Housing Boom Tied To Sham Mortgages

Lax Lending Aided Real Estate Fraud

By David Cho
Washington Post Staff Writer
Tuesday, April 10, 2007; A01

ATLANTA -- The man was one slick fraud artist.

Phillip Hill lured people to fancy cocktail parties in a $1.9 million mansion. He asked to use their names and credit histories in real estate deals, promising to make them rich. Most got $10,000 checks on the spot for signing up.

By the time the scam unraveled, the credit of those participants had been ruined, hundreds of upscale properties had fallen into foreclosure and real estate prices had plummeted in some of this city's most exclusive neighborhoods. Hill is about to go to federal prison.

Many experts have concluded that the nation's real estate boom of recent years was fueled in part by weakened lending standards that sparked excessive demand and drove up prices. Now, some are worried that the looser standards may have permitted a boom of another kind -- a big expansion of mortgage fraud.

No one knows exactly how extensive the crime has become, but new data from the federal government suggest that it has jumped tenfold since 2000. Prosecutors are finding cases all over the country in which sham transactions, based on fraudulent appraisals, led to homes changing hands at far above their real value. Mortgage lenders failed to carry out the most elementary safeguards.

In some neighborhoods, mortgage fraud became so extensive that it drove up overall home prices. That is what happened in Atlanta. Hill, 50, was convicted last month in what authorities call one of the biggest mortgage-fraud cases in U.S. history. It involved 400 fraudulent loan applications; nearly $100 million in mortgages; and 120 closing attorneys, appraisers, mortgage brokers and others who prosecutors say were in on the scam.

Federal prosecutors say this kind of fraud is hardly unique to Atlanta -- the lax lending standards that Hill exploited have existed throughout the country in recent years.

In Broomfield, Colo., Gerald Small pocketed $21.5 million and bought two jets after he got bogus home loans using personal information from people who responded to a help-wanted ad; he was convicted. In Kansas City last year, Brent Michael Barber was sentenced to 12 years in prison for paying residents of a low-income neighborhood $2,000 each to use their names in 300 fraudulent loan applications. In Jacksonville, mortgage broker J.R. Parker and closing attorney Dale Beardsley were convicted in 2005 for a fraud scheme in which they netted $14 million in cash, six luxury cars and two $1 million homes.

Federal law enforcement officers say that with heavy demands on them from homeland security, they have had the resources to shut down only the worst offenders.

"By the time we prosecute, the damage has been done, the neighborhoods are already destroyed and the money is gone," said David E. Nahmias, the U.S. attorney who oversaw the Hill case.

In Atlanta, entire neighborhoods and condominium developments, especially those in affluent areas, were hit by organized fraud rings. Initially, these schemes pumped up housing values for everyone as artificially high appraisals helped the swindlers get inflated loans. Legitimate home buyers rushed in to get a piece of what they thought was a soaring real estate market. Now as the fraud is being exposed, their home values are taking a hit.

As more of these cases come to light around the nation, the question is: How much did an epidemic of fraud contribute to the frenzied housing market of recent years?

Liar Loans and Straw Buyers

Thirty years ago, most Americans got their mortgages at a savings-and-loan association from bankers who obeyed conservative lending rules. But sweeping changes in the finance world have created a far different system. It has helped raise homeownership to record levels, but many real-estate professionals say it also has led to far looser lending standards.

Nowadays, instead of poring over paperwork for weeks, lenders often verify loans through electronic underwriting programs in which numbers can easily be tweaked. About 70 percent of Americans get their home loans from independent mortgage brokers, many of whom are paid bonuses for pushing higher-interest loans.

Close to 90,000 brokers have joined the profession since 2000, according to Wholesale Access, a research firm in Columbia. The field is lightly regulated. Eighteen states do not require criminal checks, the Conference of State Bank Supervisors reports. Undoubtedly, most mortgage brokers are honest, but some have played central roles in recent fraud cases.

The housing boom brought another change. Mortgages are no longer held for long by banks but are packaged together as massive bonds and sold on Wall Street. Propelled in part by demand for these bonds, companies began offering loans that required little or no documentation of borrowers' income.

These "stated income" loans were designed for a limited purpose: giving self-employed people a crack at homeownership. But during the boom, the number of such loans exploded to the point that they became a running joke in the industry, earning the nickname "liar loans." Estimates vary widely, but research suggests that they made up a significant portion of all mortgages during the boom -- 58 percent in a study by First American LoanPerformance.

Mortgage lenders in theory have a right to compare loan documents to a buyer's tax returns, but they rarely do. In the few cases where it has been done, results were startling. In a study published by the Mortgage Asset Research Institute, one lender sampled 100 stated-income loan applicants and found that 90 had exaggerated take-home pay by 5 percent or more and that nearly 60 inflated their pay by more than 50 percent.

Mortgage originators often neglected extensive document verification because it slowed loan approvals. "Everyone in the mortgage industry is trying to approve loans faster than their competitors," said James Croft, founder of MARI in Reston. "They all offer the same basic rates and the same basic mortgage products. But if I can get the loan faster, that gives me a competitive advantage."

Many industry experts say stated-income loans became an invitation to fraud, while mortgage brokers -- paid commissions to put loans through, not slow them down -- often looked the other way.

In this climate, industry people say, fraud of two types became easier.

In the first type, known to law enforcement as "fraud for housing," people lied on their mortgage applications to get into homes they otherwise could not afford. Even on a loan where the buyer is asked to provide no proof of income, lying about it on the application is a federal crime.

A more insidious type -- "fraud for profit" -- also spread. Involving scam artists taking advantage of the looser standards, many of these schemes drew in corrupt appraisers willing to overstate the value of properties, "straw buyers" who were paid to lend their names and credit histories to a transaction, and closing attorneys who kept banks in the dark.

The growth of mortgage fraud has outpaced other types of financial crimes, the Treasury Department reports. From 2002 to 2004, mortgage fraud reports nearly doubled each year. Over that period, mortgage fraud convictions by federal prosecutors fell.

The Treasury Department received a record 37,313 mortgage fraud reports in 2006, 10 times more than in 2000. But the true incidence is almost certainly higher because the government gets reports only from regulated institutions, not including the nation's 53,000 mortgage-broker firms.

"Nobody wants to go in there and expose how big this is," said Chris Klein, a finance manager at Howard Hanna Mortgage Services, a Pittsburgh mortgage broker, echoing the comments of several brokers around the country. "In the industry as a whole, it's a running joke. If you want to get a loan done, any loan, you can get it done."

Hill's 'Business Model'

Phillip Hill allegedly ran small-scale frauds in Florida and elsewhere for years, and he was caught and convicted in one case. But when he arrived in Atlanta in the late 1990s, that past was invisible. It is now apparent that he came to town with big plans.

Described as soft-spoken but charismatic, Hill broke into the city's elite circles by throwing lavish parties at an estate a few blocks from the Georgia governor's mansion. Influential people began coming to him for their housing needs. Hill rented homes to several prominent Atlanta figures, including Robert L. Nardelli, the former chief executive of Home Depot.

Prosecutors said Hill and his accomplices sought short-term loans from friends and associates, including business leaders and professional athletes. The ring bought homes, then transferred them to straw buyers Hill had recruited. Using inflated appraisals and other doctored papers, the group took out big mortgages that allowed it to repay the short-term loans and pocket hefty sums.

Some home prices were inflated by 100 percent or more. One estate was pumped from $1.9 million to $5.5 million in two weeks, according to court documents. Hill's personal take from the scheme is estimated at $14.5 million, prosecutors said.

Prosecutors think most of the straw buyers, some just college students, did not know what Hill was doing with their names and credit histories. Several later testified that Hill's attorney flipped through loan documents so fast at closing that they hardly read what they were signing. Most apparently thought they were becoming the owners of homes Hill would maintain and rent out to make the monthly payments.

In truth, neither happened. Most homes fell into disrepair. Others were stripped of their appliances and fixtures, including the mansion where Hill hosted his cocktail parties. As the scam unraveled, more than 300 homes fell into foreclosure.

Mortgage lenders later acknowledged that they failed to perform basic checks into hundreds of Hill loans. They estimated their losses at $41 million. Some of that will be absorbed by Fannie Mae and Freddie Mac, the huge government-created housing corporations in Washington that help package home loans into bonds for sale on Wall Street.

At trial, defense attorneys argued that Hill was unaware that his "business model" was against the law and that his underlings doctored loan applications without his knowledge. The jury did not buy it. On March 14, Hill was convicted of 166 counts of fraud and money laundering. He has not been sentenced, but after the verdict, Judge Thomas W. Thrash said Hill "is looking at spending the rest of his life in prison."

Hill's attorney, Bruce H. Morris, said his client maintains his innocence and plans to appeal.

Nine accomplices, including appraisers, real estate agents and closing attorneys, were convicted. Thirteen others pleaded guilty. Many straw buyers saw their credit ruined.

Hardest-hit by the scheme were honest homebuyers. Mortgage fraud experts estimate that Hill's scam, and others like it, have put several thousand homes into foreclosure, driving down values.

Bill Cleary was one of the first to buy a condo in Deere Lofts, in a bustling area in downtown Atlanta. He was lured by the amenities -- hardwood floors, high ceilings -- as well as advertisements glamorizing the area. In 2001, he paid $213,000 for a two-bedroom unit.

Then Hill bought 40 units at a discount from the builder and started flipping them for about $400,000. The non-Hill condos left on the market were quickly snatched up.

But all of Hill's units ended up in foreclosure. Because Hill stopped paying homeowner dues, the condo association nearly went bankrupt and the building went downhill. Three years after Cleary bought his place, comparable two-bedroom units were selling for $130,000. "All of the promises they made went up in smoke," Cleary said of the developers.

Anne Fulmer's neighborhood, in Atlanta's affluent northern suburbs, has been hit by four mortgage fraud rings since the late 1990s.

The scams motivated Fulmer and others to form a coalition of prosecutors, police, homeowners and real estate agents to fight back. The Georgia Real Estate Fraud Prevention and Awareness Coalition got a tough mortgage-fraud law through the state assembly.

In national surveys, Georgia has been identified as a fraud hot spot. But Fulmer says that is because people there have become so aggressive about identifying the problem. She says she wonders how many homeowners across the country bought in neighborhoods where values were driven up by fraud but don't know it yet.

"It happens everywhere and anywhere," said Fulmer, who is now vice president of Interthinx, an anti-mortgage-fraud company. "If the true scope was discovered, I think it would cause a major crisis."