LEGAL GUIDE
Written by attorney Michael Wray van Zalingen | May 8, 2011

Who Is My Mortgage "Lender"?

Who is "the Lender"? That depends, but most of the time it will not be the local community bank down the street. The traditional role of a local bank making a mortgage loan from deposits on hand and then paying off depositors over time as the homeowner makes his monthly payments is a vestige of the past. It is still done on a small scale at some community banks and credit unions, but the vast majority of mortgages are no longer handled this way in the United States. Even if you are (or were) sending your monthly mortgage payments to, say, JPMorgan Chase, you cannot walk into a Chase branch office and negotiate a loan modification. The reason for this is that the "arm" of Chase that manages mortgage loan payments is almost completely unrelated to the "arm" that operates retail outlets. Not only that, but even if a homeowner applied for their mortgage loan with Chase, there is probably almost no relationship between the Chase that originated the loan and the Chase that collects his mortgage payments. This is because virtually all mortgages are securitized. That is, a mortgage is essentially and IOU that can be bought and sold. To make extra profits and alleviate risk, the lending industry has divided itself into two parts: 1) the primary market; and 2) the secondary market. The primary market consists of loan originators who take loan applications from consumers, underwrite, fund, and close them. Typical primary market actors are commercial banks, mortgage banks, mortgage companies, credit unions, and mortgage brokers. Once a loan was closed it was sold to investors on the secondary market. The proceeds from the sale of mortgages to investors then went to fund the primary market's new lending operations. Once sold, the loan was pooled along with thousands of others into a mortgage backed security, ("MBS"). The theory was that if one bank held the entire risk of a homeowner defaulting, lending would be too difficult to obtain and not enough people would buy homes. Securitization opened up the doors to homeownership because the risk of loss was diffused among thousands of loans and investors in one MBS. In other words, riskier loans looked safer because a handful of foreclosures would not hurt the overall profits of the MBS. This model worked perfectly well until there stopped being only a handful of foreclosures. Then the mortgage backed securities market collapsed in July 2007 because of the awful performance of loans within these securities. The only remaining secondary market players are the Government Sponsored Enterprises ("GSE's") such as Fannie Mae, Freddie Mac, and the Federal Home Loan Bank System. These companies have the specific mission of purchasing mortgages and boosting the homeownership rate. Currently they purchase 90% of all mortgages originated in the United States. Additionally, up until July of 2007 there was a vast "private label" secondary market full of institutional investors such as investment banks, insurance companies, pension funds, and hedge funds. This market collapsed in July 2007. Only one private label MBS of new mortgages has been issued since then. These entities simply wanted to make a lot of money. For private label mortgage-backed securities, the pools of loans -- as well as merely certain parts of particular loans -- are divided into tranches of similar types of loans or risks and investors only buy into particular tranches, not the entire MBS. The incorporating documents of these MBS' are called pooling and servicing agreements ("PSA") that define the loss mitigation options available to any loan in the pool and the rights of each tranche holder. For example, the PSA might state that only 5% of the loans where the credit score is under 620 may be modified. Investors often do not invest in entire loans. In one particular MBS, for example, there may be a group of investors -- or tranche -- who only receive the interest payments on loans where the borrowers had credit scores over 700. Others only receive the principal repayment. Still others only receive the pre-payment penalty fee on loans where the borrowers' credit scores were below 620. Finally, some investors only receive money if the mortgage is foreclosed upon and the house sold. Because different investors receive different income depending on how a loan is treated, they are often at odds over what to do when a borrower becomes delinquent. Some want to foreclosure, others want to forgive principal but keep the interest rate high, while still others want to reduce the interest rate. Wall Street has dubbed this "tranche warfare." These competing interests among investors are obviously problematic. To manage the tranche warfare among investors, mortgage backed securities employ a trustee to handle the affairs of the MBS. The two major trustees in the United States are Deutsche Bank and Bank of New York Mellon. The trustee's job is to maximize the value of the MBS "as a whole." They do this by hiring a servicing company to manage the performance of the loans within the MBS. The servicer performs the following tasks: 1. Collect payments from borrowers; 2. Pay escrowed items such as property taxes and insurance; 3. Accounting and disbursement of borrower payments to the trustee; 4. Legal compliance; and 5. Loss mitigation and foreclosure on delinquent loans. In exchange for this work, the servicer deducts a fee of between 0.25% and 0.5% from the payments borrowers make every month. In the event of default, the servicer will either be allowed to charge the expenses of foreclosing to the trustee as they arise or deduct the expenses from the eventual disposition or sale of the property. The PSA terms govern this issue. Mortgage loan servicers are usually regulated by the U.S. Treasury Department's Office of the Comptroller of the Currency, ("OCC") and will eventually be regulated (co-regulated?) by the Dodd-Frank Act-created Consumer Financial Protection Bureau. Major servicing companies include Bank of America, Wells Fargo, Saxon, Litton Loan Servicing, JPMorgan Chase, GMAC, Citi, Ocwen, Select Portfolio Services, American Home Mortgage Servicing, and many others. Each of these servicers built their business model on an anticipated 1-2% delinquency rate and projected revenue based on most of the loans performing. Now that loan delinquency rates range from 15-48%, servicers are facing a two-fold problem: 1) they do not have staff to provide the high-touch work of getting loans performing again; and 2) they are losing a major portion of their revenue. Even with GSE loans, Fannie Mae and Freddie Mac have set up guidelines on what loss mitigation options are available. These can sometimes be more or less restrictive than what private label MBS' offer. Also, they do not manage their own loans but rather employ the same cash-strapped servicing companies that private label MBS' do. Thus, even though a homeowner might theoretically have better options because he has a Fannie Mae loan, one faces the uncertainty of whether the servicer has the competency or desire to give the homeowner that option. Because the servicer is charged with managing loss mitigation and foreclosure on delinquent loans within an MBS, it is the servicer with whom you must negotiate. Thus there are two layers of bureaucracy: the servicer is merely the agent for the decision-maker, the trustee, who, in turn, is an agent for the investors. This can be particularly frustrating because the servicer will often reject a reasonable loan modification claiming that it does not meet "investor guidelines" and one has no recourse to appeal to the investor directly. Debt buyers. In recent years servicers have begun selling or assigning delinquent second mortgages (and some first mortgages, also) to debt collection agencies. If you are working with a homeowner and he gets a notice from a debt collection agency that they have taken over the loan, the situation becomes more complex. Typically, the debt collection agency will demand several thousand dollars upfront before it will even discuss a repayment plan or short payoff. If it is a second mortgage and the property is underwater, the homeowner might safely ignore the debt collector or send a debt validation letter to clarify the debt buyer's relationship to the debt itself.

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