Photo: Taber Andrew Bain via Flickr
I have noted before a family maxim – one cannot compete with unintended self-parody. Andrew Kahr has recently written a column in the American Banker entitled “Spread the Word: Lying to Banks is Illegal.” Mr. Kahr is one of the architects of subprime lending. He warns:”Federal law provides that anyone who knowingly makes a false statement to a[n] … insured institution … ‘shall be fined not more than $1,000,000 or imprisoned for not more than 30 years, or both.’
To say the least, this criminal law, intended to protect banks and hence the deposit insurance fund, is very, very rarely enforced against consumers. Why?
How is a U.S. attorney to know that a customer has defrauded a bank by giving false information, unless the case is referred to him or her by the bank? And we’re not doing that, at least not for mortgages, credit cards or other everyday consumer lending.
Hence, the plethora of consumers giving wilfully and materially false information to banks on applications and during loan servicing has mushroomed. With ‘liar’s loans’ this went from a cottage industry to an epidemic.”
Mr. Kahr neglects to mention that “insured institution[s]” are required to file Suspicious Activity Reports (SARs) (criminal referrals). As the FDIC explains:
“The U.S. Department of the Treasury’s financial recordkeeping regulations (31 CFR 103.18) require federally supervised banking organisations to file a SAR when they detect a known or suspected violation of federal law meeting applicable reporting criteria.”
Collectively, banks make massive numbers of SARS filings with regard to mortgage fraud, over 67,000 annually, but a mere 10 institutions file 72% of those referrals. The typical nonprime lender deliberately violates its legal requirement to file a criminal referral when it discovers mortgage fraud even though that practice would be irrational for an honest lender. The federal regulatory agencies have not taken any effective action against these pervasive violation of their rules despite an “epidemic” of mortgage fraud that drove the ongoing financial crises.
Mr. Kahr continues by complaining that:
“[T]he news often encourages consumers to believe that you can lie to get a loan, or to forestall collection action, and that this is perfectly normal, common and acceptable. After all, ‘he told me that my income would not be verified.’ Nonverification, even if advertised in advance, is not an invitation to lie, and it does not exempt the liar from criminal consequences.
Occasionally you can see a newspaper story about a tattoo parlor operator who managed to buy six houses with nothing down and false applications. But the multiple and professional fraudsters are relatively few. Surely the great bulk of the fraudulent applications come from individuals who just want to buy and live in the house, or to do so on better terms.”
Mr. Kahr sees only two sources of mortgage fraud – and both are by the borrowers. He correctly states that there appear to be “relatively few” “professional fraudsters” among borrowers. To him, that leaves only one alternative – “surely” millions of homeowners have defrauded the banks. The FBI, however, reports that 80% of mortgage fraud losses occur when “industry insiders” are involved in the fraud.
Mr. Kahr then returns to his primary theme -- nonprime lenders acted irrationally by recurrently taking actions that were certain to increase mortgage fraud.
'In days gone by, some loan application forms included, in bold type at the bottom, an excerpt from the criminal law … defining fraud and specifying the penalties for it. Even before ''he class of 2006,' we stopped doing that. After all, it reduced loan volume -- both by discouraging bad applications and by increasing the decline rate based on less inflated claims by applicants.
Let's now do a thought experiment with 'the bank where I work.' Suppose you let it be known to applicants and loan customers that your policy is to detect and to refer for prosecution cases in which a knowingly false statement is made by an applicant or borrower. What would happen then?
'Well, then they would all go across the street, to my competitor.'
We can certainly hope that the fraudsters would do so! And that your loan losses would correspondingly decline, giving you a dramatic edge over that competitor. You could charge lower rates and still earn a higher return. But why would the honest customer have any fear of doing business with you? He knows what his income, occupation and phone number are.