In a 22-page complaint filed Friday, the Securities and Exchange Commission charged Goldman Sachs with defrauding investors on real estate securities likely to go bust.

The legal document reads less like a court filing, and more like a twisted story of how actions by Wall Street’s most notorious investment bank allegedly caused losses of $1 billion for investors.

Here’s what it said:

In late 2006 and early 2007, when the United States housing market is beginning to show signs of distress, hedge fund Paulson & Co. takes a “bearish view on subprime mortgage loans,” according to the SEC complaint.

The fund — run by John Paulson — identifies more than 100 bonds with the lowest credit ratings, which are likely to experience defaults. Paulson cherry-picks these bonds by favoring adjustable rate mortgages, borrowers with low credit scores, and mortgages in states like Arizona, California, Florida and Nevada, where the real estate bubble hit the hardest.

The strategy: create a product to bet against

In January 2007, Paulson meets with Goldman Sachs vice president Fabrice Tourre, and asks for help betting against these bonds through the use of credit default swaps — essentially, Paulson is asking to buy insurance on the weakest subprime-mortgage bonds.

Paulson and Goldman Sachs discuss creating — and then betting against — a package of the low-rated bonds.

Paulson would hand-pick the securities, but Goldman Sachs and Tourre also need other investors. And they know it would be a hard sell if they disclosed that Paulson had selected the securities, given that he wanted the value to go down.

So they seek out a reputable third party to, as internal Goldman memos state, put its “name at risk…on a weak quality portfolio.”

In January 2007, Goldman Sachs approaches ACA Management to act as that “portfolio selection agent.”

Goldman e-mail, March 12, 2007: “We expect to leverage ACA’s credibility and franchise to help distribute this Transaction.”

Selecting the portfolio

In February 2007, Tourre, Paulson and ACA meet to discuss the portfolio.

While both Goldman Sachs and Tourre are completely aware of Paulson’s intent to short the portfolio, ACA is unaware, according to the SEC.

On that same day, ACA e-mails Paulson, Tourre and others at Goldman Sachs a list of 82 real estate bonds on which they already agree, but adds 21 “replacement” bonds to the list and asks for Paulson’s approval. Paulson deletes eight of the bonds recommended by ACA, leaves the rest, and states that it agrees that the remaining 92 bonds make a sufficient portfolio.

An internal e-mail at ACA asks, “Did [Paulson] give a reason why they kicked out all the Wells [Fargo] deals?” Wells Fargo was generally perceived as one of the higher-quality subprime loan originators, the SEC said.

On or around February 26, 2007: Paulson and ACA agree on the portfolio to be called ABACUS 2007-AC1.

Selling the portfolio

In trying to sell the new ABACUS portfolio to investors, Goldman Sachs uses false and misleading marketing materials, according to the SEC.

The materials, created by Tourre, boldly claim ACA as the “portfolio selection agent,” but make no mention of Paulson’s role in selecting the bonds.

The “flip book,” in particular, contains 28 pages about ACA’s expertise, track record and credit selection process, and assures investors that the party selecting the portfolio had an “alignment of economic interest” with investors.

While none of the marketing materials mentioned Paulson’s role in the transaction, internal Goldman Sachs communications clearly identified Paulson, its economic interests, and its role in the transaction, according to the SEC.

Investors buy in

Beginning in 2002, IKB Deutsche Industriebank AG, a commercial bank in Germany, had been involved in the purchase of assets backed by U.S. mid-and-subprime mortgages.

But in late 2006, IKB informed Goldman Sachs and Tourre that it was no longer comfortable investing in mortgage bonds that were not selected by an independent third-party with knowledge of the U.S. housing market.

In February, March and April 2007, Goldman Sachs sends IKB copies of the ABACUS marketing materials, all of which represented that the portfolio had been selected by ACA, and failed to mention Paulson.

On or about April 26, 2007: IKB buys a total of $150 million worth of ABACUS notes at face value.

Within months, as the U.S. housing market begins to crumble, the investment is nearly worthless. Most of this money was ultimately paid to Paulson in a series of transactions between Goldman Sachs and Paulson, said the SEC. In total, investors lose $1 billion, the SEC said.

The next steps

The SEC charges Goldman Sachs with fraud for failing to disclose Paulson’s conflicting interest and role in selecting the ABACUS portfolio. The civil suit asks for a jury trial, and for Goldman Sachs to be fined and forced to repay illegally-obtained profits.

In response to the SEC’s complaint, Goldman said Friday that “the SEC’s charges are completely unfounded in law and fact and we will vigorously contest them and defend the firm and its reputation.”

Paulson & Co. also issued a statement claiming no responsibility for Goldman’s misleading or fraudulent marketing.

“Paulson did not sponsor or initiate Goldman’s ABACUS program, which involved at least 20 transactions other than that described in the SEC’s complaint,” Paulson’s statement said.

-Annalyn Censky

New York – The news of Goldman Sachs’ fraud accusation by SEC pored cold showers over the stock markets world wide showing the first signs of economic recovery.
Goldman Sachs (NYSE: GS) has spoiled the party. While most stock exchanges had achieved new records this week, the trend has reversed Friday, April 16, when the U.S. stock market watchdog, the Securities Exchange Commission (SEC) announced it was suing the bank for “fraud”. This fraud involves the sale of investment securities linked to subprime mortgages.
The SEC fraud announcement caused Goldman Sachs (NYSE: GS) to lose nearly 13 percent of its value in one day yesterday. GS closed at 160.70, which is down 23.57 (-12.79%) from its previous day’s close. The distrust was spread on all markets around the world.
Goldman Sachs Fraud Effect on Global Stocks
In Paris, SAC 40 lost 79.02 points down 1.94 percent. In Frankfurt DAX was down 110.55 points. It lost 1.76 percent. London’s FSE 100 lost 1.39 percent of its value ending the day down 81.05 points.
In New York City Dow Jones Industrial Average lost 125.91 point, ending the day down 1.13%. Dow closed at 11,018.66 points. At least Dow ended the week above the threshold 11,000 level. NASDAQ ended the day at 2481 points. it lost 34 points and 1.37 percent of its value.
Prior to Goldman Sachs subprime mortgage fraud announcement the markets had experienced a period of stable growth. The indexes have been lifted by the recent statistics confirming the economic recovery globally. Another factor lifting the stocks was the very encouraging quarterly reports that the U.S. companies announced last week. Intel’s earnings particularly stood up.
In Europe the worries about the airline delays also added to the concerns about the future recovery. The ash clouds have grounded thousands of flights across Europe. Airline industry is partially paralysed and the prices of airline stocks were down yesterday. Yesterday the airline industry stocks were listed among the largest declines in European Stock Markets.
Goldman Sachs lost $12bn off the market value in one day yesterday.
Written by Armen Hareyan

The FBI just released a comprehensive new report on real estate and mortgage fraud, and, as you might expect given everything we talk about here on Flipping Frenzy, it isn’t a pretty picture. The information contained in the report can get quite technical, with plenty of charts, graphs, and hard numbers. Regardless, it’s worth the read–see “The 2007 Mortgage Fraud Report.” Among the Report’s key findings:

1. Real Estate and Mortgage Fraud is clearly on the rise. Although there is no central way to track the total extent of the problem, the FBI received 46,717 Suspicious Activity Reports related to real estate and mortgage fraud last year—compared to 35,617 in 2006 and just 6,936 in 2003. Only 7% of these reports documented an exact dollar amount in terms of losses, but even so, the total loss from this 7% was $813 million. The FBI’s caseload has also escalated. By the end of fiscal year 2007, the Bureau was handling just over 1,200 real estate and mortgage fraud investigations—a 47% increase from 2006 and a whopping 176% increase from 2003.
2. The downward trend in the housing market will continue (see forecasts provided by the Mortgage Bankers Association in the report), providing further incentive for shady real estate industry insiders to look for dishonest ways to turn a profit and growing opportunities for scam artists to prey on vulnerable homeowners.
3. The subprime lending crisis is a contributing factor to real estate mortgage fraud, both directly and indirectly. Subprime loans, designed for people with poor or limited credit histories, now represent more than 13% of all outstanding loans–double the percentage of five years ago. These high-interest, high-risk loans contributed to the 2.2 million foreclosures filed during 2007, up 75% from 2006. The trouble actually began when home prices were rising a few years ago, leading to relaxed lending practices throughout the industry and the exaggeration of assets by industry insiders and borrowers under their charge anxious to qualify for loans, both of which contributed to fraud.
4. The top 10 hotspots nationwide for mortgage fraud in 2007, carefully mapped from multiple public and private sources, were:
   
   1. Florida
   2. Georgia
   3. Michigan
   4. California
   5. Illinois
   6. Ohio
   7. Texas
   8. New York
   9. Colorado
   10. Minnesota

   Other states significantly affected include: Arizona, Maryland, Utah, Nevada, Missouri, Indiana, Tennessee, Virginia, New Jersey, and Connecticut. The north-central region of the United States had the largest share of fraud, followed by the west and southeast regions.



5. The latest mortgage scams run the gamut: from builder-bailout schemes where developers unload excess inventory through financial trickery, to foreclosure rescue schemes that trick homeowners into signing over the deed to their house; from seller-assistance scams that use false appraisals to sell homes, to identity theft that leads to home equity credit lines being opened and drained.

The FBI’s report also briefly recounts the agency’s own response to the problem, including the Bureau’s participation in the Department of Justice’s Mortgage Fraud Working Group, through which the agency says it is helping to identify large-scale real estate industry insiders and criminal enterprises conducting systemic real estate fraud

The purpose of the The 2007 Mortgage Fraud Report is to provide insight into the breadth and depth of real estate and mortgage fraud crimes in the United States. The report updates the 2006 Mortgage Fraud Report and addresses current fraud projections, issues, and hot spots (as noted above). The objective of the report, according to the FBI, is to provide FBI program managers with relative data to justify real estate and mortgage fraud investigative and preventive resources and for investigators to identify real estate and mortgage fraud activity.

We learned some interesting things today about the FBI’s probe into real estate and mortgage fraud at some of Wall Street’s top financial institutions. According to FBI Director Robert S. Mueller, III’s testimony before the U.S. Senate Committee on Appropriations, Subcommittee on Commerce, Justice, Science, and Related Agencies, the Bureau’s investigation of real estate fraud in the mortgage industry now encompasses 19 companies, up from 17 just one month ago. In Mueller’s own words:

• “We’ve had a tremendous surge in cases related to the subprime mortgage debacle. We currently have almost 1,300 cases that have grown exponentially over the last several years and we expect them to grow even further.”
• “We have also 19 cases involving institutions themselves where mortgage fraud may have contributed to misstatements and the like.”.

Mueller, who was testifying on Capital Hill in defense of the FBI’s budget request for 2009, also said that when the Bureau’s budget request was originally drafted, the subprime mortgage mess had not yet “grown to the point where we could see the extent of the surge,” and that he was not certain at this point when we can expect to see the extent of the surge.

Additional information, from Reuters:

Bureau officials declined to name any additional companies targeted in the probe. “We’ve always said it was a fluid number,” FBI spokesman Stephen Kodak said. “It could change at any time.” He said the bureau has publicly acknowledged only one company as involved — Doral Financial Corp (DRL.N: Quote, Profile, Research). A former Doral treasurer was indicted for investment fraud last month. He denied the allegations and the company declined to comment.

The largest U.S. mortgage lender, Countrywide (CFC.N: Quote, Profile, Research), also is under FBI investigation, authorities have said, although the FBI has declined to comment and Countrywide said it was unaware of any investigation. When the FBI disclosed its industry investigation, major investment banks Goldman Sachs (GS.N: Quote, Profile, Research), Morgan Stanley (MS.N: Quote, Profile, Research) and Bear Stearns Cos (BSC.N: Quote, Profile, Research) each said the government had asked them for information, but there was no confirmation of any FBI role. Beazer Homes (BZH.N: Quote, Profile, Research) said last year it had received a federal grand jury subpoena related to its mortgage business.

= = = = = = = =
Editor’s Note: The following item was written for Flipping Frenzy by Dr. Gary Lacefield, a nationally recognized expert on fair lending and housing-related practices. Dr. Lacefield was a Senior Civil Rights Analyst, Investigator, and Conciliator for HUD, where among other accomplishments, he negotiated the 12 largest civil rights settlements involving housing providers in the agency’s history.
= = = = = = = =

The designers of the Titanic proclaimed it as greatest-and-safest ship ever built…”Unsinkable!” In a similar “safety statement,” Wall Street also proclaimed to the mortgage industry–and anyone else who would listen–that their mortgage-driven products for sale were “risk free” and “just as safe.”

• The Titanic only carried 20 lifeboats which, if fully utilized, would have saved just 50 percent of its passengers. So that means that in a perfect’ situation, 50 percent still would have died even if they’d been able to get to the lifeboats that were available.
• Wall Street’s plunge into the subprime mortgage-based securities world failed to price their products correctly, based–in hindsight–on the risk now realized with those products. It now appears that approximately 80 percent of the high cost loans in this country are in trouble of drowning because of the underlying borrowers’ inability to perform.
• The designers of the Titanic claimed that the reason that they failed to carry an sufficient number of lifeboats was because ‘The White Star management was concerned that too many boats would sully the aesthetic beauty of the ship.’
• Wall Street fell into the same trap: They were afraid that if they priced the risk of these boutique mortgage products appropriately, borrowers wouldn’t find them appealing.
• The Titanic’s purported safety features and proclamations of “unsinkable” were based upon a design that relied on the improbability that several of its watertight compartments would never be compromised at the same time. The very incident that was not likely to happen did… on its maiden voyage.
• Wall Street’s product underwriting guidelines were designed to ensure that the firms creating these securities would never be impacted because all of the risk was diverted to the originating lenders. Wall Street didn’t anticipate that their mortgage products were so poorly designed that the originating lenders would start to fail, with virtually zero buffer between them (Wall Street) and the borrower.
• The Titanic’s quality assurance was seriously flawed, allowing trapped water to overflow from one airtight compartment to the next–its ultimate undoing.
• Wall Street’s underwriting design allowed many borrowers to fall prey to the opportunities presented by the nature of the product. When the borrowers failed to perform, the overflow of defaulted loans spilled over from one company to the next, causing each of the smaller companies to close.
• The Titanic served several classes of people, but was clearly designed for the wealthy. There were 325 First Class passengers on board during that fateful trip. But in order to underwrite the cost of the passage, they also sold steerage to second class (285) and third class (706) passengers. It’s no coincidence that more First Class passengers survived (202) than either second class (118) or third class (178) passengers.
• Wall Street designed these specialty mortgage products for the First Class borrowers, but designed the products so that second and third class borrowers would be able to underwrite the programs. It’s no coincidence that more of the wealthy borrowers are less affected by the results of these programs compared to the impact suffered by the middle and lower income borrowers. Foreclosures and defaulted loans are at the highest number since the Great Depression.
• The Titanic was staffed with a crew of 913 which represented about 46 percent of the total on board. Over 700 perished when the ship sank representing almost half of the casualties.
• So far, over 165 lenders of size have “imploded” with at least another thousand, smaller mortgage companies and brokerages failing. Over 45,000 jobs have been lost in the mortgage industry in the past five months alone. Early (conservative) estimates indicate that there will be over $100 billion in credit losses. All of this carnage is a direct result of the availability and miscalculation of risk associated with the aforementioned mortgage products by Wall Street.
• The Titanic tragedy was investigated by the government and changes were made within the industry to reduce the risk associated with ocean travel.
• What do you think our government’s going to do about the mess created by Wall Street? A review of the government’s intervention in the last half century includes the creation of the following “bail-out” type programs for the housing sector:

1. Since 1970 we’ve had the Emergency Home Finance Act of 1970.
2. The Emergency Housing Act of 1975.
3. The Emergency Housing Assistance Act of 1983.
4. The Emergency Housing Assistance Act of 1988.

We [Bush, Jackson, and Paulson]… had a good discussion about the situation in America’s financial markets. … One area that has shown particular strain is the mortgage market, especially what’s known as the sub-prime sector of the mortgage market. This market has seen tremendous innovation in recent years, as new lending products make credit available to more people. For the most part, this has been a positive development, and the reason why is millions of families have taken out mortgages to buy their homes, and American homeownership is at a near all-time high.

Unfortunately, there’s also been some excesses in the lending industry. One of the most troubling developments has been the increase in adjustable rate mortgages that start out with a very low interest rate and then reset to a higher rate after a few years. This has led some homeowners to take out loans larger than they could afford based on overly optimistic assumptions about the future performance of the housing market. Others may have been confused by the terms of their loan, or misled by irresponsible lenders. Whatever the reason they chose this kind of mortgage, some borrowers are now unable to make their monthly payments, or facing foreclosure.

And…

The recent disturbances in the sub-prime mortgage industry are modest… But if you’re a family–if your family is one of those having trouble making the monthly payments–this problem doesn’t seem modest at all. I understand these concerns, and therefore, I’ve made this a top priority to help our homeowners navigate these financial challenges, so that many families as possible can stay in their homes. That’s what we’ve been working on, a plan to help homeowners.

And…

We’ve got a role, the government has got a role to play — but it is limited. A federal bailout of lenders would only encourage a recurrence of the problem. It’s not the government’s job to bail out speculators, or those who made the decision to buy a home they knew they could never afford.

And…

In the coming days, the FHA will launch a new program called FHA-Secure. This program will allow American homeowners who have got good credit history but cannot afford their current payments to refinance into FHA-insured mortgages.

And…

I’m going to work with Congress to temporarily reform a key housing provision of the federal tax code, which will make it easier for homeowners to refinance their mortgages during this time of market stress. Under current law, homeowners who are unable to meet their mortgage payments can face an unexpected tax bill. … I believe we need to change the code to make it easier for people to refinance their homes and stay in their homes. … I’ve called Senator Debbie Stabenow of Michigan and told her that she’s on to a good idea with the bill that she…submitted to the Senate. … With a few changes in the Senate version and the House version, this administration can support [the] bill.

Above, when Bush refers to U.S. Senator Stabenow’s bill, he’s talking about the Mortgage Relief Act. The Mortgage Relief Act, introduced in May of this year by Senator Stabenow, would change current law that forces individuals to pay an income tax when they have had a part of their mortgage loan forgiven or have been forced to foreclose because of their inability to pay their mortgage.

Finally, Bush had this to say about the nation’s extremely high rate of foreclosures:

My administration will launch a new foreclosure avoidance initiative to help struggling homeowners find a way to refinance. Secretary Jackson and Secretary Paulson are going to reach out to a wide variety of groups that offer foreclosure counseling and refinancing for American homeowners. These groups include community organizations like NeighborWorks and mortgage lenders and loan services, and the FHA, as well as government-sponsored enterprises like Fannie Mae and Freddie Mac. These organizations exist to help people refinance, and we expect them to do that.

The Bush administration is hopeful that the aforementioned steps will deliver help and hope to American families who need it. “We’ll help guard against future problems in the housing sector, President Bush said. “We’ll reaffirm the vital place of homeownership in our nation. When more families own their own homes, neighborhoods are more vibrant and communities are stronger, and more people have a stake in the future of this country.”

The U.S. government announced yesterday the unsealing of an indictment charging 26 people with participating in a wide-ranging scheme to commit mortgage fraud. According to the U.S. Attorney for the Southern District of New York, the defendants–including Galina Zhigun of AGA Capital of Brooklyn–committed fraud by submitting loan applications and supporting documents, which contained false information and material omissions, to sub-prime lenders who made nearly $200,000,000.00 in loans that otherwise would not have been funded.

According to the U.S. Attorney, from 2004 through December 2006, AGA Capital and its successor, Lending Universe Corporation, and another related brokerage, Northside Capital, brokered over one thousand home mortgages and home equity loans–with various sub-prime banks and lending institutions–with a total face value of at least $200 million dollars.

AGA Capital, Lending Universe and Northside Capital earned a total of at least $4 million in commissions and fees on the loans. The sub-prime lenders that issued the mortgages and loans brokered by Northside Capital, AGA Capital and Lending Universe are said to have suffered actual losses of at least $4.5 million as a result of the defendants’ scheme.

If convicted, each of the 26 defendants faces a maximum sentence of 30 years in jail on each count of the indictment, along with a fine of $250,000 or twice the gross gain or loss resulting from the crime.

The Chairman of the Mortgage Bankers Association (MBA) told the New York State Assembly yesterday that while it’s true that unethical “actors” in the real estate finance industry make bad loans, policymakers should take care in their efforts to protect consumers and not inadvertently restrict the availability of credit for worthy borrowers.

“We all share the same commitment of developing better protections for consumers against abusive lending and foreclosures and assuring that these borrowers continue to have the financing they need,” said Robbins. “I urge you to not smash this subtle, intricate and ingenious system of real estate that we have created as we fix problems in the subprime market.”

In his testimony, Robbins pointed out that more than 1 million Americans used a subprime loan to purchase their homes last year. He then reminded Assembly members that homeownership across the country was near record highs and that subprime loans have played a crucial role in closing the gap between the overall homeownership rate and the minority rate.

Addressing the current troubles in the subprime arena, Robbins cited a confluence of factors, including a slowing of home price appreciation and the weakening of the job market in some parts of the country. He reminded lawmakers that neither was a particularly large problem in New York and that the state’s overall delinquency (4.82%) and foreclosure (1.11%) rates were below the national average (5.31% and 1.19% respectively).

Robbins also said that 35 percent of New Yorkers own their homes free and clear and only 17 percent of have a subprime mortgage, and of that 17 percent, 83 percent are paying their subprime mortgages on time. New York’s subprime foreclosure rate is below the national average.

Robbins pointed out some of the steps the industry is taking to help borrowers who find themselves having trouble paying their loans–including partnering with NeighborWorks America, a national nonprofit organization to promote their free counseling hotline, 888-995-HOPE, manned by the Homeownership Preservation Foundation.

Robbins called on legislators to join with the Real Estate industry and consumer advocates to address the current problems in the subprime market while making sure that subprime loans remain available for those who need them.

“Subprime loans must remain a viable option for lenders to use to increase homeownership,” said Robbins. “Working together, we can stabilize and preserve the subprime mortgage credit system, provide assistance for homeowners facing foreclosure, and finally, prevent this from ever occurring again.”

There was an interesting article in yesterday’s Wall Street Journal about how efforts by major U.S. banks and investment firms are trying to unload bad housing loans, and about its speeding up a shakeout in the subprime mortgage industry. Excerpted from the Wall Street Journal:

As more Americans fall behind on mortgage payments, Merrill Lynch & Co., J.P. Morgan Chase & Co., HSBC Holdings PLC and others are trying to force mortgage originators to buy back the same high-risk, high-return loans that the big banks eagerly bought in 2005 and 2006.

Investment-banking firms and investment firms that bought mortgage-backed securities are hiring firms to scrutinize subprime portfolios for loans that violate contracts.

Clayton Holdings Inc. is working with a half-dozen investment-banking firms to identify loans that should be repurchased. Clayton has also been hired by two hedge funds to review mortgage bonds they own for potential repurchases.

“Nobody was doing this in earnest before late last year,” says Kevin Kanouff, president of Clayton Fixed Income Services, adding that he expects the volume of putbacks “to trail off in the third or fourth quarter. The carnage that you are seeing…is not over.”

In a push to recoup losses, HSBC, which last week added $1.76 billion to its bad-debt costs for 2006 to cover ailing mortgages, has sued several small lenders in federal court in Illinois after they refused HSBC’s repurchase requests. Credit Suisse analyst Rod Dubitsky said he expects repurchases to continue to rise for the next six months.

You know what they say… you can’t get blood from a stone, and you can’t get something from someone who doesn’t have it!

Prior to his conviction, Baltimore, Maryland’s, Ed Rybczynski was a licensed title agent and the owner of a successful title company. Nowadays, during his presentations, Ed speaks candidly about his role in a well publicized flipping scheme that resulted in his imprisonment in a federal prison camp. Ed’s message is a simple one: That real estate fraud prevention can only be accomplished through personal accountability and responsible corporate citizenship.

In his own words, from a comment Ed left here on FlippingFrenzy.com just a few days ago (in case anyone missed it):

Ralph:

I would like to comment on the newly released statistics for mortgage related fraud. I’m not sure if the statistics apply only to instances where a lender is victimized during the loan application process or if they include predatory lending practices and other types of fraud where a consumer is targeted by a lender. It’s probably safe to assume that the report encompassed any and all suspicious activity reports (SARs). An often cited FBI report states that 80 percent of all mortgage fraud involves the tacit participation of a real estate professional. I personally believe that the percentage is much closer to 100 percent. A real estate professional who fails to ask questions or exercise due diligence is in fact an active participant in the fraud. I feel uniquely qualified to comment on these matters. I was a title industry insider for 20 years and also did time in a federal prison camp for my role in a fraudulent scheme involving property flipping and loan fraud.

It comes as no surprise to me that the incidence of fraud has climbed so dramatically. In fact, I believe the numbers are understated as a substantial amount of mortgage fraud remains undetected and/or unreported. Most people, industry insiders included, have no idea of how to properly report complex schemes of this type. Along the same lines, very few people are able to recognize the warning signs of fraud which are often subtle. It’s my opinion that real estate related crime will continue as an accelerating epidemic in this country. I do not believe that changes in interest rates or the economy will have any diminishing effects on the two broad categories of fraud identified by the FBI – fraud for housing and fraud for profit. The lending industry and title industry have decided to look to technology as a solution to an overwhelmingly complicated situation with human nature at its core. A data base – search engine is no match for many white collar criminals.

The problem worsens as the technology used to process a loan or title file reduces the consumer to a faceless and ambiguous name on a computer screen. It’s time for the real estate industry to address fraud in a realistic manner by taking an honest look at its hideous effects on real people. A study released on 5/31/06 by the Center for Responsible Lending entitled “Unfair Lending: The Effect of Race and Ethnicity on the Price of Subprime Mortgages” finds that predatory lending activities are most often targeted at minority groups with an ethnic bias. Real estate related crime is still perceived as being benign and victim-less. It’s not true; every aspect of our society suffers when a home is foreclosed and a family displaced. We’ve all heard the cache phrases that tell us much. No one will know! Everybody gets paid! What difference does it make! The buyer gets the house!

The statistics concerning the licensing of mortgage brokers are alarming. A similar situation exists within the title industry. Keep in mind that federal prosecutors view the role of a title agent as having the social importance of a doctor or a lawyer. Title agents not only examine title, they are also responsible for managing enormous escrow accounts and for guarantying the secured interest of the source of funds. It’s a technical and serious job that’s accompanied by a great deal of risk. In the context of fraud prevention, the title agent is the final stop in a transaction with a serious obligation to detect and report fraud. Yet, 3 states plus the District of Columbia do not require that title agents be licensed; 18 states and the District of Columbia do not require a title agent to pass a test to become licensed; only 20 states have an educational requirement as a pre-requisite to licensing. My source for the above information was a report released on 4/26/2006 by the Government Accountability Office entitled “Title Insurance: Preliminary Views and Issues for Further Study”.

I agree with you that mortgage brokers should be subject to national standards for licensing and oversight. I also feel that national standards must be established for title agents. The professional development of title agents and mortgage brokers is the critical first step to fraud prevention. Continuing education as it exists today for the title agent is simply ineffective. Professional education should be substantive and emphasize best practices. I’m particularly alarmed by the recent findings of an 18 month investigation conducted by the Insurance Commissioner of the state of Washington. A number of national title insurers and title companies were caught in the act of paying illegal inducements and incentives in return for title orders. All title agents look to their underwriters to set the highest possible standard for proper and ethical behavior. Where do we go from here?

The use of technology is just one vital aspect of mortgage fraud prevention. Uniform licensing standards for professionals and background checks are equally as important. But, when dealing with a topic matter as important as a home we cannot ignore the power of the human condition. Awareness is the key. Through training, title agents and mortgage brokers must be exposed to the possible consequences of their professional decisions. They must learn that an over inflated appraisal or falsified bank verification can cause real harm (and pain) to children, families, communities, etc. Additionally, real estate professionals must be exposed to the personal consequences of improper behavior including the payment of restitution, incarceration, the loss of a career and the loss of professional legitimacy. Then, and only then, will title agents and loan brokers fully recognize the need to develop a decision making model based on core values. Then, and only then, will mortgage fraud statistics begin to decline. Remember, mortgage fraud cannot exist without the participation of real estate professionals.

Regards,

Ed Rybczynski

An article in yesterday’s online edition of U.S. News & World Report points out something that may not be obvious to your average next door neighbor… as $1 trillion worth of adjustable rates mortgages are due to reset in the next two years, more and more homeowners will find themselves unable to meet their financial obligations, which, long story short, will more likely than not lead to foreclosure and the potential destruction of property values neighborhood-wide.

From the August 7, 2006 print edition of U.S. News & World Report (on newsstands now):

Call it the worst worst-case scenario. The interest rate on your adjustable-rate mortgage jumps just as the housing market enters a prolonged slump.

Then something really bad happens: You lose your job. There’s a medical emergency. You get divorced. You fall behind on your mortgage payments, and the bank forecloses on your home.

Those scenarios are now playing out for growing numbers of homeowners. Nearly 90,000 homes entered foreclosure in June, about a 17 percent increase over a year ago, according to RealtyTrac. Especially hard hit are homeowners in Massachusetts, where foreclosure filings jumped 66 percent in the second quarter as the housing market continued a sharp downturn. Foreclosure rates could increase more over the next year or so, “especially if we end up in a recession and see a lot of job loss,” says Doug Duncan, chief economist with the Mortgage Bankers Association.

Warning. In the past, foreclosures have largely been the result of a bad economy. Yet this time around, with a record number of borrowers exposed to rising mortgage payments through adjustable-rate and subprime mortgages, the increase in foreclosures could be a bad omen.

Click here for the rest of the article. As I mentioned back in mid-February, experts suggest that looses from adjustable-rate loan conversions will tally somewhere in the $110,000,000,000 range, and yet that figure represents less that one percent (1%) of total U.S. mortgage lending annually. Until all of us–-Realtors, Brokers, Regulators, Lenders, Law Enforcement, Appraisers, and Consumers–-get on-board with understanding what makes a real estate-related transaction go bad, the $110 billion in losses from mortgage payment reset will seem like a drop in the bucket when compared to the losses we’ll be facing as a result of the onslaught of fraudulent offers unsuspecting and desperate homeowners will fall victim to.

St. Louis Post-Dispatch business columnist David Nicklaus has an interesting editorial in this morning’s paper. Commenting on predatory-lending and the federal government’s attempt to further regulate the subprime lending market, Nicklaus writes:

“…given that states are finding ways to crack down on abuses without cutting off the flow of credit, maybe Washington should stay out of this fight.“

When Nicklaus’ suggests that “Washington” stay out of this fight, he’s referring to the numerous attempts by the United States Congress to further regulate predatory lending, which I hope we all recognize accounts for borrowers losing billions and billions of dollars annually due to predatory mortgages, payday loans, and other lending abuses like overdraft loans, excessive credit card debt, and tax refund loans.

Click here for Nicklaus’ entire column. As usual, it’s well written and informative, but this time around he’s only half right, and here’s why:

Personally, I am in favor of laws and regulations that put the interests of homeowners ahead of irresponsible lending that drains home equity from vulnerable citizens. If what Nicklaus really means to say is that Congress should not pass the proposed “Responsible Lending Act” (H.R. 1295), which would allow many abusive practices to continue, then I agree. The truth is that while “The Responsible Lending Act” claims to offer greater protections to vulnerable consumers, in fact, many key provisions of the Act come with loopholes that will continue to permit wealth-stripping and lead to foreclosures.

For example, unscrupulous lenders can drain a family’s wealth by inserting exorbitant fees into mortgage loans. They can repeatedly refinance the same mortgage until the borrower’s equity is gone. They can prevent victims of predatory lending from protecting their homes against foreclosure after the lender has sold their loan. Clearly, “The Responsible Lending Act” is nothing but irresponsible legislation.

On the other hand, “The Prohibit Predatory Lending Act” (H.R. 1182), which was previously introduced in Congress, offers a better option for protecting consumers and homeowners alike. Unlike the so-called “The Responsible Lending Act,” H.R. 1182 is based on anti-predatory lending legislation that is already effective in several states, including North Carolina, the home of many of the nation’s largest banks. Predatory lending has decreased dramatically in North Carolina while subprime lending continues to flourish. One study estimates that North Carolina citizens saved $100 million during the first year alone.

“The Responsible Lending Act” ignores state laws that are working well in areas where the subprime mortgage market continues to flourish. Rather than encouraging responsible lending practices, H.R. 1295 would allow abusive lending to continue while providing no meaningful enforcement and overriding successful state laws.

This is a time when foreclosures are rising in many areas, families are struggling with debt, and abusive lending practices are harming some of our most vulnerable citizens. David Nicklaus is only half-correct when he says Washington should stay out of the fight. Members of Congress should do the right thing by working to protect, not harm, the financial future of our nation’s working families.

They’ve been lending mortgages to hundreds of thousands of American homebuyers with bad credit for years—that is, until the lawsuits claiming predatory lending practices started to pile up. Yesterday, Ameriquest Mortgage, one of the largest lenders in the country, settled multi-million dollar lawsuits alleging mortgage fraud spanning 49 U.S. states.

From today’s online edition of the The San Francisco Chronicle:

Ameriquest Mortgage, the nation’s largest subprime mortgage company, settled predatory lending allegations by 49 states on Monday, agreeing to pay $295 million in restitution and clean up its lending practices. The agreement, which included an additional $30 million to reimburse states for their legal fees, was the second-largest predatory lending settlement, after a $484 million agreement reached in 2002 with Household Finance Corp.

In a conference call, several state attorneys general said Monday they found evidence that Ameriquest had engaged in a wide variety of unethical and possibly illegal sales tactics. Before 2003, they found many instances where Ameriquest customers ended up with more expensive loans than sales reps had promised. Those abuses abated after Ameriquest changed some sales practices in 2003, but others persisted, and in some cases, worsened, regulators said. Some Ameriquest sales reps allegedly inflated borrowers’ incomes so they could take out a bigger loan, often one they couldn’t afford to repay.

At issue was whether Ameriquest turned the American dream of homeownership into a full-on nightmare by using deceitful and deceptive practices to bilk borrowers desperate for better deals on debt. Yesterday’s settlement is a strong indication that Ameriquest–the nation’s leading sub-prime lender–indeed misled consumers as to key terms like interest rates and prepayment penalties, and inflated their incomes levels and home appraisals, all of which lead to higher loans than they could afford and often caused foreclosures and an onslaught of related financial disasters.

At the end of the day, the settlement is as strong an indication as any that Ameriquest pressured appraisers to inflate property values so borrowers could get bigger loans, imposed upfront fees without reducing interest rates as promised, and told borrowers to ignore written information about interest rates because they would give them lower rates later. The company is also alleged to have given them higher interest rates instead. Ameriquest also assured some borrowers that their loans would have no prepayment penalties, then inserted such payments into the final loan documents; delayed the time period between the loan closing and the funding; and misrepresented fees and costs.

Under the terms of the agreement, Ameriquest will pay $295 million in restitution to consumers nationwide and another $30 million to the 49 states and the District of Columbia for attorneys’ fees, costs, consumer education and enforcement programs.

The settlement includes Ameriquest’s holding company, ACC Capital Holding Corporation, and its subsidiaries, Ameriquest Mortgage Company, Town & Country Credit Corporation and AMC Mortgage Services, Inc., formally known as Bedford Home Loan. Ameriquest itself is based in Orange, Cal., near Los Angeles.