A New York resident has admitted his role in a multifamily real estate scandal that included fake residents, false incomes, and inflated mortgages according to the U.S. Attorney’s Office for the Western District of New York. The man, Patrick Ogiony, pled guilty to conspiracy to commit bank fraud as part of his plea. Last year, the Wall Street Journal called the scam “the scandal that could explode multifamily real estate” and compared the operation to similar single-family residential scams that included straw buyers and falsified income statements leading up to the housing crash.
Billions of Dollars Could Be Involved
According to WSJ, dozens of apartment buildings in the Northeast were part of the investigation and about $1.5 billion in securities backed by Fannie Mae and Freddie Mac were placed at risk by a single developer believed to be involved in the scheme. At the time, in August 2018 when the investigation was first reported, the paper noted that the 2010 Dodd-Frank legislation that requires home borrowers to document income and lenders to verify it does not apply to multifamily housing. The result: a potential loophole for unscrupulous or overzealous developers to submit false numbers in order to gain access to more funding and build more multifamily developments.
Given the massive demand for multifamily development across the country, even a pending scandal like this one seems unlikely to “explode” the market. However, should the sector shift before new developments are completed, the issue could be magnified and, potentially, create a scenario in which the support system underneath these securities weakens. Ogiony alone admitted to providing false information about 20 separate multifamily properties in New York, Pennsylvania, Illinois, Texas, South Carolina, and North Carolina. He presently faces five years in prison and a $250,000 fine, although he still awaits sentencing. Co-conspirator Kevin Morgan, who has been convicted of conspiracy to commit bank fraud as well, also awaits sentencing. Two other alleged co-conspirators have not been convicted.
Will This Hurt the Multifamily Sector?
One of the most problematic ways in which this scam operated was that it created, often successfully, the appearance of occupancy in properties seeking financing. For example, in one Pittsburgh property, radios were installed in vacant units, shoes were placed on mats outside doors with no residents, and cars were parked in resident spaces to make the building appear to have better occupancy than it did. Once a lender agreed to finance the property, the loans were sold to Fannie or Freddie. The financing funds could then be used to expand business faster or simply to obtain access to cash.
Fannie Mae and Freddie Mac have both indirectly addressed this issue by simply saying via a public statement online: “Multifamily mortgage fraud continues to be a problem nationwide” but adding, “The statement does not mean to suggest these issues routinely appear in Fannie Mae loans” or with its lenders. The statement also notes that lenders share substantial credit risk (about a third) with Fannie and Freddie in the event of loss.
The real issue, if this problem is wider-spread than the operations already under investigation, could emerge when borrowers find themselves at the end of interest-only loan terms and are unable to pay the full balance owed monthly at that time. If the properties have not performed as projected, if improvements allegedly intended to be funded by fraudulently obtained financing were not made, or if the market has softened at this point, then the multifamily market could face a collapse similar to that of the single-family housing bubble over a decade ago. Roughly three in every four multifamily loans bought by Fannie and Freddie had full or partial interest-only payment periods.
The types of properties that were financed may also play a role in the fallout. The supply of lower-priced multifamily housing remains tight with little likelihood of loosening the near future. However, with commercial and multifamily mortgage debt burgeoning by nearly 7 percent in 2018 (that equates to about $216 billion), if properties were extended financing on the basis of being fully occupied higher-end residences, the owners could have a problem . With Fannie and Freddie increasing their multifamily mortgage debt holdings, the question of whether this scam will affect the multifamily housing market, “exploding” it, as has been speculated, will be twofold:
- What types of properties were fraudulently financed?
- What was done with the funds?
Tell your fellow members what you think:
- Do you think this has the potential to “pop” a multifamily bubble?
- Is there a multifamily bubble?