ABA Bank Compliance
Carl G. Pry
A staple of the mortgage industry is the preapproval letter. Consumers ask for them in some cases, for example, because they’re interested in a particular high-demand property and the real estate agent won’t even agree to meet unless the buyer has been preapproved. But how have changes in mortgage compliance due to the TRID (TILA-RESPA Integrated Disclosure) rule and the impending changes in HMDA affected preapprovals?
Let’s start with the basics: what exactly is a preapproval? There are many variations, but it is normally a response to a consumer wanting to get a picture of whether or not a mortgage loan is possible. Within the context of this discussion, let’s assume a customer comes into the bank and asks to be preapproved for a loan to purchase a particular property he or she has identified. The loan officer asks for detailed financial information from the customer, runs a credit report and/or obtains the consumer’s credit score, and performs a comprehensive underwriting. A preapproval letter reflecting the bank’s commitment is then provided to be presented to the seller or real estate agent.
A couple of distinctions are in order: first, it doesn’t matter what the bank, marketing, or the loan officer calls this, whether a preapproval, prequalification, commitment letter, or anything else. This type of confusion is commonly seen in HMDA reporting. Under HMDA, “prequalifications” are not reported while only “preapprovals” that meet HMDA definition are. The critical difference is because a prequalification does not involve a property location. A preapproval may not have one either, but under HMDA a prequalification request (no property location) is not reportable.
Another important distinction is, under HMDA, a prequalification involves a “preliminary determination” of the customer’s creditworthiness, while a preapproval “must result from a comprehensive underwriting of the applicant,” including verifications and the like, and the issuance of a commitment. According to HMDA’s commentary, this comprehensive underwriting “is typically done by the institution as part of its normal credit evaluation program.” Concentrate on what the program does rather than what it’s called, and in particular look to see whether a specific property is identified as well as the depth of underwriting scrutiny. HMDA also requires the bank to have a formal preapproval program for reporting to be required.
Although the new HMDA rule made a few tweaks to the definition of a preapproval, the basic concept of what one is has stayed the same. So if they’re still contemplated under the HMDA rules, why would preapprovals be a thing of the past? Let’s take a look at the TRID requirements, which differ from HMDA’s.
The term “preapproval” is not formally defined within the TRID rules. The CFPB also specifically refused to include a preapproval as an “application,” stating “the Bureau does not believe that the definition of application will restrict creditors’ ability to provide prequalification cost estimates or grant preapprovals.” That may be what the Bureau said, but let’s see what information the lender collects during our preapproval scenario and make a judgment.
Let’s assume the preapproval is sought by our customer because he or she has identified a particular property and needs proof of credit approval in order to be taken seriously when making an offer. What information would the bank want before issuing something like this? This being a comprehensive underwriting (since the bank is committing to making a loan), let’s assume the bank requests the consumer’s name, income, assets, debts, and social security number so it can determine creditworthiness and determine capacity for credit. Then, since a property has been identified, the bank asks for the property’s address and an estimate of its value to determine loan-to-value (LTV). Finally, the loan officer asks how much will be put down as well as the loan amount the customer thinks it will take to buy the home.
Presto, within all that information are the six pieces of information that constitutes an application under TRID (name, income, SSN, property address, estimated property value, and loan amount sought). Does that mean the customer has now “applied” for a loan rather than merely asking for a preapproval? Yes and no. The answer is yes since the bank has received the six pieces of information necessary to constitute a TRID-covered application. This therefore means a Loan Estimate must be provided to the consumer within three days of submission of that information. But the answer is also no, since practically speaking the consumer has not intended to apply (yet); he/she is just interested in obtaining the preapproval in order to go shopping.
So which is it? The final answer is it doesn’t really matter as long as the proper disclosures are provided in a timely manner. In other words, in this particular situation, the consumer must be provided with a Loan Estimate because TRID requires it, and the preapproval letter (whether it’s considered a commitment or not) is also provided because that’s what the customer wants.
But since the customer only wanted a preapproval and is not applying in the practical sense, wouldn’t the Loan Estimate be unnecessary? The answer is no since the TRID is absolute: when the six pieces of data are submitted, it constitutes an application and the three-day clock for the bank to provide the Loan Estimate begins. Again, don’t be confused by what the bank calls this. Look to what is happening and whether the TRID requirements have been met.
The CFPB itself stated as much. In the TRID final rule, it stated, “the Bureau believes that requests for preapproval as defined in the proposal and final rule represent credit applications.” If the bank wishes not to provide a Loan Estimate along with the preapproval letter, the consumer must not submit all six pieces of information to the lender. It’s that simple. By the way, a bank is permitted (but not required) to issue a Loan Estimate even if it doesn’t have a property location yet, but that certainly wouldn’t be logical in a preapproval setting.
This also applies to HMDA: if the activity constitutes a preapproval under HMDA’s definition, it must be reported on the bank’s HMDA LAR, regardless of what it’s called. This is true regardless of whether the customer receives a Loan Estimate or not. All of HMDA’s requirements of the preapproval definition must be met, and again they are different than TRID.
In the end, don’t confuse HMDA with TRID. Look at precisely what is going on according to HMDA’s definition of “preapproval” and TRID’s definition of “application” to determine what must be done. Preapprovals aren’t yesterday’s news, but under TRID, banks may have to supply more disclosures than they originally thought.