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Don’t fall victim to short-sale fraud

Short-sale fraudsters are stalking your home.

And this fraud is rising dramatically nationwide. Property fraud rose 262 percent in the year ending March 31, 2011, according to financial analytics firm CoreLogic.

Fraud is soaring because short sales are booming, nearly tripling since 2008 with no signs of stopping. "That rising tide is lifting all boats," says David Johnson, vice president of fraud and consortium solutions at CoreLogic. "And so there's more fraud."

Short-sale fraud -- also known as "flopping" -- usually involves both a real estate broker and an investor. They try to buy your property at a below-market price and then resell it at a substantial profit, pocketing a hefty sum. "The person in the middle manipulates the transaction," Johnson adds.

Preying on the weak

This scheme lures homeowners who don't see another way out, says Robert Hagberg, an investigator at Freddie Mac. "They see a guy on a white horse," he says. The fraudsters look like they're stepping in to help by asking for your home documents or saying they'll talk to the mortgage company for you.

Short-sale fraud hot spots usually include states where homeowners are most underwater, such as California, Arizona and Florida.

The results can be devastating for homeowners. If the short sale fails, the likelihood of avoiding foreclosure is low, says Scott Thompson, a broker at Wingspan Real Estate Network, a specialty mortgage service based in Dallas. More homeowners are also pushed into bankruptcy.

Even if the sale does go through, the homeowners may be socked with additional deficiencies that they'll have to pay off -- even if they're victims of fraud. "Recourse mortgage states can say 'you still owe me money,'" says Johnson.

Additionally, short-sale fraud makes the process more expensive and slows sales, he adds. Fraud even lowers neighborhood property values.

To avoid this fallout, here are five red flags to watch out for:

1. Be careful if you're asked to sign over your deed. Fraudsters may ask for your deed without permission from your lender. "But you give up virtually all control over your property," says Thompson. So, you should never sign over your deed to anyone unless you're going through the proper channels such as using a title company.

2. Offered option agreements. Fraudsters will try to get you to sign an option agreement, granting them the option to buy your home at a below-market price. "If the deal isn't sweet enough, these investors can exit with no expenses or liability," says Thompson. Signing this agreement may also mean that you'll have to give up control of your own property entirely.

3. Avoid signing any contract you don't understand. All terms and conditions should be spelled out. Do not sign anything that has unfilled blanks. You can also ask for an "arm's length affidavit," which says that the buyer and agent have no relationship to each other. "Your agent should say 'absolutely' to that request," says Johnson.

4. Don't abandon your property. Leaving your home exposes you to vandalism or fraud. "Sometimes fraudsters will ask you to be out of the property in return for handling the transaction," says Thompson. They may do this to reverse stage a property, making it appear less desirable to appraisers. "Holes may be kicked in walls to damage a property," adds Hagberg. "This puts downward pressure on prices."

5. Don't let a buyer work with your lender. Investors often insist on handling negotiations with your lender, which harms homeowners. The reason: You lose control over what is said to your lender about you or your mortgage -- and ultimately, you're responsible for it. "Fraud is typically perpetuated out of the view of consumers," adds Johnson.

Fight back against short-sale fraud

To fight short-sale fraud, know the true value of your home. CoreLogic's ePropertyWatch can give you free information on your home's value, says Johnson.

Also, know how the process should work, says Hagberg, and don't get suckered in by false promises. Fraudsters will make lots of promises, such as you won't be liable for mortgage deficiencies or your credit rating will be cleaned up. Getting second opinions or asking questions is also very helpful, Hagberg adds. "You may be underwater, but not to the degree you're lead to believe," he says.

If you do suspect fraud, pick another agent. You can also report agents to the FBI or state regulators. "The FBI is all over short-sale fraud," says Hagberg. "Some agents are arrested or make financial restitution."

Homeowners beware: Short-sale fraud can be found in any part of the country, not just in states hardest-hit by the housing downturn.

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About the author:

CGConstance Gustke is a New York-based journalist who writes about business topics. She was a Fortune reporter, Forbes.com contributor and Worth features editor. Gustke is also a regular contributor to CNBC.

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