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Multifamily's coming fraud flood

Multifamily's coming fraud flood

Experienced property managers already know about the explosion of leasing application fraud during the pandemic.

Squeezed by the initial surge of unemployment during the first months of the COVID-19 crisis, would-be renters easily bought fake paystubs and bank statements online to qualify for apartments they otherwise wouldn't lease.

The result was a doubling of fraudulent applications coming into property managers' doors, rising from 15% in February 2020 to 29% just six months later. During that period, 85% of landlords reported they were victims of application fraud, up from 66% just a year earlier.

The subsequent costs for apartment operators were jaw-dropping when the fraudsters who moved into those apartment units under false pretenses could no longer pay the rent. Pending evictions spiked to 21% across property managers' portfolios, with one in four (25%) tied to application fraud.

With the typical eviction costing $7,685 after unpaid rent, legal fees, and other charges are taken into account, translating into just over $1 million in avoidable eviction expenses for a 2,500-unit portfolio.

A perfect storm for fraud in 2023

While those costs were staggering, if trends play out this year as many experts expect, 2023's fraud tallies could dwarf those amounts as multifamily professionals face yet another, even more, significant wave of apartment application fraud.

The reason why comes down to a perfect storm of a faltering economy, rising digitization, and an increase in fraud rates during tough economic times, a correlation that the Association of Certified Fraud Examiners documented at the beginning of the Great Recession.

Today, as the Federal Reserve walks a tightrope to combat inflation via interest rate increases, businesses and economists are increasingly predicting the onset of, at best, an economic pullback during 2023 and, at worst, an outright recession.

Look no further than the massive layoffs already announced by tech giants Amazon, Microsoft, Meta, and Alphabet as evidence. If that weren't enough, in January, the World Bank slashed its global GDP growth expectations from an initial estimate of 3% to just 1.7% for 2023, the slowest pace outside the 2009 and 2020 recessions since 1993.

Past as prelude

If we look at history as a guide, should these prognostications play out, fraud will almost certainly mushroom exponentially in 2023.

Indeed, at the height of the Great Recession in 2009, the FBI's Internet Crime Complaints Center recorded a 22.3% increase in online crime reports from the previous year, for a total of 336,655. While those numbers dipped in the subsequent years as the U.S. regained its economic footing, they began climbing again in 2019 as signs of slowing growth emerged even before COVID hit.

When it did, triggering the early-pandemic recession of 2020, it exploded again.

Just as property managers saw a surge in apartment application fraud during the crisis, by 2021, the number of online crime complaints had more than doubled from 2009 to nearly 850,000.

Why fraud will be even worse today

But beyond the rise in absolute numbers, the more alarming aspect is how in today's environment, fraud will be magnified by the increased digitization of nearly all financial transactions.

Just consider that monetary losses from digital fraud in 2020 were 7.5 times higher than in 2009, according to the 2022 Global Recession Fraud report issued by online fraud prevention platform SEON.

This future increase in scams and bogus transactions has the fraud prevention industry abuzz. Given current conditions, experts predict that "fraud is going to snowball in 2023."

The expansion of the digital landscape has provided more opportunities for seasoned fraudsters to ply their wares, and a recession will also give usually honest people more mental justification for stretching the truth online.

Ben Fletcher, director of financial crime at U.K.-based insurer LV=, highlighted an increase in one point of the "fraud triangle" during a recent Insurance Times roundtable.

"The basic fraud triangle methodology says that to commit fraud, you have to have an opportunity, a motive, and rationalize it," Fletcher said. "The ability for people to rationalize fraud will be a very different scenario in 2023 than it has been for the last few years."

Implications for multifamily

With the increased adoption of online leasing, self-tours, and sight-unseen apartment move-ins during the pandemic – once necessitated by lockdowns, but now increasingly used for convenience – it's only logical that similar outsized fraud rates will be primed in the multifamily sector during the next recession.

But while leasing application fraud will increase the number of scams originating outside apartment managers' walls in 2023, an even more troubling source of deception could come from within.

The Association of Certified Fraud Examiners' most recent annual report concluded that occupational fraud, where an employee, manager, or executive deceives their employer, was the world's most costly and most common financial crime.

What's more, the real estate industry had the highest median loss due to occupational fraud of any sector, at $435,000. To top it off, employees in operational units – in multifamily, i.e., leasing and operations staff – accounted for the largest cohort of internal fraud sources.

The threat from within

Pair that with another trend that's being highlighted by fraud professionals in 2023 – so-called insider fraud, where relatively low-paid retail workers take kickbacks from fraudsters to help them succeed – and it's clear multifamily is ripe for these types of attacks.

For example, according to fraud-prevention specialist Frank McKenna, while the average retail associate at a phone store like T-Mobile makes $14 an hour, they can net more than $1,000 a day swapping out sim cards for scammers.

Applied to multifamily, it's not difficult to envision a front-line leasing associate whose compensation is tied to new leases falling victim to similar temptations, as rents decline in 2023 and overall commissions fall.

After all, how hard would it be to overlook a questionable paystub or bank statement when offered $250 to greenlight an otherwise compelling lease application? The opportunity, incentive, and likelihood of them doing so will only increase as the three sides of Fletcher's fraud triangle are elongated in 2023.

Why this isn't the time to let down your guard

Of course, fraud isn't the only offshoot of tough economic times. Internally, studies show that companies tend to pull back on fraud prevention spending during cost-cutting periods like a recession. But this only opens the floodgates for fraud to rush in the door at the exact moment the number of scams, both externally and internally, increase.

While the challenges of rising apartment fraud in 2023 are clear, managers can take steps to level the playing field.

  • Make it a fairer fight by using fraud detection technology to detect digital manipulation of paystubs and financial statements.
  • Set the bar higher for applicants by requiring two months of paystubs or bank statements with an application.
  • Look for variable dates for when a paystub was issued and when the deposit hit the applicant's account.
  • Pick up the phone and call employers to confirm an applicant works where they claim.
  • Pay your team a livable wage and give them "real job" benefits like health care and 401k plans so they have more to lose if they engage in insider fraud.
  • Incentivize your team to prioritize legitimate applications by tying future bonuses to a property's on-time rent payment score, not just new leases.

As the economy worsens, a rise in fraud is almost assured in 2023. Preparing for this and taking steps to engage your team early can help property managers ensure they're not swept away in the coming fraud flood. 

This comment was minimized by the moderator on the site

Great information. Thank you Daniel!

  Gerry Hunt

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