There's no shortage of desperate or fraudulent property owners in today's market for commercial mortgage loans. "Cash-out refinancing" is one favorite way to bail out of a troubled property. This primer offers advice to fraud examiners, lenders, and appraisers on spotting and preventing these and other frauds.
Three men claiming to be physicians purchased a New York City walk-up apartment building on a residential street. They then applied at the nation's largest thrift institution for a much larger cash-out refinance loan, stating that they intended to convert the ground floor into a magnetic resonance imaging (MRI) facility. (A cash-out refinance loan provides money needed to repay the first mortgage and additional cash that can be used for any purpose.) MRI space would command a much higher rent than was currently being earned from the rent-controlled ground floor apartment tenants, and this was reflected in the appraisal done by an in-house appraiser. However, once funded, the loan went into immediate default and the borrowers disappeared.
This unfortunate loan default could have been avoided if the appraiser or underwriter at the lending institution had checked with the City of New York to see if such a use was allowable under residential zoning and if permits had been issued for such space; the answer would have been "no" to both questions. Surprisingly, this particular institution didn't have such a written policy.
Unbeknownst to the appraiser and underwriter on this transaction, these same three "physicians"had mortgaged another property at the same lending institution under the pretext that they would be converting hard-to-lease basement space into a natural foods store. This loan also went into immediate default. The lending institution may have prevented this one with a simple in-house database containing names of borrowers and principals of borrowing entities as "key variables."
This is an example of mortgage fraud for profit, the type of fraud that's obvious and associated with early loan payment defaults