WASHINGTON — Banking regulators took a critical step forward on Tuesday to establishing national mortgage servicing standards by cutting a deal to include some new rules as part of a related risk-retention proposal.
The agreement comes after months of bitter infighting between the banking agencies, with the Federal Deposit Insurance Corp. arguing that servicing standards must be part of risk retention and the Office of the Comptroller of the Currency insisting regulators did not have the legal ability to put servicing standards in the risk-retention rule.
After weeks of discussions, the Federal Reserve Board helped broker a deal between the two agencies, agreeing to put some limited servicing standards into the retention rule and to pursue additional, separate standards at a later time.
The agreement would outline several minimum steps servicers must make, including offering loss-mitigation workouts under certain circumstances and establishing standards to deal with second liens when a first mortgage is modified.
But analysts cautioned that the agreement was just the first step in what regulators are planning, with more requirements already under discussion.
"Politically this isn't going to be enough to end the debate on servicing standards," said Jaret Seiberg, an analyst with MF Global Inc.'s Washington Research Group. "We fully expect there to be additional regulations. … This seems the first step in a much broader debate on mortgage servicing."
Under the agreement, which still must be approved by other financial agencies, servicers must offer a loss mitigation when a borrower's home is worth more than its value in a foreclosure. Loss mitigation activities would have to be initiated within 90 days after a borrower was delinquent, and such procedures would have to be disclosed to borrowers prior to a mortgage closing.
Regulators also are planning to address second liens, which have proved an obstacle to modifying many first mortgages. Under the agreement, a creditor must disclose how a second mortgage would be addressed if a borrower becomes 90 days delinquent. Regulators are not planning to outline what steps creditors must make, but want to stop the frequently ad hoc approaches servicers have taken. Creditors would also have to disclose if they service both the first and second lien, although regulators would not ban the practice.
The proposal would also require creditors to have compensation agreements that do not discourage loss-mitigation activities.
Industry representatives were eager on Tuesday to learn more details of the agreement, which has not yet been publicly released.
"The concern is how a lot of these terms are defined," said Tom Deutsch, deputy executive director for the American Securitization Forum. "How is loss mitigation defined? How is net present value defined, and are there going to be standards around that or will the market determine that on their own?"
The agreement also paves the way for the risk-retention plan to advance, which bankers have also been awaiting. Under Tuesday's deal, regulators plan to require a 20% borrower down payment for a loan to be exempt from risk-retention requirements.
Under the Dodd-Frank Act, regulators must write rules forcing lenders to retain 5% of the credit risk of a mortgage they securitize, but offer a safe harbor, called a "qualifying residential mortgage," for loans that meet strict underwriting criteria.
In addition to the 20% down-payment requirement to qualify as a QRM, lenders must document a borrower's income and are restricted on how much a payment can adjust. Regulators are also seeking to limit refinances to 75% of the current loan-to-value ratio and cash-out refinances to 70% of the LTV.
The government-sponsored enterprises would be exempt from the new requirements while they are under conservatorship. The proposal is not expected to address private mortgage insurance but instead defer for comment from the industry on the issue.
The FDIC is expected to release the full proposal at its March 15 board meeting. Although the banking regulators have tentatively signed off on the deal, it still must be approved by the Securities and Exchange Commission, Federal Housing Finance Agency and Department of Housing and Urban Development.
The banking industry opposed including servicing standards as part of risk retention, but some representatives said Tuesday that the proposed requirements do not sound too onerous.
"While we would have preferred to have servicing addressed as a stand-alone rule apart from QRM, I'm encouraged there is a net present value test, because it ensures that there will not be an impediment to moving to foreclosure where foreclosure is the best option to resolve delinquency," said Bob Davis, executive vice president of government relations for American Bankers Association.
Still, Davis argue a 20% down-payment requirement was too high.
"We think that that requirement will discourage a significant amount of low-risk, plain-vanilla mortgage lending. As a result, it will restrict credit unnecessarily," Davis said. "We think the down payment can be moved to 10%, particularly with mortgage insurance."
Stephen O'Connor, senior vice president of public policy and industry relations for the Mortgage Bankers Association, said the 20% down payment will impede access to mortgages.
"We would continue to have concerns about a 20% down payment unless it could be offset by mortgage insurance that would allow for a lower down payment," O'Connor said. "A 20% down payment is overly restrictive. It could be especially damaging to first time homebuyers who often don't have sufficient funds for a down payment."
