Short Sale Scammers Take Advantage of Weak Housing Market

Short sale fraud was a rarity in the once thriving housing market, but today as beleaguered homeowners increasingly turn to short sales to get out of their underwater mortgages, short sale fraud is alarmingly on the rise.

According to Robert Hagberg, an investigator for the mortgage giant Freddie Mac, pulling off one of these scams usually involves a real estate agent and an investor acting as a "straw buyer." Sometimes, the owner of the home is involved as well, but not often. Last year, half of all fraud investigations for mortgage companies like Freddie Mac were associated with short sales.

The scam artists secure a legitimate bid to buy an “underwater” home, and then arrange for an accomplice investor to make a lower offer on the same home.

The agent then presents the lower bid to the mortgage lender and asks them to forgive any remaining balance owed -- without disclosing that there is a higher offer to buy the home. Once the short sale is approved, the scammer then sells the home to the higher bidder, often on the same day.

"These same-day resales are on average nearly $50,000 greater than the lender agreed upon short-sale price," said Tim Grace, a senior VP at CoreLogic, a financial analytics company. "In most instances, the sellers are apathetic; they've, basically, already lost their homes," he said. With nothing to gain or lose, the distressed homeowners allow agents to handle the entire deal.

13% of all existing homes sales are short sales, according to the National Association of Realtors. These fraudulent transactions are expected to cost mortgage lenders more than $375 million this year, up more than 20% from last year.

To get the banks to approve the low bids, these scam artists have also been known to manipulate appraisers or brokers’ opinions and misstate the home's location so it's compared with much cheaper neighborhoods.

One example of agents manipulating appraisers to reduce the home value is of an agent in Wisconsin who left the windows open during rain storms and flooded the basement. The agent told the appraiser the plumbing burst and would need expensive repairs. All it really needed was a pump.

Another example of fraud involves an expensive Malibu, California property that an agent said was in Riverside, Calif. "It didn't cause any alarm bells to go off at the bank," said Grace. "The short sale went through at $200,000, which was a fifth of its value. It was turned around for $1 million."

Beyond the direct losses to the banks, short sale fraud ultimately hurts homeowners. Because these frauds have become so common, it is becoming more difficult for legitimate short-sale transactions to go through. That impacts sellers because it forces more of them into foreclosure. The frauds "defeat why we do short sales in the first place," said Hagberg.