REQUIRED READING: The servicing industry is caught up in a whirling maelstrom of change. Whether it's from the 300-plus new standards set out in the robo-signing settlement or the steady stream of new expectations and rules emanating from the Consumer Financial Protection Bureau (CFPB), the demands on servicers have never been greater. In order to overcome these challenges and thrive, servicing must be brought out of operational Siberia and be fully integrated into risk management systems.
Back in the ‘good old days,’ servicing was the invisible side of the residential mortgage industry. Functioning essentially as the back office, servicers collected payments, maintained escrow accounts for insurance and taxes, made sure property and casualty insurance was in place, and obtained property and insurance when the homeowner didn't.Â Â
If a loan went 30 days late, it was smoothly transitioned into the collection queue, and the borrower was contacted in order to determine why the payment was late and whether the borrower had the financial means to bring the loan current. At 60 days late, a notice of default/intent to foreclose was sent out, and the borrower was given an additional 30 days to cure. If the borrower failed to cure, the loan was dual-tracked into the loss mitigation and foreclosure process.Â
Back then, the only real drama in servicing was the race to see who would get to the finish line first: loss mitigation, with a loan modification or a repayment plan to keep the asset performing, or foreclosure, with a sale on the courthouse steps. For decades, it was all well and good and ran like a well-oiled machine – until it didn't.
Monkey wrench in the works
Several years ago, as the liquidity and economic crises pushed foreclosure levels to stratospheric heights, consumer activists began examining copies of notices of default which, they alleged, had serious irregularities. Their particular focus was the affidavits filed in support of the foreclosure that, they noticed, were being signed by the same people and on the same date but on behalf of lenders whose offices were separated by an entire continent.Â
The activists publicly wondered how that could happen, and they began to allege that the affiants' declarations of ‘personal knowledge’ of the facts justifying the lenders' right to foreclose were false and that foreclosures based on these faulty affidavits were fraudulent.
As foreclosures continued to mount, consumers who were working with servicers on loss mitigation plans and loan modifications – right up until the moment the home was foreclosed and the sheriff showed up with eviction papers – joined the chorus of complaints. Their voices were soon augmented by borrowers who complained that they were being required to submit multiple sets of financial documentation in support of their modifications and short sales, either because the servicer or lender had lost their documents, or because their information had become stale as the process of obtaining investor approvals moved very slowly, causing the process to go on and on for months.
The outcry ultimately grew so loud and widespread that the state attorneys general joined with the federal government in a lawsuit against the five largest servicers. On Feb. 9, 2012, the suit was settled with the defendants agreeing to accept what Housing and Urban Development Secretary Shaun Donovan termed ‘300 tough new customer standards’ that govern – in minute detail – how default servicing and loss mitigation operations will conduct business in the future.Â Â
Although the settlement legally binds only those five institutions who were a party to it, everyone knows that, eventually, the entire industry will be playing by whatever rules the largest players are using.Â
Brave new world
The CFPB, in its role as the primary enforcer of a long list of federal consumer financial laws, is adding to the industry's woes by implementing a plethora of additional regulations while announcing its intention to judge servicing outcomes – and especially in default servicing – through the wide lens of ‘disparate impact.’ This theory, which was developed in employment law cases, insists that outcomes disproportionately impacting minorities constitute illegal discrimination, even when that outcome was not intended.Â
It all adds up to an extremely complex operational environment. In order to succeed from a quality control standpoint, servicers must be able to maintain the integrity and quality in the process while compiling the documentation necessary to prove that borrowers are being treated fairly and are in compliance with all applicable laws and regulations. This means that servicers will need to meet the following requirements:
- Have a single point of contact for borrowers;
- Meet government-sponsored enterprise and investor guidelines;
- Correctly account for escrow amounts and disbursements;
- Make appropriate interest rate adjustments on adjustable-rate mortgages;
- Contact the borrower's insurance agent, prior to force-placing hazard insurance, to determine whether the original policy was cancelled because of nonpayment or whether the borrower obtained insurance with another carrier;
- Notify borrowers of their ability to obtain their own policy prior to imposing a force-placed policy;
- Abide by all default notice and disclosure timelines;
- Exhaust all loss mitigation options prior to initiating foreclosure;
- Correctly calculate the total delinquent amount – including accrued interest, property preservation expenses and taxes – and that the amount is evidenced by invoices;
- Base all affidavits in support of foreclosure on the personal – and actual – knowledge of the affiant;
- Ensure that their service providers abide by all applicable consumer financial protection laws;
- Monitor compliance through sampling (with credible numbers of loans);
- Take prompt corrective actions when necessary; and
- Document their training, processes and outcomes.
There is also the matter of servicing mortgages connected to active duty military personnel. In this situation, it is crucial to check with the U.S. Department of Defense to determine whether a borrower is on active military duty and, when applicable, abide by the terms of the Servicemembers Civil Relief Act by granting interest rate reductions and holding foreclosure in abeyance for borrowers who are on active duty.
Ultimately, it all adds up to a set of tasks and risks that demonstrate the need to adopt an integrated approach to risk management that leaves servicers with a choice: staff up the compliance and quality control departments, or outsource those functions to a trusted partner.Â
Servicers that decide to go it alone will incur substantial costs, including salaries and benefits for additional personnel when staffing up – and additional expenses when downsizing – as well as development costs connected to the software and systems needed to monitor and report on compliance, costs for maintenance and updates of those systems, the time involved in verifying financial, insurance, military and account records, and more.Â
In view of the substantial regulatory, financial, public relations and reputational risks associated with internal stand-alone quality control systems, it may be time for servicers to consider outsourcing their quality control functions. With a trusted and knowledgeable partner, the expenses associated with developing a robust quality control effort are reduced, and the ramp-up and implementation timelines are nearly eliminated.Â
With outsourced quality control, in-house staff can focus on analyzing audit results, identifying areas of vulnerability and making the operational changes that are necessary to prevent adverse outcomes going forward. Furthermore, an independent third party is just that – independent – which helps eliminate any perceived bias in the quality control process or its results.Â
It has never been more important for servicers to have a robust loan-level audit/quality control function in place. A formal audit program that tests all operational aspects against rules, regulations and industry-adopted standards is critical to success in an increasingly complex and risky servicing environment.Â
Considering what the industry is up against, it is time to pay much more attention to servicing quality control and recognize the critical role it plays in the larger risk management world.
Ann Fulmer is vice president of business relations at Agoura Hills, Calif.-based Interthinx. She can be reached at email@example.com.
(Photo courtesy New England Underground Film Festival)