Guarding against mortgage fraud and related loan fraud defects have always been priorities for lenders, but these days, the stakes are even higher given the industry’s razor-thin margins and the possibility of significant losses in the event of buybacks. While fraud, in general, has been relatively low in recent years, mortgage defects spiked up after the boom years of 2020-2022 and produced a wave of expensive buyback demands. Based on recent actions by the GSEs, the industry can expect greater scrutiny of both non-performing and performing loans.
To stay one step ahead—for both compliance and profitability—lenders should consider examining their quality control processes and modernizing their loan fraud/defect detection efforts with automated, technology-based solutions that can adapt to the complexities of today’s challenging mortgage market. Here are three reasons why now, more than ever, lenders need a proven, industry-leading fraud solution in place.
1. GSEs are placing increased emphasis on fraud mitigation—a clear indication that lenders need to also up their game.
The Federal Housing Finance Agency (FHFA) has made fraud detection a regulatory priority, emphasizing the need for lenders to adopt more rigorous fraud prevention strategies. As a result, both Fannie Mae and Freddie Mac are enhancing their oversight of lenders, increasing enforcement protocols and reinforcing fraud-related training among lenders.
Fannie Mae recently launched a new AI-powered Crime Detection Unit that can review and analyze huge volumes of loan data to identify fraud risk in only minutes versus the previous process that took months. While this may reduce buybacks down the road, it most likely will result in more non-salable, or at least scratch and dent loans earlier in the sales process.
As the GSEs go, so go lenders, and fraud mitigation is clearly a priority. First American Data & Analytics’ FraudGuardÒ solution was developed to provide automated fraud-risk detection with the ability to identify potential quality issues from application through post-close. It provides a centralized, data-driven view of property and transaction-level risk including both fraudulent activity as well as loan quality defects.
2. Loan defect trends are shifting, with more fraud-related occurrences.
According to the ACES Quality Management Q4/CY 2024 Mortgage QC Industry Trends Report, fraud-related findings—especially occupancy and income misrepresentation—are resurging. Similarly, Fannie Mae reports that misrepresentation ranks among the top initial defects in both random and discretionary post-purchase reviews. Occupancy fraud, which is often difficult to detect, has become more common due to the rise of short-term rentals and changing borrower behaviors. Income fraud, often involving unverifiable employment or rental income, continues to be a key trigger for post-purchase review findings by Fannie Mae.
Aside from fraud, trends in the types of loan defects are shifting. The category with the highest number of loan defects in Q4 2024 was Legal/Regulatory/Compliance. Also worth noting are insurance-related defects, which historically have been less than 1%, were on the rise. Increased natural disasters and rising home prices have led to an upheaval in the home insurance industry, resulting in increased premiums and some insurance carriers reducing or even eliminating coverage in high-risk areas. This can create gaps in coverage which can affect loan eligibility and increase compliance risk. Having a solution like FraudGuard in place and re-running it just prior to closing, can often identify these insurance issues.
3. Affordability and a majority purchase origination market are opening the door to more fraud.
Affordability can also encourage fraud. According to the First American Data & Analytics June Home Price Index report, rising mortgage rates in April and May reduced affordability which tempered demand and contributed to annual appreciation reaching the slowest pace since 2012.
With affordability at an all-time low, today, the average homebuyer needs to earn more than $100,000 to qualify for a mortgage in many markets. This can create an incentive to misrepresent income and occupancy as well as “forget” to disclose debts.
The complexity of purchase deals and the multiple parties involved—agents, sellers, appraisers— open the door for fraud exploitation at various touchpoints. Ironically, AI is improving the efficiency and cost effectiveness of the mortgage origination process, including fraud detection, but impersonators and other bad actors have leveraged AI to increase their own capabilities and tools to commit more fraud.
Due to the fact that overwhelming majority of first mortgages are at interest rates of 6% or less, home equity lending activity is increasing—equity withdrawals including cash-out refinances totaled $45 billion, the strongest Q1 since 2022—and with that comes increased risk of fraud. Designed specifically for home equity lending, FraudGuard Home Equity (FGHE) streamlines the amount of data reviewed to that captured in a traditional HE transaction and results in a lower priced solution designed to meet the risk tolerances for home equity products. A core component in FGHE is the senior lien which identifies any ineligible liens or loan activity that would prevent the safe origination of a second lien.
FraudGuard consolidates multiple risk detection services into a single-source tool to help lenders automate fraud detection, validates property valuations, integrates seamlessly with loan origination systems (LOS) and covers 100% of U.S. residential properties. Importantly, it also offers automated post-close tools to reduce buyback exposure.