Flopping: Short Sale Businesses Under Scrutiny

There is a new term in the real estate world known as flopping.  We are all familiar with flipping: buying a home to fix and resale at a profit.  Flopping involves purchasing a short sale and quickly wholesaling it to another person at a higher price.

Apparently, this business model is under significant scrutiny as two indicted Realtors in Connecticut have found out.  For your consideration, please read Banks Face Short Sale Fraud as "Flooping" Rises.

Here are some key excerpts:

Sergio Natera and Anna McElaney are scheduled to be sentenced in Hartford’s federal court in August after pleading guilty to fraud. Their crime involved persuading lenders to approve the sale of homes for less than the balance owed --known as a short sale -- without disclosing that there were better offers. They then flipped the houses for a profit. 

Hmmm...how many investors do you know that do this here in Utah?  The article continues:

In addition to banks losing money, “flopping” may hurt homeowners who complete a short sale and face higher deficiency judgments as lenders seek to recover unpaid mortgage balances, Ann Fulmer, vice president of Interthinx, said in an interview today on Bloomberg Television.
...
Borrowers are “on the hook for larger deficiencies,” she said. “And there are indications that banks are increasingly turning to collection agencies and to civil lawsuits.”

Now, you may be asking "What the heck?! How can a bank dictate what a buyer does with a property?  Why do they care, they approved the short sale right?  The Realtor doesn't represent the bank he represents the seller!  How can the banks acceptance of a low offer be fraudulent if the seller approved even if someone is willing to pay more for the property?"    

Well here is a good explanation:

By allowing broker price opinions, the Treasury exposes taxpayers to short-sale fraud after $49 billion of government bailouts for housing, Barofsky wrote to Congress.

“As constituted now, the program permits home valuation, the key vulnerability point for a flopping scheme, without a true appraisal,” he wrote. “No program of this type and scale can be considered well designed without robust protections of taxpayer funds against the predation of criminals, particularly given the inconsistent treatment of home valuation.” 

Uh oh!  After sticking his fingers in a very hot pie, Uncle Sam's fingers are getting burned and he doesn't like it.  Bank of America is responding:

“We have language in our short sale approval letter that prohibits the flipping of a property and after closing we will audit transactions to identify ‘flips’ or ‘flops’.  It’s not in the best interest of our investors or communities at large to encourage or allow flipping.”

Short sale flipping businesses have been around forever.  Until now, the market has been able to operate to everyone's benefit...buyers, sellers, and lenders.  I believe the only reason lenders are even interested in restricting sales now is that Uncle Sam is calling the shots and politicizing the daily business of mortgage lenders and investors.  Expect to see yet more scrutiny and restrictions on the free operation of our real estate market.  Any heavy clampdown will stifle short sales and force the banks to eat greater losses at the auction steps instead.  I am fine with that.  It will mean better bargains for my clients.