MBA: Proposed FHA Indemnification Rules Penalize Responsible Lenders

by devteam December 8th, 2010 | Share

On Monday the Mortgage BankersrnAssociation (MBA) sent a letter to the Federal Housing Administration (FHA)rnadministrator laying out the association’s objections to and in some casesrnagreement with new rules recently proposed for the FHA Lender Indemnificationrn(LI) Process. These lenders are able to endorse FHA mortgage loans without arnpre-endorsement review by FHA.  The rulesrnwere announced on October 8 by FHA Commissioner David Stevens who said at the time,rn”It’srnimportant that our expectations are crystal clear.  We need to clarify which circumstances we’ll requirernindemnification and the level of loan performance we expect lenders tornmaintain.” </p


The letter, signed by JohnrnA. Courson, president and chief executive officer of MBA and directed to David Stevens,rnsaid the MBA appreciates that programmatic and operational changesrnare necessary to ensure FHA sustainability and restore confidence in thernmortgage industry and accepts accountability for instances of fraud andrnnegligence within their control.  But,rnthe association said, HUD should recognize that increasing lender risk couldrndiscourage participation in the program and cause lenders to tighten their ownrnguidelines.  His organization, he said,rnexpects that the proposed rules arernestablishing the groundwork for future, more wide spread changes for all FHArnlenders.   </p

Under the guidelines, LIrnlenders may be required to indemnify HUD if they failed to: (1) verify andrnanalyze the creditworthiness, income, and/or employment of the borrower; (2)rnverify the source of assets brought by the borrower for payment of the requiredrndownpayment and/or closing costs; (3) address property deficiencies identifiedrnin the appraisal affecting the health and safety of the occupants or thernstructural integrity of the property; or (4) ensure that the property appraisalrnsatisfies FHA appraisal requirements. HUD may seek indemnification irrespectivernof whether the violation caused the mortgage default.</p

The changes proposed by FHA and thernMBA response to each are summarized below.</p<ul class="unIndentedList"<liLendersrnmay be required to indemnify HUD in cases of fraud or misrepresentation at anyrntime but FHA intends to codify a “reasonable time period” in casesrnwhere the mortgagee merely failed to meet FHA requirements. It has been HUD’srnlong-standing practice to require indemnification “within five years fromrnthe date of mortgage insurance endorsement.”</li</ul

MBArnbelieves that five years is too long a time period from the date of originationrnand recommends an alternative standard of three years.  After five years, problems that occur withrnthe loan typically are due to changing events beyond the lenders control ratherrnthan underwriting or other origination issues. rnThis rule applies if the mortgagee knew or should have known of seriousrnand material violations.  MBA is concernedrnthis gives FHA the latitude to apply unrealistic standards to lenders in anrneffort to protect its own financial security. rnOf particular concern is the ability of FHA to require indemnificationrnregardless of whether the violation caused the default.  The “serious and material”rndefinition should specifically exclude errors that nave no effect on therneligibility or default of the loan and should not state that it be appliedrn”irrespective of whether the violation caused the mortgage default.</p<ul class="unIndentedList"<liThe proposed rule will require LI lenders torncontinually maintain an acceptable claim and default rate, both to gain thisrnspecial lender status as well as to preserve it. HUD proposes that all newrnunconditional direct endorsement lenders who have the authority to self-insurernmortgages must demonstrate a default and claim rate at or below 150 percent forrnthe previous two years. This standard would apply to the state/states where thernlender does business, rather than a national default/claim average.</li</ul

MBA believes that, given the current volatility of thernmarket, “continually maintain” is too absolute a requirement andrnholds lenders to standards that are not reasonable.  MBA requests that FHA recognize thatrnfluctuations that occur in lenders default rates are sometimes beyond thernlender’s control.  MBA, however, supportsrnthe change allowing acceptable claim and default rates be computed on thernmortgagee’s actual area of operations rather than on the national average.</p

The intention of FHA to “continually” reviewrnis very vague and does not clearly express the timing of reviews or givernlenders the opportunity to self-correct problems they identify through theirrnown monitoring.  MBA requests that FHArnmaintain its current policy of a yearly review or more concretely definern”continual”.</p

MBA also requests that streamline refinances be treatedrndifferently as their performance “diverges significantly from purchase orrnother refinances” primarily as a result of FHA determined programrncriteria. </p<ul class="unIndentedList"<liFHA, atrnits own discretion (without any judicial or administrative action) alsornclarifies that it has the authority to immediately withdraw a lender’s abilityrnto self-insure mortgage loans.</li</ul

MBArnbelieves that this language is too broad and is disturbed that there is not arncure period or an appeals process for a lender to contest violations.Evenrnthough HUD specifies that lenders who have their LI authority terminated couldrnstill participate as direct endorsement (DE) lenders, it does not recognize therndifficulty that lenders would have changing from LI process to DE processes.</p<ul class="unIndentedList"<liFHA willrnconsider the two-year default and claim performance of either entity in therncase of acquisition or merger without requiring these entities to seek arnwaiver. </li</ul

MBArnsupports the conditions under which HUD may grant LI authority to a mortgageernwith less than the required historical performance in a merger.  It requests, however, that FHA retain the abilityrnto grant reasonable exceptions to the policy and grant a waiver when necessaryrnto allow for the continuation of business transactions.

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About the Author


Steven A Feinberg (@CPAsteve) of Appletree Business Services LLC, is a PASBA member accountant located in Londonderry, New Hampshire.

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