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FHFA proposes new mortgage servicing compensation

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The Federal Housing Finance Agency is seeking public comment on two proposed plans for collecting mortgage servicing compensation. The report is an indication that the FHFA acknowledges that current economic turmoil created an environment where mortgage servicing is growing less profitable. The fear, the report states, is that more mortgage servicers will go out of business, leaving only a few large players running the show. The proposals are part of an initiative launched by the FHFA and the Department of Housing and Urban Development earlier this year with the stated goals of improving mortgage servicing for borrowers while decreasing financial risks posed to servicers. In February, the Obama administration outlined the several proposals for the changes it sought for the public to review. The FHFA has unofficially entered into discussions with mortgage originators and servicers. The release of the request for public comment confirms ongoing discussions between the FHFA and the mortgage finance industry. Nonetheless, the FHFA still wants to hear more. Based on those proposals and accounting for public comments, two alternative plans were created and are now available online. The government seeks to create a compensation structure that reduces risks and improves servicing while also giving more flexibility to guarantors so they can improve management of nonperforming loans and still provide liquidity to the To Be Announced mortgage securities market, according to the FHFA. The current compensation system, the FHFA report indicates, is based on the assumption that mortgage servicers are fairly paid. However, this is contingent on borrowers paying with regularity. The current economic morass is pushing more into delinquency and the FHFA wants to hear from the mortgage finance industry as to whether or not this system is still appropriate. "Performing loan servicing is primarily a payments processing business," the report states. "In contrast to performing loan servicing, nonperforming loan servicing is very labor intensive, and does not have economies of scale benefits typical of performing loan servicing." For example, the reports cites the fact that nonperforming loan servicing involves direct interaction with borrowers and other processes, such as default management, that require much more activity and borrower interaction on the part of servicing personnel. Mortgage servicers are currently paid the same regardless of performance. Carryover costs during foreclosure, such as court fees, are generally reimbursable. As it stands, the mortgage servicer is generally required to retain a minimum servicing fee of 25 basis points for Fannie Mae and Freddie Mac and 44 basis points for Ginnie Mae (19 basis points for the GNMA II program) of the outstanding principal balance for fixed-rate mortgages. "This MSF, along with the other servicing revenue components described below, effectively serves as collateral for selling and servicing representations and warranties for the guarantor," the paper states. "For private label securitizations, annual servicing fees were typically 50 basis points of the outstanding principal balance for subprime loans and 25 to 50 basis points for nonsubprime loans." Furthermore cash flow from the servicing fee is extremely sensitive to mortgage prepayments that generally increase when mortgage interest rates fall and decrease in rising interest rate environments. The value of an MSF is therefore volatile due to the interest-only nature of servicing compensation. The FHFA is going forward with its working solution to mortgage servicing compensation. Since the proposals the FHFA already heard hold a common theme, the regulator is including for public comment the following concept: servicers would retain a reduced MSF strip (ranging from 12.5 to 20 basis points) relative to today’s 25 basis points standard, with an additional reserve account (ranging from three to five basis points) to cover nonperforming loan servicing costs. Ginnie Mae, as a government business and insurer of mortgage-backed securities, will likely not see any changes as it does now issue MBS or hold mortgages on its portfolio. The FHFA hopes its solution will also be applicable to the private-label MBS market. The federal agency will continue the conversations on the mortgage servicing compensation for 90 days. Write to Kerri Panchuk.

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