NATNews Blog > April 2016 > Loan Application Defect and Fraud Risk Emerging in Southern States

    Loan Application Defect and Fraud Risk Emerging in Southern States

    4/28/2016 8:48:25 AM
    The First American Loan Application Defect Index, which estimates the frequency of defects, fraudulence and misrepresentation in the information submitted in mortgage loan applications, increased 1.3 percent in March as compared with February and decreased by 2.6 percent as compared with March 2015. The Defect Index, which reflects estimated mortgage loan defect rates over time, by geography and by loan type, is down 25.5 percent from the high point of risk in October 2013.
    "While loan application and mortgage risk increased modestly this month, risk remains significantly lower than a year ago and is significantly lower than it's been in the last five years," said Mark Fleming, chief economist at First American. "Improved loan manufacturing compliance, underwriting consistency and risk management are finally paying off for the industry with less defect, misrepresentation and fraud risk."
    The Defect Index increased modestly this month for the first time since July 2015, ending seven consecutive months of declining defect and misrepresentation risk. While February 2016 is now the new low point for the index, it's too early to know if the increase in misrepresentation and fraud risk in March is the beginning of a long-term upward trend or a short-term adjustment. One possibility for the reversal of direction is the month-over-month increase in risk among Federal Housing Administration (FHA), Veterans Administration, and United States Department of Agriculture loans.
    The defect risk for these loan transaction types increased 1.4 percent from February to March, as opposed to conventional loans that had no change month-over-month. The share of FHA mortgage originations increased after a reduction in the premium last year, making them relatively more competitive for borrowers with low down payments and low credit scores, which also typically have higher defect risk.
    The Defect Index for refinance transactions increased 1.5 percent month-over-month, but remains 5.7 percent lower than a year ago. The Defect Index for purchase transactions increased 1.2 percent month-over-month, but remains down 3.4 percent compared to a year ago. Since defect risk for both purchase and refinance transactions peaked in late 2013, defect risk on refinance transactions has declined more than defect risk for purchase transactions, declining 33.0 percent as compared to 19.2 percent for purchase transactions.
    Emerging Risk in the South
    Last month, the report focused on Texas and Florida as high risk areas of the country. According to Fleming, Florida is risky because of the high concentration of condominiums that are popular among investor and foreign buyers in big markets, like Miami. Texas is experiencing the impact of challenges in the energy market spilling over into the real estate market. However, according to the First American report, there are two other emerging-risk markets also in the South — Oklahoma and South Carolina.
    Fleming noted the energy sector is not the only one suffering from international market dynamics driving prices down. The agricultural sector also faces challenges. Agricultural commodities, such as corn, rice, cotton and wheat, have all suffered significant price declines in the last few years. As in the energy sector, slowing global economic growth has triggered a decline in demand for agricultural commodities relative to supply. In addition, strong demand for U.S. bonds has increased the strength of the U.S. dollar and made agricultural exports more expensive abroad.
    As a result, misrepresentation and fraud risk are increasing in Oklahoma, whose economy relies heavily on both the agriculture and energy sectors, and in South Carolina, with its heavy reliance on agriculture, Fleming said. Misrepresentation and fraud risk is up 8.4 percent and 7.4 percent respectively year-over-year. Tulsa, Oklahoma, and Charleston, South Carolina, have seen misrepresentation and fraud risk increase by more that 10 percent year-over-year.
    "The cliché, 'It's the economy stupid,' still holds true today, although it may be better applied locally. Southern-state economies face the challenges presented by falling prices in energy and agricultural commodity markets," said Fleming. "Economic distress increases the incentive for loan application misrepresentation, if not necessarily outright loan application fraud. In addition to Texas and Florida, Oklahoma and South Carolina are emerging risky states."

    To see additional information and to view the data charts, visit: