Mortgage loan servicer role in attempting to slow default rate


16 Nov 2009.

During the foreclosure crisis loan servicing organizations have often been pressured to do more loan modifications. However servicing is a low margin business; both budget and staff expertise are serious limitations when going beyond the routine, in particular for modification decisions.


Clippings below covered through 5 Nov 2008

  • Costs (2 Apr 2009) Loan servicing is a low margin business with, normally, staff just adequate for routine processing. The Economist estimates that the cost of a loan modification is of the same order of magnitude as a year's income on servicing the loan. One servicer reported an increase of 20% in costs merely from the increase in late payments.
  • Expertise (16 Nov 2009) Probably many servicers have staff that are trained only for routine processing, not for judging NPVs in loan modifications, or legal issues. One former servicer employee described “CRAMP” – insider jargon for Hope Now and HAMP – as “a vehicle designed for an 8-lane Interstate running on a two-lane country road”.
  • No contact (2 Apr 2009) Some significant fraction of defaulting borrowers, perhaps on the order of 20%, never communicate in any way with the loan servicer during the foreclosure process.
  • States and others urge servicers to modify more loans (2 Apr 2009) This has been common throughout the crisis. See the 8 Sep 2007 (below) entry for an example.

See also

Below are clippings used in constructing this page

Delinquent borrowers often do not respond

19 May 2007. FT p11.

“Subprime cure will take longer than Bernanke thinks. SASKIA SCHOLTES”

“Simply making contact with subprime borrowers can be one of the trickiest elements of the process, say mortgage servicers, the professional problem-solvers for troubled home loans. Up to half of subprime borrowers who fall behind on thieir payments are ultimately foreclosed upon without ever returning letters or phone calls. … servicers report that the sheer volume of work has driven up their costs by more than 20% over the past six to eight months. … Mortgage market analysts are increasingly concerned that servicers are already unable to cope.”

Multi-state task force urges loan servicing companies to modify more loans

8 Sep 2007. WSJEE pA3.

“Task Force Will Seek More Loan Revisions. Ruth Simon”

“Attorneys general and banking regulators from 10 states have formed a task force … headed by Iowa Attorney General Thomas Miller, has invited a dozen of the nation's largest subprime-mortgage-servicing companies to meet later this month in Chicago. The group will ask servicers to find ways to modify more subprime loans instead of moving borrowers into foreclosure. The group also wants servicers to create more longer-term solutions for distressed borrowers, such as lowering the borrower's mortgage interest rate, rather that creating a repayment plan that offers a temporary fix. Mortgage-servicing companies collect loan payments in return for a fee and are charged with resolving any problems. If a borrower falls behind, they may modify the payment plan, restructure the terms of the loan or initiate a foreclosure action. Loan modifications aren't offered to borrowers routinely, and government officials and housing counselors say it can be difficult for borrowers to arrange such plans, even when it makes sense. … [in the case of ABS] trust documents determine how problem loans are handled. … The working group plans to meet separately in October with investors who hold mortgage-backed securities, Mr. Miller said in an interview. The group was formed after a meeting in July that was attended by officials from roughly three-dozen states. … A policy paper prepared as part of the effort by Iowa Assistant Attorney General Patrick Madigan suggests, among other things, that servicers boost their loan-modification staffs, create teams dedicated to handling loan modifications, increase training and provide front- line employees with financial incentives that would encourage them to save homes rather than moving borrowers toward foreclosure. It also suggests that investors remove provisions in trust agreements that limit modifications, and pay servicers an extra fee for loan modifications that make sense for both the borrower and the investor. In an effort to keep costs down, servicers kept their workout staff down when delinquencies were low and are now staffing up in response to the rise in mortgage delinquencies, says Doug Duncan, chief economist for the Mortgage Bankers Association. … [Mr Miller's] office plans in the coming week to announce a pilot program that will use third- party mediators as intermediaries between Iowa borrowers and their lenders. … However, as delinquencies climb, servicers are feeling the strain. It now takes some companies as long as two months to respond to proposed loan modifications, which puts added stress on borrowers, says Eileen Anderson, senior vice president of Community Development Corp. of Long Island, a nonprofit housing organization.”

Difficult cash flows at servicers with high defaults

3 Oct 2007. Academic study via Inland Valley Attorneys

“Mortgage Loan Modification: Promises and Pitfalls. Joseph R. Mason”

“Mortgage loan servicers are typically remunerated on the basis of a servicing fee of between 12.5 and 50 basis points of the outstanding principal balance. The flat servicing fee can be augmented with equity incentives, residual first-loss investment stakes that give the servicer an incentive to maximize cash flow from the loans. The total value of the direct fees and equity incentives are included on servicers’ balance sheets as mortgage servicing rights (MSRs). MSRs are the net present value of the series of uncertain direct service fee payments. MSRs are difficult to value with any degree of certainty and the valuations that result can be very volatile to actual conditions realized in the servicing pool.

Default costs create not only large direct costs – in terms of increased telephone call, mailing, legal, and administrative costs – but also substantial cash flow difficulties. Cash flow difficulties arise because the legal and other costs related to foreclosing upon and selling repossessed real estate, while ultimately reimbursable from the trust, are only reimbursed when the collateral is sold. “Advancing” funds in such circumstances can substantially disrupt the cash flows of the servicing entity. If the servicer does not have cash on hand to cover the cash flows those advances must be funded in the interim through borrowings, and while the direct costs of the disposition are reimbursed, the funding costs are not.”

Servicer overload hinder loan modification

3 Oct 2007.

“Mortgage lenders in subprime ‘traffic jam’. By Saskia Scholtes”

“Mortgage servicers, the operations that collect loans, say they are having trouble making profits because of record levels of late payments and delinquencies. Litton Loan Servicing estimates that costs have increased 20 per cent in the last year for mortgage servicers, who even in good times depend on razor-thin profit margins.”

Costs of loan modification

13 Oct 2007. Economist p86.

“It's a Wonderful Mess”

“Modifying a loan is nowhere near as expensive as foreclosure but it does involve visits to the property and meetings with the borrower. The cost could easily be $500-600. That may be a significant burden for smaller loans. Lenders tend to be paid a fee of between an eighth and a half of a percentage point of the loan balance, so $500 would eat up the first year's fees on a $100,000 loan.”

MBA on the communication issue

18 Jan 2008. Marketwatch.

“Fending off foreclosures. By Amy Hoak”

“According to the MBA survey [of loan servicers covering 62% of mortgages outstanding, in Q3 2007), cases where the borrower could not be located or would not respond to attempts by the servicer to contact them accounted for 21% of subprime ARM foreclosure starts, 21% of subprime fixed-rate foreclosure starts, 17% of prime ARM foreclosure starts and 33% of prime fixed-rate foreclosure starts. But the Center for Responsible Lending's Schloemer said that while servicers complain that they can't reach borrowers, many borrowers say that the feeling is mutual – they can't get servicers on the phone either.”

Loan servicers overwhelmed

14 Mar 2008. FT London p3.

“Borrowers in jeopardy as loan servicers feel the strain. By CHRIS BRYANT and STACY-MARIE ISHMAEL”

“Borrowers facing the prospect of losing their homes are not receiving the assistance they need because US mortgage servicers are struggling with rising costs and the increasing pressures placed on them, according to industry experts. … a study of mortgage servicers carried out by state attorneys-general and banking regulators last month found that 70 per cent of seriously delinquent borrowers were still not getting any assistance. Of the mortgage interventions that have occurred, 73 per cent were due to actions by the borrower, not the servicer. … Servicers are also struggling to recruit personnel able to deal with complicated loan modifications and foreclosure proceedings. “They're handicapped until they can get more qualified people. All of the lenders are having to train people - to some degree they are people with less qualifications than they would like,” Mr Hanson said. Although a mortgage investor rarely wants to see a property go into foreclosure, it is not clear whether the interests of servicers, mortgage investors and homeowners are always aligned. Servicers' profits increase if late payment fees rack up and advance overpayments slow, while the value of an investor's mortgage asset is likely to decline if a borrower gets a loan modification. Rod Dubitsky, an analyst at Credit Suisse, said: “We believe many servicers are reluctant to ramp up servicing staffing as we reach peak delinquencies. Currently, most servicers earn a fixed fee and (have no incentive) to spend lots of money on servicing.” Many delinquent borrowers deliberately avoid contact with their mortgage servicer, increasing the time and resources spent on each case. … Vicki Vidal, senior director of government affairs at the MBA, said costs were “definitely” rising: “If the borrower does not make their payment the servicer still has to advance the principal and interest payments to the (loan-holding) investor.””

Outsourced servicing capacity may have been chosen for the routine

16 Jul 2009. Credit Slips.

“Is Redefault Risk Preventing Mortgage Loan Mods? by Adam Levitin”

“servicer capacity is a major concern that applies across the board. To start with the bulk of servicer personnel at most companies aren't even in the US; they've been outsourced. Doing a mod is like underwriting a new loan in a distressed situation. That's a skill, and I don't think it's what servicers were looking for over the past decade when they moved operations to India. Instead, they were looking for low-cost labor for their routine ministerial tasks, and it will take a long time for the industry to acquire the workout talent it needs.”

HAMP where the rubber meets the road

5 Nov 2009. Credit Slips.

“Subprime, Exotic or “Crap?” Mortgage Industry Lingo. by Katie Porter”

“Former Credit Slips guestblogger Max Gardner … had an employee at a now-deceased mortgage servicer share an insider’s perspective on default mortgage servicing. …

The explanation for why homeowners can’t get reliable answers on loan modifications is that the default servicing technicians are “cab drivers,” when successful HAMP and other loss mitigation programs would require “cup drivers” in NASCAR parlance. The servicing industry doesn’t care much for “CRAMP,” their term for Hope Now and HAMP, which the former employee described as a vehicle designed for an 8-lane Interstate running on a two-lane country road. And those qualified written requests that consumers can use to get information on their mortgage loans? Those QWRS are “Quite a lot of Written Regurgitated S**t””

Servicer incentives explain a large portion of foreclosure issues

16 Nov 2010. Senate banking committee website, hearing on “Problems in Mortgage Servicing From Modification to Foreclosure”

“Problems in Mortgage Servicing From Modification to Foreclosure; Written Testimony of Diane E. Thompson National Consumer Law Center”

”[Many, many examples of delay to the point of stonewalling]

An Illinois homeowner has faxed her documents, and confirmed receipt dozens of times since 2008, and never yet received a complete loan modification application from her servicer, Chase - although she did once receive three pages of a ten page modification agreement, which she, in desperation, returned with a payment. Her payment was returned to her, and she was denied that modification, in part, for failure to make the required initial payment. …

[Many, no doubt, due to incompetence, but hard to ignore that it is in servicers' interest]

delay serves servicers’ interests. During delay, fees and interest accrue. …

These fees will ultimately be paid to the servicer, either by the homeowner or from the proceeds of a foreclosure sale. If, ultimately, the loan is modified, the servicer’s monthly servicing fee will increase since it is calculated as a percentage of the outstanding principal, and the homeowner’s principal balance will increase due to the capitalization of fees and back interest. …

Of course, the servicer must also advance the borrower’s principal and interest payments to the investors every month, and delay increases the servicer’s overall costs to borrow funds to make these advances. But only when the costs of financing advances outstrip the additional accumulating fees do servicers have a meaningful incentive to end delay. At that point, the scales will often tilt toward a foreclosure rather than a modification—in part because investor restrictions on how long a loan can be in default before modification may have been exceeded, in part because the accumulated arrearages may make any modification unsustainable, and in part because the time to recover those fees and any legitimate advances will be much shorter in a foreclosure proceeding than in a modification. …

Not infrequently, servicers return borrowers’ payments for obscure reasons and then proceed to foreclose on the basis of the default. For example, after an Illinois couple sent in a triple payment to catch up two missing payments on their mortgage (and after consulting with their servicer), Bank of America returned the payment and initiated foreclosure proceedings. A North Carolina woman made payments under a trial modification agreement with Chase for 15 months, and then, on the advice of a Chase representative, sent in a partial payment in the 16th month of her trial modification. Chase promptly returned the partial payment and initiated foreclosure proceedings, without ever processing her for a permanent modification. …

Only about half the states follow a judicial foreclosure process, where a judge reviews the documents. In the other states, foreclosure is conducted extra-judicially, with few if any verifications of a servicer’s representation as to default and ownership. Even the extra protection afforded by judicial process is spotty, at best, however, particularly in this era of historically high volumes of foreclosure cases. Judges, in foreclosure cases as in other cases, rely on the adversarial process to bring to light problems in either party’s case. Where one side is systematically unrepresented, as the vast majority of homeowners are, the process skews away from a balanced review of the equities. Judges are unlikely to detect errors in a servicer’s documentation where the homeowner goes unrepresented, as most do. In many courtrooms, the foreclosure process resembles a factory assembly line far more than our images of a court of law.

During the years I represented homeowners—from 1994 through June 2007, before the massive levels of foreclosures we are currently experiencing—the judge hearing foreclosure cases would often dispose of one to two hundred cases in no more than an hour and a half. A few minutes before court opened, paralegals from the two firms representing lenders would wheel trolleys stacked with bankers’ boxes into the courtroom. The paralegals would then empty the boxes onto the counsel tables, with the prepared orders paper clipped on top. Stacks of cases would then be handed to the judge, the judge would call out the homeowner’s name, and if no one answered, sign the order and hand it to the courtroom clerk for file stamping. Those homeowners who did show up were told to go talk with the bank’s lawyer out in the hallway, to see if something could be worked out. By and large, if the homeowner said, as many did, “The bank told me we could work something out,” the judge would nonetheless sign the order for foreclosure, relying on the attorney’s representation that their client had not communicated any instructions for ceasing the foreclosure but that, if they did work something out, the bank would come back and set the foreclosure aside. …

Servicers’ Incentives Incline Them Towards Increased Fees and Foreclosures over Modifications.

Once a loan is in default, servicers must choose to foreclose or modify. A foreclosure guarantees the loss of future income, but a modification will also likely reduce future income, cost more in the present in staffing, and delay recovery of expenses. Moreover, the foreclosure process itself generates significant income for servicers.

After a refinancing, which is always the path of least resistance for a servicer facing a homeowner in default, foreclosure is the best option from the servicer’s point of view. The servicer’s expenses, other than the financing costs associated with advances, will be paid first out of the proceeds of a foreclosure. Thus, the servicer will recover all sunk expenditures upon completion of the foreclosure, including the cost of services provided by affiliated entities, like title and property inspection. …

For servicers, the true sweet spot lies in stretching out a delinquency without either a modification or a foreclosure. Income from increased default fees and payments to affiliated entities can outweigh the expense of financing advances for a long time. …

Servicers’ advances are taken off the top, in full, at the post-foreclosure sale, before investors receive anything. If advances of principal and interest payments remain beyond the sale value, servicers can usually collect them directly from the trust’s bank account (or withhold them from payments to the trust).

In contrast, when there is a modification, servicers are usually limited to recovering their advances from the modified loan alone, after required payments to the trust, or, if the advances are deemed nonrecoverable, from only the principal payments on the other loans in the pool, not the interest payments. As a result, servicers can face a delay of months to years in recouping their advances on a modification. Modifications involving principal reductions compound the problem: they lengthen the time to recover advances on any individual modified loan as well as on other modified loans, by reducing the amount of principal payments available for application to recovery of advances. …

All of servicers’ incentives militate against principal reduction. Principal forbearance can be costly for servicers as well, but if servicers have a choice, they will choose forbearance over reduction, even though a forbearance does not provide for long-term sustainability as well as a principal reduction modification does. Principal forbearance, unlike interest or principal reductions, stabilizes the monthly servicing fee. Most PSAs appear to allow servicers to include in their calculation of the outstanding balance the amount of principal forbearance, while principal write-downs cannot be included in the amount of the outstanding balance. Even better, the amount of forborne principal is not reduced by the borrower’s monthly payments, leaving the servicer with an inflated income stream for the life of the loan. ”