In today’s increasingly regulated environment, rules seem to change all the time. Worse, borrowers are increasingly–and successfully–suing mortgage lenders. This article will explore what you need to know now in order to navigate these choppy waters.
The CFPB & Dodd-Frank
Recently, the Consumer Financial Protection Bureau (CFPB) issued the highly anticipated rules to implement provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act. This requires mortgage loan lenders to make a reasonably good-faith determination that borrowers have the ability-to-repay their mortgage loans, known as the Ability-to-Repay (ATR Rule.) At first glance, the ATR Rule may appear easy to follow, yet there are many details that need to be adhered to and considered. Upon meeting these ATR Rule requirements (which become effective Jan. 10, 2014), the lenders will receive a safe harbor designation if they originate what is deemed to be a Qualified Mortgage (QM). This would then make it more difficult for borrowers to sue the mortgage lenders. The requirements of the rule that would allow for a mortgage to be classified as a QM are outlined broadly below:
►The loan will be generally be a 30-year fully amortizing loan and cannot contain any negative amortization options, balloon terms or interest-only payment features;
►The interest rate of the loan cannot exceed 150 basis points above the Average Prime Offer Rate (APOR) for first-lien loans;
►The total fees and points that the lender can charge on originating the loan cannot exceed three percent of the loan size for loans $100,000 or greater;
►The mortgage lender is generally banned from charging the borrower any prepayment penalty fees;
►The lender must obtain full documentation of the borrower's employment status, current and expected future income and assets, other debt obligations, such as alimony and child support, their monthly payments on the specific loan along with monthly payments on any other simultaneous loans and other mortgage-related obligations such as property taxes, and their credit history;
►The borrower must have a maximum debt-to-income rate (DTI) of 43 percent, which will be calculated by considering the highest payment the borrower will be expected to pay in the loan's first five years.
It remains to be seen how this ruling will impact the composition and volume of the future mortgage loan issuance as the majority of the loans currently being issued are already being originated with much stricter underwriting standards after the 2008 credit crisis. Much of the alternative products prohibited in the new QM guidelines have already been phased out or are being limited to specialty lenders, hence the bulk of current mortgage origination is already conforming to the newly proposed QM guidelines. One noteworthy exception is that many banks are originating and holding within their bank portfolios, a good deal of interest-only prime jumbo loans. Going forward, once the guidelines come into effect, these will not meet the QM requirements thereby will not give the originators safe harbor treatment thereby giving lenders less incentive to continue originating them.
On a separate note, associated to the ATR Rule and QM, there is a proposed rulemaking related to the Qualified Residential Mortgage (QRM) of which the definition has not been released yet. It is anticipated that the QRM requirements will set maximum loan-to-value (LTV) and minimum FICO thresholds.
The ruling will determine which types of mortgages can be ultimately be securitized because under the QRM provisions, lenders will have to retain risk on transactions backed by loans ineligible to be classified as QRMs. This will have a tremendous impact on any potential resurgence in the private label securitization market.
The CFPB is also amending Regulation X, which implements the Real Estate Settlement Procedures Act (RESPA) and Regulation Z, which implements the Truth-in-Lending Act (TILA) and provides a commentary that outlines an official interpretation to these regulations. The final regulations will implement the Dodd-Frank Act sections that address mortgage loan servicing requirements.
The final Regulation X rule implement the Dodd-Frank Act amendments dealing with periodic mortgage statements and disclosures for ARMs, prompt crediting of mortgage loan payments, requests for mortgage loan payoff statements, to correct any errors asserted by the borrowers, and provide them with certain requested information. The rules will also address the servicer's obligation to formulate a set of Policies and Procedures to ensure consistent and fair treatment of borrowers, address any regulatory areas of concern, reporting requirements, and records retention.
In order to comply with the increased regulation of the mortgage servicing operations, servicers would need to develop and adopt a best practices strategic plan that addresses all the requirements of the amended CFPB's rulings of which the principal elements would be, the creation and implementation of a robust and consistent set of loss mitigation and loan administration policies and procedures that direct loan servicing and asset management activity, the implementation of a robust suite of oversight queries and reports that identify data inconsistencies and outliers, focus on high risk issues, and may include comparisons to objective third-party benchmark metrics (Macro Level Review), and loan level reviews of negative findings from Marco Level Review, plus random QC reviews of various servicing operations that seek to identify areas of potential non-compliance with the policies (Loan Level Review).
The Policies and Procedures should address, among other things, loss mitigation, foreclosure activity, third-party vendor oversight and loan administration. A codified set of Policies and Procedures can help ensure:
►Consistent and compliant treatment of borrowers from collections through modifications and foreclosure avoidance procedures;
►Ease of implementing specific portfolio management strategies;
►Specific guidance that allows asset managers to make timely and efficient decisions;
►Compliance with regulatory requirements;
►The fair and robust measurement of various strategies against one another or against benchmarks; and
►The justification of servicing activities to external parties.
The Macro Level Review would implement robust oversight queries and reports to help the servicer identify any data inconsistencies that may exist and any potential outliers. A Macro Level Review system must be built on a cross-asset platform with the following capabilities:
►Aggregation and normalization of data from multiple sources (origination files, active services, other vendors);
►Automated uploads from current loan servicing systems; and
►Reports, queries and views that have been built at the aggregate portfolio level with the ability to drill down to loan level and designed to create an intelligent quality control process for monitoring compliance with the Policies and to uncover any loan level data inconsistencies and outliers.
These review systems would help the servicers uncover and highlight and quickly rectify any potential policy violations. The systems should also help the servicer develop reports to show and help them compare and evaluate their relative performance to fair and objective third-party benchmarks.
Loans flagged with negative findings in the Macro Level Review process or for random QC review should then be reviewed individually with the focus being on either confirming or absolving each loan with respect to its potential non-compliant servicing action.
The servicing industry is currently analyzing the impact and looking to find efficient and effective ways to addressing these requirements. Outside consultants are looking to provide independent services in the following areas:
►Performance-related servicer oversight
►Compliance-related servicer oversight
Based on our completing a number of comparative servicer performance analyses focusing on aspects such as timelines, severity and modification strategy a number implementation factors can significantly improve the outcome and efficiency, from both regulatory and economic standpoint. These factors include: work-flow design based on highly experienced professionals, specialized predictive analytics, adaptive systems, and streamlined data infrastructure. Our team of seasoned industry professionals, combined with cutting edge analytics, has facilitated the work in this sector and has resulted in a deeper understanding of the post-crisis paradigm now facing our clients.
Ron D’Vari, Ph.D., CFA is co-founder and chief executive officer at NewOak, and has over 29 years of experience in asset management, advisory, academics and management. He may be reached by phone at (212) 209-0855 or e-mail [email protected]