The mortgage industry rewards an entrepreneurial spirit. If you have the right mix of sound business skills, soft interpersonal skills, a detail-oriented nature and the ambition to go the extra mile to close a deal, you can find a great deal of success helping borrowers achieve the goal of homeownership.
At least, that’s what many loan originators think when they enter the industry. Then reality sets in — or, more accurately, federal regulatory limitations set in. For especially industrious mortgage originators, this is the time when they start to consider connecting their business to a warehouse line of credit so they can become a lender.
A warehouse line of credit can be an effective way to grow your business. Warehouse lines provide originators with access to capital to fund their own loans — to become a lender. For one thing, being a lender and funding your own loans provides more flexibility in compensation. As a lender you are no longer restricted to the maximum 3 percent compensation that applies to originators who only broker loans to lenders.
The capability to earn more money comes with more responsibility, however. As an originator, your responsibilities are fairly straight forward: Take the application, ensure the application is submitted within regulatory compliance guidelines and stay on top of your three-day disclosure requirements.
That process gets a bit more involved when you become the lender. When you’re the lender, you become responsible for all of the initial, interim and final disclosures; quality control to make sure the loan complies with state and federal regulations; and, of course, selling the loan to an investor to repay your warehouse line, among other things.
As with all major financial services, some lenders are more qualified than others, so you will need to do some research first. It’s important to know what to expect before you approach a warehouse bank with your application. Even more important, however, is learning what those banks will expect from you. At minimum, a warehouse bank will want to see a record of success and the right ratios in your application.
For starters, most warehouse banks will look at your employment history. A strong track record of sound mortgage origination is one key factor banks consider before deciding to issue a warehouse line. They will want to see at least three years of origination experience before they will take a candidate seriously.
Additionally, you’ll have to meet the warehouse bank’s net worth and liquidity requirements. Banks may vary but your typical warehouse-line-to-net-worth ratio should be no higher than 15:1. If you’re requesting a warehouse line of $2 million, for example, you would need a minimum net worth of $133,333. Your liquid assets should be at least 30 percent of that net worth, or a minimum of $40,000 in this example.
Most warehouse banks also will expect you to have some equity in each loan. Banks will usually fund up to 99 percent of the note amount. Any additional funds needed at disbursement will have to be supplied by you. They also may require you to deposit funds in an interest-bearing pledge account as a sign of good faith and minimal protection against loss. The pledge account will be considered as part of your liquidity requirements.
Finally, it is important to cover your bases. You’ll need to provide evidence of all the requisite licenses, certifications, registrations and coverage. Lending licenses will need to be obtained for each state in which you wish to originate loans. Registration with the Mortgage Electronic Registration System, or MERS, also will be required. You also will need to provide a copy of your approval for the Uniform Collateral Data Portal, or UCDP, from both Fannie Mae and Freddie Mac. Additional requirements apply if originating government loans.
Insurance policies for errors and omissions as well as directors and officers liability, or a fidelity bond, also will be required. You also should create a quality-control plan that will not only satisfy the regulators, but also protect you and your company Being organized now could expedite the application process later.
The time frame required to transition from an originator to a lender varies by state, because it is based on each state’s licensing and regulatory requirements. Once you have everything ready, the warehouse-line approval process should only take three to four weeks from the time the application is submitted.
Choosing a bank
Now that you know what warehouse banks will look for in your application, let’s discuss what you should look for in a bank. Just like borrowers, warehouse banks come in all sizes and their lending capabilities can vary, so it is important to know their limits. When you’re just starting out with a warehouse line, you may find a better fit with a smaller bank that has experience helping originators become lenders or helping smaller lenders grow their companies. As your business — and net worth — increases, a larger warehouse bank may be better suited to help you scale your business with a higher limit.
Rates, fees and everything in between also will be important to growing your new lending business. Homebuyers often shop for the best interest rates and the lowest fees, so you should too. You should expect to pay prime rate, or rates based on a common benchmark like LIBOR, plus a margin on the line of credit. Transaction fees also will apply. As you grow and your volume increases, terms usually can be renegotiated.
It’s also important to remember that not all warehouse banks are created equal, especially when it comes to nonagency lending, so it is important to seek a qualified partner. Many warehouse banks prefer to limit underwriting to agency products (qualified mortgages, or QM loans, through Fannie Mae and Freddie Mac). If you’re hoping to originate non-QM or jumbo loans on a warehouse line, make sure your bank allows it first.
Another thing to consider as you make your decision is that many warehouse banks also purchase loans as correspondent investors. This arrangement can offer stability over the life of the line, because mortgages have a clear path from origination to final sale. This arrangement may not allow as much room for negotiation in the sales price, however.
Small lenders hoping to shop investors for the highest profit need to have the ability to sell loans to investors other than their warehouse bank. Therefore, if you have preferred investors outside of your warehouse bank, make sure those investors are approved as a takeout on the line. If they are not approved, ask how you can get them approved. The investor will likely have to supply proof of financial stability and performance, and the bank also may request product guidelines for review.
Once the investor is approved, your warehouse bank may require a copy of the investor’s loan approval and/or lock for each transaction put on the line. Selecting a warehouse bank with a wide variety of approved takeout investors will increase your ability to maximize profitability, although extra work may be required to ensure the warehouse bank approves of the investors you plan to work with as you originate mortgages on your warehouse line.
Respect the risk
A warehouse line can help you take your business to the next level by creating a “revolving door” of credit on which to write mortgages. This gives you the potential to sell loans for higher profits, but you have to keep a healthy respect for the risk.
Making the transition to a lender carries a new set of requirements, from regulatory compliance to disclosures throughout the origination process. To paraphrase a well-known saying, with great lending power comes great responsibility.
Mistakes can be costly. If you write a loan and find that you can’t sell it later, you are still responsible for making the warehouse bank whole. In extreme situations, lenders may barely break even or take a loss by the time a loan is off their line.
Warehouse lines tend to work best for originators with a lot of experience and discipline, as well as a favorable net worth and plenty of liquidity. Partnering with the right bank that understands your business model, and is willing to work closely with you through the process, also is critical. If you’re ready to commit to the responsibilities of obtaining a warehouse line, then you will have created the opportunity to reap very satisfying rewards.