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   ARTICLE   |   From Scotsman Guide Residential Edition   |   November 2010

Avoid Buyback Demands and Prosper

The advantages of today's market come with hazards and management responsibility

With reduced competition for market share and interest rates near record lows, now is a great time to be a mortgage broker. It's also a dangerous time.

Today's plentiful housing inventory makes it easier for serious buyers to find the home they want. Moreover, definitive underwriting standards inform brokers of exactly what's required to qualify borrowers for the loans they need.

With the good news comes the bad. Brokers who survived the past three years still face risks associated with loans originated long ago and, perhaps, forgotten. They also must be careful with each new loan they make.

Defending your business against repurchase demands is imperative. It's also increasingly likely that you will someday need to do that very thing.

This past second quarter, Fannie Mae collected $1.5 billion in repurchases compared to $964 million in the second quarter of 2009, according to Fannie's second-quarter 2010 filing. Those repurchases reflected only a fraction of the $354.5 billion in distressed loans held by Fannie Mae and Freddie Mac as of this past June. The spike in repurchases reflects an aggressive new approach that aims to shift some of the financial burden to other industry participants, including brokers.

To navigate the complexities of today's industry, brokers should check up on their past loan files and make sure they're keeping close track of current originations. Those who do can take advantage of today's market opportunities and protect their bottom line.

Fraud and defaults

In many cases, underperforming loans show some degree of mortgage fraud, and industry insiders are often involved. Although the downturn eliminated many fraudsters from the market, it also opened new avenues of deceit.

Brokers must ensure every loan they work with is free of misrepresentation or omissions from origination through securitization. They also should recognize that systemic failures of the past have placed their profession in a terrible light. To right their reputation, brokers must police themselves better than regulators.

Those who fail to implement adequate operational policies aimed at weeding out fraud don't need to ask themselves "if" they'll be harmed by misconduct but instead "when."

When loan defaults occur -- whether the result of fraud or not -- brokers could be required to assume not only the outstanding loan amount but also penalties and fees. Considering the saturation of mortgage fraud at the height of the market, increased repurchase demands from Fannie and Freddie, mortgage-insurance companies, and mortgage-backed-securities investors likely will continue for at least another three years.

In other words, if your doors are still open, you're susceptible. With profit margins down industrywide, a single repurchase demand can be enough to force many brokers out of business.

If, on the other hand, you can support your decision to approve loans, show evidence of reasonability and provide supporting documentation, there is a strong possibility repurchase requests will be rescinded.

Develop standards

Other factors contributing to today's market complexities include the concentration of short sales and a surplus of real estate-owned (REO) inventory. These realities open new avenues for those looking to commit fraud, and mortgage brokers must be aware of emerging schemes.

For example, in some cases, short sales lead to reverse-flipping schemes. This occurs when real estate agents contracted to sell REO inventory work in collusion with fraudsters to underestimate property values and sell the property to "investors" who then transfer the home multiple times, each time increasing the sales price before selling the falsely inflated property to their victim.

Ensuring loan-level integrity is best managed from the outset of the transaction, and robust policy development is the primary component to risk management. Developing and enforcing underwriting and operational standards before loans are sourced is imperative to sustainable business.

Knowing where your loans come from and validating critical third-party and loan-level data is no longer optional. It's a requirement, much like running background checks on every person you hire.

On the loan level, prevalent issues include income miscalculation or lack of reasonability, valuation and appraisal problems, and incomplete asset and employment documentation. Secondary-market demands result in continual revisions of underwriting guidelines, but the standards for verification remain the same regardless of product profile.

Having an experienced risk-management officer in place within your organization is a necessity. This person should help you navigate the rough waters of loan performance and effectively deal with any issues that arise.

If your organization doesn't have the budget for a seasoned risk-management officer, consider hiring a company that specializes in risk-management and loan-quality strategy on a project basis.

Quality control

Auditing your company's production proactively and regularly will allow you to identify and address issues before they become critical. Archiving loan documentation for longer than the required time will ensure you have all the information necessary to defend against repurchase requests.

It also likely will be necessary to provide copies of the lending guidelines in place at the time a problem loan was funded. This will help answer any questions about policy matters in place at the time of funding.

Given the number of times loan files are shipped, sold and stored, it's also in your best interest to retain credit files, underwriter notes and copies of documents used in making credit decisions. Often, when loans are audited for repurchase, a limited selection of documentation is provided. By maintaining supporting documentation, you can contribute greatly to your cause and defend your approval decisions successfully.

The risks facing today's market are real. So are the advantages for experienced brokers who remain in business. By addressing risk-related questions proactively, you can grab market share and secure your future for years to come.


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