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   ARTICLE   |   From Scotsman Guide Residential Edition   |   August 2008

Read First, Then Sign on the Dotted Line

To manage the risks of the broker-to-banker transition, pay attention to correspondent agreements

Many mortgage brokers have an idealized view of what it’s like to be a banker. Some simply think that by becoming bankers, they can make a lot more money and run their business how they want without any additional work.

Mortgage banking is not rocket science, but there is definitely more involved than being a broker. Although brokers can make more money as bankers and can have greater control of their business, there also is a great deal of risk involved.

If they are prepared and manage the risks properly, however, brokers will more likely prosper and take advantage of the opportunities for bankers. One way to understand the added risks is to read the correspondent purchase-and-sale agreements and to understand their liabilities before signing them.

Many broker-to-banker conversions fail because brokers don’t read and understand what the agreements entail -- particularly the contingent liability. If they did, they may find that they also can negotiate certain terms of the agreements, further mitigating their risks.

What’s the risk?

Because many people sign and file their correspondent purchase-and-sale agreements without reading them, they miss the increased risk to which they subjected themselves when making the transition to banker.

Often, many feel pressure from the production side of the business to set up with an investor with a must-have loan product or pricing. But if the costly and negative consequences of a one-sided agreement come back to haunt them, they most likely won’t find those production people around.

When they’re faced with millions of dollars of early-payment-default risk and repurchase demands, new bankers often pull the agreements and discover the terms to which they agreed. It is at that point that they panic and start looking for ways out of the mess.

Many end up paying whatever consulting and legal fees necessary to help them negotiate their way out of the mess. But they also are at risk for millions of dollars of loans for as long as the loans exist, and it is unlikely that an attorney or firm can help. It’s rare for a correspondent purchase-and-sale agreement to be “annulled,” especially if there are any existing or potential problems.

Even after an agreement is canceled, there often are survivability provisions within most agreements that result in an indefinite contingent liability to the company.

Negotiation can help

Many brokers believe that they can’t change the contract’s language, which is another reason they may not read it. This is only true if they never try.

But if brokers challenge and try to negotiate the language in the contract, they’ve at least started to manage one of the most-important aspects of risk. If they are unsuccessful and move forward, they still can start managing the risk factors.

If nothing else, setting up a loan-loss reserve that is funded out of the income earned as each loan is funded will help. This reserve will provide some cash reserves to cover some or all of  the risk.

•  •  •

In this most-recent business cycle, no other factor has caused more company failures than brokers signing agreements with onerous language that created liability far greater than their net worth, much less their cash reserves.

When making the broker-to-banker transition, brokers must understand and assess risk, usually after speaking with an attorney or consulting firm. Only then can they set up the necessary systems to manage that risk effectively. 


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