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Tuesday, November 21, 2017

HMDA, ECOA and What's an Application?... again

Regulators do not understand Pre-Qualifications

Implications for NMLS Call Reporting and HMDA Reporting

Recent discussions make it apparent that regulators do NOT understand the concept of pre-qualification versus qualification or pre-approval. This is critical given the impending 2018 data recording season where, with substantially lower thresholds for reporting, even the smallest company becomes a potential HMDA reporter with its incumbent responsibilities and tasks.

Make sure you are armed with the facts when confronting a regulator who insists you are under-reporting your call volume or HMDA data.

What is Pre-Qualification?

"Pre"-Qualifying is a prior to application discussion of eligibility and rates, applied against published standard qualifying guidelines; ratios, down payment, loan type, and maybe even credit score. This analysis should result in a number, which is the maximum loan amount a customer could possibly afford. It's not an application and the result states "THIS IS NOT AN UNDERWRITING DECISION", something that you must feature prominently on any correspondence. This is so consumers don't represent or think that they have been approved when they haven't.

Why Do Regulators Think Pre-Qualifications are Applications?

Buried in Reg B (ECOA/Fair Lending) commentary, is a statement which has now become the lynchpin for the argument that pre-qualifications are applications. This opinion that holds that pre-qualifications, if failed, must be disposed of via Adverse Action and consequently, are subject to activity reporting.

Comment for 1002.2(f)-3 When An Inquiry Or Prequalification Request Becomes An Application.
 3. When an inquiry or prequalification request becomes an application. A creditor is encouraged to provide consumers with information about loan terms. However, if in giving information to the consumer the creditor also evaluates information about the consumer, decides to decline the request, and communicates this to the consumer, the creditor has treated the inquiry or prequalification request as an application and must then comply with the notification requirements under § 1002.9. Whether the inquiry or prequalification request becomes an application depends on how the creditor responds to the consumer, not on what the consumer says or asks. (See comment 9-5 for further discussion of prequalification requests; see comment 2(f)-5 for a discussion of preapproval requests.) 

This comment illustrates the conundrum because, in this case, the consumer doesn't have to ask (apply) for credit but rather simply being ineligible for financing (according to the comment), the discussion must be treated as an application and denied. It also belies the intent of the pre-qualification which is, by its very nature, a positive discussion of what is possible. Even if the current scenario yields a $500 loan, it's positive, not a negative. You CAN offer someone a loan if the income increases by a prospective amount, decrease debts by some prospective amount, save some prospective amount of money, and then identifying what would the pre-qualification yields. This is the purpose of the pre-qualification discussion - educating the consumer about how he or she should proceed if trying to obtain financing in the future.

This also shows the other flaw in the logic of considering a failed pre-qualification a reportable event; what's the number? It's ZERO! Where do you report that?

A "Failed Pre-Qualification" Doesn't Actually Exist

If we agree with the regulator that declining to issue a pre-qualification is a declined loan, you should consider this instance a "Failed Pre-Qualification." A "Failed Pre-Qualification" doesn't mean you issued a pre-qual that didn't meet the customer's expectations - such as one where the customer was looking at a 500,000 house, but could only afford 125,000 - but merely should reflect the result of the qualification calculation, subject to underwriting.  So if they can afford a $500 loan, you should issue a pre-qual for $500 and call it a day - no reporting required. In theory, under this structure, you should never have a failed pre-qualification.

Your pre-qualification process must show you are determining a maximum loan amount, not meeting a specific loan request criteria. Once you begin trying to meet a specific criteria, it's no longer a pre-qualification , but a qualification. 

Regulators are Correct About Pre-Approvals and Qualifying

Logically, the regulatory interpretation of pre-qualification activity WOULD be true if we called the process "qualification," eliminating the "pre-," instead. In a qualification exercise you start with a specific number - a desired property or particular loan amount - and work through the prospect's financial profile to determine whether the customer is eligible for that particular number. Results of this process identify, in binary form - YES/NO - whether the prospect can afford or is eligible for that number. In this case, if the borrower has too many debts, or has insufficient income or cash, or because of the limited profile, the credit score is insufficient for this particular instance, you now have a number that you are not eligible for. Either change the number (counter offer) or decline to proceed (adverse action).

Similarly, a Pre-Approval is a loan commitment resulting from a customer's application for a specific amount of financing prior to property selection. A customer submits an application and all supporting documentation which the lender completely processes in the absence of a property - no sales contract and subject to appraisal, title and property conditions. All decisioning rules apply.  If the amount the borrower requests cannot be approved, then the underwriter may counter-offer for different terms, which the customer may accept. If not accepted, the loan must be declined and notices provided. Disclosures, except those which apply to a property, must also be provided.

You Can't Fight City Hall

Sadly, to this date, logic doesn't necessarily dissuade regulators from attempting to corral these innocuous discussions into a regulated process. According to several state regulators and the NMLS, while you don't count pre-qualifications in your call report, you must report declined pre-qualifications.

The golden rule applies. No amount of good reasoning will persuade a regulator, who has made a public determination about a policy, to admit that he or she is incorrect. So if you are in a state where the industry has allowed the regulator to control the definitions of what construes a credit inquiry, then you have to build policies around it, to ensure you comply.

Building a Compliant Pre-Qualification Process

Since this ECOA interpretation can open your business to regulatory scrutiny, you should build a process that inoculates you against under-reporting or fair lending findings. Simply, you could issue a pre-qualification certificate or letter for every single discussion, even if the result included a prospective versus current solution.

  • Generate and retain a copy of all pre-qualification letters/certificates from every discussion.
    •  Create a standard pre-qualification letter or certificate
      • There may be multiple formats
        • as is or
        • prospective
  • If you do not issue a pre-qualification (a failed pre-qualification) you should issue an adverse notice stating "we don't offer any program matching your requirements."  
A defined pre-qualification identifies a potential maximum, but does not state any basis for a declination. 

Thursday, July 27, 2017

Aspirin for Risk Assessments - Relieving Pain for Small Mortgage Firms

What could go wrong?

Demystifying risk assessments by evaluating your solutions

New York State examiners recently began requesting Risk Assessments for NYS Department of Banking applications and some renewals. These requirements applied even to single proprietors who, naturally, felt overwhelmed and confused about what the examiners requested. In fact, risk assessments represent a prudent step in the process of building a business. It's simply asking the question: "what could go wrong?"

In that spirit, here is a sample risk assessment policy and procedure.

The CFPB provides a sample risk assessment in its examination guides, which you can access here. In our view, the CFPB assessment addresses many items, but misses some as well. There is the regulator's well-known penchant for diving into minutia in some elements (like corporate governance and certain regulations), then overly broad assessments of others. The best approach remains thinking through your process.

Risk Management Process for Mortgage Bankers and Brokers

Mortgage Companies small and large face the same risks as any company; physical damage and infrastructure damage from disasters, employee and workplace safety. But financial institutions also face risks specific to the business model: compliance, counter party risk, process management issues and particularly fraud and information security.

Even the smallest company needs to address these issues, and it can seem like an almost insurmountable task. By structuring our business with systems that regularly address these risks and then rationalizing these checks into a standard business flow, the task becomes more manageable and understandable.

The standard risk management process should look like this:

  • 1.      Identify what risks a company faces,
  • 2.      Identify the level of risk to the company, its customers and counter-parties,
  • 3.      How the company mitigates those risks through procedures and other provisions

  • We have compiled a risk assessment for standard retail mortgage brokering or lending operations, identified the level of risk, and shown how, through policies or procedures, these companies mitigate this risk.

    Risk Levels

    We follow the CFPB’s model for assessing the risk to the customer.

    Quality of Risk Controls

    A non-system based Risk Control produces haphazard results. For instance, if there is simply an individual who is responsible for the execution of a risk mitigation procedure, it is likely to be missed. By integrating controls into processes that we already conduct, scheduling regular audits, and using pre-programmed systems like LOS, Credit Reporting tools such as fraud guards, web alerts like Google Alerts, we control these risks automatically.

    At the heart of all our risk mitigation is the implementation of a “systems-based” approach that does not rely on an individual to oversee the process. For instance, checklists, step-by-step procedures, and automation all contribute to systematic risk management.

    Risk Assessment For Mortgage Companies

    Customers of can download samples for their own use here:

    Wednesday, May 31, 2017

    Investor Renewals - Broker/Mini-Corr Lender lack of distinction may cause problems

    My lender/investor is asking for our post-closing quality control plan and 10% audits... We are a non-delegated correspondent or broker. What now?

    With the propagation of categories and levels of correspondent, including mini-correspondent, non-delegated mini-correspondent, funding non-delegated correspondent, and wholesale/broker, we see many wholesalers request quality control plan elements that do not apply to a specific business model. Specifically, lenders are asking brokers or non-delegated correspondents for agency level post closing reviews, including 10% random sampling, re-verification of all loan file exhibits, appraisal reviews, closing document reviews and re-underwriting.

    If you are not delegated underwriting and closing this should not apply to you.

    The requirement for random sampling and post-closing reviews of loans doesn't apply if you aren't underwriting or drawing closing documents yourself. We have found that this is usually the result of a mis-categorization of the originator as a lender. Explaining that this requirement is like asking the broker or correspondent to underwrite and evaluate the lender's credit decision - something the broker/correspondent had NOTHING to do with in the first place - clears this requirement.

    Some wholesalers will not budge, though. This is the golden rule: He who has the gold makes the rules. In this case, evaluate how important the wholesaler is to your business. If it's a critical product or service, you may have to start conducting these reviews in order to maintain the investor. But DO NOT simply capitulate to the requirement and start a post-closing review process without ensuring that the requirement is absolute. Beyond being redundant for loans underwritten by someone else, post-closing reviews are expensive.

    "Do they even review this stuff?.."

    Wholesalers have been reviewing our quality control plans for years. It is important to note that many of these reviewers don't actually read an entire plan, so that if something doesn't jump off the page at them, they may mark your plan as deficient. That doesn't mean it isn't in the plan.  99.9% of the time we draft a rebuttal, we are simply citing the page numbers where the reviewer can locate the information he or she couldn't find (or didn't look for) the first time.

    This also doesn't mean that we don't value the feedback. We always want to know if we have missed something, so we can include it for any of our clients who might get similar feedback. That's one of the ways our products have evolved since 1996.  It's also why we can guarantee our products' acceptability.

    It's a PROCEDURE, not a POLICY

    The most important thing to remember is that you want your plan to reflect PROCEDURES about how you work to catch ANY possible error. This is completely different from writing a POLICY, which simply states that you will look for various elements. For instance, a recent communication showed:

    The Pre-Funding Quality Control Requirements (and where they are located in your Broker Plan):

    • Quality Control is Conducted by someone other than party to loan origination (Page 22)
    • The Borrower Social Security number is re-verified on all loans (Page 14)
    • The Income calculations and supporting documentation is reviewed. (Page 13)
    • Verbal verifications of employment are conducted (Page 20)
    • Assets needed to close or meet reserve requirements are reviewed (Page 15)
    • Appraisal or other property valuation is reviewed (Page 16)
    • Documentation is reviewed to assure adequate mortgage insurance coverage (Page 12)
    • Review loan to determine automated underwriting info is accurate (Page 18)
    • Liabilities between 1003 and credit report are reconciled (Page 12)

    The page numbers show where you can locate the requirement as it is addressed as part of the much more extensive documentation review.  This is the key. You can get a repurchase request or denial for an item which is not a requirement for the quality control plan. To combat this - WHILE YOU ALSO COMPLY WITH THE QC REQUIREMENT - you need a thorough system, using checklists and peer reviews.

    DO NOT write a policy that states that you will simply check for these items, as it opens you up for liability for missing other elements associated with the items requested, that have not been requested to be stated in policy in writing.