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Fraud Less Likely On ARMs Than Fixed-Rate Loans

Risk of fraud on mortgage applications up from year ago

March 29, 2018

By Mortgage Daily staff

A report that measures the risk of fraud on home-loan applications says that risk on loans with adjustable rates is lower than on fixed-rate mortgages. The report indicated a year-over-year rise in overall risk.

An estimate of the level of defects, fraud and misrepresentation detected in the information submitted in mortgage applications, the Loan Application Defect Index, was 83 as of February.

Compared to the preceding month, the index -- which was benchmarked to a value of 100 as of January 2011 -- was unchanged. But a more than 9 percent increase was recorded versus a year previous.

The year-over-year increase is an indication that the risk level has worsened, according to First American Financial Corp., which reported the latest index Thursday.

But risk was down nearly 19 percent from the peak in October 2013.

While risk on refinance transactions was unchanged from January 2018, it was down more than a percent on purchase-money transactions.

"Rising mortgage rates reduce the benefit of refinancing and increase the share of purchase loan transactions in the market," First American Chief Economist Mark Fleming said in an accompanying statement. "As we have noted before, purchase loan transactions are riskier than refinance transactions."

Fleming noted that while the share of adjustable-rate mortgages widens as interest rates escalate, ARMs aren't as risky as they were before the mortgage crisis -- and, in fact, are slightly less risky than their fixed-rate counterparts.

"At the height of the housing boom, ARMs were all the rage, and many included additional elements that added risk, such as negative amortization, payment-option and interest-only options, and teaser rate ARMs," the economist explained. "Today's ARM is not like those of the past,

"It is essentially the same as the 30-year, fixed-rate mortgage with one difference -- rates adjust after an initial fixed period of usually five or seven years."

Fleming noted that the expected increase in the share of less-risky ARMs could help offset the elevated risk of a diminishing refinance share.

The index in Arkansas during February was 107 -- higher than any other state. Wyoming's 100 followed, then 97 in both Florida and Idaho, and 96 in North Dakota.

At 62, New Hampshire had the lowest risk.

In South Dakota, the index increased from February 2017 by 28 percent -- the most of any state.

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