Commentary by Ralph R. Roberts
RISMEDIA, Feb. 7, 2008-The funny thing about real estate and mortgage fraud is that it never stops, even when market conditions change dramatically. When housing prices were skyrocketing and mortgage loans were readily available, the money grab was in high gear. Inflated appraisals seemed to be a moot issue, because everybody was convinced that values would eventually catch up.
Now that the housing bubble has burst, you would think that the fraud would slow down, but it has simply taken other forms. Builders, developers, real estate agents, and other professionals who have grown accustomed to making a good living off of the real estate market are feeling the pain. As housing values sink, sales taper off, and the commission per sale takes a hit. In short, professionals are selling fewer homes and receiving smaller commissions per sale.
Out of these conditions, other types of fraud are becoming more prevalent. More and more builders and developers are offering “perks” to buyers and financing those perks out of the proceeds from mortgage loans that the buyers take out. These perks take on many forms, including:
– Cash back at closing: A lump sum cash payment that the buyer receives at closing, which acts as a sort of rebate on the purchase.
– Lease-back payment: An investor purchases a rental property and the developer agrees to lease the property back from the investor for one to two years while the property is being developed.
– Option-to-buy payment: The seller agrees to pay the buyer for an option to buy back the property and really has no intention of ever buying back the property.
– Secret fund payments: Instead of paying the money directly to the buyer as cash back at closing, the money is placed in escrow to be paid at some other time or in installments.
Con artists are constantly coming up with new schemes that make these cash back at closing deals appear to be legitimate. I know of one developer that was offering lease-back payments to investors until people began questioning them about it. To hide what they were doing, instead of paying the investor the lease-back payment as a lump sum at closing, the money was placed in escrow, and the escrow company made monthly lease-back payments to the investor. In other words, they just added another step to the process to further launder the money. The fact is that no matter what you call it or how you try to hide it, these arrangements constitute cash back at closing and are illegal.
More and more builders and developers and their sales reps are using cash-back at closing to maintain the status quo in two ways:
– Promote sales: When sales taper off, builders and developers stand to get stuck holding property as the competition heats up. Many prospective customers are not interested in these properties until they have a cash-back carrot dangled in front of their noses.
– Keep housing prices inflated: In market downturns, housing prices naturally fall according to the laws of supply and demand. This is not necessarily bad – it makes housing more affordable and gives investors opportunities to buy low. It does hurt builders, developers, and those who sell real estate, however, because it decreases the commission or profit per sale. To keep property prices artificially inflated, some builders and developers and their sales reps are selling properties at inflated prices and then offering cash-back rebates. These inflated prices are then used by appraisers to value comparable properties, artificially inflating housing prices throughout the area.
My attention was recently drawn to a case in which real estate professionals, apparently driven by greed, were involved in cash back at closing schemes designed to stimulate the sales of newly developed properties by providing buyers with tens of thousands of dollars in rebate payments per transaction at closing.
To further hide what was really going on, the people involved in this scheme adjusted it so the cash back would not be paid as a lump sum but paid out in installments in the form of guaranteed rental payments. They also used the option-to-buy tactic as a way to hide cash back payments to some investors.
This allowed the developer to artificially inflate the value of the properties it was selling. Although prices for comparable properties in the same market were decreasing due to market pressures, the prices of this particular developer’s properties increased! The developer was then able to advertise that properties in the development were appreciating significantly. Investors were completely unaware that the appreciation was manufactured – the product of smoke and mirrors.
As a real estate professional, I am always looking for ways to stimulate sales, and I like to see a healthy market in which housing appreciates. The more demand we have for housing, the more homes I can sell and the higher my commissions. But offering cash back at closing perks to stimulate sales is no way to do business. It causes tremendous damage to our industry and contributes significantly to the deepening of the current mortgage crisis. People who make a living off of this industry should know better. The fraudsters may benefit over the short term, but they are causing long-term damage for everyone.
Ralph Roberts is a real estate fraud expert and activist and co-author of Protect Yourself from Real Estate and Mortgage Fraud: Preserving the American Dream of Homeownership (Kaplan, August 2007). You can contact Ralph at RalphRoberts@ralphroberts.com or by calling 586.751.0000.