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Real Estate Cashback Transactions Are Illegal?

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Two weekends ago a friend of mine in Baltimore was telling a group of us that a rowhome in Federal Hill, two houses down from his, had sold for a mind-boggling four hundred thousand dollars. (My mind actually boggled) He didn’t say that it was listed at four hundred, he said that it actually sold for four hundred, signed, sealed, delivered. Now, without context (other than the boggling), $400k doesn’t mean anything but in that area I think that’s easily an $80k-$100k premium over comparable home prices. Well my friend, always one to talk things up just a couple steps more than they really should be, let that stew before dropping that the sale included a $100k cashback offer. So, it was $400k with $100k cashback… which apparently, according to Stephen Dubner, is illegal.

It seems like a great deal for the buyer, you get an interest deductible loan of $100k from the lender, who doesn’t realize they’re offering an interest deductible loan, as long as the home appraises for the selling price. Neighbors may or may not be excited, depending on their plans, because it boosts the price of their home; and the seller sells the home (though they pay significantly more in tax, 25% more, but whatever). Win-win-win-lose (poor bank!).

The problem is that while the cashback transaction may seem illegal, how is it different than sellers kicking in for closing costs? Or a new plasma television? Or any number of various little kickbacks that happen every single day? In the comments, there’s debate about the legality since it happens all the time, but I’d imagine that banks would frown upon this if they knew.

Personally, I don’t think it should be illegal because the bank has to write the check. If the home isn’t worth $400k, don’t get a trigger happy appraiser and don’t writ the $400k check. If the buyer can get the extra $100k and the seller is willing to offer it, so be it.

Some more Freakonomics goodies about real estate stuff.

{ 15 comments, please add your thoughts now! }

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15 Responses to “Real Estate Cashback Transactions Are Illegal?”

  1. broknowrchlatr says:

    I downloaded the associated paper and have yet to read it. But, I don’t see why this is illegal. Yes, you are mortgaging an ammount greater than the selling price. But here is a different perspective.

    When a Lender approves a mortgage for $400k, they will require that it appraise for at least that. Now, this doesn’t stop you from buying a home for more than it’s worth. If you buy a home for $400k and you put $100k down, it only has to appraise for $300k for the motgage to go through.

    If the home has appraised for $400k and the lender in not requiring PMI, they really believe it is worth $400k. Say you get a $300k mortgage on this home. Since the lender values it for $400k, they would be willing to give you a cash out refinance for a $400k mortgage (totally legal) and let you pocket the $100k difference. This puts you in the exact same situation.

    If the lender is unable to get it appraised at the correct price, that is their problem.

  2. broknowrchlatr says:

    I definately agree it is dishonest. Here is a less-obvious case. You buy a home for $200k and Have $10k in closing costs. So, you get a mortgage for $210k. Obviously the home is not really worth $210k, but I bet it appraised for that or more to get the mortgage.

  3. cami says:

    Cash-back schemes are currently a huge area for mortgage fraud, as they frequently tied to first-payment defaults. Basically, Joe convinces his cousin Bob to buy his place for 100k over the mortgage note, then Joe and Bob take the money, split, and never make a payment. There are huge illegal crime rings and families that have been executing this types of scheme. Not only does the lender lose, but the neighborhood loses as well, because you can easily end up with a really high (inflated) comp or a foreclosure (depressed) comp. As for other kickbacks: plasmas, decorating allowances, etc. those are also supposed to be disclosed as well.

  4. Johnny says:

    I wonder if this is a growing issue throughout the united states…its tough for people looking for homes and don’t really know what the final cost is because everyone has some screwed up number scheme

  5. MossySF says:

    The problem is this — the bank does not pay for the appraiser. The seller does! Hence, there is no guarantee the bank’s collateral for the loan (the house) is worth the value of the loan. And yes, it is very easy to “shop” for appraisers.

  6. dong says:

    The problem is with any kind of rule is the slippery slope from sensible to outright fraud. Somewhere a line has to be drawn. The problem with the cashback of that magnitude is that for a market to function properly published prices need to be correct. This isn’t very different from what Enron did during the california electrcity crisis, where they would inflate quoted number by working out deals to buy electricty at exorbibant prices and then have an offsetting transaction. This inflated the published prices, and drove the market to behave idiosyncratically.

  7. if you don’t ever intend to make good on the mortgage, you can get away with a lot of cash. even if the bank forecloses on the property, they won’t be able to recover the loan amount. that’s why it’s illegal.

    there were some problems in texas regarding just this type of issue. a band of ‘investors’ and ‘appraisers’ that got together and basically dumped the properties:

    http://www.dallasnews.com/sharedcontent/dws/classifieds/news/homecenter/condos/stories/class092406dnmetfrisco.15bce408.html

  8. Tim says:

    aside from legality, if you are getting a loan for $400k to get $100k back, that is risky at best on your part. that means you are going to be paying interest on $400k, not $300k. now of course you could invest the $100k, but still you have a higher mortgage payment based off of $400k.

  9. Miller says:

    Great article! I can see everyone’s points. There are some good ones.

    I could see it being illegal because, as Jim mentions, people end up effectively getting tax deductible loans out of it. Well, the government (forget the “turn the blind eye” bank for a second) didn’t intent you get tax deductible loans for vacations to Europe. They intended it to be for your home!! So these tax deductible psuedo-loans should very well be illegal (IMO) since they break the intention of the law.

  10. DD says:

    It is important to note that service providers; such as real estate brokers can provide rebates, cash back, or gifts to their buyers after settlement. RESPA allows such rebates to principals in a transaction.

  11. Anonymous says:

    The title is misleading!

    Real estate brokers and other service providers are allowed to offer cashback to their homebuyers.

  12. Anonymous says:

    Realty times is misleading the consumer about cash back because they do not want home buyers asking for cash back or rebates from their realtor.

    That is a fact!!!

  13. Anonymous says:

    Your title is misleading, it should read “Illegal flipping or Mortgage fraud is illegal! Cashback is legal.

    You bought the spoon feed garbage from NAR who wants to confuse cash back or commission rebates with illegal flipping.

  14. nikspoetry@gmail.com says:

    My brother in law, his cousin and their fictious companies go around in Arizona and Texas purchasing homes for $10 from people whom are in the scheme also and once these home are in their names or some company’s names they take out the equility and later these homes goes into foreclosure.

    Is this illegal?


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