As published in Scotsman Guide's Residential Edition, July 2012.
Today’s originating and lending environments are dramatically different from what they were as recently as 2007. Regulatory compliance, licensing requirements, underwriting guidelines, FICO scoring models and even the appraisal process have all undergone drastic changes. Mortgage brokers and originators now must be more than mere salespeople. To achieve success and avoid costly mistakes, today’s originators also must be well-versed in database management, disclosure laws and underwriting.
Navigating the world of underwriting can be tricky business, however. Even if a loan fits given parameters and guidelines at the time of closing, originators still can be held liable for mortgage-insurance rescissions and repurchase demands long after a loan’s closing. When it comes to steering clear of underwriting trouble, brokers and originators must have a solid grasp on general underwriting processes and the many layers of due diligence that occur after a loan closes.
Although having a solid familiarity with underwriting procedures and processes can be helpful in and of itself, mortgage brokers and originators also should make themselves familiar with so-called forensic underwriting — that is, the processes and due diligence that are used to analyze a delinquent mortgage and uncover what went awry.
Knowing more about these processes may help brokers avoid originating loans that eventually will turn sour.
Post-closing due diligence
Mortgage delinquencies have been decreasing since 2009, but industry statistics still show that 1 out of every 200 mortgage loans will end in foreclosure. Considering that the Mortgage Bankers Association has projected that the industry will originate more than $1.2 trillion in loans in 2012, it seems safe to say that foreclosures won’t be going away anytime soon. These delinquencies and foreclosures eventually equate to repurchase demands and mortgage- insurance rescissions for mortgage lenders — and a deal’s originating broker, as well.
Ultimately, when a delinquency occurs, several different entities — investors, government-sponsored enterprises (GSEs) and mortgage-insurance companies — will work to uncover facts that may alleviate their financial responsibility. That means many of underwriting’s hottest topics remain the same. When it comes to forensic underwriting, some of these ongoing points of focus may include:
Ensuring that the borrower’s occupancy was not misrepresented, as owner-occupied loans typically offer lower interest rates and higher loan-to-value ratios than their non-owner occupied counterparts. This means that owner-occupied loans come with inherently lower risk, because buyers will fight to keep their principal residence when faced with the choice of saving one property over the other in times of financial uncertainty.
Verifying that all of the borrower’s debts and properties owned were factored into the underwriting analysis. This primarily is achieved by pulling the Mortgage Electronic Registration System, LexisNexis and credit reports to ensure that all of the debts reflected as being opened before and during the loan’s origination were accounted for. This step also verifies whether any inquiries reflected on the origination credit report were addressed in the initial underwriting.
Making sure that the borrower’s income was not misrepresented. There are several common ways in which this aspect of the application is verified. For instance, investigators may pull Internal Revenue Service tax transcripts utilizing borrowers’ 4506-T forms; they may review post-closing bankruptcy filings in which borrowers’ certify their income levels under penalty of perjury; they may double check post-closing verifications of employment and income; and, in some cases, they may even review the income and asset documents submitted to the lender or servicer in the post-closing hardship application (i.e., applications for loan modifications, forbearances or short sales).
Verifying that all interested party contributions (the seller, builder, lender, broker, etc.) and payment abatements fall within the given program’s parameters. Typically, this is determined by a thorough analysis of the Final Settlement Statement, aka HUD-1. This statement includes buyer’s and seller’s fees and is cross-referenced against the fees that are typical for the county of the loan’s closing.
Investigating if there’s a need to pay special attention to properties located in popular resort areas. This is a less frequent point of focus, but it can be an important part of an investigation, particularly among the GSEs. This will pertain to condominium projects with hotel-like usage, commonly referred to as condominium hotels or condotels. In these cases, an investor will be looking to see if the condo project advertises any of its units as daily rentals. An investor also will check if the property has an onsite front desk or offers maid services and other amenities typical of a hotel. Even if the subject property itself does not participate in the rental program, the loan still can be subject to repurchase if it was not originated under a program that allows for such usage.
Although these focuses may reveal some of the most common reasons for a repurchase demand or mortgage-insurance rescission, there’s no limit on what can be uncovered in a forensic examination. In many cases, mortgage professionals’ success and livelihood may rely on their ability to successfully navigate around these pitfalls in their originations. A sales force that understands today’s commission is not worth tomorrow’s repurchase demand is essential to a healthy organization.
After familiarizing themselves with these common types of post-closing due-diligence efforts, brokers and originators also should educate themselves about the two most basic underwriting areas that are critical to upfront qualification and origination: income and assets. As is the case with having a background in forensic underwriting processes, knowing more about these factors can help brokerages and banks originate fewer risky loans.
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