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   ARTICLE   |   From Scotsman Guide Residential Edition   |   October 2013

How Well Do You Know Your Vendor Partners?

Manage third-party risk by properly vetting title-insurance agencies

As the mortgage-lending environment changes in response to various guidelines put forth by the Consumer Financial Protection Bureau (CFPB), the service-provider relationship in real estate transactions has come further under scrutiny. In 2012, the CFPB issued Bulletin 2012-03, which focuses specifically on service providers and what oversight supervised banks and nonbanks are expected to have.

Protection of the consumer, concerns about fraud and proper organizational risk evaluation have brought to light the importance of conducting due diligence on vendor partners, most specifically, the title-insurance agent. Although the CFPB guidance is not yet an official regulation, it certainly suggests that mortgage bankers and lenders may be held responsible for the actions of the third parties they use. This highlights the notion that mortgage companies must do more vetting to manage risk in the mortgage process, but how this vetting is to be done remains in question.

Initial response

When this bulletin was first released, several lenders explored the idea of using a third-party risk-management company to vet their title-insurance agents. National title agents all over the country started to receive notification that no loan proceeds would be wired, no closings would be cleared and there would be no disbursement of funds until the vetting process was completed.

The vetting called for strict investigations of individuals involved in the transaction, including all notaries and closing agents, processors handling closings documents, employees handling escrow funds, and attorneys involved throughout the title-clearing process. Almost immediately, the actions of these unregulated “vetting service companies” raised questions regarding resources, confidentiality, added expense and the overall value of third-party vetting companies.

Standardization

In an effort to provide a standard benchmark for the settlement industry, the American Land Title Association (ALTA), the national trade association of the title-insurance industry, stepped in with a proposed list of best practices.

According to ALTA, “Regulators, consumers and investors have increased their pressure on lenders to know more about the service providers they do business with. To help meet this need, ALTA developed the best practices to help members highlight policies and procedures the industry exercises to protect lenders and consumers, while ensuring a positive and compliant real estate settlement experience.”

ALTA’s guide includes several best practices that suggest adopting and maintaining written policies and procedures as they relate to how title insurance and settlement companies conduct business. Full details about ALTA’s best practices can be found at alta.org/bestpractices. ALTA also provides guidance material, including checklists, webinars and presentations to aid implementation of each best practice. Mortgage bankers can use this information as a benchmark when vetting potential third-party partners.

State of the title industry

Although the best practices remain a voluntary tool at this point, depending on where the regulations eventually rest, these best practices could move rapidly toward some sort of certification process for title agents. Typically, underwriters closely oversee their independent agents. The settlement industry as a whole grew rapidly in a handful of years, however, so it’s possible that proper vetting from the underwriters was not done initially. With the new emphasis on risk management in the lending organization and in the mortgage transaction, whether or not there is a new certification process, it appears that vetting is here to stay.

Maintaining regulatory compliance is already expensive for title-insurance providers, however. In addition, many of the best-practice requirements provide for substantial technological enhancements to existing legacy systems. Lastly, the capitalization requirements will create a virtually insurmountable burden for many title-insurance agencies. At a time of increasing interest rates and shrinking revenue models, many agencies will not meet the ALTA standard, will be unable to comply or will be financially unwilling to invest excess revenues into the systems required to maintain adequate compliance.

It is interesting to note that this represents a paradigm shift in the manner in which East Coast-based title agencies are structured, whereas West Coast-based operators always have been subject to burdensome regulation and capitalization requirements. The title-insurance industry may be poised for some consolidation in the near future. Mortgage bankers and lenders should expect to see major consolidation or a potentially rapid exit for many smaller title agencies.

Know what to ask

It is critical that mortgage bankers and lenders understand and investigate their title partners not only to protect themselves, but also to protect consumers. Knowing what questions to ask can go a long way toward properly qualifying title-insurance partners. The following points give a brief framework for how to begin the vetting process to ensure vendors are compliant with regulations:

  • Ask your title company about the processes and procedures itfollows internally to protect funds and escrow accounts: Are accounts reconciled monthly? Do managers approve all reconciliations? Is positive pay being used? Are all bank accounts insured by the Federal Deposit Insurance Corp.? Are credit reports being used for background checks for key employees? If so, is this being redone every few years?
  • Ask your title company about individual state licensing: Is the title company individually licensed in every state that closings are being conducted and title insurance is being issued, or are title brokers being used? Are all corporate registrations, state licenses and attorney licenses up to date, documented, and easily accessible in an electronic compliance system?
  • Ask your title company who is conducting the actualclosings: Are licensed title-insurance agents conducting closings in states that require more than a notary? How are attorney states being handled from a closing perspective, as well as from a title review and funding perspective? How are notaries recruited, recommended, tracked and retained? Are borrowers being asked about their closing experience, and if so, how is that being tracked and communicated?
  • Ask your title company about appropriate insurancerequirements: Does the company maintain errors-and-omissions liability insurance? Does the company maintain fidelity bond coverage? Is there an electronic document manual on insurance and coverage?

If your title-company partners have the suggested best practices in place, they should be able to successfully answer all of the above questions. Additionally, vendors also should be able to produce documentation that details their policies and procedures.

•  •  • 

Because the CFPB has placed the responsibility of vetting third-party service providers on the mortgage lender, choosing the right vendor has never been more important. Get to know your partners at the closing table. This research cannot be done just initially, but must be done continuously. Vetting should never be one introductory process. Periodic checks of compliance are crucial to ensure high standards are being met across the board and that all parties are on the same page with expectations and performance.


 
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