Thursday, June 13, 2024

November 2013 Legal Briefs

  • Q & A on the Dodd-Frank rules
  • Fair lending and qualified mortgages

In this month’s edition of Legal Briefs, we devote our time and attention to questions and issues relating to the new mortgage lending rules that will take effect in January.

Q&A on the Dodd-Frank Rules

By Mary Beth Guard

Question: Please clarify if there is a difference between a “Higher Priced Covered Transaction” and a “Higher-Priced Mortgage Loan.”

Answer: Yes, there most certainly is. Higher Priced Covered Transactions (HPCTs) are defined under .43 of Regulation Z, so they only come into play with “covered transactions,” i.e., consumer credit transactions secured by a dwelling (other than a HELOC under 1026.40). Whether a loan is an HPCT or not affects the protection it has from legal liability under the Ability to Repay rules. First, to have either a safe harbor of compliance with the ATR rules, a loan must be a Qualified Mortgage (one of the five types available) and it must be a non-HPCT. If the QM is instead an HPCT, it still has protection, just not as much. Rather than a safe harbor, it has a rebuttable presumption of compliance with the Ability to Repay rules.

The determination of whether a loan is an HPCT or not is made based upon the rate. For a subordinate lien QM, if the APR exceeds the APOR by more than 3.5%, it will be a Higher Priced Covered Transaction. If it is a first lien loan, the trigger is more complicated. If it is a Qualified Mortgage under the three types of qualified mortgages that small creditors are eligible to make (Small Creditor Portfolio Loan QM under .43(3)(5), Temporary Balloon Payment Loan QM under .43(e)(6), or a Balloon Payment Loan QM under .43(f)), the APR must exceed the APOR on a first lien loan by more than 3.5% to be an HPCT. All other types of first lien QMs trip the trigger at just 1.5% above the APOR.

So now you understand the trigger for coverage as an HPCT and understand that it solely comes into play in determining whether a Qualified Mortgage falls within a safe harbor of protection under the Ability to Repay rules or has the next rung down on the protective scale – a rebuttable presumption of compliance.

The term Higher-Priced Mortgage Loan (HPML), on the other hand, is under .35 of Regulation Z and it’s a concept that we’ve been dealing with for more than three years. Under the rules that went into effect in 2010, there were repayment ability standards build in to .35. Those are being replaced by the general ability to repay rules for covered transactions under .43 (which take effect January 10, 2014).

To be an HPML, a loan must be a closed end consumer credit transaction secured by a consumer’s principal dwelling. In contract, the ATR rules apply to consumer credit transactions (other than a HELOC under .40) secured by a dwelling. It does not have to be the consumer’s principal dwelling. Thus, the scope of coverage of the ATR rule is broader than the scope of coverage of the HPML rule. All HPMLs will be covered transactions, but not all covered transactions will be HPMLs – both because of the requirement for the collateral on an HPML to be the principal dwelling of the consumer and because not all covered transactions will trip the rate trigger.

The rate triggers for HPML coverage have been tweaked. A loan that meets the criteria discussed above will be an HPML if the APR exceeds the APOR by more than 1.5% on a first lien non-jumbo loan, by more than 2.5% on a first lien jumbo loan, and by more than 3.5% (regardless of the size of the loan) on a subordinate lien loan.

Originally, there were two consequences of a loan being an HPML: l) it had to comply with the repayment ability requirements; and 2) if it was a first lien loan, an escrow was required to be established and maintained for the payment of insurance and taxes.

Several changes have been made. As noted above, the repayment ability provisions have been removed from .35 and those loans (as with any other “covered transactions”) will be covered by the Ability to Repay rules in .43. In terms of the escrows, the changes that took effect June 1, 2013 lengthened the period of time within which the escrow must be maintained to five years, and provided an exemption from the escrow requirements for institutions that meet four criteria (related to size, volume of loans, location of property securing the loans, and escrow history. [The aspects of the eligibility test that related to loans made in rural/underserved areas and history of escrowing were also tweaked and those changes take effect January 1, 2014.)

In terms of the most noteworthy changes to the HPML rules, we have new appraisal requirements. They apply to HPMLs, but there are exemptions, including an exemption for any HPML that is a Qualified Mortgage. If a loan is a non-QM HPML, it must have an appraisal by a certified or licensed appraiser (regardless of transaction value), and the appraisal must include a physical inspection of the interior of the property. The creditor must take certain steps to ensure the appraisal is compliant, and there is a special new Appendix to assist in that endeavor. A new disclosure accompanies this requirement, because the applicant is entitled to a copy of any and all appraisals developed in connection with the application, and the copies must be provided at no charge at least three business days prior to consummation. Unlike the Regulation B appraisal copy requirement, this one is not limited to first lien loans and the applicant does not have a right to waive the timing requirement under this section of Regulation Z.

The more eyebrow-raising requirement under the HPML rules is the requirement for the so-called “flip” appraisal. If the loan you receive an application for would be an HPML and is NOT a QM (and is not exempt under one of the other exemptions to the .35 appraisal rules), you may be required to obtain an additional appraisal at no cost to the applicant that is by a different certified or licensed appraiser that includes not only a physical inspection of the interior of the property, but also looks at the seller’s acquisition price and the prospective borrower’s/buyer’s acquisition price and discusses the difference, looks at improvements made to the property since the seller acquired it, and looks at how market conditions have changed since the seller purchased the property. This type of appraisal is potentially triggered when the seller has entered into a contract to sell the property to the prospective borrower 180 days or less after the seller acquired it – and there is a particular increase in price. Specifically, if it’s being sold 1 to 90 days after the seller acquired it for a price that is more than 10% above what the seller acquired it for, the flip appraisal may be triggered. If the sale is occurring 91 to 180 days after the seller’s acquisition, the flip appraisal isn’t triggered unless the price is more than 20% above what the seller acquired it for. There are complex rules regarding when to measure the dates, how to measure the amounts, and there is even a new appendix in Regulation Z with examples of written source documents that can be used.

Fortunately, several months after first coming out with these new appraisal rules, the Bureau substantially amended them, building in 8 exemptions to the flip appraisal requirement. Six of the new exemptions are based upon conditions relating to the seller. Two are related to where the property is located.

HPCTs and HPMLs are very different things. They have different triggers, different collateral, and different consequences.

Fair Lending and Qualified Mortgages

By John S. Burnett

New Guidance Issued

As soon as mortgage lenders started assessing their options for compliance with the Ability-to-Repay rules that will become effective on January 10, 2014, a discussion began on whether the risk-averse stance of making only Qualified Mortgages — in order to obtain the “safe harbor” or “rebuttable presumption” protections afforded by a QM – might expose a lender to added risk of fair lending complications.
Specifically, a number of creditors expressed concern regarding whether the disparate impact doctrine of the Equal Credit Opportunity Act (ECOA) and Regulation B allows the creditors to restrict their mortgage offerings to those available under applicable QM standards.

Five regulatory agencies — The Board of Governors of the Federal Reserve System, the Consumer Financial Protection Bureau, the Federal Deposit Insurance Corporation, the National Credit Union Administration and the Office of the Comptroller of the Currency — addressed those concerns in an interagency statement issued on October 22, 2013. The agencies said that they “do not anticipate that a creditor’s decision to offer only Qualified Mortgages would, absent other factors, elevate a supervised institution’s fair lending risk.” The agencies added that “the decisions creditors will make about product offerings in response to the Ability-to-Repay Rule are similar to decisions creditors have made with regard to other significant regulatory changes affecting particular types of loans,” and suggested that “creditors should continue to evaluate fair lending risk as they would for other types of product selections, including by carefully monitoring policies and practices and implementing effective compliance management systems.”

As examples of decisions that lenders have made in the past, the regulators point to the enactment of the Home Ownership and Equity Protection Act and the introduction of its implementing regulations in 1995. Some creditors made business-risk decisions not to offer “HOEPA” (Regulation Z Section 32) loans. The addition of rules covering “higher-priced mortgage loans” (Regulation Z Section 35) loans prompted some creditors to decide not to offer such loans after July 2008. None of those business decisions, said the regulators, have been subjected to ECOA or Regulation B challenges.
When making product offering selections, creditors should continue to evaluate fair lending risk as they have in the past, as one of the factors to be considered in making the business decision. That evaluation should include careful monitoring of policies and practices and implementation of effective compliance management systems. In the simplest terms, any decision not to offer a particular credit product should be a risk-based business decision.

The OCC, Board, FDIC and NCUA stated they believe that the ECOA/Regulation B strategies suggested in the Interagency Statement will also apply in supervising institutions for compliance with the Fair Housing Act.

Question: We make ARM loans. We understand that there is something in the rules about January 10, 2015. Are there any situations where the bank is required to modify existing ARM loans before year 2015 due to ARM loan notification requirements?

Answer: No. Under amendments to .20 of Regulation Z, there are new rules for the post-consummation disclosures on ARM loans. One of the disclosures is the initial rate disclosure notice that is to be made in connection with the initial interest rate adjustment made under the loan contract. The disclosures must be provided at least 210, but no more than 240, days before the first payment at the adjusted level is due.
The other disclosure is one to be made each time in advance of rate adjustments that carry with them a corresponding change in payment. This disclosure is to be provided at least 60, but no more than 120, days before the first payment at the adjusted level is due. (And there is a different timing rule if the ARM has uniformly scheduled interest rate adjustments occurring every 60 days or more frequently.)

There is also a special rule that applies to any ARM loan originated prior to January 10, 2015 where the loan contract requires the adjusted interest rate and payment to be calculated based on the index figure available as of a date that is less than 45 days prior to the adjustment date. For those loans, the disclosures shall be provided to consumers at least 25, but no more than 120, days before the first payment at the adjusted level.
This gives creditors some leeway to keep originated ARM loans with a short lookback period (or no lookback period) for the next year. Any ARM loan originated after January 10, 2015, however, will need to be compliant with the new 60-120 day disclosure period.
There is no requirement in the new rule for any existing ARM loan to be modified.

Question: Does Appendix Q cover all of ATR, or is it just for DTI calculations?

Answer: First of all, let’s make one thing very clear. If you are simply trying to achieve compliance with the Ability to Repay rules, all you have to do is consider the 8 factors on a covered transaction. The rule doesn’t say what weight you give to each one. You simply have to consider them and, where directed, obtain third-party records to verify the information.

Appendix Q comes into play if you choose to try to document your compliance (or “prove” your compliance) with the Ability to Repay rules by making a Qualified Mortgage of the type covered by .43(e)(2), sometimes referred to as the “regular” QM or “standard QM.”

Creditors of all sizes are eligible to make QMs under (e)(2), but this type of QM carries with it the strictest standards. It is the only QM that imposes a 43% DTI limit (although a QM under (e)(4) may have limits due to the entities and agencies that are involved; it’s the Transitional QM where a loan gets QM status if it is eligible for purchase, insurance or guarantee by the named entities). Also, it is the only type of QM where the use of Appendix Q to underwrite the loan is required.

Under Appendix Q, there are five sections. They provide guidance for calculating employment-related income, non-employment related consumer income, recurring obligations, contingent liability, and projected obligations and obligations not considered debt.

Even if you are not making a QM under (e)(2), the Appendix can provide helpful insight into how you may want to treat certain income and obligations.

Question: Are you able to pay a loan originator more for loans that are held in portfolio, rather than for loans that will be sold on the secondary market? Our portfolio loan rates are generally higher than secondary market loans.

Answer: It appears to us that paying based on whether you are holding or selling would be interpreted as being a proxy for a term of the loans because while you ostensibly aren’t paying the LO based upon the rate of the loans, that’s what it ends up being if you pay more for loans that you hold and those are the ones that have higher rates.

Question: When is homeownership counseling mandatory? And does it apply to home equity transactions as well?

Answer: It is mandatory in two circumstances: l) where you have a loan to a first time borrower that could involve negative amortization; and 2) where you have a High Cost Mortgage Loan under .32 of Regulation Z. The scope of coverage of .32 loans has been expanded. Formerly, it applied only to closed end credit. It now applies to both open end and closed end consumer credit transactions secured by the consumer’s principal dwelling.

Question: Are the Reg X counseling list notices under .20 required on pre-qualifications?

Answer: No. The list of homeownership counseling organizations must be given within three business days after application for a loan that would be covered by RESPA. Pre-quals don’t trigger the requirement.

Question: I’m wondering about the operational aspects of applying Reg Z’s Section 1026.36(c)(3) to junion liens. If someone walks into a branch and wants to pay off their HELOC, it sounds like we should build in some time for the back office to validate the payoff if the system doesn’t account for everything in the balance/payoff amount reflected on the CIF system. Is this correct?

Answer: For those who don’t recognize .36(c)(3) off the top of your heads, it is the requirement under Regulation Z to provide a prompt and accurate payoff statement. The key here is “accurate.” Think of this as the “no swag” rule. It’s fine to give someone a ballpark estimate, if you label it as such, but you must give them the actual accurate payoff balance within the required timeframe (within a “reasonable” time, in no case more than seven business days after receiving a written request). Note that if the loan is a High Cost Mortgage Loan under .32, the timeframe is shorter. The applicable section then is .34, and it requires it to be given no more than five business days after the request is received.

Question: If you take a principal dwelling out of an abundance of caution on a commercial transaction, does it trigger all the new rules?

Answer: No. The new rules affect three different regulations: Regulation B, Regulation X, and Regulation Z. The only thing that would be triggered is the new Regulation B appraisal copy requirement (which entails the new disclosure, the requirement to provide a copy of any appraisal developed in connection with an application to be secured by a dwelling, and the requirement that the appraisal be provided promptly upon completion, but no later than 3 business days prior to consummation or account opening, and it must be given even if the application is denied, withdrawn or incomplete. One proviso, however, is that only applications that would result in a FIRST lien on a dwelling are subject to these Regulation B appraisal requirements. None of the items in Regulation Z or Regulation X apply because they are strictly limited to consumer credit.

Question: Under the new appraisal rules under Regulation Z, are you exempt if you meet the definition of a small creditor?

Answer: You are mixing apples and orange, but there is a bit of truth in what you say. The new appraisal rules under Regulation Z apply only to non-QM HPMLs. If your loan is an HPML, but you have met the requirements for it to be a Small Creditor Portfolio Loan QM under (e)(5), your loan will be exempt from the new appraisal requirements under Regulation Z.

Question: If the new Reg B appraisal requirements are only for a first lien on a dwelling, what do you think about providing notice to every loan applicant, but provided the protection (e.g., delivery of the appraisal and delaying consummation) to first lien loans?

Answer: First of all, if you ever make a loan that is a non-QM HPML, you will have to give the copy of the appraisal – regardless of the lien position. If that’s not a concern for you (either because you don’t make HPMLs, or because any you do make will be QMs and therefore exempt from the Reg Z appraisal provisions), then we can focus on the Reg B aspect of it. I think you could do what you’re contemplating if you lay the groundwork properly.

What you would need to do is modify the notice you are going to give. The notice should plainly say something to the effect of “If the loan you’re applying for would result in a first lien on a dwelling . . . “ then include the rest of the disclosure language. What you’re doing is letting them know that only on the first lien loans will they have these rights.

Question: Is commercial property that includes a dwelling included in Reg B?

Answer: Yes — potentially. If there is a dwelling on the property and your loan would result in a first lien, it would be covered by the Reg B appraisal requirements.

Question: Is an appraisal copy required whether the borrower paid for the report or not? Like a No Cost HE loan?

Answer: If the appraisal copy requirements of either Reg B or Reg Z apply to the transaction, you must provide a copy of all appraisals developed in connection with the application, regardless of whether you have charged the applicant for the cost of performing the appraisal. On loans where you intend to charge the applicant for the cost of performing the appraisal, you may want to alter your procedures a bit so that you either collect for the appraisal at an early point in time (after the applicant has received the GFE, if applicable, and expressed his intent to proceed). In fact, you may wish to wait to order the appraisal until after you have reviewed the application in depth. It’s not easy to get an applicant to pay for an appraisal if you’re denying the loan, but you’re going to have to provide a free copy, regardless.

Question: If we originate the loan, then assign it to Freddie Mac, but we retain the servicing rights, are we still considered a small servicer?

Answer: If you meet the test for servicing 5,000 or fewer of the relevant kinds of loans and you don’t service any loans other than these (or other than other loans for which you are also the creditor or servicer). For purposes of the small servicer test, you will qualify because you are still considered to be the creditor.

Question: If we only pay our loan originators a salary, are there any issues under the loan originators compensation rule?

Answer: No.

Question: If we pay our loan originators salary, but also pay a commission that is based on total loan production for the month, doe we have to count any of this towards points & fees?

Answer: No. Amendments made to the compensation rules after the original ones came out in January exempted compensation the creditor pays its employees. (And, as an aside, a commission based on loan volume is permissible.) The thinking is that you’ve factored your employee compensation in when you set the rate.

Question: SAFE Act qualification rules vs. loan originator qualification. Is there a look back requirement for existing MLOs with additional felony disqualifications?

Answer: Under the new rules in .36 of Regulation Z, there are new qualifications that apply to both loan originators as defined under .36 of Regulation Z. Because the triggers for cover as an LO under Reg Z are much easier to trip than the triggers for being a Mortgage Loan Originator under the SAFE Act, it is our view that anyone who is an MLO under the SAFE Act would also be an LO under Reg Z, so the qualification requirements will apply to both.

Having said that, there is now a stringent background check requirement for Los. For those who are covered by it, if the background check shows that at any time the person pleaded guilty, nolo contendere was convicted of any crime involving dishonesty, breach of trust or money laundering, they cannot work as a Loan Originator. If, during the previous 7 years, the person pled guilty, pled nolo contendere, or was convicted of any felony, they cannot work as an LO unless they were pardoned or the conviction was expunged or they won on appeal.

So, as for who you actually apply the requirements to, the regulation requires that you obtain it for the following:

  • any individual whom the loan originator organization hired on or after January 1, 2014;
  • any individual whom the loan originator organization hired before January 1, 2014, but for whom there were no applicable statutory or regulatory background standards in effect at the time of hire or before January 1, 2014, used to screen the individual; and
  • for any individual regardless of when hired who, based on reliable information known to the loan originator organization, likely does not meet the standards under § 1026.36(f)(3)(ii).

Question: On the loan originators we need to get a background check on, is there anything else we need to do?

Answer: Yes. On the same individuals described above, you need to obtain additional information. Specifically, in addition to the background check, here’s what you need:

  1. A credit report from a consumer reporting agency described in section 603(p) of the Fair Credit Reporting Act (15 U.S.C. 1681a(p)) secured, where applicable, in compliance with the requirements of section 604(b) of the Fair Credit Reporting Act, 15 U.S.C. 1681b(b); and
  2. Information from the NMLSR about any administrative, civil, or criminal findings by any government jurisdiction or, in the case of an individual loan originator who is not a registered loan originator under the NMLSR, such information from the individual loan originator.

In the interest of completeness, I’ll go ahead and mention the remaining items you need to address, when it comes to your loan originator qualification requirements. The regulation states that you must determine if the loan originator has demonstrated financial responsibility, character, and general fitness such as to warrant a determination that the individual loan originator will operate honestly, fairly, and efficiently; and you must also provide periodic training covering Federal and State law requirements that apply to the individual loan originator’s loan origination activities.

Question: What loan documents do we need to put the LO’s information on?

Answer: The SAFE Act list of documents hasn’t changed, so you still need to put the name and NMSLR ID on the first communication with the customer, for example, and on anything else the SAFE Act requires.

The amendments to Regulation Z layer on additional requirements for any loan covered by .36, regardless of whether the person handling the loan is an MLO under the SAFE Act, or simply a Loan Originator under the definition in Regulation Z. Under the new provisions in .36, The loan documents that must include the names and NMLSR IDs pursuant to paragraph (g)(1) of this section are:

  • The credit application;
  • -The note or loan contract; and
  • The security instrument.

If an individual loan originator employed by a bank originates a loan, the names and NMLSR IDs of the individual and the bank must be included on covered loan documents A loan originator organization may also have an NMLSR unique identifier.

If you have an LO who is not an MLO under the SAFE Act, a NMLSR ID is not required by § 1026.36(g) to be included on loan document. By way of example, the Commentary says that if, for example, certain loan originator organizations and individual loan originators who are employees of bona fide nonprofit organizations may not be required to obtain a unique identifier under State law. However, some loan originators may have obtained NMLSR IDs, even if they are not required to have one for their current jobs. If a loan originator organization or an individual loan originator has been provided a unique identifier by the NMLSR, it must be included on the covered loan documents, regardless of whether the loan originator organization or individual loan originator is required to obtain an NMLSR unique identifier. In any event, the name of the loan originator is required by § 1026.36(g) to be included on the covered loan documents.

It is not necessary to include the name and ID more than once on each loan document. You don’t need to put that information on each page of a document.

In a situation where multiple individual loan originators are involved in a transaction, the name and NMLSR ID of the individual loan originator with primary responsibility for the transaction at the time the loan document is issued must be included.

How do you determine which loan originator has “primary responsibility”? You need to establish and follow a reasonable, written policy for determining which individual loan originator has primary responsibility for the transaction at the time the document is issued complies with the requirement.

In some cases, the LO with primary responsibility will change as the application moves through the process. If the individual loan originator with primary responsibility for a transaction at the time a document is issued is not the same individual loan originator who had primary responsibility for the transaction at the time that a previously issued document was issued, the previously issued document is not required to be reissued merely to change a loan originator name and NMLSR ID.