Beware of shelter fraud in real estate transactions
In the September 2010 issue of LAWPRO Magazine, we asked our claims counsel about what they feel are the biggest malpractice hazards in each area of law based on the claims files they work on every day. Here is an excerpt from that article dealing with clients who urge a quick settlement. Click here to read the full article “Practice Pitfalls”.
When lawyers think about real estate fraud, they tend to think about fake clients with forged ID obtaining fraudulent mortgages, or flip frauds where the value of a property is artificially inflated. They rarely think of shelter fraud – a very real source of claims involving real people who want real places to live.
In this scenario, people who don’t qualify for a mortgage enlist the help of a “friend” or family member. For a payment, the “friend” becomes the borrower and takes title to the property and presents himself to the lawyer as the happy purchaser of the home. In effect he’s selling his good credit. Of course he has no intention of living there, and the person(s) who hired him will move in and promise to make the mortgage payments.
The risks for lawyers in this arrangement are obvious: When the person(s) behind the scheme default on the mortgage, the “friend” will find he is on the hook, pursued by the bank and facing financial ruin. The friend may sue the lawyer claiming that he was not aware of what he was getting himself into, and that the lawyer knew (or should have known) that he was buying on behalf of others and should have made him aware of the consequences of defaulting on the mortgage.
Also, lawyers in the majority of residential real estate matters represent the lender as well as the borrower, but their duty of care to the lender is sometimes overlooked. “Lawyers often forget, because they see the purchaser right in front of them talking about when they get the keys, that the bank is their client too,” says Mitch Goldberg, senior claims counsel at LAWPRO. “They have to provide the bank with any information that is material to the transaction.” The lending bank can bring claims against lawyers for failing to disclose all the relevant information they knew (or should have known).
This type of claim could also be considered “inadequate investigation,” which is an especially prevalent error type in high-volume real estate practices. Often, there are signs that a shelter fraud is taking place: The client may not seem to know much about the property being purchased. Or he may be taking instructions from others who are not part of the transaction. If lawyers have suspicions about the intent to occupy where it appears that the lender thinks it is making a mortgage loan to an owner-occupier, lawyers must take some steps to satisfy
themselves that the purchaser is indeed planning to live in the property, and not just take the deal at face value. (Of course, where the purchaser is a prospective landlord, other obligations can apply relating to the assumption of tenancies, rent control or building compliance issues.)
Granofsky stresses that it’s important to document the inquiries lawyers make. “Lawyers often don’t document the nature of their inquiries, even if they do ask the questions. Then it comes down to credibility, because the claimant will invariably deny that she was asked the questions.” While there is only so much lawyers can do to ensure the borrower is in fact the person planning to live in the house, even having the client sign a declaration to that effect could be protection against a claim later on.