June 22, 2006: Holy housing bubble! The U.S. Department of Housing and Urban
Development (HUD) is finally cracking down on fraudulent mortgage
flippers. Flipping is the quick (within a few months, weeks, days
or even hours) turnover of property, with the resale price far
exceeding the purchase amount. Not all flipping is illegal. The
crooked kind involves a variety of fraudulent practices, most
typically perped in repeated instances by industry professionals
acting in collusion. Though illegal flipping occurs in upscale
urban and suburban areas, it hits inner city neighborhoods the
hardest. Leaving behind swaths of foreclosed properties ripe
for drug crime, slumlords, and further mortgage frauds. And
while facilitated by policies and programs aimed at expanding
homeownership opportunity, flipping helps turn affordable
borderline neighborhoods into inflated unaffordable slums.
The classic urban flip goes like this: corporate or non-profit
entities, at times working with local governments, obtain
properties for peanuts in low income neighborhoods. Sometimes
they rehab, sometimes not. Rehabs are typically cosmetic. (There
have been cases where houses were painted, but sewer lines left
unconnected.) Appraisers inflate property values. Realtors,
closing attorneys, et al, grease the process. Straw buyers are
paid to pose as qualified purchasers, using phony proof of
income, assets, etc. After an inflated loan is obtained, they
decamp. The property slides into default. Some buyers recruited
by flippers are merely naive. They sincerely want homes-- even if
they fudge qualifications or take kickbacks. These buyers get
stuck with a king size mortgage on a poor condition property and
spiral into debt. On the way down, they can be tapped for a few
rounds of refinance fraud or a foreclosure rescue scam.
Among other possible players in flipper fraud rings are mortgage
brokers who set buyers up with lenders. And lenders themselves.
Once upon a time, lenders were less likely to be involved in
mortgage fraud. Since defaults based on inflated appraisals would
bounce back on banks. But a lot has changed since ye old days.
Now mortgages are bundled into securities and sold to investors.
By the time bad loans sour, they've been balanced by the larger
percentage of good ones. Freedom from blowback allows banks to
grant more mortgages, with higher levels of risk. Thereby
expanding homeownership opportunity. The largest marketeers of
mortgage backed securities are the government sponsored entities
(GSE) Fannie Mae and Freddie Mac. Though lately their clout
has been diminishing.
A GSE is a strange bird. Neither government agency, nor free
market enterprise. But as "government sponsored" suggests,
resting on an implicit promise of taxpayer back-up. By 2002,
Fannie & Freddie were moving roughly two thirds of the
residential mortgage market. But beneath no-fail facades, both
were having problems.(As example, in 2003, Fannie Mae was found
to be juggling earnings from year to year to present a more even
picture of profits.) GSE reform has become a perpetual topic in
Washington. Legislative action re tighter control of the GSEs is
bobbling around in the Senate.
Over the years, some reformers advocated ending the GSEs'
privileged, government sponsored status. Others thought oversight
of the GSEs should be shifted to the U.S. Treasury Department.
Away from their current watchdog-- the Office of Federal Housing
Enterprise Oversight (OFHEO). OFHEO is an agency within HUD.
When problems at Fannie and Freddie first surfaced, OFHEO was
characterized as asleep at the wheel. Faced with the threat of
losing its GSE connection, OFHEO started spitting out scathing
reports about GSE malfeasance. The most recent being a June 15th
report castigating Fannie Mae's "arrogant and unethical
corporate culture". OFHEO's recommended reforms include
expanding OFHEO control over GSE policy.
Also under HUD's umbrella is the Federal Housing Administration
(FHA). FHA backed mortgages, which are intended to help low
income buyers, require small down payments and have less
stringent income standards. When an FHA mortgage defaults, the
FHA insurance fund reimburses the bank. But in this age of exotic
mortgages that require no down payment or proof of income, FHA
mortgages have become less attractive. Due to various fees
(sometimes called predatory) exotic mortgages are very profitable
for lenders. However, there's a move to restore FHA loans to
their former prominence in the affordable market. The National
Realtors Association, among other groups, is pushing for the FHA
to reform by dropping its last few lending standards.
The Long Green Years
In March, 2001, former HUD Inspector General Susan Gaffney warned
the House Subcommittee on Housing and Community Opportunity,
that illegal flipping was becoming a major problem in inner
city neighborhoods, and criticized the mission creep which she
believed made HUD unable to sufficiently police its core
programs. She also expressed concern for the future of the FHA
insurance fund. Gaffney's concern for the fund may have been
misplaced. As realtors apparently realize, taxpayers can't
default. But Gaffney's take on the destructive impact of
flipping in inner city neighborhoods was right on target.
Later in 2001, Senator Susan M. Collins, Chairman of the
United States Senate Permanent Subcommittee on Investigations,
characterized the federal government as having "essentially
subsidized" much of the mortgage fraud in the nation's cities.
Her observation is included in the 09/25/01 Committee on
Governmental Affairs document "Property Flipping: HUD's Failure
to Curb Mortgage Fraud.
By December, 2005, the FBI was declaring that an epidemic of
mortgage fraud was sweeping the country and that they, in
concert with the IRS, the Department of Justice, the U.S. Postal
Inspection Service, and HUD's Office of Inspector General had
launched "Operation Quick Flip".
In July of this year HUD's new anti-flipping rules, which have
been in the pipeline for several years, will go into effect. The
FHA will no longer finance loans on homes sold within 90 days of
purchase. If a seller moves a property between 91 and 180 days
following acquisition, and the sales price is 100 percent or more
than the original purchase, a second appraisal must be obtained.
Other tuff measures are included in the rules; most worded so as
to make enforcement a matter of HUD discretion. There are also
some notable exceptions as regards the actual restrictions.
Among the roster of the exempted, are non-profit community
housing development organizations (CHDOs) approved by HUD to buy
HUD homes. However, only CHDOs (pronounced Chee-doughs) acting
under HUD scrutiny will be allowed to beat the resale clock.
While HUD acknowledges that many CHDOs have furthered home
ownership opportunities, not all CHDOs "receive the level of
oversight HUD believes is necessary to exempt this category
of housing provider."
Also on the restriction-free list are non-profit organizations
marketing HUD homes in HUD's Single Family Property Disposition
(SFPD) program. Plus non-profit entities approved to utilize
HUD's Discount Program to provide affordable housing to low
income people. The list goes on and on to include local or state
housing agencies, state licensed and federally chartered lenders,
FHA approved lenders, HUD itself and oh yes-- the GSEs. Despite
OFHEO's critiques, Fannie and Freddie won't be voted off the quik
resale island. HUD believes that "state and federally chartered
financial institutions, and the GSEs, are highly regulated or
supervised by state and federal agencies and do not engage in
Let's see. Who does that leave at the helm of the flipper ship,
cringing beneath HUD's onerous restrictions? Merely the handful
of sleazy, free-lance real estate professionals responsible for
the nation's mortgage fraud epidemic. Never have so few done so
much! Stay tuned. As the housing bubble deflates, their villainy
will become more apparent. As will the impact of their actions
on federal taxpayers, the last buyers into the pool of inflated
affordable housing, and dwellers in low income neighborhoods
deep in the heart of Flip City.
Carola Von Hoffmannstahl-Solomonoff
Sources include but are not limited to:
Statement of the Honorable James B. Lockhart III, Acting
Director, Office of Federal Housing Enterprise Oversight On
OFHEO's Report Of The Special Examination of Fannie Mae Before
The Committee On Banking, Housing, And Urban Affairs, U. S.
Mortgagee Letter 2006-14, "Property Flipping Prohibition
Amendment," U. S. Department of Housing and Urban Development,
Prohibition of Property Flipping in HUD's Single Family Mortgage
Insurance Programs; Additional Exceptions to Time Restrictions On
Sales, U. S. Department of Housing and Urban Development,
Mortgage Fraud Operation "Quick Flip", Federal Bureau of
Investigation Press Release, 12/14/05
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