Sunday, March 12, 2006
Fraud 101
Creative real estate financing ... and sentencing.
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The world of real estate, much like our universe, is clustered with celestial bodies of all sorts. There are supernovae, quasars, suns, planets, moons and … black holes. This post will focus on the black holes of real estate.
There are individuals in the industry, whether practitioners or consumers, who still believe in this day and age that using fraudulent means is the best way to get rich quickly whereas, in fact, fraud is invariably the guarantee to land a plurannual jail term. Of all places in North America, British Columbia is possibly the one where fraudulent real estate practices of any kind are the least tolerated. Section 380 of PART X (FRAUDULENT TRANSACTIONS RELATING TO CONTRACTS AND TRADE) of the British Columbia Criminal Code, in fact, reads as follows:
“380(1)_ Every one who, by deceit, falsehood or other fraudulent means, whether or not it is a false pretence within the meaning of this Act, defrauds the public or any person, whether ascertained or not, of any personal property, real property, money or valuable security or any service,
(a) is guilty of an indictable offence and liable to a term of imprisonment not exceeding fourteen years, where the subject-matter of the offence is a testamentary instrument or the value of the subject-matter of the offence exceeds five thousand dollars.
380(2)_ Every one who, by deceit, falsehood or other fraudulent means, whether or not it is a false pretence within the meaning of this Act, with intent to defraud, affects the public market price of stocks, shares, real property, merchandise or anything that is offered for sale to the public is guilty of an indictable offence and liable to imprisonment for a term not exceeding fourteen years."
In general terms, fraud occurs when a misrepresentation is false and is made either knowingly, without belief in its truthfulness, or recklessly – that is not caring whether it is true or false. The person committing fraud, unlike negligent misrepresentation, does not need to be an expert to be liable. Under the circumstances, it would appear that it is pretty suicidal to perpetrate fraud in British Columbia considering that the Courts tend to apply the law quite literally. And yet, once in a while, we hear of someone who wants to imitate Beau Geste and try his hand at s.380 – with very regretful consequences as the following actual cases can confirm.
A real estate developer exercised his sense of ‘financial creativity’ by purportedly soliciting funds from several private investors and one institutional lender, with the intent of developing a strip mall over three adjoining parcels of land zoned commercial-retail, which he owned. In the context of a fraud prosecution, the accused was the directing mind of a company involved in construction. Contracts were made and funds taken from the private investors on the basis of a false representation by the accused that the funds were insured. The developer, subsequently, applied to an institutional lender for a construction loan, intentionally and willfully misrepresenting to the lender that the funds so deceitfully raised were, in fact, his own. In due course the company became insolvent, the project was not completed and most investors lost their money, in part because the insurance was not available as represented.
The trial judge, whose sense of ‘creativity’ was practically non-existent, found the developer in breach of s.380(1) and sentenced him on five counts of fraud carrying a combined total jail term of 7 years. Additionally, a $25,000 fine was imposed to cover general and exemplary damages and forced sale of the subject property was ordered so as to reimburse lost funds to the investors and the institutional lender.
In a different scenario, a real estate agent acting in a capacity of dual agency concocted such a twisted scheme which, no doubt, would have made Houdini green with envy. Having listed a $1.2 million villa, the agent found a buyer ready, willing and able to purchase at full price. The buyer, however, fell short of qualifying for financing. The agent, then, drafted a ‘letter of intent’ wherein it was agreed between the parties that: 1) the asking price of the property was going to be reduced of $150,000 to $1,050,000; 2) that seller and buyer were going to enter into an agreement to transfer the property for $1,050,000; 3) that on completion the buyer would grant the seller a $150,000 unsecured promissory note. The agent then proceeded to submit to the MLS a price reduction form duly signed by seller and, soon thereafter, a new contract of purchase and sale was entered as between seller and buyer for a transfer price of $1,050,000.
On introducing the buyer to his own banker, the agent failed to disclose the ‘letter of intent’. Having obtained the necessary financing, the buyer completed the deal and everything would have been fine ... except that, approximately a year later, the buyer defaulted on the mortgage and on the secret promissory note. The seller then, attempted to enforce payment of the unsecured promissory note, so that the entire scheme surfaced.
On legal proceedings instituted by the lender and the seller as against the buyer and the dual agent, the trial judge convicted the buyer on one count of fraud and found the agent guilty of negligent as well as fraudulent misrepresentations. A 2-year jail term was handed out to the buyer together with a $20,000 fine covering general and exemplary damages, as well as an order of forced sale of the property. The agent was found in violation of s.380(1) and convicted on four counts of fraud. A 6-year jail term was dished out together with a $20,000 fine for general and exemplary damages, and the case was transferred over to the Office of the Superintendent of Real Estate for disciplinary proceedings. The Superintendent of Real Estate (another fellow with no sense of ‘creativity’ whatsoever) imposed a fine and costs of hearing totaling approximately $10,000, cancellation of the agent’s real estate license and a lifetime ban on practice.
Lawyers are not exempt from predatory tactics, as the following example illustrates. One reason as to why real estate fraud in British Columbia is the least tolerated is the title registration system. British Columbia operates under the Torrens System, by and through which the Provincial Government guarantees title integrity through a principle called Indefeasibility, subject to certain statutory exclusions. No need for title insurance or escrow in British Columbia, though both can be purchased separately if so wished. Under the Torrens System, furthermore, the Government maintains the Assurance Fund intended to compensate parties who have lost a right to recover land. Needless to say, the Provincial Government thoroughly dislikes having to use the Assurance Fund, as this former legal practitioner could certainly attest.
The subject lawyer acted for the purchasers and mortgagees in transactions involving real properties. They involved “flips” in which an arms-length transaction was followed immediately by a bogus non-arms-length transaction, so that the property effectively did not change hands. The purchase price stated to the mortgagees was significantly higher than the amount actually paid for the properties, which resulted in the mortgagees advancing more funds than they otherwise would have approved. The particulars on which findings of fraud and deceit were made against this lawyer involved serious matters including: failure to serve his mortgagee clients by not disclosing facts; acting for the sellers in direct contravention of his mortgagee clients’ instructions; acting in a conflict of interest and preferring other clients over his mortgagee clients; putting his own interest over and above the interests of clients; delegating work to an assistant, for the purpose of misleading his mortgagee clients; commissioning false affidavits; and entering into an agreement with his assistant to share profits.
The Court took a very serious view of the misconduct. In her Reasons for Judgment, the trial judge found that all the real estate “flips” were bogus and made only for the purpose of receiving mortgage funds. The Honorable Madam Justice further found that the accused was more than careless and unthinking. He made knowing misrepresentations to his clients. He failed to follow specific instructions from his lender clients; purposely sought to mislead some of those clients; and participated in the swearing of false affidavits.
The trial judge further found that these actions were not consistent with those of an ethical solicitor, that the accused had breached repeatedly and intentionally his fiduciary duty to the lender clients and had shown a very serious lack of professional integrity. These aggravating particulars differentiated his conduct in that he was a member of the Law Society and, as such, had a duty imposed upon him to uphold the law at all times, and to set an example and to serve as guidance to all members of the public and that, in fact, he had breached both this duty and this service.
In finding the accused in patent violation of s.380(1) and s.380(2) and in assessing a full 14-year jail term sentence, the trial judge opinionated that such conduct of ‘moral turpitude’ on the part of a legal practitioner could not be tolerated, and that an exemplary disciplinary punishment in the instant case was warranted. The Government, furthermore, was ordered to hold the victims safe and harmless and to cover their losses fully by reimbursing them to the last penny with funds coming out of the Assurance Fund.
The best blog covering the topic of real estate fraud I have seen thus far is The Mortgage Fraud Blog with URL at http://www.mortgagefraudblog.com, penned by Ms. Rachel M. Dollar. This is an excellent place to learn about mortgage scams and to find out how consumers and professionals can put themselves at risk by participating in the schemes. Ms. Dollar is a recognized expert in the mortgage lending industry, who has brought her litigation experience to industry-sponsored forums nationwide. She also frequently teaches in-house seminars on mortgage fraud issues to lending professionals, QC/QA management and general counsel. You can view The Mortgage Fraud Blog by clicking on the link provided here on the sidebar.
Luigi Frascati
Real Estate Chronicle
