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   ARTICLE   |   From Scotsman Guide Residential Edition   |   November 2012

FHA Correspondent Lending Is Not Dead

Is the market growing for third-party FHA-approved originators?

As recently as 2010, there were thousands of mortgage companies, banks and credit unions participating in Federal Housing Administration (FHA) loan programs as FHA-approved loan correspondents. The vast majority of those correspondents simply brokered FHA loans, but some were acting as correspondent lenders. Such correspondents would originate FHA loans and send those loans to a direct-endorsement (DE) lender for underwriting. Upon approval, they would then fund and close the loans, ultimately selling them to the underwriting lender.

This type of arrangement was perfect for loan correspondents who wished to fund FHA loans but didn’t want to hire an FHA underwriter or otherwise deal with issues related to FHA underwriting. In 2010 and 2011, however, a number of rules issued by the U.S. Department of Housing and Urban Development (HUD) became effective and inadvertently dampened the FHA correspondent-lending market. More specifically, there were three rules that affected this marketplace:

  1. As of May 2010, the net worth requirement for obtaining the full-eagle non-supervised lender approval and supervised lender approval increased from $250,000 to $1 million.
  2. As of January 2011, all mini-eagle loan correspondent approvals were terminated.
  3. As of July 2011, two FHA-approved lenders may not participate in a principal-agent relationship unless the principal lender and the agent lender both have unconditional DE authority.

Recently, however, HUD has issued additional rules — and reinterpreted some old ones — that are breathing life back into the FHA correspondent-lending market. Mortgage bankers and correspondents should take note, as this market could provide a potentially significant influx of business for their institutions.

Background

Under the National Housing Act, only FHA-approved entities may hold FHA loans. That was why, following the termination of all mini-eagle loan correspondent approvals in January 2011, thousands of institutions lost their ability to close FHA loans in their own name, and many could no longer act as correspondent lenders on FHA loans.

This is problematic because institutions unable to close FHA loans in their own name cannot qualify as creditors on FHA loans under the Dodd-Frank Wall Street Reform and Consumer Protection Act. Consequently, institutions that aren’t FHA-approved are subject to unfavorable broker compensation restrictions under Dodd-Frank on all of their originated FHA loans. Further, in acting as brokers on FHA loans, non-FHA-approved institutions must disclose yield-spread premiums on their FHA loans.

After HUD terminated all loan correspondent approvals, lenders could have regained the authority to close FHA loans in their own name by obtaining the full-eagle non-supervised lender approval or, in the case of banks and credit unions, supervised lender approval. The other aforementioned rule changes, however, soon proved to be prohibitive for many organizations.

For instance, with regards to most non-chartered institutions, it’s not feasible to meet the $1 million net worth requirement. Additionally, many institutions simply are not interested in investing the time, effort and money necessary to hire an FHA underwriter to underwrite 15 test-case FHA loans (as is required for obtaining DE authority), especially when those institutions may have no interest in underwriting their own FHA loans. Moreover, without DE authority, lenders may no longer participate in a principal-agent relationship, which appeared to be the only option left for lenders wishing to fund and close FHA loans underwritten by another lender.

A new development

Although some mortgage professionals may be aware of the way in which the FHA correspondent lending market has been dampened recently, many mortgage lenders and correspondents remain unaware about a certain HUD policy that could bring life back to this market. Namely, although sponsored third-party originators may not purchase or hold FHA loans, HUD has adopted a policy that stipulates that this rule doesn’t apply to third-party originators who are FHA-approved.

Under this policy, lenders may get the FHA full-eagle approval and — when acting as a third-party originator under the sponsorship of another FHA-approved lender with DE authority — the lenders may then fund and close FHA loans in their own name even though they don’t have DE authority of their own. HUD affirmed and clarified this rule with the issuance of mortgagee letter 2012-02, and this past Aug. 24, HUD issued a new clarification of the final rule’s definition of a sponsored third-party originator, yet this rule remains one of the best-kept secrets in the mortgage industry today.

This is particularly significant news for banks and credit unions, as almost any bank and credit union can meet the net-worth requirement for obtaining full-eagle supervised lender approval. Further, banks and credit unions with assets of less than $500 million are no longer required to submit audited financial statements to get supervised lender approval. Additionally, small lenders currently are not required to submit audited financial statements or any type of reports prepared by a certified public account to get annual recertification of the supervised lender approval.

"Although sponsored third-party originators may not purchase or hold FHA loans, HUD has adopted a policy that stipulates that this rule doesn’t apply to third-party originators who are FHA-approved."

As such, the annual recertification process for small lenders is a quick and easy process with a nominal yearly cost. It’s important to note, however, that this waiver of audited financial statements applies only to banks and credit unions; it does not apply to non-chartered institutions, including subsidiaries of banks and credit unions.

Liability

Another important factor that mortgage professionals should consider is: Wholesale lenders offering an FHA- approved third-party originator program face essentially the same risk previously faced by wholesale lenders that offered an FHA correspondent lender program to approved correspondents. Because the wholesale DE lender would underwrite and approve the loans originated by its loan correspondents, it was difficult to force correspondents to buy back loans except in cases of intentional acts such as fraud.

The same is true today for third-party originated loans, and it doesn’t make a difference whether the third-party originator is FHA-approved or not. In other words, the wholesale lender doesn’t face any greater liability when they underwrite FHA loans for approved third-party originators and then allow those originators to close the loans in their own name and sell them to the underwriting lender. To a large extent, the only remaining barrier preventing the full resuscitation of the FHA correspondent lending market is that wholesale lenders have been slow to offer FHA-approved third-party originator programs, as most wholesale lenders still require correspondent lenders to be FHA-approved and to have DE authority.

This seems perplexing given that HUD has clearly stated that DE authority is not required under federal law and given the similar risk dynamics of FHA-approved third-party originator programs and non-FHA-approved third-party originator programs. Some wholesale lenders simply may lack awareness of the most current third-party originator rules, but others may not wish to promote an FHA-approved third-party originator program because correspondent lenders are paid more for each transaction than brokers are.

• • •

Mortgage professionals who are interested in this subject should know that there are relatively few institutions currently offering FHA-approved third-party originator programs. The wholesale lenders that do offer these programs have been capturing market share through the FHA correspondent lending channel because FHA- approved lenders can get greater returns on every FHA loan sold to one of these lenders compared to the restricted broker fees available through every other wholesale lender.

Regardless, although the options may be currently limited when it comes to third-party originator programs, other wholesale lenders may soon start offering such programs simply to remain competitive, as there are many parties interested in funding and closing FHA loans in their own name without having to get DE authority or underwrite FHA loans themselves. When that happens, the FHA correspondent market will be back with a clean bill of health.


 


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