Loan Defect Index Drops, But California Wildfire Issues Loom

First American Financial Corp., Santa Ana, Calif., said its monthly Loan Application Defect Index declined nationally from a year ago, but cautioned that properties damaged by California’s devastating wildfires this summer will likely increase loan defect risk in the near future.

The report said frequency of defects, fraudulence and misrepresentation in information submitted in mortgage loan applications in October increased by 1.3 percent compared from September. From a year ago, the Defect Index decreased by 4.8 percent.

The report said the Defect Index for refinance transactions increased by 1.4 percent compared to previous month and is up 2.9 percent compared with a year ago. The Defect Index for purchase transactions increased by 2.5 percent compared to the previous month and is down 8.9 percent compared with a year ago.

First American said the Defect Index is down 22.5 percent from the high point of risk in October 2013.

However, problems lie ahead. CoreLogic, Irvine, Calif., said its updated data analysis shows 23,044 homes with a total reconstruction cost value of $8.6 billion are at high or extreme risk of wildfire damage within the perimeters of the Camp Fire in Northern California and the Woolsey Fire in Southern California.

“Unfortunately, on top of the damage to thousands of homes, historical data indicates that natural disasters and loan application defect risk go hand-in-hand,” said First American Chief Economist Mark Fleming. “As we’ve seen too often, natural disasters create the potential and opportunity for significant misrepresentation of collateral condition.

Fleming noted in the aftermath of the December 2017 Thomas Fire in Ventura and Santa Barbara counties, mortgage defect, fraud and misrepresentation risk, as measured by the Defect Index, increased by 10 percent in one month in the Oxnard-Thousand Oaks-Ventura metropolitan area. Fraud and misrepresentation risk remained elevated for five months after the wildfire, before trending down again. “Defect, fraud and misrepresentation risk in the Oxnard metropolitan area, which had been declining prior to the Thomas Fire, has yet to return to pre-wildfire levels,” he said.

Fleming said fraud risk in California is likely to increase in the months ahead. “While the devastating impacts from the wildfires in California continue to be assessed, the risk of mortgage loan application fraud in the communities impacted is likely to increase in the coming months,” said Fleming. “Given historical trends, it’s fair to expect increases in defect and fraud risk in these affected markets in the near future,” he said.

The report said states with a year-over-year increase in defect frequency in October were Alaska (16.9 percent), Hawaii (9.8 percent), California (8.1 percent), Wyoming (7.4 percent) and Maine (6.9 percent). States with the greatest year-over-year decrease in defect frequency were Vermont (-22.9 percent), Minnesota (-19.8 percent), Arkansas (-15.2 percent), Alabama (-14.7 percent) and Arizona (-14.3 percent).

Among the largest metros, markets with the greatest year-over-year increase in defect frequency were San Diego (16.0 percent), Los Angeles (12.5 percent), Memphis, Tenn. (10.5 percent), Buffalo, N.Y. (10.4 percent) and Richmond, Va. (10.1 percent). Markets with the largest year-over-year decrease in defect frequency were Minneapolis (-22.9 percent), Birmingham, Ala. (-17.3 percent), Columbus, Ohio (-15.1 percent), St. Louis (-14.6 percent) and Las Vegas (-14.5 percent).