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The 12 x 12 x 12 rule

National Mortgage Professional
May 16, 2005

Creative fraud 101Jerome Maynefraud, deceptive practices, compliance I recently delivered a keynote speech at a mortgage convention and trade show. My speech dealt with the real-life consequences of committing fraud. About an hour before my talk, I took a stroll around the exhibitor booths checking out all of the latest mortgage programs. It had been a while since I actually originated loans, so I was not really up to speed on the flexibility of today's mortgage product guidelines. I stopped at the booth of a well-known wholesale lender to brush up. Since a friend of mine is interested in refinancing her investment property, I thought I'd find out about the latest loan-to-value (LTV) limits on investment property refinancing. The guy behind the booth told me that they'd go as high as a 90 percent LTV on a rate and term or a cash-out refinance on an investment property. I thought that was pretty good. I thanked the young man and turned to leave. I must have seemed unimpressed because he stopped me before I could continue on my stroll. He said, "Well, we can go to 95 percent if it's a second home." I replied, "It's not a second home. She just rents it out. Thanks." I turned again to walk away. This should have been the end of it, but this guy couldn't resist. He said, "Wait, how far is it from her primary residence?" I told him it was more than 150 miles. Then he asked, "What's the value of her primary residence compared to this investment property?" Okay, I could see where he was going with this. I haven't been out of it that long. He was trying to see if this deal would "make sense" to his underwriters. If this other property was not worth as much as her primary residence and if it was a significant distance away, then it is conceivable he could call it her "second home." This is typically how an underwriter would scrutinize this type of transaction. I was now curious to see how far this guy was going to take it. I answered his question by telling him that her investment property was about half the value of her primary residence. Clearly proud of the facts he had just uncovered, he proclaimed that this was definitely a loan that he could do as a second home refi at a 95 percent LTV. I wanted to give him an opportunity to back out of this quagmire he had created for himself. So, I said, "But it's not her second home. She doesn't ever stay there." He then explained how the value and the distance would "make sense" to the underwriter.Apparently, this guy wasn't getting it. I turned fully toward him and looked him straight in the eyes. I said, "She doesn't live or stay there. Ever. She rents it out 100 percent of the time. She tells me that she will never ever live there." His only response to me was a shrug of the shoulders and a flip, "I guess it just depends on how creative she wants to be." He then moved on to the next potential co-conspirator who had just stepped up to his booth. I just had to walk away. Creative? This isn't creative financing. Creative financing is when a loan officer puts to use their vast base of product knowledge and solid understanding of the guidelines. A good, creative loan officer is one who knows how to take a borrower's uncommon financial picture and find a mortgage loan that meets their needs; putting a square peg into a round hole, not by force or deception, but with skill and finesse. Creative financing does not involve withholding or misrepresenting informationspecifically, information that is pertinent to the lender making the loan. Why do lenders have guidelines, and how did they come up with them anyway? For those "creatives" out there who don't know the answer to this question, allow me to discuss it. The money that the customer borrows comes from somewhere. When it is all said and done, it is actually someone's money. Ultimately, these people, the Money People, trust the lender to be the gatekeeper of their money. The lender promises to only open the gate if certain circumstances and conditions exist (these would be the guidelines). The Money People may say, for example, that they don't want to lend more than 90 percent to someone who doesn't actually live in the home (non-owner occupied). Why? Maybe they have done research and found that, among other things, people are more likely to default on a loan if that loan isn't securing the roof over their head. So, let's just say Mr. Creativity submits an application on behalf of his client, Ms. Liar. The application says that Ms. Liar is going to live in the home (she's actually not), and as such, she wants to borrow 100 percent of the purchase price. Based on this information, the lender opens the gate and lends the money with which they have been trusted. Four months later, Ms. Liar defaults on her loan because she can't find a decent tenant. The Money People have now stopped getting principal and interest payments, so they call the lender to find out if they followed the guidelines. The lender (fraud victim) says they thought they followed the guidelines, but as it turns out, Ms. Liar has never lived there. They said that they relied on the information they received from the applicant. If they had known the truth, they never would have made the loan to Ms. Liar. Now the Money People (fraud victim) want the lender to return their money (buyback). The lender talks to Ms. Liar to find out why she said she was going to live there but never did. Ms. Liar tells the lender that it was all Mr. Creativity's idea. Mr. Creativity says that he didn't tell Ms. Liar to do anything (this is the finger pointing). The lender decides to launch an investigation. They review all of Mr. Creative's closed loans. They discover he's had a number of similar transactions in the past. No defaults yet, but misrepresentation nonetheless. The FBI gets called in. A few months later, Mr. Creativity is hauled out of the office in handcuffs. Thats why lenders have guidelines. I walked away from that booth without any doubt in my mind that Mr. Creativity has put transactions together similar to this one. I wondered who trained him. Has he trained anyone else? Does he realize this is wrong? Does he know it's wrong but doesn't think it's a big deal? Has he seen much worse around his office and therefore thinks this isn't as bad as forging a signature? Does he know that people go to prison for much less? Does he have kids? Does he know how he would explain his 21-month absence from home to his three-year-old if he went to prison? Would he find a better way to explain it than I did? The worst part of a federal fraud conviction is not prison, although prison isn't great by any stretch. I don't care how much fun we all think Martha Stewart had in there, putting together decorating contests. I just don't remember it being that fun. It is no picnic, being stuck living with hundreds of men who don't have personal hygiene anywhere on their priority list. Then there's the loss of freedom, etc., etc., etc. But the worst part about a federal fraud conviction is the unwritten sentence. The true consequences of committing fraud are the loss of respect in your industry, the loss of self esteem, the loss of a career, and the fact that even though it was you who did something wrong, everyone else who is close to you must go through the same thing, too. About an hour after I parted company with Mr. Creativity, I addressed the group in the convention hall. I gave my talk on the real-life consequences of committing fraud. I kept an eye out for Mr. Creativity but I didn't see him. I hope he was there. He's the reason I was asked to come there to speak. Jerome Mayne is founder and president of Fraudcon Inc., a fraud deterrent company. Jerome served a 21-month federal prison sentence for conspiracy to commit mail and wire fraud. He now speaks to mortgage association conventions as well as private mortgage banker and broker companies. He may be reached at (612) 919-3007 or e-mail [email protected].
May 16, 2005
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