Loan Fraud Inquiry Said To Focus On Used-Car Dealers

Lenders in the housing boom created so-called liar loans, which enabled borrowers, even those with no income or assets, to inflate their income. Government authorities are now taking aim at a new generation of liar loans. Only this time it is subprime auto loans.

Federal and state authorities, a group that includes prosecutors in New York, Alabama and Texas, are zeroing in on the most powerful, and arguably the least regulated, rung of the subprime auto loan chain, used-car dealerships, according to people briefed on the investigations. Already, they have found hundreds of fraudulent loans that together total millions of dollars.

At their center, the people said, the investigations are examining whether dealerships are inflating borrowers' income or falsifying employment information on loan applications to ensure that anyone, no matter what their credit quality, can buy a car.

Some of the same dynamics — the seemingly insatiable demand for loans as the market heats up and the dwindling pool of qualified borrowers — that helped precipitate the 2008 mortgage crisis are now playing out, albeit on a smaller scale, in the auto loan market. Under pressure to generate more and more loans, salesman at some used-car dealers are suspected of getting inventive.

It is not known how many subprime auto loans have been made on the basis of falsified applications. Still, such loans can corrode confidence in the booming market for securities that are created from bundled subprime auto loans. If loan applications are falsified, leading borrowers to ultimately fall behind on their bills, that could spell trouble for investors, which include insurance companies and public pension funds.

More immediately, such inflated applications can mean that some of the most vulnerable borrowers are saddled with auto loans they can never afford to repay. The loans, which often come with interest rates that soar to 29 percent, can haunt borrowers long after their cars are repossessed, further tarnishing their credit scores and plunging them into bankruptcy.

Margaret Zollner, 71, does not have a job and receives food stamps, so she was shocked when a car salesman in Queens suggested she co-sign an $18,487 loan so her friend, whom she drove to the dealership, could buy a 2013 Chevrolet. She said she repeatedly explained to the car salesman that she could barely keep up with her own bills. Still, Ms. Zollner said, a salesman falsely listed her annual income as $60,000 on the application, a copy of which was reviewed by The New York Times.

While the car was ultimately repossessed, the nightmare for Ms. Zollner is just beginning. Her credit score has fallen, now hovering around 500, and she is about to declare bankruptcy. Ms. Zollner said she felt ashamed that she signed any documents. ''I just can't believe that one stupid mistake would land me here.''

Ms. Zollner's case is not currently under investigation. Yet interviews with government authorities and consumer lawyers, along with a review by The Times of lawsuits against dealerships in 15 states, suggest that the problem of inflated applications is widespread. The Times review of loan documents, including some produced in litigation, showed dozens of borrowers who said that dealers falsified their loan applications.

They are people like Matthew Pope, a 24-year-old Army sergeant living in Ohio, who makes roughly $20,000 but whose income was listed as $32,000 on a credit application for a 2008 Dodge Ram. And Nicole Batts, who lives in Hermitage, Tenn., and who learned after she bought a Dodge Avenger that her application included a fake copy of her driver's license that listed the address of a sales manager at the dealership, not hers.

''I see more fraud now than I have seen in my entire career,'' said Ronald Burdge, a consumer lawyer in Dayton, Ohio, who has 48 clients whose credit applications were falsified. ''I am just one guy. What is happening in Atlanta or New York?''

Car dealers say their industry, like any large group of businesses, has the occasional rogue employee. But they say dealerships go to great lengths to ensure the accuracy of credit applications.

''There is no place for fraud,'' said Steve Jordan, executive vice president of the National Independent Automobile Dealers Association. Still, he noted, ''There is a responsibility on behalf of the consumer who signs off on the terms and drives off in the car.''

The handful of federal and state criminal cases against dealerships are scattered across the country. In January, two employees of a dealership in Odessa, Tex., were sentenced to federal prison after a federal prosecutor accused them of taking part in a scheme that generated more than 300 shoddy loans. Prosecutors in the Manhattan district attorney's office are also investigating patterns of fraud at local dealerships, according to two of the people briefed on the investigations, who declined to be named because the cases are not public.

And this summer, Joyce Vance, the United States attorney for the Northern District of Alabama, charged one sales manager at Serra Nissan in Birmingham and secured a grand jury indictment against a second employee at the dealership on counts of fraud and conspiracy for reportedly falsifying loan applications.

In that case, which is still pending, one of the former sales managers described a pervasive scheme at the dealership in which employees were under pressure to qualify customers for loans at virtually any cost. In a process the employee described as ''fluffing,'' they inflated borrowers' incomes. Through that process, the court records show, a borrower who had $11.03 in his bank account was made to look as if he had $6,179.95.

''These cases should send a strong signal to dealerships that we are aware of this conduct and we aren't going to tolerate it,'' Ms. Vance said in an interview.

In a statement, Serra Nissan said, ''Once the dealership learned of the allegations, we launched our own investigation, cooperated fully with authorities, reviewed our procedures and implemented additional safeguards.''

One of the former employees pleaded guilty in June. The other former employee is cooperating with the government, court records show. Those cases are harbingers of others that may materialize against dealerships, the people briefed on the investigations said.

Prosecutors are going up against an industry that has tremendous sway in Washington and in state capitols across the country. Wielding that influence, the dealers beat back an attempt to tighten regulation, winning a reprieve from being overseen by the Consumer Financial Protection Bureau.

The investigations are playing out as the market for loans to borrowers with poor credit is booming — a growth that has been the subject of a series of articles in The Times. In the second quarter, total auto loan originations were at the highest level since before the financial crisis, according to the Federal Reserve Bank of New York. The growth of subprime loans has been particularly rapid. Lenders originated $20.6 billion in subprime auto loans in the second quarter, nearly twice as many as they did in the second quarter of 2010.

Signs of strain are emerging. In the second quarter, according to Experian, banks and credit unions reported their largest year-over-year increase in seriously delinquent auto loans since the second quarter of 2009 — a development industry analysts say could partly trace to fraud as borrowers who could never afford their loans in the first place fall behind.

While still in their early stages, the investigations are also examining whether lenders, including some of the nation's largest banks and credit unions, are turning blind eyes to signs that the loans, which they scoop up from thousands of used-car dealers across the country, are fraudulent, the people with knowledge of the matter said.

The lenders note that they have rigorous controls in place to prevent fraud, routinely vetting their dealer partners and investigating complaints that arise.

If those safeguards fail and lenders unwittingly buy fraudulent loans from dealers, they are typically insulated from losses. One protection: The lenders make a partial payment to the dealers for the loans, holding on to a chunk of money until a few months have passed since the loan was originated, a period of time when most fraud becomes apparent as borrowers, doomed from the outset, quickly default.

As more and more lenders clamor for loans, they are increasingly paying dealers the full amount for the loans upfront, industry analysts say, fostering an environment where fraud can more easily flourish.

Miss a Payment? Good Luck Moving That Car

In a Subprime Bubble for Used Cars, Borrowers Pay Sky-High Rates

This is a more complete version of the story than the one that appeared in print.

PHOTO: Margaret Zollner, 71, who has no job and gets food stamps, said a salesman falsified her income on a friend's loan application that she co-signed. (PHOTOGRAPH BY CHESTERHIGGINS Jr./THE NEW YORK TIMES) (B11)

October 02, 2014, Thursday    Late Edition – Final
Section: B    Page: 1    Column: 0    Desk: Business/Financial Desk    Length: 1392 words