By James R. Myers, The Chartwell Law Offices, LLP, Ft Myers, FL
Beware of Flopping
As if our national real estate crisis has not been bad enough, a new problem is emerging, as record numbers of short sales continue – a phenomenon known as ―flopping. It is essentially a fraudulent quick flip, involving a re-sale that is both suspiciously fast and highly profitable.
Flopping can occur where a homeowner facing the prospects of a foreclosure is presented with an opportunity to get out from under that threat via a short sale offer conveyed to the lender. The lender often accepts the deal in settlement of the loan — based on the advice of a real estate agent or sometimes its own agent — and sells the property for less than its actual market value. There are various flopping schemes that can come into play, including:
- The agent has arranged for the property to be sold to a business associate, who quickly resells it at a much higher price, sometimes the same day.
- A variation of this scam can include intentional overpricing. A realtor intentionally sets a price for a home so unrealistically high there are no offers right up to the eve of foreclosure, when the realtor suddenly discovers a short-sale buyer for a below market price. The new owner re-sells the house for a quick profit.
The harm that can be caused by flopping is widespread. First, for the homeowner who has been wrongfully manipulated, the owner loses extra money that could have helped with finances or to salvage a credit rating. Furthermore, an owner who loses a non-homesteaded house in a short sale typically has to pay federal income tax on the amount written down by the bank. A flop increases the amount written down, which increases the tax liability. Also, in some short sales, an owner may be required to make up the difference between what the lender receives and what the borrower owes. Obviously, the lower the sales price, the bigger the gap the borrower is stuck having to cover.
In addition, taxpayers at large can end up picking up the tab for covering some lenders’ short sale losses, through federal regulations that can enable a lender to claim a refund. But perhaps worst of all, the practice can continue to keep already shaky property values in a state of flux and uncertainty; these types of sales can artificially depress home values and cause fluctuations that are not truly market-based. Such practices do nothing to help restore credibility to the banking and lending industry and to restore confidence in, and bring back stability to the real estate marketplace itself – which is absolutely critical if we are ever to see a national economic recovery.
Criminal fraud prosecutions and civil fraud suits are still in their infancy, as the regulatory and legal professions are still coming up to speed on this phenomenon. Needless to say, no real estate errors and omissions (malpractice) insurance policy provides any coverage for criminal activities or for civil fraud. Real estate brokers should keep a close eye on short sales. They should take special care to remind their agents about the ethical and legal necessity to make certain that all offers are presented to the homeowner; that the highest possible fair market value price must be pursued; and the critical necessity of having arms-length transactions. Re-sales that occur quickly (e.g, in under a month) may not raise suspicions by themselves; however, if quick sales are also accompanied by unusually high profits – the type not typically seen following simple and minor cosmetic improvements, then such sales are likely to come under ever increasing scrutiny in the future.