It seemed like just another successful Florida real estate transaction, one more deal completed without a glitch. A lawyer's employee had found a house she could afford, closed on the transaction, and moved into her new house. Attention had shifted to making the house a home, giving it a warm, lived-in feeling.

And then the nightmare began. Mellon Bank, the lender, eventually canceled the loan. "The bank was doing something that's fairly typical, some internal quality control, some post-closing underwriting," says Ron Sadaka, vice president and division manager of the Wall Street Mortgage Group, a mortgage brokerage firm in Boca Raton, Fla. "In this case, Mellon called the woman to do some due diligence, to check her tax returns.

"As a result of that call," says Mr. Sadaka, "Mellon discovered fraud on the mortgage application. The woman who had bought the house hadn't lied, however. Instead, the mortgage broker had falsified pay stubs and her W2s, printing them out on his computer. The bottom line is that the woman didn't qualify for the loan she had applied for."

The woman had to move out of the house, and the seller got hurt, too. Together, they had spent thousands on moving expenses. And the mortgage broker is being investigated. "Everyone had egg on their faces," says Mr. Sadaka. "An extraordinary mess needed to be cleaned up."

Is fraud becoming increasingly common in the mortgage industry? For obvious reasons, industry executives and regulators are reluctant to say it is, at least publicly. Nevertheless, "extraordinary messes" like the one described by Mr. Sadaka are popping up with greater frequency in headlines across the country. Concerned that fraud will only increase with the growing popularity of electronic originations and loan approvals, industry executives are beginning to respond, mapping out strategies that they hope will contain, if not significantly reduce, fraud by 2005.

"There's no statistical evidence that mortgage fraud has been increasing in recent years, but clearly the perception is that it may be on the rise, and perception is just as important as reality," says Nagy Henein, president of Greater Mortgage Corp., a brokerage firm in New City, N.Y. He is also treasurer of the National Association of Mortgage Brokers, McLean, Va. "The fact is that it only takes a few unsavory characters to taint the reputations of everyone who is part of the origination process, so there are serious efforts being made now to weed out those who want to rip off consumers, lenders, and the secondary- market agencies."

Adds Richard D. Ward, president of the Affinity Corp. in West Hills, Calif.: "We know from FBI and other industry reports that fraudulent loans totaling as much as $60 billion are processed each year, and that resulting losses total roughly $30 billion annually. Given those numbers, the origination industry has no choice but to find ways to contain and manage fraud, hopefully nipping it in the bud before any lender approves loans." Affinity is building a rapidly growing information repository called the National Fraud Protection Database.

Varieties of fraud continue to grow, industry executives say. The fraud du jour is so-called "mortgage flipping," where people buy depressed properties on the cheap and "flip" or resell them immediately - sometimes even the same day - at a significantly inflated price, sometimes for as much as 100% more than they just paid.

"Today you're seeing a lot of these flips," says Mr. Ward. "In the majority of cases, the true owner is misrepresented; those involved in the fraud sell it back and forth to one another many times, obtaining mortgage funds each time. There's a group in Woodland, Hills, Calif., that has made more than $10 million through these flips, obtaining funding for as much as $900,000 for originations when the houses are really worth between $200,000 and $300,000."

Another scam is taking advance fees from consumers for a variety of reasons, such as promising to introduce consumers to brokers and lenders, then failing to do so. Also, some brokers refinance mortgages for homeowners without paying off the original lender. That fraud has left consumers in effect with two mortgages, their lives in shambles.

It is no surprise, then, that the industry has begun to focus on the F word. And it is no surprise, either, that as it does so, a disproportionate amount of attention is being paid to the mortgage brokerage community. The brokers' share of the origination pie has grown exponentially since the early 1980s; for that reason alone, brokers appear, probably unfairly, to account for the vast majority of fraud being perpetrated. It is also hard to track brokers because there is such a large number of small companies.

"In 1987, brokers were originating about 20% of the business," says David Olson, managing director or Wholesale Access, a mortgage consulting and data gathering company in Columbia, Md. "Now that may be as high as 70%. We estimated they originated $1.2 trillion in 1998 in a market that could be as large as $2 trillion."

Just as important, though, regulators, trade group executives, and investigators worry that the brokerage community's bad apples can move easily from one state to another, hanging shingles in new locales either before or after their fraudulent activities are detected by a specific state regulator. "These guys trade their company names as they move, perpetrating the same types of fraud, and more often than not, the regulator in the new state has no record of his activities in the state he just left," says one executive.

In fact, less than 5% of those who own mortgage brokerage businesses knowingly participate in fraudulent activities, says Steve Halper, chief executive and president of New City Asset Management Inc., a St. Louis firm that sells mortgage fraud detection software. "I would guesstimate that only 2 to 3% of these owners are knowing participants," he says. "That doesn't mean there aren't others, either working directly for that owner or doing work with the brokerage firm - appraisers, for instance - behind fraudulent business going through the firm. In those cases, though, the owner and firm are just another victim."

Among the fraud prevention efforts under way: a number of initiatives to standardize registration, examination, certification, and net worth requirements among the states and the District of Columbia (some states do not regulate brokers at all). "Currently, we're developing a model licensing application which, if approved by our board of directors, will be distributed to the various states for consideration," says Susan Toth, president of the American Association of Residential Mortgage Regulators in Washington. She is also assistant commissioner of New Jersey's Department of Banking and Insurance.

Far more aggressive - and with much profounder, longer-term implications for the origination industry - are the NAMB's efforts to register every broker in the United States (and ultimately, possibly others involved in origination, such as appraisers) as a means of controlling fraud. The association, which has about 11,000 members, has been working on its registration initiative for almost three years through a task force called "Best Business Practices," says Greater Mortgage's Mr. Henein.

"For some time, we have wanted to help the real estate community, consumers, and the rest of the world know who a good broker is," says Mr. Henein. "The charge of the task force has been to improve the level of service provided to consumers by finding a way to drive a wedge between the performing and nonperforming brokers - that is, those who are honest and those who are not."

As part of its initial efforts, the association has adopted "best business practice guidelines." Members must adhere to those as well as the association's long-standing code of ethics.

Under the guidelines, members must agree to disclose accurate information in all solicitations and advertising; discuss and explain financing program options; inform consumers in writing of lock-in options; explain all documents in the loan application; detail all associated costs of the loan transaction and the disbursement of all application fees; and charge only those fees disclosed on a good-faith estimate.

The association's efforts to register all brokers nationwide, whether or not they are members, is seen as a natural extension of its new guidelines, Mr. Henein says.

How do those behind the NAMB effort plan to force all brokers to become registered? Legally, they cannot be forced to do

so. Rather, in the plan under discussion, the secondary market agencies - Fannie, Freddie, and the Department of Housing and Urban Development, for instance - would refuse to buy a loan originated by any broker who does not have a registration number.

"We're very excited about the momentum that we've been able to build as we move forward," says Mr. Henein. "We're talking with all the key players. On the association side, that includes groups from the National Home Equity Mortgage Association and the Home Equity Lender Leadership Organization, representing subprime lenders, to the Mortgage Bankers Association of America and the regulators' group. The response has been extremely enthusiastic."

Those groups confirm their excitement. "The MBA is very enthusiastic about this, we're very committed to making it work," says Steve O'Connor, senior director of residential finance at the MBA who is also the association's point person on the NAMB project. "We're at the conceptual stage, the very beginning of a long process, but we're moving forward."

Adds Jerry Langbauer, vice president of institutional credit risk at Freddie Mac: "We are supportive of a process of registering loan brokers; in fact, we've been talking about this for the last five years. In fact, we want to see individual loan officers registered because clearly individuals can be problems, and we want to be able to discern whom these people are.

"The time is right now for moving ahead with this project because the technology finally is in place, and a large-scale project like this can work," he says. "There's a lot of data mining and management required, and finally the tools are there to make this feasible."

Mr. Henein would like to see a registration program in place as early as 2001; others involved in discussions believe it will take several more years.

"I think that, eventually, registration will happen," says one banker familiar with developments. "A number of issues have to be resolved, such as who will pay for it and what kind of enforcement you're going to have.

"Even when the registration process becomes a reality, its full value won't be realized for several years," he adds. "After all, it takes about three years for delinquencies, fraud, and misrepresentation to pop up for any given loan. There's no question that getting the process started, discovering the kinks, finding out whether fraud is actually reduced - this is a long-term investment."

Getting individual mortgage brokers to buy into the registration process will take time as well. Some skeptics wonder whether the NAMB's efforts are simply aimed at expanding its membership. But Mr. Henein denies that recruiting members is the association's goal.

Others worry about the Big Brother syndrome: whether the secondary agencies will use registration as a ready-made tool to help them enter the mortgage origination business, dealing directly with brokers. "There's something of a conspiracy theory out there," says one banker. "The thinking is that the availability of a registration list will help these agencies enter the origination process directly. But it's foolish thinking. With a registration list, it may help them enter the business in one day. Without it, they can do so in three."

Meanwhile, the momentum toward registration continues unabated. "A couple of years ago, I became very frustrated with the overall condition of the origination business and in particular with the approach - or lack of approach - that the secondary agencies were taking toward fraud," says one executive. "As a result, I called senior executives at major lenders such as Fleet, NationsBank, and others, and we've been meeting since then, working with NAMB and others on the issue of fraud."

Says Freddie's Mr. Langbauer: "Putting this process in place is complex, but we've dealt with those challenges before. There have been other challenges - funding and technology issues, for instance - that made the creation of projects such as MERS difficult. But we kept working on those challenges, we overcame them. And somewhere out there, as we move forward, we fill find a template to make this registration process just as successful."

Lawrence Richter Quinn is a writer based in Arlington, V.a.

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