In the run-up to the financial crisis, fraudulent appraisal schemes ran rampant in the housing industry, eventually leading to the complete overhaul of the property appraisal system and the rise of appraisal management companies.
In many cases, property appraisals were dramatically overstated as part of schemes to extract more money from lenders, and by extension, Fannie Mae and Freddie Mac.
As it turns out, schemes like that have not been completely forced out of the industry.
In fact, they appear to be alive and well, at least in one corner of the industry, prompting one government watchdog to issue a stern warning to the housing industry.
In an industry alert published Monday, the Office of the Inspector General for the Department of Housing and Urban Development said that it has identified instances of fraudulent property appraisals being used to increase the loan amount for the refinancing of HUD’s Home Equity Conversion Mortgages.
According to the HUD-OIG, its investigators have uncovered fraudulently overstated appraisals being used to qualify senior borrowers for HECM refinancing.
The HUD-OIG report shows that its agents have identified indications of fraud in hundreds of HECM loans over the last several years. The HUD-OIG report shows that its analysis of appraisals revealed appraised values fraudulently inflated by 60 to 100% or more above actual market values.
Citing these identified issues, HUD-OIG issued a warning to appraisers, loan officers, originators and sponsors that those who engage in fraudulent HECM transactions will be targeted for criminal, civil prosecution, or administrative sanctions “as appropriate.”
According to the HUD-OIG, its investigators analyzed over 5,000 HECM refinances over the last several years.
“An initial analysis shows that a small group of HECM originators is responsible for a large percentage of potentially fraudulent HECM refinances, generally within relatively small geographic areas,” the HUD-OIG report states.
“Analyses of these refinances revealed one of the hallmarks of mortgage fraud: unexplained, large increases in appraised values in a relatively short period of time,” the report continues. “HUD OIG’s preliminary investigations have revealed HECM appraisals where appraisers claim the property values have increased by 60 to 100%, while other properties in the area are appreciating only 3 to 4%.”
According to the HUD-OIG, there are several parties potentially harmed by inflated HECM appraisals.
The HUD-OIG states that the FHA insurance fund, which actually reached its Congressionally mandated threshold of 2% earlier this year, is at risk of increased losses due to fraudulent appraisals.
And with much of the 2015 increase in the Mutual Mortgage Insurance Fund being driven by the HECM program, the FHA’s fund is at even greater risk.
The HUD-OIG also states that investors in the secondary market are also victims of these refinancing frauds.
“Investors pay premiums to purchase HECMs, based on expected terms and interest rates,” the HUD-OIG report states. “When the borrower’s original HECM is paid off early because of a fraudulently refinanced HECM loan, investors may lose money on the investment. Early payoffs from refinancing may negatively affect the prices that investors will pay for originated HECMs. To account for possible losses from refinances, investors may reduce the premiums they will pay when purchasing HECM mortgages.”
So who benefits from the inflated appraisals? According to the HUD-OIG, it’s several HECM originators who refinanced HECM loans using fraudulently overstated appraisals. And those originators are likely to be on the receiving end of a HUD-OIG investigation, if they’re not already.
HUD-OIG also said that it identified sponsors connected to large groups of the fraudulent mortgages. Loan officers, originators, and sponsors all stand to increase revenues from refinances, the HUD-OIG said.
“Analyses of these potentially fraudulent refinances show that originators are using just a small group of appraisers who earn fees for producing inflated appraisals,” the HUD-OIG stated, identifying another potential target.
“OIG intends to investigate and refer for prosecution unscrupulous appraisers, loan officers, originating lenders, and sponsor lenders that foster this activity,” the OIG stated.
“Underwriters should carefully scrutinize appraisals and appraisal comps on all HECM originations, and particularly on HECM refinances,” the report continues.
“Look for fraud indicators, such as a large increase in value over a relatively short period of time from the original HECM, changes in property descriptions, including square footage and neighborhoods, appraisal comps located relatively far from the subject property (particularly in urban areas), and the same appraisers or small group of appraisers being used by originators on refinances,” the report states. “Underwriters are reminded that they are responsible for being familiar with geographic areas in which properties are located and should question appraised values if they are out of line with the market.”