What is loan fraud? Red flags, types, and prevention

What counts as loan fraud?

Loan fraud, or lending fraud, is the illicit claiming of funds via fraudulent loan applications, using either coercion or stolen financial information. It affects individuals and businesses, posing a serious threat to the victims’ credit scores and sometimes leading them to bankruptcy. In recent years, lending fraud has been on an upward trend. According to the 2024 CoreLogic report, mortgage fraud in the US had increased by 8.3% compared to the previous year.

The information loan companies require to process an application typically matches that which cybercriminals look for on the dark web — legal names, home addresses, banking details, and Social Security numbers. Criminals use this stolen personally identifiable information to apply for loans, committing both financial fraud and identity theft. Some criminals may use automated bots to test the success rate of false applications.

Loan fraud can also be a cause of coercive debt, where an abuser takes out a loan without the victim’s consent. They manipulate or force their victim to submit a loan request and, once approved, claim the money for themselves. Coercive loan fraud is considered economic abuse, but it might not always qualify as identity theft.

Financial fraud perpetrators can rely on psychological pressure to succeed in their schemes. They might look for people experiencing financial hardship to manipulate them into taking out loans that they might not be able to return. If the scheme is exposed, the blame falls on the victim rather than the perpetrators.

How does loan fraud work?

The mechanics of fraudulent loans depend on the type of crime being committed. The three main categories of loan fraud are first-party, second-party, and third-party.

First-party fraud is closely related to application fraud — the process of providing misleading information while applying for financial aid. For instance, a person might misrepresent their current income bracket or debt status, forge their bank statements, or lie about the value of the assets they intend to buy with the loaned money.

The application data can be partly based on truth. Criminals might use their real name in an application but tamper with numbers to increase the likelihood of getting a bigger loan. Combining genuine and falsified information can make it harder to detect a fraudulent request.

For second-party fraud, a criminal collaborates with another person to receive the payout. Here, criminals might also work inside a financial company and provide false loans in collusion with recipients. They might validate requests that would otherwise not meet the loan process requirements or issue higher loans with lower interest rates. In some cases, people can unwittingly become victims of second-party financial fraud by filing claims on behalf of others.

Third-party fraud is the unlawful use of stolen information to obtain loans. Relying on identity theft helps the perpetrators shift the blame to their unsuspecting victims. The effectiveness of such schemes relies heavily on how believable the fake information that criminals provide is. They use forged documents, signatures, and stolen identities to claim funds under false pretenses.

To avoid being discovered, fraudsters can frequently change their contact information or provide false details that would lead investigators either to the person whose information they stole or an unrelated individual. They might engage in loan stacking by issuing multiple requests to several lenders using different information to avoid it being traced back to them.

Types of loan fraud

Loan fraud can be categorized into different types based on the kind of loan being spoofed and whether it affects an individual or a business.

Personal loan fraud

A personal loan is a fixed-rate loan that a lender issues to any individual, usually without any collateral. It follows a monthly payment schedule and is based on personal credit. Personal loan fraud usually involves meddling with the repayment and interest rates, forcing the borrower to pay back larger amounts than agreed.

Scam lenders use pressure tactics to coerce borrowers into accepting less favorable terms. They may meddle with the contract after the agreement, changing the repayment terms to their favor. Personal loan fraud often uses stolen information, making victims responsible for repayments, while the scammer keeps the borrowed funds.

Payday loan fraud

Payday loans are short-term loans you receive with your paycheck. They usually cover small amounts and are considered risky due to their high interest rates. These loans aren’t backed by collateral and are generally considered unethical due to the predatory conditions that lenders create.

Inflated interest rates are a signature of payday loan fraud. Lenders create terms of agreement that force the borrower to pay significantly higher interest rates and pressure them into extending the loan with additional fees. Payday loans are often taken out using stolen personal information, forcing unwitting individuals into debt they never consented to. Debt collectors then go after these individuals for returns, while the criminals remain unscathed.

Student loan fraud

Student loans are used by college and university students to partly or wholly pay for tuition. Scammers create falsified applications to claim student loans or financial aid. If a student submits a real loan application but deliberately provides inaccurate information to receive a bigger loan, they also commit fraud.

Student loan fraud is particularly common among first-time applicants and people experiencing financial hardship. These applicants are typically young, haven’t built up good credit, and may not be aware of other financial or legal support channels. They may provide misleading information about their financial situation to improve their chances of receiving aid. Unlike other types of fraud, which are more likely to be malicious, student loan fraud may be unintentional.

Mortgage loan fraud

Mortgage fraud is one of the most common types of lending fraud. According to the 2024 CoreLogic report, one in 123 mortgage applications was fraudulent, with the number of false applications steadily increasing annually. Due to the high monetary value, mortgage loan fraud is used for money laundering.

Mortgage loan fraud can be either fraud for property or fraud for profit. For the former, the applicant lies about their intent for the mortgage. For example, they name buying a property for personal use as the intent, but instead plan to rent it. By combining the loan funds with rent earnings, they amplify their personal profit.

During a for-profit mortgage scam, a criminal collaborates with an insider, like a mortgage broker. They lie about their financial or property ownership status to receive a bigger loan and a lower interest rate. They can also collude on fraudulent flipping — deliberately reselling a property at an inflated price that would offset the mortgage loan.

Car loan fraud

Like mortgage loans, car loans are lucrative based on the value of vehicles. False car loans are considered property loan fraud. In these frauds, the buyer is usually the victim. Dealerships take advantage of the buyers, setting a higher interest rate while taking the profit for themselves.

Dealers pressure buyers to get additional services, upgrades, and insurance policies to increase the amount that has to be paid back. Although they claim these extra expenses are mandatory, they’re actually optional, and the scammers get to keep the funds. Scammers often engage in contract renegotiations known as yo-yo financing, forcing the buyer to accept higher rates to lease the vehicle. Commonly, the loan amount the buyer is forced to take out is worth more than the vehicle.

Account takeover (ATO) fraud

Account takeover fraud involves the criminal getting access to their victim’s personal information and login credentials. They then breach the victim’s financial accounts and take out unauthorized loans. ATO fraud is a form of identity theft and allows criminals to commit any of the aforementioned financial crimes.

Business loan fraud

Business loan fraud occurs when an entity applies for financial support for their business venture. In some cases, the business might be fictitious. Criminals provide forged records or misleading information about financial performance to increase the likelihood of receiving bigger financial support.

Before issuing a business loan, financial companies must conduct a credit risk assessment. If the criminal colludes with the loan issuer, the credit check may not be thorough enough, or its findings regarding financial statements, licenses, contracts, and proof of ownership may be falsified.

Small Business Administration (SBA) loan fraud

The Small Business Administration (SBA) loan helps emerging businesses receive financial aid under more flexible terms and favorable payback conditions. SBA loans are issued for real estate and equipment purchases and construction, business acquisitions, and working capital. Depending on the reason for the loan, small businesses can receive up to $5 million and have up to 25 years to pay back.

Scammers committing SBA loan fraud may misrepresent their financial intent and status, lie about the capital and business growth, or falsify their identifiable information to apply for multiple loans. SBA loan fraud is often tied to identity theft because fraudsters use stolen personal information to obtain the loan.

Paycheck Protection Program (PPP) loan fraud

The Paycheck Protection Program (PPP) was established during the COVID-19 pandemic to provide businesses with financial relief, help them maintain staff, and protect them from bankruptcy.

Although it’s a more recent loan type, with a budget of nearly $800 billion, it created a lucrative opportunity for scammers. According to a 2022 study, about 10% of the program’s entire budget was used illicitly, and about 15% of all issued loans had indications of fraud.

Scammers would submit false or inaccurate information about their businesses to receive the money. They would also try to claim PPP loan forgiveness to keep the funds despite not meeting the aid requirements.

How does loan fraud impact people and businesses?

Loan fraud is closely tied to identity theft. Many victims of loan fraudsters have had their sensitive information, including Social Security numbers and bank details, breached and placed on the dark web.

Being a victim of both financial and identity fraud endangers their livelihood and personal finances and puts them at risk of being indicted for crimes committed using their personal information. They can lose personal savings in the process, and the loans can cause long-term damage to their credit history.

It can be difficult for an individual to prove that their information was stolen and misused by a malicious party. Due to the financial damages incurred, some victims may not have access to the necessary resources that would help prove their innocence or solve the financial and identity fraud cases.

Loan fraud can have dire financial and reputational consequences for companies. Following a fraudulent debt, they may struggle to maintain their operations and be forced into bankruptcy. Committing or being framed for loan fraud can cause clients to lose trust and withdraw services. Individuals connected with fraudulent financial practices might also have issues trying to establish new ventures in the future.

What are the consequences and legal penalties of loan fraud?

Loan fraud is a financial offence. Perpetrators caught committing loan fraud crimes are prosecuted according to state or federal law. The severity of the punishment depends on the scale of the crime.

Some criminals may face financial fines and be forced to return the stolen funds, while others get jail time for loan fraud and identity theft. According to the US Sentencing Commission, the average loan fraud sentence was 28 months, and most offenders had no previous criminal record.

Individuals whose personal information was misused for financial fraud can be prosecuted even if the crime occurred without their consent. If they can’t successfully prove that they’ve been a victim of identity theft, they might face charges for committing a loan fraud crime.

Companies involved in business loan fraud might also face legal consequences and suspicions of money laundering or collusion with criminals. Punishment for false statements made to a federal government or agency is a fine of $250,000 and up to five years in prison. Bank or loan application fraud can carry prison sentences of up to 30 years.

The backlash can also impact financial institutions responsible for lending funds. Repeated instances of financial fraud force banks and lending institutions to establish stricter regulations, making it harder for individuals and businesses to have their lending requests approved.

What kind of loan fraud red flags should you watch out for?

According to the 2024 Identity Theft Research Center (ITRC) Annual Data Breach Report, financial fraud dominated the list of the top five most common types of identity theft. Different types of loan fraud, including personal, business, and auto loans, comprised nearly a fifth of this top five.

To protect yourself or your business from falling for a financial scam, you can learn to tell the signs of potential fraudulent activity.

• Inconsistent financial details and abnormalities. Financial records might be missing or inconsistent with historical financial data.
• Odd details in the small print. Fraudulent loan contracts contain suspicious terms and conditions that favor the lender. For example, it may give the lender flexibility to increase interest rates or force the borrower to renew the loan after a specific period.
• Sudden financial status changes. The applicant’s financial records drastically change compared to previous years without legitimate explanations like inheritance or income.
• Mismatch in personal information. The applicant’s name and Social Security number or banking information may appear inaccurate.
• Loan applications on behalf of another person. A person applies on behalf of someone who is not a family member, spouse, or ward, and there is no proven link between the two.
• Loan stacking. The borrower applies for multiple loans at different institutions and hides this information to maximize the funds they receive.
• Coercion and pressure to comply. The lender or dealer pressures the borrower to accept the loan without negotiation.
• Changing contract details and deadlines. The lender adjusts the loan agreement without the borrower’s consent or knowledge.
• Suspicious banking and credit activity. The borrower or victim of identity theft sees unusual financial activity in their bank account or unexpected credit score fluctuations.
• Fraud alerts. An individual receives a fraud alert from their creditor, indicating suspicious activity.
• Lack of Know Your Customer (KYC) or Know Your Business (KYB) compliance. The lender doesn’t do their due diligence to verify the applicants’ information.
• Indications of a shell company. The company is registered outside the US, the information about staff is unclear or missing, and financial records aren’t transparent.

Loan fraud prevention: What can you do?

Loan fraud and other financial schemes can be devastating to individuals and businesses. However, you can adopt proven strategies and security tools to protect your assets and sensitive information from scammers.

Limit how you share your financial information

Be wary of where you share your banking details and how extensive they are. Some scam websites are built to gather your personal information, like your name, credit card number, and address, to use it for financial schemes. Ensure the services you plan to use are reliable before sharing sensitive information with them. You can use NordProtect’s credit monitoring service to detect and act on suspicious credit activity.

Check the legitimacy of loan services

If you’re applying for a loan online, check whether the platform you’re visiting is a real service. See if they have appropriate accreditations and audits. Read the fine print for suspicious terms of service. If you can, review the contract with a legal advisor before signing. Be wary of pressure to sign a contract without reviewing the terms first.

Use dark web monitoring

It’s not always immediately obvious that your financial data has been compromised. To catch a data breach in time and protect your financial assets, you can set up a dark web monitor with NordProtect. It automatically tracks your email address, SSN, and phone number, and immediately alerts you if this information appears in a breach.

Report suspicious activity

If you see irregularities in your credit report, unauthorized transactions in your bank statements, or other financial activity that you suspect might be fraudulent, report it to your bank, credit bureau, and the FTC. Collect proof of these financial operations — if you’ve become a victim of identity theft, having these records will serve as proof and help you protect your assets.

Protect your identity online

Often, people only learn they’ve been victims of identity theft when it’s too late. To protect your personal information and stay safe online, consider getting an identity theft protection service. With NordProtect, you can prepare for potential risks. If you become a victim of identity fraud, you can be eligible for financial support of up to $1 million and professional assistance to help you with recovery processes.

What can financial institutions do?

Financial institutions can take more active steps to protect their clients from falling victim to personal and business loan fraud. They need to ensure their Know Your Customer and Know Your Business practices are robust and secure, as well as adhere to anti-money laundering (AML) regulations to avoid internal collusion.

Loan companies must thoroughly check the information in the loan application to ensure that the request is legitimate and comes from the person or organization named in it, not a third party. If a loan is approved, they should track their clients’ activities to see that the money is used as intended.