Carl Pry, a Senior Advisor at Treliant, is a seasoned executive with banking law, corporate finance, and regulatory compliance experience in Fortune 500 institutions, regional banks and industry consulting firms. Carl advises clients on commercial compliance, fair lending, corporate treasury and risk management. Over the last 27 years, Carl has…
The last two years have seen much economic upheaval, mostly due to the pandemic, of course. One unfortunate result of the slowdown was that many thousands of people lost their jobs and subsequently the ability to make their loan payments. Banks and servicers have been inundated with pleas for help from borrowers worried about losing their homes and vehicles. To help deal with this overload, on April 3, 2020, the regulatory agencies issued a joint statement providing mortgage servicers with greater flexibility when providing CARES Act forbearances and other forms of short-term relief, informing servicers that the agencies would not take supervisory or enforcement actions for failing to meet certain timing requirements under RESPA’s mortgage servicing rules, provided servicers made good faith efforts to provide notices and take actions within a reasonable period of time.
But on November 10, 2021, the same agencies announced an end to this flexibility and a return to enforcing noncompliance with the mortgage servicing rules. The agencies stated that servicers have had sufficient time to take measures to assist impacted consumers and develop robust business capabilities. The CFPB on the same day reminded services that being “unprepared is unacceptable,” citing its April 2021 warning that “servicers should gear up for [an] expected surge in homeowners needing assistance” as pandemic-related forbearance protections expire. The bureau stated it “will closely monitor how servicers engage with borrowers, respond to borrower requests, and process applications for loss mitigation.”
This renewed scrutiny on the mortgage servicing process certainly includes fair lending, or in this instance, “fair servicing.” This is not new; in December of 2016, the CFPB announced on its blog its “Fair lending priorities in the new year,” one of which was “Mortgage…Loan Servicing. We will determine whether some borrowers who are behind on their mortgage…loan payments may have more difficulty working out a new solution with the servicer because of their race or ethnicity.” This issue comes into focus especially when it comes to dealing with distressed borrowers (meaning ones that are delinquent or in default), as these are the borrowers at risk of losing their homes.
At the core of this issue are a couple fundamental questions:
- Which borrowers were able to work something out with their servicer to keep their homes (whether forbearance, workout, modification, payment holiday, etc.) and which ended up in foreclosure?
- Why were the results different?
The default management/loss mitigation issue is essentially a credit decisioning process, just like originating the loan in the first place. What factors were considered to make the decision, whatever it was? Were they entirely creditworthiness factors or did protected class factors play a role in the decision?
One reason fair servicing has become such a hot button issue is the manner in which servicing has traditionally been performed in the mortgage industry. There are two reasons contributing to this:
- Before passage of the Dodd-Frank Act and the resulting new mortgage servicing requirements implemented into RESPA, there really was not much in the way of regulation of the servicing process. While there were collection rules such as the Fair Debt Collection Practices Act (FDCPA) and existing RESPA rules addressing disputes (such as the Qualified Written Request rules) and information requests, there weren’t any detailed regulations on how to address borrowers at risk of foreclosure. Now there are very detailed rules around early intervention of delinquent borrowers, servicing files, notices, timing requirements, the loss mitigation application process, and commencement of foreclosure, among others. These rules have the twin goals of minimizing any future chaos similar to what occurred during the pre-Dodd-Frank financial crisis, and, in the bureau’s words, preventing “avoidable foreclosures.” Now that we are more than seven years into complying with these rules and examiners are scrutinizing servicers’ efforts, a natural next question becomes, “why did one distressed borrower end up with a different result than another?” Outcomes are considered as much as process. Of course, fair lending laws and regulations have always covered servicing, but with operational compliance becoming a regulatory focal point, it naturally draws attention to differences in decisions. The pandemic has only brightened the spotlight, as illustrated by the CFPB’s June 29, 2021, final rule amending RESPA to implement heightened “safeguards” to prevent unnecessary foreclosures during 2021.
- Traditionally, default management has been somewhat of an ad hoc process, especially for smaller servicers or for banks servicing loans in their own portfolios. Especially when borrowers are in trouble, it is important to deepen the bank/servicer-borrower relationship to understand the obstacles to repayment, obtain the necessary information about the situation, and develop a customized solution, whether it be a modification or forbearance, or in some unfortunate situations, a short sale, deed-in-lieu, or foreclosure. Every situation is different, and sometimes it isn’t workable or appropriate to apply a standardized or “waterfall” approach or go through a checklist or automated system. But it is this very characteristic of the process that heightens fair lending risk. It is this discretion, or individualized approach, that provides an opportunity for bias or prejudice to influence the process. Not that working with each borrower as an individual is wrong, but as in any other lending-related decision, discretion must be monitored, controlled, limited, and analyzed. But this fact contributed to why the CFPB announced its intention to pay close attention to fair servicing in 2016 (on which it has fully followed through in successive years).
So, what to do about this? A few suggestions:
- Pay very close attention to documentation. Especially for manually-decisioned loss mitigation situations, be able to clearly substantiate why decisions were made. What factors contributed to the ultimate outcome? Can the decision be clearly supported? Make sure it doesn’t appear as though a prohibited basis influenced the decision when it did not.
- Examine process as well as outcomes. Comparing outcomes is fairly straightforward: why was one borrower able to save his/her home through a workout arrangement while another was foreclosed upon? But also look carefully at proces—many times foreclosure is a race against the clock, and if the workout process takes too long, foreclosure may be inevitable. But is this necessary? What information was needed to consider a solution? In essence, how hard did you try? As in the origination process, the risk of disparate treatment on a prohibited basis cannot be ignored.
- Analyze servicing as you would originations. Decisions can be analyzed statistically to ferret out disparities on prohibited bases. Matched pairs can be chosen to determine whether protected class characteristics influenced decision-making. This of course assumes government monitoring information is available, which it would be for HMDA-reportable loans and lines of credit. Otherwise, proxies may have to utilized. Be ready for this type of scrutiny before you are asked uncomfortable questions by examiners.
There are many data points that can assist in these analyses, including (among others):
- Assessment and/or waivers of fees;
- Time to resolution;
- Consistency and accuracy in credit reporting;
- Collection information, including frequency and styles of communication, and content of demands;
- Capitalization of past-due interest and fees;
- Consistency of information and data collected to make a decision;
- Geographic distribution of various actions (e., assessment of redlining risk);
- Treatment of Limited English Proficiency (LEP) borrowers; and
2022 promises to be a challenging year as various moratoria on foreclosures and evictions have expired, and the courts may be facing a backlog of foreclosure petitions. But having a solid handle on your bank’s servicing practices, especially when dealing with distressed borrowers, has never been more important.
As previously seen in the January / February 2022 issue of ABA Bank Compliance Magazine