As we march on towards April 1, 2011, every day seems to bring a new revelation of more pending horrors tied to the Federal Reserve's Rule on loan originator compensation. The latest installment in this drama stems from a staff interpretation of the new rule which will affect not only the loan originators themselves but also their affiliated title companies and real estate brokerage firms.
Apparently, the Federal Reserve Board staff, in an effort to provide the clarification on certain points of the rule that the industry has been demanding, have decided to "clarify" that payments to real estate brokerage firms and title companies which are part of affiliated business arrangements with mortgage brokerage shops are subject to the loan officer compensation rules set by the final rule.
The situation is so bad that on Monday, February 28, 2011, the Community Mortgage Banking Project, the Consumer Mortgage Coalition, the National Association of Homebuilders, the National Association of Mortgage Brokers, the National Association of Realtors, the Real Estate Service Providers Council, Inc. and the Realty Alliance, all signed a joint letter to Ben Bernanke, chairman of the Federal Reserve, and Sandra Braunstein, Director of Consumer and Community Affairs for the Federal Reserve System, asking that they repudiate the staff interpretation of the new rules and issue guidance immediately. I had heard whispers of the existence of this letter all week, but this evening I was able to locate a copy on http://www.lenderscomplianceblog.com/ website, where it is posted under the "library" section.
All of us who have worked in real estate for longer than an afternoon know that the Real Estate Settlement and Procedures Act (RESPA) bans any sort of kickbacks, referral fees, or payments for services not actually rendered. However, RESPA does allow for affiliated business arrangements under carefully defined circumstances. An affiliated business arrangement (ABA) allows two or more legal entities to join together in a business arrangement for profit. For example, a real estate company can own a mortgage company as part of an ABA. Likewise, a mortgage broker can also own an insurance agency or a title company. The consumer is offered all of the services provided by the entity, with the understanding that he is not required to use any one particular service to use the others. For example, I could have an affiliated business arrangement with an insurance provider. I could then offer insurance from the affiliated company to the borrower, although I could not force him or her to purchase it or make it a condition of getting the loan. Likewise, the affiliated company could not force the insureds to get their mortgage from me as a condition of getting their insurance. The partners shares of profit cannot be based on referrals--the profits must come from services actually provided to the consumer. Finally, the consumer must be informed of the relationship between the affiliated companies so that he knows that ABC insurance has a relationship with ABC mortgage, ABC real estate and ABC title co.
According to the letter that was sent to Bernanke and Braunstein, affiliated business arrangements were authorized by Congress in 1983 in an amendment to RESPA, and they have grown in popularity. The letter cites statistics by REALTrends Inc., "285 of the nation's 500 largest residential real estate brokerage firms--which were involved in 30% of all home purchase transactions in 2007--offer mortgages and 240 of the top 500 firms offer title, closing or escrow services. According to a 2010 survey of home buyers by Harris Interactive, the parent of Harris Poll, 29% of recent homebuyers used a one-stop shopping service in 2010 compared to 20% in 2002--an increase of 49% ."
Why are these arrangements now in jeopardy? Apparently the Federal Reserve's board staff has informed the trade organizations signed on the letter that they now consider lending affiliates of an originator a single person as defined by the FRB rule, and they will consider all fees paid to affiliated real estate brokerage or title settlement service providers, or any other type of affilliates, as loan compensation--even though these payments are being made for specific services. They cite this example: "[T]he rule would be circumvented, for example, if a parent company that has two mortgage lending subsidiaries could arrange to pay a loan originator greater compensation on higher rate loans offered by subsidiary "A " than the compensation it would pay the same originator for a lower rate loan made by subsidiary "B" . To address this issue, the Board treats such subsidiaries of the parent company as a single person so that if the loan originator is able to deliver the loan to both subsidiaries, they must compensate the loan originator in the same manner. Accordingly, if a loan originator delivers a loan to subsidiary B and the interest rate is 8%, the originator must receive the same compensation that would have been paid by subsidiary A for a loan with a rate of either 7 or 8%." How the staff of the Federal Reserve is using this paragraph to justify their assertion that payments to affiliates count as loan compensation I cannot imagine.
Nevertheless, under the current staff interpretation of the Rule with regard to affiliated business arrangements, the bottom line is this--if you own a mortgage brokerage company and you also own a real estate company, payment of the affiliated real estate agent's commission by the consumer counts as loan originator compensation and therefore, you as the owner of the loan origination company cannot be paid by the lender because you will violate the "dual compensation" clause of the new rule.
Tomorrow I will look at the industry's response to this new interpretation.
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