Mortgage fraud involving solicitors is on the increase, and there are fears the the painful lessons of the 1990s have been forgotten. Grania Langdon-Down reports
The spectre of a resurgence in mortgage fraud to rival the scale of the multi-million-pound losses of the 1990s is haunting insurers, regulators and practitioners specialising in professional negligence ? and it has prompted calls for a re-education of the profession about the warning signs.
Solicitor Anna Fleming, claims manager with Zurich Professional, says that in the mid-1990s, the discovery of mortgage fraud was largely precipitated by the catastrophic fall in the property market. ?Mortgage fraud is usually masked in a rising market because lenders still get their money back, even if the borrower defaults. I wouldn?t therefore expect to see as much mortgage fraud as we are seeing now ? and that gives us real concern about what is out there.?
What is significant, she says, is that solicitors seem to be ignoring the classic signs which the Law Society first set out 16 years ago in its Green Card on mortgage fraud. ?Our concern is that there is a whole generation of conveyancers out there who didn?t live through the 1990s and don?t spot what is happening,? she says.
Ms Fleming does not mince her words: ?There are some rogue solicitors out there working with mortgage brokers and property developers ? and they know exactly what they are doing. However, we also see single solicitors overseeing large groups of unqualified people doing the spade work where there is a lack of supervision and training and where they are naive rather than crooked.?
She wants to send out a strong message to solicitors: ?You must get your house in order because, if a mortgage fraud is discovered, you may get cover for that claim, but it could have a profound impact on your ability to practise in the future.?
Insurers? concerns are echoed by the Solicitors Regulation Authority (SRA). The recent annual report of the Solicitors Compensation Fund said mortgage fraud is back and arising in much more complex forms than previously seen, particularly relating to commercial property lending or large developments, rather than individual back-to-back transactions as seen in the 1980s and 1990s.
It warns: ?If there is a property downturn, significant new levels of mortgage fraud could recur. Loans are being obtained based on heavily discounted prices that are not disclosed to lenders and are disguised by cash-back schemes and transactions structured to give lenders misleading information. This may even be facilitating a false market in that the recorded sale prices of properties on a development are higher than the real prices paid and therefore the true value of the properties.?
The SRA?s client protection directorate is worried about the possibility of ?catastrophic? defaults, which are difficult to predict. This has prompted the SRA to seek powers in the Legal Services Bill to raise a levy at any time to ensure that the fund has sufficient assets to meet the claims. At the height of the mortgage fraud crisis in 1994, the fund settled the highest-ever level of annual claims at ?29 million.
David Middleton, the SRA?s legal director, says: ?We are concerned that the profession, with the influx of new solicitors, seems to have forgotten how disastrous it was in the 1990s. Quite a lot of lawyers are failing to understand their duties and they will be disciplined for that. In many cases, solicitors are central to the fraud. Sanctions will depend on degree and culpability, but ignorance is no defence.?
There is no obvious evidence of massive default, ?but if you look at the value involved in the multiple transactions some firms are involved in, it adds up to a scary figure?, he says.
Owen Thomas, a solicitor and assistant claims manager with insurers St Paul Travelers, says it has come across small firms or sole practitioners that are being targeted by individuals who promise to bring in money through property work. ?But in reality they are being used as a front for fraud,? he says. ?One example involved someone who did ?1.5 million of fraudulent work in six weeks.?
Another scam is where a firm is instructed by a syndicate that has searched out a new development by a national house builder. They do a deal to buy all the properties, paying, for example, ?300,000 for each, with ?50,000 back on completion. Mr Thomas says: ?The buyer, who has a 90% mortgage for ?270,000, is effectively getting a 100% mortgage plus ?20,000 in his pocket. In one case, the properties ended up being repossessed and sold for just ?175,000. Lawyers are supposed to tell the lender if there have been any incentives before the transaction is completed so the lender can withdraw. But we have examples of firms which knew this was going on, but didn?t include it on their report on title.?
Clive Brett, a professional negligence partner at Oxford-based Henmans, says he has also seen scams involving identity fraud: ?The lender then seeks to claim from their solicitor if they got something wrong. But there is also potential breach of warranty of authority against the selling solicitor who is purporting to be acting for the owner but is, in fact, receiving their instructions from an imposter.?
Another development is split-property fraud, says Ms Fleming, where people raise mortgages with different lenders on small strips of their property, ending up with multiple mortgages which can be worth as much as ?500,000 secured against property worth at best ?200,000. ?These are hugely expensive to sort out,? she says.
There is also more commercial mortgage fraud, with properties massively overvalued to raise loans which could be linked to terrorism or drugs as a way of raising ?clean? money. Ms Fleming says: ?I feel very strongly that the profession needs to open its eyes to what is happening and make sure they know what to look out for.?
One positive result of the devastating fall-out from 1990s mortgage frauds has been a clarification of the law. Katherine Rees, a partner at City firm Reynolds Porter Chamberlain?s lawyers? liability group, says: ?The confusion over what solicitors have to report and their duties has been clarified ? though the idea that solicitors owe an equal duty of care to their client and to the lender took a long time to percolate through.?
It is also clearer where liabilities lie. Mr Brett says: ?In the late 1980s and early 1990s, solicitors were found liable for massive losses ? and they will still be found liable for very substantial losses today if they are implicated in the fraud or if the solicitor?s negligence has led to the fraud going undetected.
?However, by the late-1990s, lines of authority were established in the Bristol & West and Nationwide managed litigation, which means that losses can be restricted depending on the nature of the solicitor?s breach and in circumstances where the lender itself can be said to have contributed to the loss.?
The issue of mortgage fraud highlights some of the ?stringencies? of the solicitors? insurance market. While there is an exemption against paying out on a claim where the solicitor was involved in the fraud, there is also a non-avoidance provision, which means insurers must cover claims as long as there are other ?innocent? partners in the firm. However, Mr Thomas points out that the case of Zurich Professional v Karim & ors  EWHC 3355 makes it clear that cover can be declined if the partners have ?turned a blind eye? to dishonest conduct.
One consequence of the policy terms, says Mr Middleton, is that some lenders have refused to instruct sole practitioners because of concern over insurance cover. He says they have also created significant commercial reasons for lenders to allege breach of duty rather than fraud, even if it is suspected, because it could invalidate the insurance. ?It doesn?t affect us because we don?t rely on other people?s views, though it could affect the flow of intelligence to us,? he sa
The question of intelligence raises another concern of insurers over the ?information block? from the SRA. Ms Fleming says: ?I know there is a presumption of innocence and there are concerns about data protection. But it sticks in your craw somewhat when you find an insured lied on their proposal form by saying they were not under investigation and then you find out they are.?
However, Mr Middleton says there is a clear general principle for regulators operating in a confidential environment that they should not disclose information unless it is in the public interest. ?We have important powers to look at privileged and confidential material, so we have to be very careful about what we disclose,? he says. ?It can be dangerous to do it before the investigation is complete.?
What is clear is that conditions are ripe for increasing amounts of fraud at a time when there are fears of a property downturn. Peter Maguire, partner in CMS Cameron McKenna?s insurance and re-insurance group, says the Law Society has been diligent in keeping the profile of mortgage fraud high.
?But,? he adds, ?the conditions are there for it to happen again ? partly due to the de-personalisation of the process of buying, with more done online; the pressure on fees and the increasing commoditisation of the process; and lax due diligence by lenders who rely on other professionals to be insured.? Add to that a hugely competitive market with money chasing business, and the potential for fraud is clear.
Mr Maguire says comprehensive standards and practices are needed across the profession to make it harder for the crooks who are always looking for the weak links in the chain to exploit. ?It looks like the SRA has set out its stall to take a tough line on this and I certainly feel there should be a more aggressive approach towards miscreants,? he adds.
Overall, he says the profession has a choice in how it deals with the potential crisis: ?It can either assume a foetal position or it can do something now.?
Grania Langdon-Down is a freelance journalist