Due to the recent slowdown in the housing industry, an old wrinkle to the flip transaction has returned with a vengeance. Specifically, the scheme involves cash back to the buyer at the closing. As with illegal flip transactions, the main purpose of an illegal cash back-to-buyer transaction is to artificially increase the value of the property in order to obtain a larger mortgage which allows those committing the fraud to pocket the excess proceeds.
For example, a property is initially listed at a sales price of $200,000. The seller receives a contract to purchase the property offering to pay $250,000; however, an addendum is attached to the contract which states that $50,000 of the purchase price must be paid from the seller's net proceeds to a third party for what is often referred to as a management fee or for fix-up expenses. The third party, it turns out, is an entity either owned by the purchaser or by one of the purchaser's accomplices. There is, in fact, no management fee or fix-up fee. The whole purpose of the transaction is to obtain cash back for the buyer and/or his or her accomplices.
In another variation of this scheme, the seller, just prior to closing, will request that a portion of his/her proceeds be used to pay-off a non-existent lien or mortgage. Once again, the payment is going to an entity controlled by the buyer or his/her accomplices.
Under all of these variations, the contract will show a sales price of $250,000 and an inflated appraisal will be obtained so that the lender bases its loan on a property valued at $250,000. The buyer then pockets the additional $50,000 and the lender is left with an under-secured loan for $250,000 on a property worth only $200,000.
As with a flip transaction, it is possible that some of these transactions are legitimate; however, no agent should conduct one of these transactions without full disclosure to the ultimate lender. Specifically, if you receive such a transaction, you need to complete the following procedures:
1. On Schedule (B-1) of the Commitment, make a statement that the contract requires that a portion of the sales proceeds be paid to someone other than the seller.
2. Send a copy of the contract and any addendum to the contract to the lender being insured with a cover letter specifically pointing out the portions of the contract which require proceeds to go to somebody other than the seller. If the provisions are not in the original contract but come at a later date, require the seller to put their request into writing and send the request to the lender. Require that the lender approve in writing that seller's proceeds can be paid to somebody other than the seller.
3. The HUD statement must clearly show that a portion of the sellers' proceeds are being paid to someone other than the seller.
4. If more than $10,000 is being paid to someone other than the seller from the seller's net proceeds, you must obtain underwriter approval.
5. Review the lender's closing instructions closely to verify that they do not prohibit any seller's net proceeds being paid to anyone other than the seller.
In addition to these procedures, you should review again Stewart's prior Bulletin FL000083 on Flip Transactions and make sure that those procedures, including the requirement for underwriter approval, continue to be followed for any flip transaction.
Please contact a Stewart Florida underwriter if you have any questions concerning this or any other topic for which you need assistance. For on-line viewing of this and other bulletins, log onto http://vuwriter.com