Does your local Mortgage Banker low ball you on rate only to switch it at the end?

Mortgage Scams and Tricks

Deceptive practices used by mortgage loan providers and other participants in the mortgage process.

Scams by Loan Providers: Lenders and mortgage brokers may employ a number of tricks to increase their income from originating a loan, at the borrower's expense.

Make Low-Ball Offers: To draw customers, some loan providers will advertise low-ball prices that they have no intention of honoring. Once they get you in the door, they will play bait and switch, or let 'em dangle.

“Bait and switch” is the game played by some appliance merchants and others who advertise a low-ball price but when you arrive at the store they happen to be out of the advertised special and try to interest you in something else. “Let 'em dangle” means keeping you on the hook in the hope that market rates might drop enough to make the advertised special profitable.

Mortgage shoppers should place little credence in media or oral price quotes, especially when the price is below that of all other loan providers.

Overstate the Market Price: The loan provider making a low-ball offer can attempt to validate it in another way. He can overstate the market price when it comes time to lock the terms. This practice, however, can be deployed regardless of whether the original price was understated. I sometimes refer to it as “float abuse.”

Assume that after shopping prices at several lenders, Jane Doe selects lender X and submits an application. The prices quoted by X, upon which Jane based her decision, “float” with the market until they are locked by the lender.

Floating is mandatory between the initial price quote, which may be the basis for selection of the loan provider, and the time when the lender is willing to lock. This period can range from a day to several weeks or longer, depending on the lender's requirements to lock and on how long it takes the applicant to comply. Some applicants extend the float period in the hope that interest rates will decline.

At the end of the float period, the lender should lock at the price that he would quote to the applicant's identical twin if the twin walked through the door on the lock date as a new customer shopping the exact same deal. In practice, the quote may be higher because the applicant is at least partially committed while the twin is only shopping. This is probably the most pervasive scam in the market.

One way to avoid it is to deal with a lender whose locking requirements can be met within the day, or overnight at worst. Asecond way is to deal with a lender whose Internet site posts the applicant's price every day. Less effective but better than nothing is to ask the loan provider to acknowledge the twin-sibling principle in writing, and monitor general movements in the market using the rates posted on .

Pocket the Borrower's Rebate: Some unwary borrowers are steered into high-rate loans on which they should receive a rebate from the lender but don't. For example, the loan officer's price sheet shows 6% at zero points, 5.75% at two points, and 6.25% at a two-point rebate. If the borrower is willing to pay 6.25% without argument, the rebate is retained by the loan provider. See Overages.

This abuse can be avoided by asking first about “the lowest rate possible” and how many points it would require. If you want a rebate deal, you can work yourself down to high rate/rebate combinations. Ask to see the schedule of rates and points from which the quote given to you has been extracted. Press to see them on the fax price sheet or computer screen. If the loan officer insists on transcribing them to a separate piece of paper, ask point-blank if she is adding an overage.

Exploit Shifts in Borrower Niche Preferences: Borrowers sometimes change their minds about some feature of the transaction that has pricing implications. If the borrower is in too deep to back out, the loan provider may pad the new price.

For example, the borrower decides to shift from a 30-year to a 15-year FRM. On a day when a shopper soliciting rates quotes would find the quote on a 15-year to be 3/8% below that on a 30, a committed applicant might receive only a 1/4% reduction. Other preference shifts where the same thing can happen include changing the combination of interest rate and points, changing between FRM and ARM, and electing to escrow or not escrow.

Offer No-Cost Loans That Aren't: Some loan providers tout deals as “no-cost” when the settlement costs are added to the loan balance. These deals should be referred to as “no-cash.” This is a scam if the borrower doesn't understand that he or she is borrowing more to pay the settlement costs. See No-Cost Mortgage.

Surreptitiously Change the Contract: Borrowers who accept whatever they are told may find that the note includes a provision favorable to the lender, about which the borrower has no knowledge. A favorite is a prepayment penalty, which increases the value of a loan by 1% or more. A loan provider who includes it in the contract without your knowledge can put the point in his pocket—rather than in yours, where it belongs. See Prepayment Penalty/Surreptitious Penalties.

Strictly Lender Scams:

Sell Biweeklies Under False Pretenses: The biweekly mortgage meets the needs of some borrowers, either to help them budget or as a forced-saving device to pay off the loan early. (See Biweekly Mortgage.) Some lenders, however, promote the simple-interest biweekly as a way of substantially accelerating the rate of payoff, compared with a standard biweekly. They offer to refinance borrowers into their simple-interest biweekly at rates 2% to 3% above those the borrower is paying.

On a standard biweekly, an extra monthly payment is credited to the borrower's account after 12 months. On a simple-interest biweekly, a half-payment is credited to the borrower's account every two weeks. This does result in an earlier payoff and reduced total interest outlays. The advantage over a standard biweekly, however, is very small.

For example, on a 6% 30-year loan with biweekly payments, a borrower would be justified in paying only 6.063% for the simple interest equivalent. This is the rate that would equalize the payoff date and total interest outlays. It is a far cry from the 8% or 9% that would be charged. Readers can make the same comparisons using the biweekly spreadsheets on my Web site. See Biweekly Mortgage/Simple Interest Biweeklies.

Deliberately Allow Locks to Expire in a Rising Market: When interest rates spiked in July-August 2003, my mailbox was flooded with complaints from borrowers who lost their locks. Their lenders could not get the loans processed in time. In as many as half of these cases, the borrower was at least partially at fault for not selecting a long enough lock period or for not providing needed documents on a timely basis. But in many other cases, it seems clear that the lender deliberately slowed the process so the lock would expire. I draw this inference from the flimsy excuses they provided the borrowers, who relayed them to me.

Deceive Borrowers Regarding ARMs: Because ARMs are complicated, the loan officers selling them tend to focus on one or two major features. In doing this, they sometimes cross the line between acceptable “puffery” and unacceptable deception. Expecting lenders to police the sales practices of loan officers is probably unrealistic. Some lenders, however, provide their loan officers with tools that aid and abet deceptive practices.

For example, mortgage applicants have sent me exhibits prepared for them showing schedules of interest rates, monthly payments, and balances on obviously favorable assumptions regarding future interest rates. But the assumptions are not indicated. In one case, the footnote to the table says, “Actual results may vary... . Consult your regulation Z.”

At a minimum, ARM borrowers should have amortization schedules based on the assumption that a) the index rate does not change and b) the ARM rate increases by the maximum amount permitted by the note. These are “no-change” and “worst-case” scenarios. Borrowers can develop these schedules (and many others) themselves using calculator 7b or 7c on my Web site.

Pad the GFE: The Good Faith Estimate of settlement or GFE shows the borrower all the settlement costs connected to the loan. Unfortunately, lenders are not bound to the numbers shown there, and there are no penalties for discovering new charges or increasing existing ones at the 11th hour—which is exactly what some lenders do. At the time of writing, HUD was developing regulations that would eliminate this scam.

Servicing Scams: My mailbox is stuffed with letters from borrowers complaining about their servicing. It is difficult, however, to distinguish poor service from scams. The basic problem is that servicing provides lenders with many opportunities to profit from their own mistakes.

For example, sometimes lenders don't pay taxes on time, but is it deliberate? Some lenders purchase hazard insurance on the borrower's house and add the premium to the loan balance, even though the borrower already has insurance. Were they really unaware that the borrower was already insured? Occasionally a lender won't credit borrowers for extra payments, for one reason or another.

If you believe you have been mistreated, you can't fire your servicer, but you can file a written complaint with the lender, addressed to Customer Service. Do not include it with your mortgage payment, which you should continue to make separately. State the following:

Your loan number. Names on loan documents. Property and/or mailing address. This is a “qualified written request” under Section 6 of the Real Estate Settlement Procedures Act (RESPA). I am writing because: [Describe the problem and the action you believe the lender should take.] [Describe any previous attempts to resolve the issue, including conversations with customer service.] [If it is relevant to the dispute, request a copy of your payment history.] [List a daytime telephone number.] I understand that under Section 6 of RESPA you are required to acknowledge my request within 20 business days and must try to resolve the issue within 60 business days.

If this doesn't do the trick, you can file a complaint with HUD. You can also sue. According to HUD, “A borrower may bring a private lawsuit, or a group of borrowers may bring a class action suit, within three years, against a servicer who fails to comply with Section 6's provisions.”

You can also file a complaint with the government agency that regulates the servicing agent. Here are Web sites you can use to contact these agencies:

• For national banks, . • For federally chartered savings and loan associations,  . • For state-chartered banks and savings and loans, . • For mortgage banking firms, .

If you don't know the proper agency, you can send the complaint to the Consumer Protection Division of the state attorney general. It will forward it to the relevant state or federal agency.

All borrowers should periodically check their transaction history to make certain that a) payments are always applied to the balance at the end of the preceding month, b) tax and insurance payments from escrow are correct and there have been no double payments, c) rate adjustments on ARMs are in accordance with the method stipulated in the note, and d) there isn't anything in the history that looks “funny.”

Any borrower who does not receive a complete transaction statement at least annually should periodically submit a “qualified written request” for one, using the form described above.

Strictly Broker Scams: Some scams are initiated only by mortgage brokers. The first one described below is directed against the borrower, the second against the lender.

Charging for a Lock Without Locking with the Lender: Locking the mortgage rate assures borrowers that the interest rate and points they have agreed to pay will be honored at closing, even if market rates rise in the meantime. Some mortgage brokers tell their clients that the interest rate has been locked with the lender when that is not the case. They substitute their lock for the lenders without informing the borrower.

Brokers do this to increase their markup. For example, a lender might quote 6% plus 0.5 points for a 10-day lock, and 6% plus one point for the 60-day lock an applicant requires. The lying broker tells the applicant she is locked for 60 days at 6% plus one point. If the market doesn't change, the broker locks 10 days from closing at .5 point, and pockets the other .5%.

Brokers rationalize this lie by saying that they are assuming the lock risk themselves and will deliver the “locked” rate and points to the borrower even if they have to take a loss. In a stable or declining rate market, they can get away with this, perhaps for years at a time.

But sooner or later interest rates will suddenly spike and brokers locking at their own risk will not be able to deliver. For example, in the two-month period January-March 1980, mortgage rates jumped from 12.88% to 15.28%. A broker who locked for 60 days at 12.88% would have to pay a lender about 15 points to accept a loan with that rate in a 15.28% market. The broker would either go out of business or deny that a lock was given. (Broker locks are oral commitments.) The borrower would be left high and dry in either case.

Indeed, many non-locking brokers deserted their customers following the much smaller rate increase that occurred in July-August 2003. Unlike lenders who can always come up with an excuse, a non-locking broker who is challenged by a borrower cannot produce a lock commitment from a lender. About all the broker can do is apologize or run.

Broker locks are a deceitful practice because the borrower is led to believe that the lender is providing the lock. To protect themselves, borrowers locking through a broker should insist on receiving the rate lock commitment letter from the lender identifying them as the applicant. They must demand this at the time of the lock, not after the lock fails.

Successive Refinancings Using Rebate Loans: This scam is directed toward wholesale lenders and requires the cooperation of venal borrowers who participate in it. The larger the loan, the more profitable the scam.

Lenders pay rebates on high-rate loans. For example, a lender who offers a 30-year FRM at 7.875% and zero points might pay a
rebate of four points for a 9.5% loan. Lenders know that 9.5% loans have relatively short lives because borrowers refinance them as soon as they can. Nonetheless, the lender will recover the four points through the above-market rate in 30 months, and most such loans last longer than that. Or rather, they last longer unless there is a scam to pay off in three months.

On a loan of $350,000, the lender pays a rebate of 4% of $350,000, or $14,000. Over three months, the lender collects only about $1,400 in excess interest. The broker pays the borrower's closing costs of about $4,000 and $1,400 to cover the higher interest payment on the 9.5% loan for three months. The balance of $8,600 is split between them, with the broker keeping most of it. After three months, they do it again, but with a different lender in order to avoid disclosure.

I classify this as a broker scam because the broker initiates and executes it, but the broker requires a corrupt borrower as an accomplice.

Scams by Borrowers: Borrower scams are directed mainly against mortgage brokers. Because borrowers are in the market only intermittently, however, they have less incentive and fewer opportunities than loan providers to develop and refine scams. Not surprisingly, those they come up with often don't work, or even backfire on them.

“End-Run” Around the Broker: Some borrowers believe they can beat the system by using a broker to find the right lender, then going directly to that lender. They think they can cut out the markup in this way. This is a sleazy practice because the broker won't be compensated for his or her time and for the use of his or her knowledge and expertise on the borrower's behalf. It is why
even the most scrupulous brokers keep the identity of the lender concealed until an application has been submitted.

Nor does it work the way the borrower expects it to. Lenders who lend both directly to borrowers and indirectly through brokers have separate retail and wholesale departments. The borrower who dumps the broker to go directly to the lender will be directed to the retail department and be offered retail prices, which are higher. They could be higher than the price the borrower would have paid going through the broker.

Net-Jumping: Net-jumping involves using a broker's time and expertise to become informed and creditworthy, then jumping to the Internet to get the loan. Here's a broker's story.

When Jones came to me six months ago, his credit score wouldn't have qualified him to purchase a doghouse. But I worked with him while he disputed his credit report with the bureaus, and negotiated with collection agencies. His credit
score went from “D” to “A.” While he was working with me, he learned his responsibilities as a future homeowner…. Then he
informed me that he was going to shop for a loan on the Internet.

Brokers could protect themselves against Net-jumping by charging a non-refundable fee. Few do this, however, for fear it would place them at a competitive disadvantage.

Multiple-Apping: Another borrower trick is to submit multiple applications through different brokers—two, three, or even more. All the brokers check credit, shop loan programs, and fill out the application, but only the one offering the best deal on the lock date will be compensated. The others waste their time.

Borrowers who submit multiple applications also waste their own time, but the practice is evidence of how difficult it is to shop traditional mortgage channels. Borrowers typically can't obtain a complete listing of loan fees and charges until they submit an application, which encourages “shopping by application.”

But multiple-apping can boomerang. If the application runs into a major roadblock, a resentful broker may have little motivation to go the extra mile that may be needed to remove it.

Lock-Jumping: Under a loan lock agreement, the lender and the borrower are committed to the interest rate and other specified terms. Some borrowers, however, act as though the agreement only binds the lender. If interest rates rise prior to closing, the lender is committed to the rate specified in the agreement. But if rates decline, the borrower feels free to go to another broker and relock at a lower rate.

Borrowers who want both the benefit of a rate decline and protection against a rate increase should purchase a “float-down.” It allows the rate to remain locked if market rates rise, but if market rates decline the borrower can relock at a lower rate. A float-down costs a little more than a straight lock.

Unfortunately, in many cases borrowers are never put on notice that the lock commits them as well as the lender. Many brokers fear that if they mention the “C” word, they will lose the client. This makes lock-jumping morally ambiguous.

Lock-jumping is much more common among refinancers, who are more flexible on when they close than purchasers who must close on a specified date. This means that lenders could largely eliminate lock-jumping if they offered only float-downs to refinancers.

The Double House Purchase: A buyer who wants to buy two houses but can qualify for a mortgage on only one, arranges to have them close on the same day. That way, the debt from one is not counted in the expense-to-income ratio of the other.

However, the application for whichever loan closed second would contain false information because it would not reveal the loan that closed first. This could be caught in a post-closing audit of either loan. It would also be caught if both loans ended up being serviced by the same entity. Since servicing is becoming increasingly concentrated in the hands of a few large players, the chances of that happening are not insignificant.

Scams by Home Sellers: Scams by home sellers are directed against lenders or borrowers.

Fictitious Down Payments: Down payment assistance programs are widespread and often involve gifts by home sellers offset by a price increase equal to the gift. The practice is legitimate, provided it is done openly and conforms to the guidelines of lenders and mortgage insurers. See Down Payment/Home Seller Contributions.

Down payment assistance becomes a scam when it is done without the knowledge or permission of the lender. For example, buyer and seller agree on a price of $289,000 but the buyer cannot meet the down payment requirement of $15,000. So they agree to raise the price to $304,000 and for the seller to lend the borrower the $15,000 needed for the down payment. After the closing, the loan is forgiven. This is a scam because the lender is tricked into believing that the borrower has made a down payment when that is not the case.

For this scam to work, the appraisal of the property must come in at $304,000. The appraiser either is hoodwinked by the fictitious sale price or is a party to the scam.

The buyer is a party to the scam as well. For the loan to close, the buyer is obliged to lie about the source of the funds used for the down payment.

Assuming the deception is not caught and the loan goes through, it might be caught in a post-closing audit, in which event the lender could elect to call the loan. All mortgage loans contain an “acceleration clause,” which allows the lender to demand immediate repayment if any information provided by the borrower turns out to be false.

Borrowers with good credit don't need to cheat in order to get 100% financing. It is available in the form of combination loans—80% first mortgage and 20% second mortgage. 100% first mortgages are also available. Find a mortgage broker familiar with these options.

Builder Concessions: Many builders have a financial interest in a lender to which they want to refer business. While the law prohibits builders from requiring buyers to use their preferred lenders, they can offer financial concessions contingent on using those lenders.

Since the builder will include the concession in the price of the house, buyers who agree to the price are going to find it difficult not to deal with the preferred lender. The lender can charge an above-market rate or points, but with the concession buyers are still better off than if they financed elsewhere.

Suppose, for example, the builder pads the sale price by $5,000, but offers a concession of $5,000 for using the preferred lender. If the lender prices the loan $3,000 above the market, the buyer using that lender is still ahead by $2,000.

The only way a buyer can avoid this trap is to refuse deals that tie concessions to use of a preferred lender. Offer the builder the asking price less the concession.

“Wrapping” a Mortgage: Home sellers sometimes have compelling reasons to avoid repaying their mortgage when they sell
their house. The interest rate might be well below the current market rate. Or they might have a willing buyer who is unable to qualify for a new mortgage.

To keep the old mortgage going, the seller may lend to the buyer him or herself while continuing to make the payments on the old
loan. For example, S, who has a $70,000 mortgage on his home, sells his home to B for $100,000. B pays $5,000 down and borrows $95,000 from S on a new mortgage. This mortgage “wraps around” the existing $70,000 mortgage because the lender-seller will make the payments on the old mortgage.

Wrap-arounds, like down payment gifts, are OK if the lender knows about them and agrees. They are a scam when used to cir-
cumvent restrictions on assuming old loans. The home seller who does this violates his or her contract with the lender and may or may not get away with it. In some states, escrow companies are required by law to inform a lender whose loan is being wrapped. If a wrap-around deal on a non-assumable loan does close and the lender discovers it afterwards, watch out! The lender will either call the loan or demand an immediate increase in interest rate and probably a healthy assumption fee.