Beware of the Short Sale Straw Buyer Scheme
On the radio yesterday I heard that “the officials” were saying that cybercrime and identity theft are up dramatically. They blame it on the weak economy. I guess criminals are getting laid off and taking pay cuts like the rest of us and are therefore putting in some extra hours to make ends meet!
The following is my explanation of sale that I was involved in. I was only made aware of the design of this sale at the closing table and really pieced it together after reading about similar scams in following weeks. This scam did not affect me or my buyer, but as you will read, probably affected the seller and bank. While I am not implying these next people are criminals, their techniques sure don’t smell on the straight and narrow. I have heard the Department of Commerce is looking into it. You can decide for yourself.
Situation:
Buyer/Investor watches the pre-foreclosure lists. He contacts a homeowner on the list (who may or may not be selling his house) to buy their property. Buyer/Investor writes the offer contingent upon the bank approval for a short sale on the house. The homeowner signs docs and/or gives the buyer/investor personal information linked to the loan to negotiate with the bank on the homeowner’s behalf. Sometimes this will be in the form of a power of attorney. Occasionally, the document will not allow the homeowner to even know the details of the short sale.
The buyer/investor will begin negotiating with the bank on the short sale. Typically he does not disclose to the bank that he is also the buyer of the property! In my sale/example, it turns out he was telling the bank that he could get them no more than $75,000 for the property even though the seller had paid $180,000 only 2 years previously. At the same time, other properties in the neighborhood (of the exact same layout, age, and condition were selling for $115,000).
Concurrently, the buyer/investor puts the home on the market looking for a “replacement buyer”. This could be you; it could be one of my customers. In this scenario, they were selling the property through a real estate agent on the MLS for $113,000. They were set at the correct price for that property. The buyer/investor is betting on being able to sell the property to the replacement buyer prior to the short sale falling apart on him. The investor/buyer often has no liability or responsibility to execute on his purchase. He will have lots of contingent fine print that gets him out of the deal if he can’t get the bank to take the short sale or more importantly if he can find the replacement buyer.
Problems:
On the surface, you may be thinking, why is this bad? This buyer/investor is just good at pulling all the pieces together and making money being the middleman. Let’s examine who can/will get hurt:
- Homeowner gets hurt if they waste time with this buyer/investor while the clock is ticking during the redemption period. If the buyer/investor walks, they get nothing but closer to losing their house.
- Homeowner gets hurt as often these buyer/investors are not negotiating in favor of the homeowner with the bank. They can possibly leave the homeowner with a large unsatisfied debt (of the difference between the mortgage and the sale price)-most legit short sale real estate agents will insist that the bank waives any deficiency judgment.
- The selling bank gets hurt as it only receives $75,000 for the property in the short sale when the retail buyer (you or my customer) actually would have paid $113,000 for the property.
- Although the buyer of the property is usually oblivious to this scheme, they can be hurt if the buyer/investor does a double close and leaves chain of title issues These can happen as these buyer/investors will often use a land trust or other legal instrument to hide their identity/liability.
These type of schemes are hard to spot on the buyer’s side of the transaction. All we ever see is paperwork back and forth with names we don’t recognize and situations we are not aware of. As a seller, though, you need to keep your eyes open in this market as new schemes or “creative programs” are popping up all the time.
Hi Scott,
I have also run into this short sale scheme with buyers. I wrote a similar post about these issues with short sales in Minnesota recently. The regulatory bodies are watching. I hope buyers, sellers, and agents are paying attention. Excellent post!
There are no ends to the amount of ways people can fall victim to the creativly criminal.
First, you can’t use a “land trust” since the transfer into anything other than an inter vivos trust will trigger the due on sale clause.
Second, the purchase agreement must CLEARLY STATE that the buyer intends to resell the property, for profit, immediately.
While there are indeed many fraudulent schemes out there involving short sales and trusts, there are also legitimate ones. The companies doing these flips (short sale flips) are using the trust merely to get around the FHA financing seasoning rules, where it is hard to finance a property unless the title has not changed in the previous 90 days. The bank accepts a reasonable price, and the company flipping makes about 5-7% for their trouble, on top of the 5-6% real estate commission that is paid to an agent. In most of the cases where the lender refused the deal, the properties later went to auction with the bank either ending up with another REO or selling the property for substantially less than the amount offered by the flip company.
I don’t see how this is fraud unless the full facts are not disclosed to the seller and to the bank. The ultimate intent is to get the owner out from under the loan, and to get the bank something acceptable. That the flip company gets 5-7% in the middle, that’s business.
The documents (trust agreement, sales agreement, closing instructions) are complex and involve many issues that vary from state to state; if you can show me how the deal is fraud, I’m very interested in hearing what you have to say.
I think the deal was fraud as the investor never disclosed to the bank (when he was negotiating the short sale) that he was ultimately the buyer also (and that he was looking to quickly flip it). Plus, he made $25k on a $100k property (and the agent made her cut). That is beyond the 5%-7% you mention.
Don’t get me wrong, I am a firm believer in capitalism and if you find a better way to do something and get paid for it, all the power to you. This just smelled bad and everything was hidden from both the listing bank and us as the buyer.
I thought this was an irresponsible article. Not because you made sellers aware of a potentially bad situation, but that you didn’t go far enough in your remarks to explain what the “right” way looks like.
We do this transactions all the time, disclosing to banks our intent, AND because we’re selling an approved short sale to the open market we appeal to many buyers who did not want to wait on a short sale, which has tremendous value in itself. You also failed to mention the bank does a BPO and agrees to take the offer, no one twists their arm.
I dont fault you for trying to be a watchdog, but do a better job of explaining the pros and not just the cons. I’m wondering how many sellers saw your remarks and didn’t take a legitmate contract from this “scheme” and went into foreclosure instead.
Thanks for your comment. I have found that 99% of these deals do not disclose the intent to the bank. Why would a bank take your offer if they could get 10% more if it was put on the open market (in a traditional short sale) and the same end consumer bought it? The FBI and Department of Commerce are discouraging these transactions and my broker refuses to allow us to participate in these.
Highly irresponsible article! I know there are scammers out there but most short sale purchasers/sellers are doing it legitimately with proper disclosure.
Show me the CITE! Is this a vague and uninformed attempt at a breakdown of this type of transaction or is this an actual event or series of events?
@Sam-
I agree, 98% of the short sales out there are just fine. I am saying that it is becoming illegal in Minnesota to do a transaction where there is an investor in the middle. The FBI just did a seminar on this and they are watching very closely. Maybe you are OK with it, but I don’t need the FBI snooping around.
Scott,
The only way to do this type of transaction is to DISCLOSE the INTENT to resell immediately for a profit. This disclosure initially takes place in the contract.
You say a couple of posts up that 99% do not disclose their intent. While there may be some who don’t it is the exception rather than the rule.
Agreed. You must disclose it.
Couple items:
Scott,
You stated above “The FBI and Department of Commerce are discouraging these transactions and my broker refuses to allow us to participate in these.”
I think it is irresponsible to state something with regard to what the FBI is discouraging without telling the whole story. There are many forms of short sale fraud. ALL involve some form of misrepresentation whether it takes on the form of falsified hardship, non arms length transactions, straw buyer schemes to hide the fact that the homeowner will retain ownership in the home etc.
A good read from someone who actually talked to the FBI.
http://www.thenorrisgroup.com/blog/radio/157-tng-radio-%e2%80%93-fbi-1-16-10/
A quote from the article.
“The FBI has no problem with a short sale in which the buyer pays for a home and is then able to sell it for a profit. Just as long as the deal did not involve lying…….”
Scott,
So you are saying that if I could show you my contract (sent to the lenders) that clearly states my intention to enter into a contract with a third party with the intent to resell immediatly for a profit you would be ok with it?
I agree. We are saying the same things.
The FBI is looking out for illegal activities around mortgage fraud where it is NOT disclosed that the buyer/investor is actually going to just flip the home for a profit in a double close.
Keep in mind that my customers are investors, they are in the business of making money, so I am not begrudging anyone for making a profit. I am just saying that you want to be sure that you are getting yourself involved in anything illegal or improper. NOT disclosing all the financing facts and details of a transaction to the bank during a short sale can be and has been shown to be mortgage fraud, which the FBI is very interested in these days.
I think the last sentence could also be stated as “Just as long as the deal did not involve [the omission of relevant facts]“, which could be seen as a form of lying.
Scott,
Thanks for your time in answering my retorts
Many agents seem to believe investors fit the definition of straw buyers. This is not true.
A straw buyer is actually someone who will not take ownership in the home but whose name, SS# and credit will be used to obtain a loan/property for someone who would not otherwise qualify for a loan on their own. This leaves the straw buyer in a world of hurt when the owner defaults on the loan and ruins the straw buyer’s credit. This also leads to huge losses for lenders who were misled into loaning money on a false premise.
I can not believe you did not receive many comment on this article. I have written a very detailed post about this topic. Realtors and home sellers really need to pay attention to short sale investor mortgage fraud!
http://massrealestatenews.com/beware-of-the-short-sale-investorshort-sale-fraud/