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   ARTICLE   |   From Scotsman Guide Residential Edition   |   May 2009

Forensic Loan Audits Provide Protection

Brokers can improve quality control and avoid trouble with these business backstops

The mortgage industry as we have known it no longer exists. It was a victim of lending abuses, widespread greed, and a flawed regulatory structure that failed to protect consumers, brokers and lenders. The resulting financial crisis likely will take years to clean up. The lending infrastructure in place for the past two decades -- characterized by flexible underwriting standards and relaxed regulation -- likely will be dismantled in the process. Stricter oversight and demands for transparency and accountability will be the new orders of the day.

Some mortgage brokers may find life under this new microscope uncomfortable. Rather than fight it, however, they should take this opportunity to scrutinize themselves as closely as others are scrutinizing them. After all, brokers serve their own interests best when they originate solid loans that help restore confidence in the mortgage industry and that provide the foundation on which a sustainable recovery can be built. Forensic loan audits can help.

These audits, which examine every detail of a loan file and every component of the origination process, are used widely by attorneys to support claims against mortgage lenders, as well as by lenders to deflect or defend such claims. The audits also represent an important form of quality control, enabling companies to monitor loans as they originate them and to spot problems while corrective action remains possible.

Forensic loan audits can:

  • Identify violations of state and federal laws and regulations;
  • Indicate the steps needed to make the offending loans compliant; and
  • Stave off lawsuits and class-action complaints.

In addition, these audits can give brokers a market edge when it comes to attracting new clients and earning repeat business.

Compliance heads-up

Because forensic-loan-auditing procedures receive updates and revisions continually, they provide a backstop for brokers, alerting them to changes in laws and regulations that might affect their lending practices. The audits can flag new requirements that a busy in-house origination staff might miss.

Forensic loan audits can be particularly valuable to new brokers, correspondents becoming lenders, and private-equity or warehouse lenders re-entering the market. The lending environment has changed, and all of these players will need time to test their origination procedures against new market realities.

By auditing all the loans they originate during a 12-month period, industry participants can hang a safety net beneath their businesses. After affirming their practices and procedures with consistently clean audit results, brokers and others can reduce their audit frequency, eventually substituting periodic checks for ongoing monitoring. By investing in forensic audits sooner rather than later, new and returning businesses can avoid loan problems that could impede growth and undermine efforts to build credibility.

Reputable mortgage brokers also need to ensure the quality and compliance of the loans they originate. In light of the turmoil and uncertainty in today's lending industry, even brokers and lenders with long histories and strong track records should evaluate their procedures. Knowing that their own loans are solid isn't enough. Brokers also must persuade investors, syndicators and regulators that those loans are products of sound underwriting and high ethical standards -- and that they are fully compliant with applicable statutes and regulations.

Avoiding buybacks

Loan-purchasers typically have retained the right to require brokers to buy back flawed loans. As those purchasers struggle to manage losses in their portfolios, however, they are far more likely to exercise that right than in the past. Fannie Mae and Freddie Mac have delivered that message, and private investors have echoed it.

In the current market, brokers will find little tolerance for compliance lapses or origination errors. Chances are they also cannot afford the cost -- measured in lost income and damage to their reputation -- that buybacks entail. Having to buy back a loan may destroy a company's relationship not only with the lender but also with other institutions that learn of the problem.

With a limited number of conduits left in a shrinking market, destroying even one relationship can have a substantial and lasting impact on a company's business prospects. Additionally, no broker wants to end up on the lists compiled by law-enforcement agents and litigators who trace fraudulent transactions.

A market edge

Forensic loan audits also can give brokers a market edge when approaching lenders and investors. This is somewhat like when a home-seller offers prospective buyers an inspection report. The buyers also will likely commission their own inspection, but the willingness to provide a report indicates that the seller has examined the home, is confident in its structural integrity and has nothing to hide. A forensic loan audit conveys a similar message of openness and due diligence to loan-purchasers, providing credible support for the loans and the person originating them.

That message also may resonate with bank examiners and other industry regulators intensifying their reviews of all mortgage-lending participants. If an examiner asks for proof of a broker's efforts to stop predatory lending and to comply with laws and regulations, brokers who have implemented forensic loan audits might find that evidence easy to deliver.

The ongoing financial crisis will end eventually. Indeed, some recent events provide hope already. Those brokers who survive the downturn will be well-positioned to grow their businesses during the years ahead. Implementing forensic loan audits can help.


 


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