The problem of mortgage fraud seems to have escalated out of all proportion. Earlier this year a report by KPMG revealed that its value rose almost 10-fold in 2008, hitting £36m. The value of fraud in 2007 was just £3.7m. The consultancy firm claimed stringent lending criteria was making mortgage losses more visible.
Of course, it’s not just the mortgage sector that has seen fraudu-lent activity. Total fraud cases in 2008 reached £1bn – the highest level since 1995. But with the eyes of the world on the flagging mortgage industry it’s the mortgage figures that stand out.
The case of Leo Kusi-Appiah is one example of fraud. The broker traded under the name Oxford House Financial Services in north London. He was banned by the FSA after it was revealed he had been submitting fraudulent mortgage applications in his and his wife’s names, along with the name of a fictitious individual called Kwadjo Amoteng. The underhand broker was jailed after pleading guilty to obtaining property by deception in connection with mortgage fraud.
During the trial it was revealed that the FSA had received a handwritten letter from Ghana in which someone calling himself Kwadjo Amoteng confessed to committing mortgage fraud using Kusi-Appiah’s name. Handwriting analysis showed the letter was probably written by Kusi-Appiah himself.
He also made false and misleading statements to the FSA about his business arrangements and failed to disclose in his application for authorisation that he had been the subject of two County Court judgments.
“This is one of the more serious mortgage fraud cases we have come across since mortgage regulation began four years ago,” Margaret Cole, director of enforcement at the FSA, said at the time.
“It was one of the first mortgage broker cases we decided to investigate back in 2005. FSA staff worked closely with Hertfordshire Constabulary to avoid tipping off Kusi-Appiah, and the FSA and police investigations were conducted in parallel. We continue to work with police forces and other law enforcement agencies in a nationwide crackdown on mortgage fraud and I expect to see more prosecutions of this kind and confiscation of assets in the coming months and years.”
In January five directors of a Gateshead-based property group pleaded guilty to being involved in an £80m buy-to-let investment fraud. The directors of PPP Ltd, Practical Property Portfolios Ltd and Napeer Holdings Ltd entered the guilty pleas at Newcastle Crown Court between January 5 and January 15 this year. Between 2001 and 2003 John Potts, Peter Gosling, Natalie Laverick, Peter Graham and Eric Armstrong helped dupe at least 1,750 investors into parting with an estimated £80m.
In February brokerage Warwick Finance was banned by the FSA and had its permissions revoked amid claims it had breached articles 1, 6 and 11 of the regulator’s Principles for Business. It was also alleged that advisers had phoned clients claiming to be from HBOS and used high pressure sales tactics.
Proprietor Aaron Nickols vowed to fight the allegations claiming his firm had a business relationship with HBOS whereby it could say it was a partner of Halifax and that the allegations stemmed from a dis-gruntled former employee. Still, the case provided further evidence that it was no more Mr Nice Guy for the FSA.
But while few see the regulator stamping out fraud as a bad thing, is it the right time for it to come down so heavily on the broker sector? Even the most optimistic of brokers would have to concede that times are worse than ever. Dual pricing, the slump in lending, low consumer confidence – the list of things stacked against brokers is seemingly endless. So is the FSA right to intervene now or is it kicking a sector when it is down?
Fahim Antoniades, director of Quantum Mortgage Brokers, believes the former to be true.
“A regulatory body should have the teeth to perform its functions properly or it will not be able to regulate,” he says. “But hopefully the way the FSA uses those teeth is proper, consistent and measured. We cannot afford peaks and troughs in enforcement to the point where the industry loses faith in its regulator.”
Justin Rees, UK head of marketing at Leadpoint, says the regulator must specify what it expects from the industry.
“The key for a regulator is to provide clear guidelines and rules that are easy to implement and can be readily followed by anybody they affect,” he says.
“This should apply to any regulator in any industry. As long as this simple guideline is followed every stake-holder in the industry concerned should be comfortable when the regulator is doing its job.”
Rees says there is a perceived lack of clarity when it comes to the FSA that needs to be addressed.
“Lack of clarity ends up with the FSA shooting itself in the foot,” he says. “Nobody would deny that it is a mammoth task to regulate such a huge and complex industry but too often the FSA appears to regulate reactively rather than proactively. If it did more to communicate a clear vision of its role nobody would raise an eye-brow when it exercised its regulatory powers.”
Far from kicking the market when it is down, Michael White, chief executive of Email Mortgages, believes it is more important than ever that the regulator should act in the current circumstances. He says the tough times being faced by brokers may lead to the temptation to act in deceitful ways.
“The FSA should be monitoring firms closely at this time,” says White. “The economy is in freefall, business is scarce and as a consequence income is critically low. That’s why the opportunity to recommend products that suit the cash flow requirements of regulated individuals – or worse, for them to engage in fraud – may be too tempting to resist.”
For David Hollingworth, mortgage specialist at London and Country, the FSA’s tougher stance is a good thing.
“While it might initially seem that the last thing the industry needs at the moment is news of brokers being brought to book over fraudulent activity, the FSA cannot relent in performing this crucial policing role,” he says.
“In fact, the FSA has already stated that one of the threats of a downturn is more fraudulent behaviour. This needs to be nipped in the bud to weed out the minority that create a bad image for the rest of the industry.”
David Thomas, managing partner at Hampshire-based brokerage Chadney Bulgin, agrees.
“The quicker this industry is seen as a profession the better,” he says. “The FSA must expose and fine fraudulent brokers both to protect the public and to hasten the advent of professionalism.”
Sue Read, associate at Moneywatch Finance, says the regulator’s approach will give law-abiding brokers the chance to flourish.
“It’s great that the FSA is finally using its teeth,” she says. “Anyone acting outside of the regulations deserves to be penalised to the maximum extent possible, regardless of the condition of the market.
“Whenever a broker acts in this way they are breaking the law, plain and simple. Getting tough on the industry’s rogues should mean that advisers acting within the law can continue to operate with their credibility intact.”
The Building Societies Association also backs the move.
“It is important the FSA continues to police firms and take action against those found to be in breach of its requirements, irrespective of market conditions,” says Neil Johnson, policy manager at the BSA.
“This will uphold the interests not only of consumers but also the vast majority of firms that play by the rules.”
Danny Lovey, proprietor of The Mortgage Practitioner, says lenders are also at fault.
“I welcome the fact that the FSA is exposing brokers who are serial fraudsters as these individuals and their firms bring our industry into disrepute,” he says. “But some lenders have also been guilty of turning a blind eye to abuse simply because of their pressing need for market share.
“We all know that in the past, self-cert facilities were abused and that fast-track was often quietly suggested as a means of bypassing income checking. I know of cases where encouraged behaviour such as this. It’s no good them now claiming them did not know what was going on because many of us were shouting about it in the trade press at the time.” Andy Pratt, chief operating officer of Alexander Hall, says the regulator has been too slow to react.
“The FSA is to be applauded for finally getting tough on fraud but it is behind the curve,” he says. “We now have virtually no sub-prime market, there are few self-cert products available and the prime market is only active up to 85% LTV. The scope for fraud is much reduced, especially with lenders taking a more rigorous approach to risk.”
Pratt says retrospectively fining broker firms for fraudulent activity is correct but it does not help the market now – the bad apples should have been tackled years ago.
“The FSA needs to develop a more timely system of reviews to identify fraud and take action, otherwise the sector will suffer in the same way again as the market returns over the next couple of years,” he says.
According to Bill Warren, managing director of Bill Warren Compliance, while the regulator’s action is positive, the timing of it is likely to overshadow it.
“In life, timing is often crucial,” he says. “Sadly the length of time it has taken for some of the FSA’s recent decisions to become public has given the impression that the regulator is kicking the broker sector when it is down.
“This perception will be hard to shake, particularly as most of the cases revolve around fraud of one type or another and everyone in the market needs to see the back of the firms and individuals involved. The most recent case reported publicly had to wait for the court case to be completed before the FSA could go public.”
Warren says the FSA’s process might seem slow but the steps that both the regulator and firms subject to potential enforcement have to go through are designed for the benefit of both parties.
“The need for an appeal process is paramount in a situation where the consequences of the FSA’s actions are so serious for those involved,” he says. “The FSA must ensure that its evidence of wrongdoing is beyond reproach in all respects. It must also clearly demonstrate fairness in its dealings with authorised firms.
“In the current market where mortgage business is so difficult to find and place, any enforcement action made public could be the result of many months’ work, with the firm involved being given every chance to defend itself, perhaps using industry professionals as well as its lawyers. This must the correct approach even if fraudulent behaviour is alleged. Everyone is innocent until proven guilty, but as an industry have had enough warnings from the FSA to get things right.”
While the timing of announcements regarding cases may be out of the FSA’s hands, its decision to publicly declare it will be taking a firm hand from now on was intentional.
But Allison Beeston, compliance and communications manager at Bridgewater Equity Release, is concerned this may have the opposite effect to that which was intended.
“After recent poor press and subsequent damage to its repu-tation the FSA is under pressure to demonstrate it is able to regulate the financial services markets appropriately,” she says. “It needs to be able to show it has sufficient controls in place to identify wrong-doing and that it takes tough action when it finds it. In this way it hopes to reassure the public that it is achieving its objectives, particularly protecting consumers. Those caught for fraud deserve no sympathy, no matter what the market context.
“But the disadvantage of fines is that they could reinforce consumers’ perceptions that the financial services industry is full of fat cats and cowboys. It’s a difficult balance.”
Beeston is right to be concerned. A survey by market research group GfK NOP found confidence in the economy sank to its lowest level since the early 1990s after the collapse of Northern Rock. The firm’s barometer of confidence fell to a 13-year low to -17.
Of course, since the Northern Rock crisis consumers have seen rapidly falling house prices, various government rescue attempts – each more fruitless than the last – and heard the word depression bandied about. In short, if consumer confidence was low last year it must be through the floor by now.
But Rob Roberts, senior adviser at Chesterton Grant, believes this is the right time to adopt a more effective action plan.
“With consumer confidence at an all-time low due to lender profiteering and governmental mismanagement, fraudulent activity in financial services is just another nail in the coffin and it hits the headlines with alarming regularity,” he says.
“The FSA is right to attempt to tackle fraud in the industry and this can only be a good thing. It will boost confidence in a sector that is constantly being battered by the media.
“Hopefully, the media will take this development on board and paint a positive picture of something the regulator is doing to improve standards,” he adds. “We need to restore a little faith in the financial system.”
It seems that the industry is broadly pleased with the FSA’s tougher approach to fraudulent firms and with it recently ann-ouncing a clampdown on phoenix firms, it could be that the watch-dog is finally doing its job – only 1,580 days late.
Caution is the watchword
Business relations consultant
The Consulting Consortium
Helicopters, offshore honey pots, Sir Allen Stanford, Bernard Madoff, mortgage fraud, self-cert, boiler rooms and market abuse have all contributed to making the financial services sector an exciting place to work in recent years. But now the Financial Services Authority is determined to clean it up, with criminal prosecution firmly in its armoury.
How does this affect high street mortgage brokers and IFAs? The shift in emphasis towards criminal proceedings could affect their personal right to remain silent and potentially puts them on a collision course with the regulator.
All advisers will be familiar with the FSA’s principles in spirit even if they can’t quote each one parrot fashion. Principle 11, encouragingly entitled ‘Relations with regulators’, requires that a firm “deals with its regulators in an open and cooperative way, and must disclose to the FSA appropriately anything relating to the firm of which the FSA would reasonably expect notice”.
In my many years’ experience as a regulator, compliance officer and regulatory consultant, I have learnt is that it is futile to fight the FSA – it’s better to swim with the tide.
That’s not to say the FSA should not be challenged. A robust debate between industry professionals is refreshing and to be welcomed, but imagine you are driving responsibly, adhering strictly to the speed limit and a police car comes into view. Don’t you instinctively take your foot off the gas, even for a moment?
My point is that caution is always prudent and there’s a fine line between meeting the FSA’s expectations in relation to Principle 11 and incriminating your firm in the event of a criminal prosecution.
Unfortunately, Principle 11 is heavy on expectations and light on specifics, and principles-based regulation has led to uncertainty over what is appropriate to divulge to the FSA and what should be regarded as privileged information.
The regulator is not reluctant to start criminal proceedings against firms or individuals. In November 2008, Jamie Symington, head of wholesale at the FSA, described its tougher approach to criminal prosecutions as one of the most significant changes in its role. The regulator started three criminal prosecutions in 2008 and is confident of bringing more.
So what should regulated firms do when they fear being caught in the crossfire? First, they should get advice from consultants or lawyers who have experience of dealing with this situation. And they might also find it useful to seek guidance from those who have walked the tightrope of balancing Principle 11 with self-preservation. Happy landing.
Most cases involve organised rings of professional fraudsters
With the news that nearly 70 mortgage brokers face legal action after being investigated by the Financial Services Authority, mortgage fraud – and in particular, the role of brokers in this – is once more in the headlines.
If industry experts are to be believed, the true scale of the mortgage fraud committed during the housing market boom is only now becoming clear with some analysts saying that around 60,000 properties, worth as much as £17bn, were acquired by fraudulent loans.
More than half of the cases currently under investigation involve organised rings of professional mortgage fraudsters including brokers, solicitors and surveyors.
The FSA has stated that the problem is more widespread than it originally thought and that is particularly prevalent in new-build developments. It believes that a combination of easy credit and a streamlined application process, assisted by the growth of self-cert mortgages, contributed to the rise in mortgage fraud.
When money was easily available there was no pressure on lenders to look deeply into fraud and those involved in organised crime saw their opportunity.
There are three common types of mortgage fraud. The first is where a developer offers large cashbacks to borrowers which are not disclosed to lenders. This way, a loan not intended to be for more than 85% of the purchase price can end up being more than 100% once the cashback incentive is taken into account. As the buyer may not be making much of a net contribution to the purchase numerous purchases can be made, increasing the likelihood of borrowers falling into arrears.
To address this, in 2008 the Council of Mortgage Lenders introduced measures requiring developers to disclose cashbacks directly to lenders. While this may make fraud more difficult in future, experts fear that we are yet to see the full impact of individuals borrowing in excess of their ability to pay.
The second type of fraud can be laid more easily at brokers’ doors. It relates to the attitude some brokers and lenders took to the relaxed lending criteria of the past few years. In particular, it concerns situations where buyers provided false information that some brokers chose not to query or worse, encouraged. Lenders then compounded the problem by choosing not to verify it either.
But it is the third type that represents the growth area in fraud. Increasing use of the internet has seen an explosion in identity fraud, with scams such as ‘phishing’ making it easy for criminals to obtain false identities on the black market.
The most common scam of this type is takeover fraud, where a fraudster impersonates an individual to take over and control one or more of their accounts. This increased 157% between January and June 2008, according to fraud prevention service CIFAS.
Brokers need to be vigilant, ensuring their staff are aware of the different types of fraud they may encounter. They should have strict procedures in place to ensure income documentation is checked for accuracy, money laundering procedures are adhered to, previous addresses are obtained and doubts regarding information are raised.
The 70 cases in the news represent a small percentage of the broker population. Most are working hard to ensure they provide their clients with appropriate advice in a compliant manner. If that fails to cheer you up, take heart from the news that the FSA expects mortgage fraud to fall naturally as a result of the credit crunch.
Introduce steps to monitor risk
The continuing interest and activity by the Financial Services Authority in the mortgage intermediary sector shows no sign of letting up and the indications are it could even intensify.
Most attention has revolved around criminal activity surrounding fraudulent mortgage applications, with several individuals being struck off and even pursued by the Serious Fraud Office with custodial sentences in mind.
While this affects a minority of firms, the FSA is carrying out significant supervisory work with all firms to rectify shortcomings.
The final notices that have been issued show a focus not just on the act of fraud itself but also on the internal framework that allows fraud to take place. As we are all aware, senior managers are ultimately responsible for the behaviour of staff and this is reflected in the regulator’s Treating Customers Fairly initiative. Senior managers are expected to create a framework that not only recognises the risks firms face but also introduces steps to monitor and mitigate these risks.
Risk management is not an exact science and while different firms may be subject to the same risks it is unlikely they will deal with them in the same way. When addressing these risks, consideration needs to be given to resource, cost and operational impact. If a risk can only be controlled by introducing procedures that prevent business being written a rethink is required.
In my experience there are three key areas that a firm should look at. First is the monitoring of advice. The only way to ensure advisers are providing compliant advice is to check their advice files prior to these being issued. Pre-approval of business is time-consuming but provides protection for firms. A compromise option is to take a risk-based approach to assessment, with pre-approval only being required for high risk cases.
Second, a robust training and competence scheme can act as a useful warning system. Schemes should be designed to not only ensure that advisers are assessed as competent at the outset but also to identify shortfalls in knowledge or sales behaviour.
Third, it is imperative there is a regular flow of information to the board which allows directors to understand the risks facing firms and the success of steps taken to address them. High quality management information leads to good governance.
It’s easy for firms to become apathetic towards compliance, particularly in times of commercial pressure, but I caution strongly against this. An increasing number of mortgage firms are using external consultants to meet their regulatory obligations and this can be a cost-effective solution compared with the high costs associated with non-compliance.