Mortgage Fraud

NOTE: If you wish to report a fraud, please use our Reporting Fraud service.

What the Law Society is Doing to Reduce Mortgage Fraud

By Don Thompson, QC, Executive Director, Law Society of Alberta (from May 2009 Advisory)

To combat mortgage fraud, the Law Society of Alberta is facilitating the following:

  • Continuously evolving internal risk management processes to identify potential high-risk members and/or conduct patterns on a proactive basis to mitigate negative impacts
  • Providing information to lawyers through the EBulletins and Advisory publications on emerging mortgage fraud risks
  • Reviewing the Rules and Code of Professional Conduct and related guidelines on an ongoing basis to determine what changes may be needed to clarify the lawyer’s proper role in real estate transactions
  • Monitoring best practices in other jurisdictions

Since a large portion of mortgage fraud involves misrepresentations about the identity, credentials or standing of various individuals in the mortgage loan process, the newly strengthened "Know Your Client" rules should help to reduce mortgage fraud.

Mortgage fraud is an industry-wide problem and can happen at any step of the transaction, so the Law Society collaborates with other professional groups, institutions and organizations involved in the real estate industry to improve fraud prevention, education and due diligence at all points in the process. This work includes liaising with law enforcement agencies, The Real Estate Council of Alberta, lenders, and government departments and agencies to strengthen our collective response.

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Mortgage Fraud Emerging as Serious Issue

By Doug McKenzie, Investigator, Law Society of Alberta (from May 2009 Advisory)

Mortgage fraud has emerged as a serious issue in recent years and published estimates show it is costing lenders and insurers billions of dollars in losses in both Canada and the U.S.A. Together with investment scheme frauds, mortgage fraud presently tops the list of concerns facing the Law Society and the Alberta Lawyers Insurance Association.

Mortgage fraud did not evolve during the most recent real estate boom, but has grown as a byproduct. Several factors have contributed to its growth:

  • Opportunities presented by rising markets: Real estate values in recent years have led some individuals to attempt purchases without adequate resources to pay for the investment. Hoping for continuing increases in property values, investors have speculated on real estate, and some have falsified applications to obtain multiple properties.
  • Depersonalization of the process for buying real estate: Lenders have been accessed without the requirement to meet anyone in person or to have an established business relationship. Money and title documents have been transferred electronically, and property appraisals have been based on computer models.
  • Easier access to information about properties and homeowners: Electronic access to the land registry system has made it easier to access information about registered real property, creating opportunities for new forms of mortgage and identity fraud.
  • Increased competition and increased pressure to close deals: More lenders and increased competition significantly reduced barriers to borrowing money. Credit standards were frequently lowered, and documentation requirements were either relaxed or not inspected when transactions were occurring at a frenzied pace. Traditional safeguards, such as hiring a lawyer, were sometimes seen as hindering the speed and cost-effectiveness of closing a deal.
  • Increasing sophistication and boldness of fraudsters: Fraudsters jumped at these opportunities, in many cases initiating multiple fraudulent activities, hoping that loan irregularities would be lost in the volume or hidden by a profitable sale on the collateral. The electronic age has facilitated information sharing among fraudsters with the result that illegal activities adapt almost as fast as methods designed to prevent and detect them.

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Types of Mortgage Fraud

(from May 2009 Advisory)

Identifying various mortgage fraud schemes enables the Law Society to identify and examine improper conduct. It leads to measures to prevent frauds from occurring and/or reduce their impact.

Value Frauds

In these types of schemes, the value of the property or income of the borrower is artificially overstated to deceive the mortgage lender. This may be done in one of several ways including:

  • “flips”, where one or more superficial transfers of title are used to rapidly increase the apparent value of a property. Fraudsters in such schemes often do one or more of the following
    • use “straw” buyers (persons paid to act on behalf of the fraudster and whose name and credit is used for title transfer mortgage application purposes)
    • collude with personnel at a lending institution, mortgage broker, lawyer’s office, and/or appraiser
    • target or work within certain ethnic or cultural circles
  • misrepresentation of the original purchase price (e.g. through vendor cash-back provisions) or of the revenue potential of income-producing real estate (e.g. cash-outs on commercial property).
  • approaching multiple lenders simultaneously for loans on one property (i.e. “shotgunning”), representing to each lender that the property has substantial unencumbered equity. Another tactic is to approach multiple lenders simultaneously for loans to one individual (i.e. “chunking”), in excess of the debt service capability of that individual. The Law Society has seen at least one instance of this type of scheme.

Private Mortgage Financing Frauds

In these schemes, mortgage financing is raised by “private offerings” in which investors are promised high returns on real estate properties or projects (e.g. condominiums). The returns are allegedly made possible because the managers of the scheme claim to have, in the case of:

  • new projects: the ability to acquire, construct, and sell real estate developments at substantial profit
  • foreclosure acquisitions: special access to acquire such properties at prices substantially below market value

Mortgage Rescue Frauds

In these cases, fraudsters claim to provide interim financing assistance to help a cash-strapped owner avoid foreclosure, in exchange for (undisclosed/fraudulent) excessive equity interest in their property.

Bankruptcy-Mortgage Frauds

In these schemes, a fraudster may acquire titles to multiple properties with no intention of paying the mortgages. The perpetrator collects revenue from the property, then files for bankruptcy to stall foreclosure and to allow the scheme to continue.

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Emerging Mortgage Fraud Trends

(from May 2009 Advisory)

Several fraud trends have emerged or can be expected to emerge, including:

  • Fraudsters adapting quickly to enforcement efforts: The Law Society is seeing increasing use of different lawyers for successive transactions in “flip” schemes to reduce the likelihood of detection. Perpetrators may also use lawyers from different locations to try to conceal the transaction trail and thwart investigators.
  • Vulnerable lawyers increasingly being targeted: As general awareness of mortgage fraud risks increase, the Law Society is seeing some perpetrators attempting to prey on potentially more vulnerable lawyers, in particular, long-serving members who may be unduly trusting of clients.
  • Economic conditions becoming conducive to mortgage fraud: (i.e. rapidly rising prices and low interest rates). As prices and property incomes decline, the incentive and ability of fraudsters to make mortgage payments declines until properties are abandoned and the mortgages default. As a result, the Law Society has recently been seeing the fallout of mortgage fraud schemes that began some time earlier. If current low interest rates increase, further waves of mortgage fraud, previously hidden by favourable property cash-flows, may surface.
  • Proven fraud schemes being reincarnated in new ways: As real estate prices decline, proven fraud schemes such as deceptive sales contracts and hidden seller concessions may be reincarnated in newer and more clever ways (e.g. seller financing where a relationship between buyer and seller is concealed).
  • As commercial lenders tighten credit, fraudsters may turn increasingly to private lenders/investors who may not be able to perform appropriate due diligence: Lawyer involvement in such schemes may range from traditional work for the lender(s), to the grey area of accepting and paying funds for investment. Ponzi (pyramid) payments may also be made to attract additional investors into the scheme.

Some mortgage frauds have been difficult to detect because the lawyer has been involved in both sides of the transaction, while other claims have involved a lawyer who relied on false representations of another lawyer.

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Mortgage Fraud: Some Ethical Issues

By Nancy Carruthers and Ross McLeod, QC, Practice Advisors, Law Society of Alberta  (from May 2009 Advisory)

The Law Society of Alberta has been concerned with mortgage fraud in this province for a number of years. It seemed to flourish during the time of our hot economy, but now that the housing market has cooled. We are seeing the fallout.

Recently, the Calgary Herald published an article in which a member of Calgary’s police force suggested mortgage fraud would not be so prevalent without the involvement of dirty bankers, realtors and lawyers. Most lawyers might take exception to this comment.

In many cases, lawyers are unwittingly involved in mortgage fraud. Fraudsters are not anxious to reveal their scheme to the conveyancing lawyer and will try to conceal it. The Practice Advisors receive regular calls from lawyers who suspect that the deal in which they are acting involves a potential fraud, or who have discovered that a fraud may have taken place on a matter which has long been closed. Here are some common questions and answers:

May I continue to act for the purchaser client if I discover that the purchaser is attempting to commit a fraud on the mortgagee?

The Code of Professional Conduct prohibits lawyers from knowingly assisting a client in a crime or fraud, and requires withdrawal if the client persists in instructions that the lawyer knows will result in a crime or fraud. Knowledge will be attributed to a lawyer when a reasonable argument cannot be made for any other interpretation of the available facts. When a lawyer suspects a client may be engaged in fraud, the lawyer should discuss these concerns with the client and otherwise exercise due diligence. If the client’s explanation is not satisfactory, withdrawal must be considered.

I have withdrawn from representing my client as I discovered he is committing a real estate fraud. Should I tell anyone? Can I?

Chapter 7 of the Code of Professional Conduct requires a lawyer to keep confidential all information concerning the business and affairs of the client acquired during the course of the professional relationship. Disclosure of certain information may, however, be allowed under the Code.

Lawyers must disclose confidential information to the Law Society when required, and must disclose such information when required by law. Disclosure is also required to prevent a crime likely to result in death or bodily harm.

Lawyers may disclose confidential information when necessary to prevent any other type of prospective crime. When disclosure is discretionary, the lawyer must evaluate the risk to the safety or property of others. In any case in which disclosure is considered, the lawyer should assess the information to be disclosed, and disclose only the minimum amount of information required to give effect to his or her ethical obligations. Secondly, the client should be given an opportunity to either make the disclosure directly, or persuade the lawyer that the apparent need for disclosure is based on incorrect information. This will ensure that confidential information is not disclosed by a lawyer in haste, or when inappropriate.

I act for the borrower/purchaser and lender, and have just discovered that the borrower has misrepresented the purchase price of the property to the lender. What do I do now?

Lawyers acting in a joint retainer have a duty to act in the best interests of all clients in the retainer. Information received from one client in connection with the matter cannot be treated as confidential, and must be shared with the other clients in the retainer. The information about the purchase price is obviously material to the lender’s decision to advance funds and must be disclosed. If the disclosure creates a conflict, the lawyer cannot continue to act. Further, if one client in a joint retainer instructs the lawyer to take steps which are not consistent with the lawyer’s obligations to other clients, the lawyer may have to withdraw. The obligation to advise the lender of the purchaser’s misrepresentation extends past the date of closing.

I previously acted for a purchaser/borrower and lender. The lender is now requesting my conveyancing file. Can I provide it?

Pursuant to Chapters 6 and 7 of the Code of Professional Conduct, a lawyer engaged in a multiple representation or joint retainer cannot withhold material information from one client, or treat it as confidential in respect of the others. Consent of the parties to allow the lawyer to act for them in a multiple retainer is required, and in obtaining that consent the lawyer must advise the clients that no material information can be withheld and any information provided to the lawyer must be disclosed to the other parties. Even if the lawyer fails to inform the clients of this obligation, the duty to share confidential information obtained during a joint retainer still exists.

The lawyer is entitled to release the file information to the lender without getting the borrower’s consent. The lawyer’s duty to maintain an even hand as between the clients also suggests that it would be prudent for a lawyer to advise the borrower of the lender’s request and to make the information available to the borrower as well. It may be best for the lawyer to maintain the original file and give both clients copies. If original documents are to be provided, the lawyer should do so with a written direction from both parties authorizing the release of the originals to one party, pursuant to appropriate terms or trust conditions. Alternatively, the parties may seek a court order authorizing the release of the originals.

I acted for the vendor, purchaser and lender in a real estate transaction. The lender wants the vendor’s file material as well. How should I respond?

This is an area of some difficulty, as the issue of whether a joint retainer existed for a common matter may be a question of fact which must be determined in each case. There is authority for the principle that privilege is not waived with respect to communications and information acquired from one of two clients, either before or after the period in which the joint retainer exists (Bank of Nova Scotia v. Lennie, [1996] A.J. No 106). There is also authority for the proposition that two clients may be represented by the same firm, even on related matters, and one client may exert a claim of privilege against the other if the clients do not have a joint interest in the subject matter of the communication (Chersinoff v. Allstate Insurance Co., [1969] B.C.J. No. 405).

Courts have found joint retainers to exist in situations where a lawyer or firm was managing a file in which two parties, although technically having conflicting interests, were engaged in a transaction intended to benefit both their interests (Gulutzen v. Wilford, [2005] O.J. No. 2423, involved a vendor and purchaser of real estate; also see Divinsky v. Bethania Mennonite Personal Care Home Inc., [2002] M.J. No. 508). It may be the case that the parties do not turn their minds to the issue of whether there is a joint retainer at the outset of the file, such that the parties and the lawyers take different positions about the nature of the retainer and the obligation to share information which may otherwise be considered to be confidential or privileged. Parties are advised, in the event of uncertainty, to submit the matter to a court for an independent determination of whether privilege exists, or whether there was, in fact, a joint retainer.

Lawyers should clearly address the issue with the clients at the outset of the retainer and, if acting for vendor, purchaser and lender, open a separate file for the vendor’s matter. Lawyers must also be alert to conflicts if they become aware of something during the course of acting for the vendor, which materially affects the interests of the purchaser or lender but which the vendor may not wish to disclose.

I act for the vendor. It appears to me that the purchaser’s lawyer may be engaged in a file involving a real estate fraud. What are my obligations?

It is possible that the other lawyer is being duped. It merits a call to the purchaser’s lawyer to advise them of your observations and concerns. The other lawyer must then consider the circumstances of the file, and his or her potential withdrawal. If the lawyer’s involvement in the fraud appears to be deliberate, it must be reported. You have a positive duty to report conduct which raises a serious question about the competence, honesty or trustworthiness of another lawyer, or which is likely to harm another person. Even trivial ethical breaches may be reportable if there is a pattern of conduct which suggests that a more serious situation exists or is developing.

The Practice Advisors are available to assist Alberta lawyers with confidential inquiries involving mortgage fraud and lawyers’ ethical obligations.

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