Government-sponsored enterprises Fannie Mae and Freddie Mac are scouring their securitized loans for any underwriting or processing flaws. The result of such a process could very well result in a dreaded putback situation, where a lender needs to bring a mortgage back on balance sheet.
But is fear of more putbacks warranted, post-crisis?
Lenders worry this seemingly more intensive loan-level scrutiny will result in more putback claims on even the smallest of loan processing missteps.
Before conservatorship, Fannie and Freddie held an appetite for risk. Now being run by taxpayers, avoiding losses is a key directive — as is shrinking the amount of business conducted by the GSEs. Fannie and Freddie, it seems, are unwilling to take any chances.
And so, servicers, banks and mortgage technology firms believe the threat of putbacks is growing with the GSEs now seeking hundreds of data points on loans. Mortgage industry execs suggest the slightest glitch in the system can cause a putback even if underwriting is not the issue.
“I think the GSEs have been attempting to offset their own credit losses by pushing back as much of the liability,” said Steve Horne, chief executive officer of Wingspan Portfolio Advisors, a special and component mortgage servicer. “Now it’s a much higher stakes game on who ends up holding the credit loss at the end of the game,” he said.
While Wingspan faces no risk of loan repurchases as a servicer, Horne hears the concerns of lenders in the marketplace.
As a result, the process of scrubbing loans in the underwriting process to ensure they have the chops to survive put-back risk is becoming more challenging. Horne said he is seeing more elaborate file reviews and audits. “It becomes a battle of data as to who can make a better case as to whether a loan should be repurchased.”
Yet, representatives with Fannie Mae and Freddie Mac say while quality control issues are a focus for the agencies, the review process has not changed that much and lenders are given enough room to rebut putback claims and even correct issues to prevent buyback requests.
“Our process of reviewing a loan has not changed,” said Chris Mock, vice president of single-family quality control for Freddie Mac. “The standards have not changed. What has changed is the number of delinquencies that we see today. There is a larger population of delinquencies that we look at and that is driven by our need to make sure those loans meet contract requirements.” He added, “We have an appeals process (for lenders when it comes to potential putbacks). From a business perspective we could not run a business if we were that extreme and didn’t give them room to rebut.”
ADDRESSING DEFICIENCIES
The intense focus on loan quality drills down much deeper today and even includes the overall quality of the property appraisal, says Phil Huff, chief executive officer of Platinum Data Solutions, a technology company charged by its lender clients to provide the right analytics tools to prevent buybacks.
“I certainly believe there is a movement afoot from the standpoint of Fannie, Freddie and private investors to address all deficiencies within collateral evaluations, and not just major ones,” Huff said. “Over the years, they have grown more concerned for the quality of the loans and that drills down now to the quality of the appraisals. Those small issues weren’t really a priority before.”
But today, he claims the process has intensified and this adjustment is reverberating across the industry, forcing the industry to move quickly with compliance products to ensure they can address all GSE appraisals and underwriting guidelines through new technology solutions.
The potential processing errors that could cause a putback investigation are more plentiful now on the appraisal front alone, Huff said.
“You are now talking about an appraisal with thousands of points of data, whereas five years ago, they were looking at maybe a hundred points of data during the review,” Huff said. Huff claims a deficiency in a loan’s underwriting can now hinge on something as simple as discrepancies in the listing of a home’s square footage and slightly varying figures when it comes to comparing the valuation price to comparable pricing in the neighborhood. Huff says the GSEs and mortgage lenders now look at different aspects of the appraisal, including whether flipping, foreclosures or fraudulent activity is present in the area where the house is located.
THE RAMIFICATIONS
Elizabeth Duke, a board of governor for the Federal Reserve System, told the National Association of Realtors in May that intensified put-back risk when loans are evaluated by the GSEs may be a benefit to taxpayers who backstop the loans, but it also can be negative when the slightest discrepancy in a loan data point puts a lender at risk of a putback.
The risk of that happening on a minor issue is high enough today for Duke to warn that intensified put-back risk reviews could hinder a more pronounced recovery in the lending segment.
“If lenders perceive that minor errors can result in significant losses from putback loans, they may respond by being more conservative in originating those loans,” she said.
Duke noted that lenders in the April Federal Reserve quarterly “Senior Loan Officer Opinion Survey on Bank Lending Practices” expressed the risks causing them to forestall lending, which includes everything from the high cost of servicing loans, uncertainty about future standards for loan servicing and fears about put-back risks with loans highly scrutinized by the GSEs.
Duke in her warning, which was delivered in mid-May to the National Association of Realtors during a speech in Washington, D.C., indicated that the appropriate use of technology to clearly define risk and prevent putbacks with technological scrutiny would prove helpful in allowing lenders to regain confidence about lending and selling mortgages into the secondary market.
“If technology and data standardization can be used to enhance quality control reviews at the time of purchase rather than after the loans become delinquent, it would allow errors to be corrected much earlier, and thus should result in better outcomes for taxpayers, borrowers, investors and lenders,” Duke said. “Judging from the responses (from lenders), I would expect any effort to clarify or reduce putback liability to have a corresponding effect on the standards for underwriting GSE loans.”
TECHNOLOGY TO HEDGE RISK
On the technology side, representatives with companies like DocMagic, a software provider that focuses on compliance software and tools, are seeing some of the concerns that customers have over underwriting demands.
“The MBA (Mortgage Bankers Association) position is that many of those repurchase demands are without merit and have been successfully rebutted, but the challenge for the lender is to have as clean a file as possible so the likelihood of a repurchase becomes smaller,” said Melanie Feliciano, chief legal officer for DocMagic.
Michael Fratantoni, vice president for single-family research and policy development at MBA, said the “issue is not whether the repurchase demands are not valid.” He explained, “If a mistake was made or there was a fraud that should have been detected, lenders understand there is a requirement to buy back a loan.”
Instead, he says the problem “comes in when something comes back” and the issue raised is not material to the actual underwriting quality performed on the contract.
He cites, for example, a hypothetical where a borrower did not sign one of dozens of pages in a 1,200-page document. “If that has an impact four or five years later it is more likely that a life event impacted the borrower — such as a job loss or divorce.”
Fratantoni says the GSEs are asking for repurchases even in cases were the actual default was related to something other than the credit quality of the loan at origination. Fratantoni said MBA members have expressed frustrations about certain loans resurfacing as putback risks after being cleared by the GSEs several times before. “They (lenders) might have thought they won and defended a putback case, but it keeps coming back,” he added.
Freddie Mac disagrees with such an assessment.
“The process has not changed,” said Chris Mock (title?). He explained that reviewing a loan is a multifaceted process. In one loan review, a debt-to-income ratio at a certain level may not be an issue if the borrower has been in the loan for 15 years and paying. But that standard or risk of putback could change if it’s a situation where there is a large balance loan, high loan-to-value and a different set of risk factors that could add to the materiality of the defect. Nobody likes a repurchase.”
Mock further explained that “most of the deficiencies that drive repurchases are either miscalculations or situations where they do not support income calculation (with documents). We do not believe our quality-control requirements stand in the way of getting a mortgage.”
Fears that something will spark a putback risk later on has mortgage technology firms focused on providing the best review process for mortgages.
To do this, Feliciano says “data integrity” is of utmost importance along with compliance technology to ensure loan files comply with federal and state guidelines. Feliciano said she sees more financial firms turning to technology providers for compliance software products that can detect even the most minimal risk within a loan file.
“I am seeing trends to enhance auditing systems across the board to really help the loan originator comply with a myriad of federal and state laws out there,” Feliciano said. “It has become very daunting for any loan originator to make sure that the loan satisfies all the underwriting criteria and is complying with GSE requirements in addition to state regulations.”
She says one way her firm and others can do this is to audit the loan at any point during the origination process. “We can prevent a file from going forward if certain activities in the origination process have not occurred,” she said.
Mark Coupland, vice president of business development at LoanSifter, is seeing a similar demand as financial firms race to ensure compliance with the housing agencies. LoanSifter provides pricing and underwriting services for the mortgage banking industry.
“You hear from the agencies that they are not only reviewing older loans, but there also is much more for them to review today,” Coupland said.
Coupland personally believes there will be a greater focus on using technology to meet demands for data clarity, especially around the appraisal process as it relates to the GSEs.
“You don’t want an appraiser to make a decision then you close on that decision, and the agencies come back and say we don’t agree with that value,” Coupland added.
While mortgage tech firms and lenders seek to catch any small detail that could result in a buyback, Phil Huff with Platinum believes they have further to go in ensuring compliance.
“I think we are at the infancy stage here,” Huff said. “I think companies implementing technology to deal with these types of issues are very much at the beginning. Most lenders don’t have the tools in place to deal with this level of detail. They are just not aware of all the discrepancies that can exist.”
And it’s not just lenders and GSEs who have to analyze the loans in great detail; mortgage insurers who are on the hook for claims on defaulted mortgages are closely scrutinizing the underwriting of lenders to see if a rescission is possible.
“Mortgage insurers are going through the same analysis to see whether the mortgage insurance claims should be paid or curtailed,” Wingspan’s Steve Horne said. “Everyone is diving into these records to find every single point to support their position. The credit loss is the hot potato.”
Fears over GSEs forcing the buyback of loans not in compliance with Fannie and Freddie underwriting guidelines surfaced well before the first half of 2012.
The Fed’s Duke warned in the second half of 2011 that putback risks were potentially causing some loan originators to refuse to refinance loans because of fears that the original underwriting might violate GSE guidelines.
Putback fears were severe enough last year to keep lenders from delivering loans to some 4 million HARP-qualified borrowers because they did not want to be hit with buybacks in the underwriting review process.
Since then, HARP 2.0 removed the repurchase risk that servicers would face on the original home loan, thereby expanding the reach of the refinancing program.
While it may be easier through the refinancing program to bypass some of the putback risk that does not change the fact that GSEs’ review of loans seek the most granular level data to detect inefficiencies and inconsistencies in underwriting.
“The rules have always been there and have been relatively clear, but they haven’t been strictly enforced,” Wingspan’s Horne said. “We have gone from a very relaxed standard to a very severe standard of enforcement.”
At the same time, he believes the newer vintages of loans are performing and will continue to do so as the market rebounds over the next several years. Still, he says, everyone is going to demand “better and more immediate” data.
