The mortgage industry will see significant transformation in August, when the updated rule for Integrated Mortgage Disclosures under RESPA and TILA comes into effect. In combination with other regulatory and market-driven mandates, these changes will reinforce the principle that the mortgage lender can no longer give passing attention to or hand off many of the processes that take place between sales agreement and sale on the secondary market. There is too much potential risk in doing so.
The challenge, however, is clear. The lender that takes control of the settlement and post-closing process could also be required to spend huge amounts to do so. A large number of lending companies and banks have historically relied on a network of vendors and partners, from appraisal management companies to title insurers and closing agents, to do the heavy lifting for a simple fee. Although the obvious means of reducing risk is to take greater control over the chain of vendors managing the closing, post-closing and secondary market process, it adds increased cost to an already expensive process.
So how can a lender exert greater control over the settlement/closing process without taking on costs that crush profitability? The answer may be found somewhere between commandeering the entire process and “throwing it over the fence.” For lenders, paying more attention to the source of the data and information used in finalizing settlement (title searching, valuation and the like) could hold the key. This means data reporting collected in a more robust, accurate and verifiable fashion.
WHERE'S THE RISK?
Once upon a time, the business strategy of a significant number of mortgage lenders focused upon sales and revenue. Success, more or less, was predicated upon origination volume. Thus, a number of resources were focused on product mix, sales strategy and market research. Functions such as closing, valuation, post-closing, title insurance and the like were jobbed out to any number of vendors — some national and others regional or local. The settlement process was anything but cool and occupied the business planning of the boardroom only to the extent that it had to.
Today, things have changed. Although sales strategy remains (and always will) at the core of any successful business plan, the settlement and post-closing process will now require more attention. Both the Consumer Financial Protection Bureau, through an April, 2012 bulletin, and the Office of the Comptroller of the Currency, via an October, 2013 guidance bulletin, have made it clear that they will now hold lenders accountable for the actions of their “service providers” during the settlement and post-closing phases of a transaction. Simply handing off the valuation, closing or post-closing processes, without carefully planned oversight is now, therefore, an invitation to unmitigated risk. Errors or even malfeasance in the settlement process can no longer be put back upon the vendors alone. And should those miscues harm the consumer, the lender is squarely in the line of fire of enforcement agencies.
But that’s not all. Some still suggest that the repurchase demand, or “buyback,” is not necessarily gone forever. And it could be impacted by sloppy settlement procedures. Leading mortgage regulatory and repurchase defense attorney Brian Levy, of Katten & Temple, LLP in Chicago, asserts that future buyback demands will still arise based upon faulty or shoddy data used in the settlement process. “Despite recent GSE pronouncements making repurchases less likely for performing loans and insubstantial matters, the GSEs still view compliance and data errors (particularly multiple data errors) along with title and lien issues as basic grounds for demanding repurchase. In fact, the failure to properly disclose data in compliance with RESPA (Real Estate Settlement Procedures Act) or TILA (Truth in Lending Act), as well as title or lien errors, are likely to figure prominently in future repurchase claims.”
The bottom line? The impetus for many lenders today is to take greater control of their settlement processes for regulatory and possibly even market reasons. That impetus, however, is met by an equally powerful aversion to rising production costs. How, then, can a lender protect itself from liability at the hands of a wayward or careless vendor without taking the entire process, essentially, “in house?”
MITIGATING RISK: WHAT'S A LENDER TO DO?
The most obvious and logical way to reduce chances of being ambushed by the miscues of a vendor would be to eliminate the outsourcing of the settlement process or, at least, reduce the number of vendors being used. Simultaneously, the lender will need to increase its quality requirements and improve its vetting procedures for those vendors and expand its oversight and monitoring procedures. All, of course, will need to include adequate documentation. For lenders that can afford to (and this is not a large population), taking as much of the settlement process as possible “in house” may be the closest thing to eliminating the risk of liability for the actions of a service provider that exists. However, very few lenders have that capability, budget or appetite.
The next best option will likely be to consolidate vendors performing the settlement functions. In many cases, we are seeing lenders turning to larger companies with national capabilities, such as title underwriting companies with lender services functions or similar vendor management firms. Even then, such options could be relatively costly for regional or multistate depositories, credit unions and the like.
Thus, for the lender that cannot afford to absorb the settlement functions itself or cannot afford the largest, seemingly safest vendor management providers, what are the options on the table?
DO THE SOLUTIONS BEGIN AT A GRANULAR LEVEL?
It would seem that, initially, any lender will need to follow a few basic principles in approaching the settlement process, no matter how large or small that lender is. First, and most obvious: no more “throwing it over the fence.” Joseph Murin, director of Chrysalis Holdings and former president of Ginnie Mae, makes this clear: “In the past, too little attention was paid by too many lenders to the post-closing or settlement process. That has to change now. Admittedly, there are many costs associated with the ‘back end.’ But the mindset has to change. Your operation needs to be conscious of that element of the transaction. You need to have solid processes in place. And you need to have audit trails.”
Whether a lender chooses to outsource or handle “back-end” processes itself, a lender will now need to pay special attention to the quality of those processes. Failure to do so could dramatically reduce or eliminate any potential profit from the initial sale. That could include increased use of larger vendor review teams, more robust vetting and/or vendor selection processes and an overall emphasis on increased QC.
Another option could well be a hybrid approach wherein a lender consolidates its vendors for the process, but increases the functions performed by its own in-house department. In other words, some lenders could consider “in-sourcing” some elements of the settlement function while outsourcing others to trusted vendors (under the watchful eye of an increased monitoring program). For example, simple title searches could be “outsourced’ to reporting products. However, in such cases, these products would need to be generated through documented, verifiable processes. The quality control level at the level of the vendor generating such products would need to be high and, again, verifiable. A lender would need to ask (as any auditor or enforcement agency might) several fundamental questions:
What is the methodology of collecting the data? What are the primary sources of the data? Is the process documented?
What are the vendor’s QC policy and procedures? Are they written? How often are they self-audited or audited by a third party?
What’s the mix of humanity to technology when it comes to the generation of the data deliverable? Anything overly automated comes with inherent risk. Similarly, a search or reporting product that’s almost entirely dependent upon the human factor can become costly, time-consuming and, in its own right, prone to errors (both systemic and individual).
Finally, for the lender that uses some in-house resources in reliance on outsourced data products, one more key question: “Are you using the data product or deliverable as it is intended to be used?” We’ve seen the disastrous results of reliance upon products for more than they were designed, such as the abuse of desktop underwriting programs or title-insurance substitutes. Although it’s tempting to cut costs by stretching a data product to cover more than it was intended to, the consequences of doing so could be significant in this environment.
There is no silver bullet or single “right” answer for lenders seeking to maintain already shrinking profit margins while staving off the growing risks associated with quality control and vendor management in the settlement and post-closing process. Unfortunately, it’s a necessary evil. However, there are solutions. It’s also very likely those solutions will grow in number, availability and efficiency in time. At present, it’s imperative, however, that each lender consider its options and get to work. Avoiding the reality of the risk, hoping for the best or planning to remain “under the radar” of enforcement agencies are all fantastic recipes for attracting disaster sooner or later.
