Short Sale Fraud

by 26 Sep 2012

A number of people in an attempt to get out from under a crushing mortgage have resorted to short sales in an effort to move on with their lives.

What is a Short Sale?

A short sale occurs when the house owner is in danger of forfeiting on the mortgage and is allowed to sell the house for less than the mortgage. For example, if a home is about to be foreclosed, the bank may agree to sell the house for $130,000 even though there is still a $150,000 mortgage on a home. Financial institutions agree to this because they are hoping to get at least some of their money back and not end up having to take a loss for the whole amount.

Before the lender agrees to a short sale, a few conditions are usually put in place. One condition is that the owner of the house doesn’t receive any financial benefits from selling the house. The real estate agents who are involved in the short sale are usually required to take a reduced commission and the lender will reduce or refuse to allow payments to anyone else involved in the short sale. Other people who could be involved in a short sale include attorneys and short sale negotiators.

If there is another loan on the property, the second lender also needs to agree to the sale even though the primary bank will place a cap on the amount of money the second lender is allowed to receive.

Who Commits Short Sale Fraud?

The people who attempt short sale fraud will depend on the type of short sale fraud being perpetrated. Sellers, buyers, real estate agents, lenders and short sale negotiators can all be involved in some form of short sale fraud. Sometimes, people may not even know that what they are doing is fraudulent so it is important that if you are involved in short sales that you know what is and isn’t allowed and ensure that everything gets documented, notarized and recorded in a notary journal.

Where’s the Fraud?

As long as all the information is available and correct before everyone agrees to the short sale then there is no fraud. People are allowed to sell their homes for less than the mortgage as long as everyone approves the sale but there a re a few ways that people can commit fraud during a short sale.

  • Fraud No. 1: Often, second lenders are not very happy about the fact that they have to accept a reduced payment. Since the second lenders have to agree to the loan, they can demand a payment “off the books” before they will agrees to the short sale. As a buyer or seller, you may be willing to pay this “off the books” payment in order to push through the deal but unfortunately if you make any payments that are not declared, you may be committing loan fraud.  

    There is one easy way to avoid this type of short sale fraud and that is to simply refuse to make any undisclosed payments. You should make sure that all information about the sale is documented and notarized by a public notary.  A public notary will then record the notarized document in a notary journal. Any document that is recorded in a notary journal can be tracked back to the people signing the document so there will be a written record of not only the document but who signed it as well.
  • Fraud No. 2: The second type of fraud that can occur with short sales is perpetrated by real estate agents and buyers. The real estate agent will approach the primary lender with an offer to short sell a house. A buyer will offer to buy a house at a low price and will often have a property valuation done which shows the house value as being a lot less than it really is. Any real bids to buy the house that are higher are withheld from the lender.  

    This causes the lender to think that the house is worth less than it really is and the lender agrees to the short sale. As soon as the short sale is approved, the buyer turns around and sells the house to another buyer at the real value.  This is called simultaneous closing. The buyer buys and sells the house at the same time.  

    For example, the value of a house may be $250,000. A fraudulent buyer will approach the lender with an offer of $210,000. The fraudulent buyer may also have a property valuation which shows that the property is only worth $210,000 and even if there is a buyer willing to pay the full $250,000, this is withheld from the lender. Once the short sale has been approved, the fraudulent buyer quickly contacts the real buyer and sells the home for $250,000 making a quick profit of $40,000. Even if the fraudulent buyer doesn’t have another buyer lined up, the fraudulent buyer may simply advertise the house at the real value of the house.  

    It can be difficult to spot this fraud because neither the original seller nor lender knows that there are other buyers willing to pay more.  One way to make sure you don’t fall for this fraud is to make sure that the valuation is valid and done by a reputable company. Again, you may want to ensure that the valuation is notarized and documented in a notary journal. If the purchasing agreement allows the buyer to quickly resell the property then this may be a sign that they are perpetrating this type of short sale fraud. You may also want to be careful if the person wanting to buy the short sale house is operating under a power of attorney or a company.
  • Fraud No. 3: This variety of short sale fraud typically involves real estate agents or short sale negotiators. A short sale negotiator may attempt to negotiate a flat fee or a percentage of the negotiated sale price and may even guarantee results.

    The short sale negotiator may require all or part of the fee upfront or paid without being documented. Once the fee has been paid, the negotiator may end up doing very little to help sell the house.

    To protect yourself from this type of fraud, make sure the short sale negotiator is licensed although not all states have this licensing requirement. When ever you are approached by a short sale negotiator, you should check your state’s licensing requirements to make sure the negotiator is legitimate.

    If it is not a state requirement then ask for references and avoid making any payments “off the books”. Make sure that you carefully read all documents and think about getting them notarized and recorded in a notary journal.

Penalties for Mortgage Fraud

The penalties for mortgage fraud can be pretty severe. The FBI investigates instances of mortgage fraud and the penalty can be fines up to $1,000,000, 30 years in prison or both. Now you may not actually get punished this severely for short sale fraud but do you really want to risk it?

Ignorance of the law is no excuse so make sure that you fully understand what it means to become involved in a short sale so that you don’t get caught up in an illegal situation. Make sure that all transactions are documented, notarized and recorded in a notary journal. If you do this, then you will be in a better position to protect yourself from becoming involved in short sale fraud

Written by Sarah Stoltzfus. Sarah is a freelance writer that enjoys focusing on current events. 


  • by William Matz | 9/26/2012 3:29:48 PM

    In California CCP 580e expressly prohibits lenders from receiving any other compensation thatn the short sale proceeds, a further protection against Fraud #1.

    Fraud #2 became a common pattern. But as lenders now typically get a BPO or 3P appraisal, making this less likely.

    The key advantage of short sales to lenders is that they get more than in an REO resale (absent rehab) and they avoid the administrative problems of additional REO.

    While borrowers (in CA - 580e) can now extinguish lender liability, they still have all normal seller obligations to buyers. Particularly in the case of distressed mortgage property, deferred maintenance may create concealed defects, which - if not disclosed to buyers- can result in post-closing liability that would not have been present after a foreclosure. So sellers need to be scrupulous about disclosures to buyers.

  • by Gray | 10/3/2012 9:23:30 AM

    How does the Author know what is Fraudulent if is she is not an attorney?
    Just a question

  • by Chicago short sale lawyer | 10/10/2012 5:11:56 AM

    "Who Commits Short Sale Fraud?
    The people who attempt short sale fraud will depend on the type of short sale fraud being perpetrated. Sellers, buyers, real estate agents, lenders and short sale negotiators can all be involved in some form of short sale fraud."

    ever heard of white-collared crimes? There are loopholes in the federal laws enable even licensed lawyers to take advantage of their clients. Though their actions are not illegal when viewed according to state and federal laws, lawyers who charge excessive amounts and tries to cut off large portion from short sales are still committing moral crimes. They know that the person is already cash-strapped, but they still try to get as much money as they can from poor citizens :(


Is TILA-RESPA a good or bad thing long term?