Despite writing higher-quality loans in recent years, the mortgage industry is facing an upswing in loan quality risks as it does more purchase loans and fewer refinancings.
The mortgage industry has patted itself on the back over the
Compared to refinancings, purchase transactions are riskier because lenders need to identify an unknown borrower or applicant and an unknown property, said Nick Larson, LexisNexis Risk Solutions' manager of real estate and mortgage. With a refi there is a familiarity with the borrower and property, and so lenders worry primarily about if the new loan's terms are reasonable.
It is difficult to assess the scope of mortgage fraud because it can't be easily measured or defined from a single source of information, said Ann Fulmer, an industry expert on fraud issues. Some measures are derived from pre-closing reviews; others are from post-closing data checks. But trends can be gleaned from looking at all of the data.
"Applications are more susceptible to fraud in the purchase environment because there are more people involved (than with refinancings) and there are a lot more documents involved," Fulmer said. "Our history has shown that people are willing to do and say all kinds of things to get a mortgage to close."
While First American Financial Corp.'s monthly Loan Application Defect Index has been
That is shown in the widening spread between the purchase component and the refi component. The purchase index for October 2013 was 104 and the refi index was 100. For April 2016, the purchase index was 83 and the refi index 64. The index measures the frequency of application misstatements identified in reviews done by the company's FraudGuard product. The index is benchmarked to a value of 100 for January 2011.
"Misrepresentation risk seems to be correlated with economic stress and the markets that we're identifying as having high or fast increasing levels of defects tend to be ones that are dealing with localized distress like the Dakotas and Oklahoma," Fleming said.
Applicants understating their liabilities make up the largest share of the total misrepresentations, at 67% of findings on loan reviews conducted from January 2015 through May 2016, up from 63% for the 2014 calendar year, according to Fannie Mae.
Occupancy misrepresentations was the next largest share at 18%, up from 16%, while income misrepresentations fell to 6% of the total, down from 8%, and applicants overstating their assets increased to 6% of the total misrepresentations, up from 5%.
But occupancy misrepresentation is probably underreported because it is hardest to detect in a preclosing check. If the servicer does see some indicator that the borrower is not occupying the property, it is in "the unenviable position of trying to figure out and reach out to the borrower and say: 'Hey, are you at where you're supposed to be?' That's an uncomfortable conversation to start," Larson said.
Insinuating that the borrower is misrepresenting where he or she is living can be awkward from a customer-service perspective, and expensive. The servicer usually hires a "door knocker" to visit the property, and that could be repeated several times and cost more than $100 each time, he said.
The main worry some have is that lenders are becoming unconcerned about fraud. All of the talk about high loan quality "breeds complacency and complacency is a multiplier when it comes to fraud," Larson said.
Judging from discussions at May's Mortgage Bankers Association National Secondary Market Conference, there is a perception that "fraud has gone away and it's under control and we don't have to worry about it," Fulmer said. "That takes me back to when I first came into this in the mid-1990s, early 2000s, and that was the idea then — 'It's only 1% of originations, no big deal' — so nobody paid any attention to it."
The implementation of the
"Think about all of the changes the industry has gone through in the last three years from a process and a system perspective. The line I like to use is, fraud is like water, it's always going to find that hole and it's going to exploit it," he said, adding "I'm not saying the sky is falling."
And another gap could arise as the industry moves toward an online application process, said Sonya Andreassen, PNC Corp.'s vice president of enterprise fraud management, mortgage. As the mortgage process becomes less face-to-face, lenders need to consider how that will affect fraud risk, identity theft issues, elder financial exploitation and a range of other issues related to knowing their customers.
"Fraud is nimble, it is adaptive and it doesn't play by the rules," Andreassen said. "And so when we have large changes in rules and regulations, the people who are working against us are often a little bit ahead of us."
