Affordable Housing Institute : US

Yesterday’s exploration of the house-buying scheme designed to defraud a too-eager lender, in the form of Bear Stearns Residential Mortgage, chronicled how a small ring of sharp characters posed as all of the stakeholders in the home-buying value chain – borrower, originator, appraiser – to secure inflated mortgages on properties for which they were paying considerably less.  How could such sophisticated investment bankers wind up losing so much money?

“The author of the best-selling Driven, a guide to compulsive behavior, gave her fortune away – to some con man?”

 

In the wake of their downfall, debate has been intense about how such an unaccomplished group could defraud top-tier financial institutions out of millions.

 

Prosecutors call the scheme sophisticated, noting its reliance upon forged and falsified documentation.

 

Lenders agree. Bear Stearns says the scheme evaded its antifraud efforts by supplying false information at every step of the application process. “We as an industry cannot eliminate fraud entirely,” Tom Marano, head of mortgages and asset-backed securities for Bear Stearns, said in a statement about the Atlanta ring. “We can and do continue to develop systems and detection techniques that evolve with the complexity of criminal schemes.’”

 

“We all gotta live in an imperfect world.”

 

Mike: Oh, you’re a bad pony. And I’m not gonna bet on you.

 

These indictments were handed up in April, 2006, a year and a half ago.  Yet apparently they made no impression on the securitizers’ lending practices or financial controls.

 

During its first full year of business in 2006, Bear Stearns Residential Mortgage originated 19,715 mortgages for a combined $4.37 billion, according to data compiled by the Federal Reserve and analyzed by The Wall Street Journal.

 

Bear Stearns Residential Mortgage rejected about 13% of applications, compared with an average denial rate of 29% nationally, according to the Fed data. Bear Stearns says that it had a lower denial rate because all of its applicants had already been screened through its “on line pre-qualifying” site before they submitted a formal application.

 

When you’re late to the party, you gobble the appetizers.  And when you think you’re smarter than everybody else, you can rationalize almost anything. 

 

Since the scheme, Bear Stearns says it has enhanced its monitoring of payouts listed on closing statements. BankFirst stopped issuing residential mortgages altogether, citing the declining market.

 

“We’ve had fun.  You must say that.”

 

But others contend that the Atlanta case illustrates the recklessness with which lenders were issuing mortgages in recent years. “This case should have been an indictment of the mortgage industry,” says Patrick Deering, an Atlanta defense attorney involved in the case.

 

In an eye-opening setback for prosecutors, Mr. Deering and other defense attorneys successfully defended three home builders against charges that they had participated in the scheme.

 

But some defense attorneys went on the offensive and attacked lenders for failing to guard against fraud. Particularly illuminating was the testimony of Lucy Lynch, a former vice president of mortgage operations at BankFirst.

 

“Fraud was not really a consideration in our world,” Ms. Lynch testified, according to a trial transcript.

 

“Now you’ve got to take some money from me.  I want you to take it.”
“Save your money, Joe.  Semper fi.”

 

Mike: You’re not miffed at us, are ya?

 

Ms. Lynch said the bank relied on an outside “loan officer” at a reputable mortgage broker to serve as its “eyes and ears” in the real-estate transactions. As it turned out, that person was indicted as part of the fraud ring.

 

In any long con, everyone but the mark is part of the con.

 

How do you know he’s really dead?

 

Ms. Lynch stressed that the bank took measures such as running all loan applications through a software program designed to detect fraud. “And things that didn’t seem quite right, an underwriter could quickly pick those things out,” Ms. Lynch said, according to a trial transcript. “So as far as having an actual policy or procedure around fraud, we didn’t think it was necessary, quite frankly.”

 

What about now?  Is it necessary now?

 

Dr. Margaret Ford: You took my money.
Mike: How naughty of me.

 

“You took me under false pretenses.”

“Well, that’s just what happened, isn’t it?”

 

When there ’s a huge imbalance between the amount of money crossing someone’s desk and the salary of the person reviewing the money flows, there is always potential for exploitation. 

 

Asked in court why the pattern of payouts didn’t raise any red flags, Ms. Lynch responded: “Do you have any idea how many loans came into BankFirst during that time period?” She said BankFirst typically allowed a “15-minute window” from the time it received closing documents by fax to the time it released the loan proceeds to the borrower.

 

If the sums were smaller, the reviewers might be suspicious, but numerical size dulls the sensitivities:

 

A total of $4.9 million in loans from BankFirst were used by the Atlanta fraud ring. In some cases, the bank gave its blessing to closing documents that showed unexplained payments of hundreds of thousands of dollars to obscure companies that turned out to be owned by the fraudsters. On three different Atlanta-area homes over a three-month period starting in late 2005, closing documents approved by BankFirst showed large payouts to the same companies.

 

Ms. Lynch said the bank assumed that the cash was going to subcontractors for construction work. But the bank never asked for invoices. In an interview, Ms. Lynch says the bank was primarily checking to make sure the borrower wasn’t being charged any additional fees or debt.

 

Consumer protection run amok.  What about protection from the consumer?

 

“We didn’t do anything different from the rest of the industry,’ she said -

I feel all better now.

 - adding that she believes her testimony helped convict three perpetrators of the fraud - two borrowers and a real-estate agent who helped lead the ring. 

Mike: You say I acted atrociously. Yes. I did. I do it for a living. 
 
“You were gonna con me out of my money.”
“It was only business.”
“Only business.”
“It was only business, huh?”
“It’s the American way.”

Bear Stearns says falsified income and asset documents are difficult to detect “if they are part of a sophisticated fraud ring.” In the case of the $1.8 million loan that Bear Stearns issued to Mr. Wright, the New York telephone worker, the company says it verified Mr. Wright’s employment and assets.

But Mr. Wright’s attorney, Mr. Secret, says, “Bear Stearns certainly couldn’t have verified any of the assets or any of the money. It simply wasn’t there.”

 

“I gave you my trust.”
“Of course you gave me your trust.  That’s what I do for a living.” 

Some banks victimized by the Atlanta ring say they depended in part on a party called the closing attorney to protect their interests. But often, lenders neither choose nor pay for the closing attorney: The buyer does. In this case, the closing attorney was part of the fraud ring. The 58-year-old lawyer, Raymond Costanzo Jr., known in the ring as “Uncle Joe,” signed off on several fraudulent sales, and collected $250,000 from the scheme, the indictment alleges. In 2006, Mr. Costanzo pleaded guilty to bank fraud and is awaiting sentencing.

Just remember, in a good con, there is no straight man — everyone’s in on it.  So if you want to participate in a securitization, make sure there is at least one irreproachably honest entity or person on whom you are relying.  Otherwise it could all be a very, very long con.
In documents we trust?
  

Mike: What I’m talking about comes down to a more basic philosophical principle: Don’t trust nobody.

 

 

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