Wednesday, June 30, 2010

What's In (And Out) of the Final Financial Reform bill Part I

Just before 7:00 P.M eastern time, the House of Representatives voted by 237-192 to approve the final version of the financial reform bill. The Senate vote is not coming until the week of July 12, since even after the conference committee reconvened last night Senator Scott Brown is wavering about his final vote.

Still, Senate leaders are confident that when Congress reconvenes after the recess they will have the votes they need to push this bill through and send it on to the President's desk. In fact, Representative Paul Kanjorski offered a motion to change the name of the bill to the Dodd-Frank Act, so that Chris Dodd and Barney Frank will forever be remembered as the authors of this legislation.

I heartily agree--as far as I am concerned the bill should bear their names for all eternity until this new piece of legislation becomes the achievement they are mainly remembered for. For, like Representative Spencer Bachus of Alabama, I believe that most Americans will come to feel that "this bill is a massive intrusion of the federal government into the lives of every American."

So now that all of the wrangling and negotiating is done, what is in the final bill and what was left out? First--a disclaimer. The final financial reform bill is over 2300 pages long and it deals with numerous aspects of stocks, finance, mortgages, banking and regulation. We are concerned in this blog primarily with mortgages and real estate related issues and regulation that affects those issues. So the only items we will be discussing are those which have some bearing on us. However, the bill is comprehensive. A complete copy is posted at, and I encourage everyone to read it this weekend as the Senate will be voting on it during the week of July 12.

Having said that, the Restoring American Financial Stability Act promises to end bailouts and too big to fail firms. But, what the bill really does is to consolidate power into the hands of a few individuals who will have life and death power over private companies. For example, the Federal Reserve can use its emergency lending authority to rescue a troubled firm if it chooses to do so. The new Consumer Financial Protection Bureau which will be housed in the Federal Reserve, will have the authority to write rules and regulations covering banking and mortgage lending,and will take on many of the powers of other existing agencies. Yet, it is autonomous. The Director is appointed by the President of the United States, and the board positions come from other government agencies. Imagine Ben Bernanke with even more power.

The FDIC chairman can choose which creditors to rescue and which ones to punish in cases where risky lending imperils firms. The Secretary of the Treasury can drag a private company in front an orderly liquidation authority if he believes that the company may be in danger of failing and the Orderly Liquidation Authority can liquidate that company. If the Secretary of the Treasury does not make a good enough case for why the company should be liquidated, the Authority can provide him with a list of the areas where he did not make his case and he can then go back and attempt to prove that the company needs to be dissolved. Once the Authority determines that the company must be liquidated, they have no choice but to comply.

What is notably missing from this package is any attempt to dissolve, resolve, or liquidate Fannie Mae or Freddie Mac. Throughout the conference process, there were a number of amendments put forward to begin closing out these companies, but these were denied. And Fannie and Freddie specifically cannot be brought up before the Orderly Liquidation Authority. Even though some experts estimate that the cost to taxpayers of these two entities will eventually top 1 trillion dollars, the new law will call for nothing more than a study of what alternative agencies might be put in place to replace Fannie and Freddie.

The fact that these two red-ink bleeding giants were omitted completely is not accidental,as Barney Frank has been quoted as saying that we need a totally new system for mortgage finance. And we can be certain that the government does have a plan for replacing Fannie and Freddie, but that plan is not in this bill and we are not being told what it is yet.

The Consumer Financial Protection Bureau is a huge part of the new bill. The Bureau will audit and regulate non depository lending institutions as well as banks and it will write new regulations regarding lending and credit. Small businesses will be very much at their mercy as they will have a mandate to turn the IRS loose on any business they perceive might not be paying their income taxes properly. Businesses covered by the Bureau can be certain of audits, fines and possibly criminal penalties, as all statements made to the Bureau for any reason must be made under oath as sworn testimony.

It is one of the great ironies of financial reform that the last minute delay in its passage was caused by a last minute addition to the bill. In the early hours of Friday morning June 25, just before the conference committee ended their work, a $19 billion bank fee was added for banks with more than $50 billion in assets and hedge funds with $10 billion in assets. I have to wonder--did the legislators who added the tax at the eleventh hour think that no one was watching and they could just slip it through? Did they feel confident that they had the votes so it did not matter? If Senator Byrd had not died unexpectedly on Monday morning, would the bill have sailed through with this additional tax unnoticed? What else is lurking in those 2300 pages that we don't know about yet or fully understand the consequences of? We are turning a lot of regulatory power over to an agency headed by non-elected individuals (the Consumer Financial Protection Bureau) housed in another agency headed by non-elected individuals (The Federal Reserve). Where is the accountability? At least when Congress does something we don't like we get to vote out the ones who vote for the laws. But layer upon layer of appointed bureaucracy answerable to no one is tantamount to dictatorship.

The Restoring American Financial Stability Act promises to prevent another financial crisis. I think that this is a vast exaggeration, but even if it were true, at what cost are we preventing it? Ben Franklin once said that those who would trade liberty for security deserve neither. Perhaps he was looking ahead to this generation.

Tomorrow we will look at how the loan originators and appraisers fare in the new bill.

Tuesday, June 29, 2010

Back at the Conference Table Once Again

In another surprising turn of events, The Restoring American Financial Stability Act, HR 4173, has apparently been sent back to conference again as of 5:00 P.M eastern time. Politico is reporting that the House and Senate had to reopen the conference committee to deal with the issue of an additional $19 billion in new taxes which were going to be levied on financial institutions. This was a last minute addition to the bill which was made early on Friday morning just before the bill left conference committee.

The problem now is that with that additional tax, the bill's proponents do not have the votes to pass it. Scott Brown (R-MA) stated that he would not vote for the financial reform with this tax, which he believed would be passed on to consumers. Apparently some of his colleagues including Olympia Snowe (R-ME) and Susan Collins (R-ME) agreed, so with Robert Byrd's death early yesterday morning, Dodd and Frank are now more than one vote short.

The solution--scrap the tax and instead shut down the TARP bailout program and use the remaining TARP funds to offset the cost of the bill. Dodd is quoted by Politico as saying, "My hope is that our colleagues will see this as a more attractive pay-for proposal than the one we adopted at about 4 or 5 in the morning, the biggest piece being the elimination of TARP which would raise about $11 billion." My question would be, if legislators needed $19 billion to fund this bill, and TARP can contribute only $11 billion, where is the other $8 billion going to come from? Maybe someone will think to ask that question tonight.

Also, I was under the impression that unused TARP funds were supposed to be returned to the Treasury or used to pay down the deficit--not transferred over to other projects to be spent as a discretionary fund for Congress. Maybe somebody could ask about that too.

The good news is that since Robert Byrd's body will lie in state on Thursday and his funeral will take place Friday, a vote before the 4th of July recess now appears unlikely. Even the White House now seems to understand that the vote will probably happen after the House and Senate reconvene on July 12.

And that gives the American public a little time to weigh in on this issue if they want to. A full text of the final conference bill is available on a link on I recommend that everyone go there and read the bill. It is over 2315 pages, but this is a long weekend, and this legislation is going to impact all of us for a long time to come.

Tomorrow and Thursday we will discuss some of issues and items that made it into the final conference bill which is about to become law.

Monday, June 28, 2010

The Plot Thickens

Senator Robert Byrd (D WV) died this morning. That would be noteworthy if only because he was the longest serving member of the Senate and fourth in the line of succession behind Speaker of the House Nancy Pelosi to become President of the United States in a crisis situation. But for those of us following HR 4173--The Restoring American Financial Stability Act--it is significant for another reason. The bill finished conference committee last week and was supposed to go back to the House and Senate for final passage. However, Byrd's death appears to have left proponents one vote short of the 60 needed for passage.

Scott Brown, (R-MA) who famously took Senator Kennedy's seat after promising to block the health care bill (which, ironically, he did not get an opportunity to do after all) voted for the financial reform bill. However, he now says he is concerned that the fees and taxes added to the financial reform bill in conference will be passed on to consumers (you think?) and because of that he is now having second thoughts.

Russ Feingold (D WI) is also threatening to vote against the financial reform bill because he does not like the conference language. That leaves Senate majority leader Harry Reid racing around looking for one more vote.

Much has been made of the necessity of passing this bill before the July 4 recess. But unless Senate leaders woo back one dissenter--which is likely--that probably won't happen because they will have to wait for Byrd's replacement to be confirmed by the Senate so that he or she can vote on the bill.

Whomever the replacement is, that Senator will not go up for reelection until 2012, so voters will have a long time to evaluate the results of his or her first major vote--the vote to radically redefine lending and financial oversight in the United States.

In the meantime, the thought that HR 4173 might not pass at all and might die at the eleventh hour gives my heart a warm happy feeling. Honestly, that is not very realistic either--no one seriously expects that the reform bill will be killed at this late date. But we can always dream!

Friday, June 25, 2010

A Historic Day

Today is a big day for the real estate and mortgage world. Early this morning, the House and Senate conference committee agreed to the final text of HR 4173, the Restoring American Financial Stability Act. The final conference text will now go to the full House and Senate for a final vote and then the bill will be off to the President's desk for his signature prior to that all important July 4 deadline.

The legislation is being touted as historic--"the greatest financial overhaul since the great Depression." I agree fully, but I would like to remind everyone that historic does not necessarily mean "good." The bombing of Pearl Harbor, 9/11 and Hitler's invasion of Poland were all historic events but none of them turned out well. In fact, since I have a master's degree in history and I taught history for four years on the junior college level, I can say with some degree of certainty that most genuinely historic events are negative. History books do not have their pages filled with happy stories of content, prosperous people anymore than newspapers do.

Next week we will start breaking down what is in and out of the bill. But today is important for more than just financial reform. In the wee hours of the morning, the Senate voted down a jobs bill to extend unemployment benefits. The tax credit deadline extension which was passed by the House of Representatives was attached to this bill. So was re-funding for the National Flood Insurance Program. Since the bill was expected to pass, we were fairly confident that the tax credit would be extended through September. But with the bill killed this morning, the original June 30 deadline remains.

Many last minute borrowers who were trying to take advantage of the first time homebuyer tax credit by signing their contracts on or before April 30 and closing on or before June 30 have experienced delays in underwriting closing and funding due to new underwriting guidelines, delays caused by dropping rates which caused a glut of refinances during the time that the loans were being underwritten, and delays caused by the bank holders of short sales and foreclosures. Often, banks and relocation companies have their own internal delays so that they can review their documents prior to closing, which can delay a closing as much as 72 hours.

To me, a 90 day extension seemed excessive, because a contract that was signed in April probably is pretty close to being ready to close. Perhaps thirty days would adequately cover the delays caused by last minute problems. But perhaps not--it would depend on what each file needed individually in order to be able to close.

The National Association of Realtors is estimating that up to 25% of home buyers will not be able to take advantage of the tax credit if the deadline is not extended--that is about 180,000 borrowers. Of course, these people can still close when their paperwork is ready, but if they know that they are not going to get the tax credit, will they want to? And if they choose not to, what effect will that have on the housing market, since new contracts are now dipping since the tax credit ended.

It would be interesting to know how many of these borrowers who wanted to take advantage of the tax credit have had their closing delayed because their property requires flood insurance. As you recall, the funding for NFIP expired at the end of May, so we are now 25 days with no new flood policies. Congress has estimated that this lack of flood insurance has kept 1300 homes from closing per day. Now on day 25, that would be 32,500 homes and counting.

Here's an idea--rather than tying these two bills to a bill to extend jobless benefits, why didn't somebody just write a small bill for just these two iteme, take it in, vote on it, and then take it over to the Senate and vote on it there. At least we could have an up or down vote on these issues rather than a prolonged fight over bigger issues ending in defeat on these.

I read one commentary that predicts that Harry Reid will just find another bill to attach these items to and pass it before June 30. But I would not count on that--he would need to move awfully fast to have this finished by Wednesday. Rather, I imagine that a lot of closers and loan officers will be working until midnight June 28, 29, and 30.

Finally, today is historic for one other reason. Mortgage rates are the lowest they have ever been in the history of records. The 15 year mortgage rate today is about 3.875%. Of course, individuals have to meet credit and income guidelines and stricter qualification requirements, but still even to have an opportunity to refinance at a fixed rate under 4% is amazing and noteworthy. And that is the type of history we will want to remember.

Thursday, June 24, 2010

Weighing All of the Facts

I spent the greater part of today filling out forms on line to register my office in the Nationwide Mortgage Licensing System (NMLS) which is now required as part of the SAFE ACT which was signed by President Bush in 2008 but is just now going into effect. Of course, today was just part I--in Texas we have to be registered into the system by July 1, we have to have any continuing education requirements met by August 31, and then those of us who currently hold licenses in good standing will finish being transitioned into the federal system at the end of December.

Unlike many of the regulations that I complain about in this blog, I started out with a pretty good impression of the SAFE Act, because even though it creates some cost, I believed that a National Licensure System might ultimately create its own set of opportunities since I frequently have borrowers ask me if I can help them close their transactions in other states. After going through the preliminary work on this system; however, I just want to tell everyone that I was wrong. The SAFE Act just creates a lot of expense and additional headaches, and it so oddly intrusive as to be offensive.

The SAFE Act was designed to require that all loan originators register with the federal government. This will supposedly keep "bad" originators from leaving states where their licenses have been suspended and opening up shop in other states without background checks. The SAFE Act assigns every loan originator a number which is his for life. Other legislation--such as HR 4173 which is currently in conference this week--will then track loan delinquences from loans originated by that person and tie them to the SAFE Act ID number. So in three or four years, we will each have a record of every loan we originated that went bad. If the legislation goes through as written, it will also track how much money we are paid and whether we retained part of the risk in each loan. This information will be used to determine whether we can retain our licenses--which must be renewed each year on December 31. What a way to spend New Years Eve!

But for now, we all must just register and pay the fee. Every loan originator must register--even those working for banking institutions. (Before the end of the year, loan originators who work for small mortgage shops like mine must also take 20 hours of additional continuing education and pass a test and a credit check.)

So today, I registered our office. I had to fill out a company form to get the company licensed, and then I had to fill out individual forms for each person in the office which they had to review and attest to, and then we had to fill out an individual application for the company to sponsor each person in the office, which they had to review and attest to, so it took a while. But it was not the hours that I spent doing this that really bothered me, nor was it the $400.00 we had to pay in fees so that we continue doing what we have been doing for years. Rather, what really bothered me about this process was the intrusive nature of the questions.

I have been a licensed mortgage loan officer for 12 years, and for ten of those years I have been individually licensed, so I am used to licensing. As part of the nature of our work, we constantly fill out applications to represent lenders who check our credit, both corporately and individually and check our references, so I am used to credit checks, reference checks and filling out documents. But in my opinion, this went too far.

For instance, each applicant had to state whether they owned any interest in another business. Now it is standard practice to ask someone applying for licensure or to just to act as a broker for a lender whether they own an affiliated business (a real estate company, title company, insurance company, etc.) which would be providing joint services as part of the transaction. But that was not the question. The question was whether any of the individuals owned an interest in any other business. If so, was the business involved in financial transactions? If not, what type of business is it? What do we do there? How many hours a month do we work in the other business?

The financial disclosure questions had to do with no only whether we personally had filed bankruptcy in the last 10 years, but whether we had supervised or managed a company that had filed bankruptcy in the last ten years. That seems potentially unfair--to deny someone a license because he or she was the manager of a company that had to file bankruptcy. The bankruptcy might be the manager's fault, but it also might not be. There was no place for comments or to explain or give additional detail.

Part of the SAFE Act requires a determination as to whether an individual is financially sound enough to receive a license. That aspect has always bothered me. I understand and agree that a credit profile can be an indication of a person's character. Having read thousands of credit reports over twelve years and having worked with many people over that same length of time, I can say that a pattern of collections and nonpayments over many years can be indicative of other problems. But a bankruptcy can simply mean that the person was having a problem due to specific circumstances--such as illness, job loss, loss of a business, etc., filed bankruptcy and started fresh. I have personally known a number of people who for one reason or another had to file bankruptcy at some point in their lives, did so, and then went on to reestablish and maintain excellent credit. To put excessive emphasis on whether an individual or a company that an individual managed has had to file bankruptcy in the last 10 years is unfair because it does not account for extenuating circumstances.

And while we are on the subject of credit, what about the loan originators who have seen most of their income dry up over the last three years and because of that their credit is now bad? We went from the "land flowing with milk and honey" to a parched desert as far as lending is concerned in the space of three years. If a loan originator has his own home foreclosed on because his income is now gone and he can't make the payments, does that mean that he is not ethical enough to have a license? Should he not be allowed to work because he needs money?

There were a lot of questions about whether the applicant had ever been charged with felony or a misdemeanor related to theft. When our regulator from TSLD first gave us some training on the SAFE Act, they explained that this was one of the major changes that loan originators were going to see. Up until the SAFE Act was implemented, the regulators could make discretionary decisions about whether one incident in a person's distant past could be overlooked, and that person could be licensed. For instance, what if when you were eighteen, you were picked up for shoplifting. If that incident occurred twenty-five years ago, and since that time you have been a model citizen who learned from your mistakes, the licensing entity could take your more recent behavior into account and grant you the license. Not anymore. Bad judgment in your youth can keep you from ever getting a license under the new rules.

The whole form is pages of questions like this. But the crowning glory is one of the final questions at the very end. As part of the licensing process, the FBI does a criminal background check. (Texas made all of us go through an FBI criminal background check when we got our original licenses, so this is nothing new.) After we consent to the background check the computer asks us the final round of questions, "What is your height? What is your hair color? What is your eye color? How much do you weigh?"

Why is my height and weight any of the federal government's business? I am sure that the SAFE Act regulators would say that the FBI needs that info for the background check, but they don't. When we did our initial Texas license with our background check, nobody asked us how much we weighed. We sent in our fingerprints and that was it. Since our weight can change--at least in my case I am hoping so--why would we need to put our weight on a federal form and swear to its accuracy. Because all of the answers to all of these questions must be given under oath--attested to by the individual loan originator.

Look, as a woman I know that we are particularly sensitive to our age and weight. But even my brother Stefan, who is 27, trim, and runs over 5 miles a day, objected to providing his height and weight when I asked for that information. "I'm not answering this; they don't need to know that." It was only when I explained that this was not optional, and we could not complete the form without it that he reluctantly answered my questions. Like me, he just could not understand why the federal government needs to know this. After all, the DMV stopped asking me for my weight over two driver's license renewals ago. When I go to get my license, they just slap a new picture on top of the old info--they don't even say the word "weight". It is a polite homage to those of us who have been licensed forever as we age and get heavier. Obviously the state figures that a police officer does not need to know how much I weigh to give me a ticket. Why does Uncle Sam need to know to give me a loan originators license?

But now that I have had more time to think about it, maybe they really do need this info. After all, it could be a nice tie-in to the First Lady's war on obesity. By having height and weight statistics on file for all of us loan originators, the Feds will have a good launch point to see who is doing our part to be a good citizen by getting into and staying in shape. Maybe next year when we renew they can ask us for our blood pressure stats so that they can send the Salt and Fat police to visit us. And perhaps in a year or two our height and weight will not be just informational but will actually become part of the criteria for licensure just as credit and financial stability are today. That way, the government can ensure that all borrowers have the benefit of having their loans done by physically fit, attractive, financially comfortable loan originators, rather than just experienced ones.

Wednesday, June 23, 2010

A Chicken in Every Pot

Yesterday we discussed the conference amendment which the Americans for Financial Reform is lobbying for in the final version of HR 4173--Restoring Financial Stability. This amendment would use $3 billion of TARP money to allow HUD to make bridge loans to the unemployed and to subsidize their payments for up to 24 months while they look for a job. The bill also authorizes $1 billion for purchasing foreclosed homes and transforming them into affordable housing.

Today on its website, HUD has posted what we must assume is a related initiative--the new Housing and Services for Homeless Persons Demonstration. HUD has requested $85 million for voucher assistance for this program which will engage mainstream housing, health, and human services programs to be more fully engaged to significantly impact the problem of homelessness.

HUD cites its own Annual Homelessness Assessment Report to Congress in July of 2009 which estimated that 664,000 people nationwide were homeless "either sheltered or unsheltered." Interestingly, this figure which is from January of 2008 is down about 7500 per night from the previous year. However, while the report acknowledges that the number of individuals in shelters had remained steady for about a year, the number of people in families increased 9 percent to 516,700. Many people going into the homeless system in 2008 were coming from staying with friends and family members, so they had been displaced for a while.

A report cited from January of 2010 showed an 8% increase in homelessness since June 2009, with the total number of homeless people in families increasing 10%. The total number of people accessing shelters for the first time increased by 26% between July and September 2009, which represented a 38% increase for people in families compared to 12% for individuals.

To solve this problem, HUD is asking that its FY 2011 budget include $2.055 billion dollars, which is an increase of $190 million over the 2010 budget, so that it can implement the HEARTH ACT. The provisions of the HEARTH ACT will consolidate housing programs, allow for "flexible homelessness prevention and rapid rehousing efforts," and will provide $107 million to build 9,500 new permanent supportive housing units and implement a new rural homelessness program. Additionally the budget will allocate $85 million to provide 10,000 new Housing Choice Vouchers. The program will allow HUD to collaborate with the Department of Health and Human Services and the Department of Education and will be linked with other programs such as Medicaid and substance abuse treatment to "meet the needs of chronically homeless persons."

According to the website, a portion of the vouchers will also be used to help the Department of Health and Human Services with TANF--Temporary Assistance for Needy Families.

One problem with this initiative is that it appears to lump together two very distinct populations--the chronically homeless and those who are temporarily homeless living in families. A family who is utilizing shelters for the first time is undoubtedly there due to job loss. What these families mainly need, and most likely seek, is employment. However, since job creation comes primarily from small businesses, in order to really provide meaningful help, the government would need to stop crushing small business.

The other population, the chronically homeless, is a different story. According to the website, HUD is partnering with the Department of Veterans Affairs to meet President Obama's goal of ending veteran homelessness in five years. But chronic homelessness is not solved just simply by giving a person the keys to a home or an apartment. It is a very complicated issue involving social problems, substance abuse issues, in some cases mental health issues, and changing the circumstances of a chronically homeless person involves a commitment on the part of the affected person to be willing to make changes themselves.

Certainly, no one wants to see families and children living on the streets, and I don't think any fair minded person would begrudge people who are truly in need some assistance. However, we should be mindful as a society to give people a hand up and not a hand out, as Bill Clinton so famously said when welfare reform was passed. Initiatives such as the conference amendment to allow the government to subsidize housing for up to two years may actually contribute long term to the problem of homelessness and homeless families. How? By enabling people to stay in their homes without working, the rule allows people to postpone making tough decisions that may need to be made, such as the decision to seek employment in a different field, or the decision to move from a depressed area of the country to an area with more opportunity. As human beings, we resist change and we have a strong tendency to procrastinate when faced with unpleasant alternatives, so a two year window will allow a lot of people to sit in homes they cannot afford without work hoping that "things will work out."

Also, unless this legislation clearly defines that the unemployment must be a result of involuntary termination, what is to prevent a struggling working homeowner from quitting his job to take advantage of a program that will make his mortgage payment for up to two years. What if the family is dual income and one spouse quits or is terminated? Will the government pick up the housing tab then? What about a domestic partnership which does not involve a legal marriage? If one of the partners becomes unemployed, can the government pay his or her mortgage while the other partner works and pays the other expenses?

These scenarios may appear exaggerated, but these are the types of situations that occur when the government starts handing out free money. In the early days of the financial crisis, when FHA began refinancing homes for borrowers who were at least one month behind on their house payments, homeowners who had previously made all of their payments on time missed a house payment purposely so that they could qualify. And if homeowners decide that they will be better off having their house payment made by Uncle Sam, we could see increasing levels of unemployment which ultimately could lead to a massive wave of homelessness when, at the end of the 24 months, these homeowners are not ready and working so that they can resume their obligations.

Finally, HUD is asking for massive amounts of money to help create opportunities for about 20,000 additional people when more than half a million are homeless. If nothing else, this is a highly inefficient use of resources.

The key here is jobs--making sure that jobs are available and that those who have jobs are incentivized to stay in their jobs. And government does not create jobs. So the key to job creation is business growth--particularly in the realm of small business. The government can't actually put a chicken in every pot--all they can do is stand out of the way and allow people to work so that they can buy their own chickens and their own pots.

Tuesday, June 22, 2010

Redefining Lending

Today is D-day for the mortgage industry. Today the House and Senate are conferencing the financial reform bill specifically with regard to the issues that affect mortgage lending--the Merkley Amendment (which requires that loan originator compensation be capped at 3% and that a borrower's ability to repay be considered in every case,) and the Landrieu/Isakson amendment (which creates a standard for qualified loans which would be exempt from the 5% risk retention requirements) will forever change the way that mortgage loans are originated in the US.

It is one of the ironies of financial reform that most of the bills hit the working American taxpayer the hardest. For instance, many politicians have called for more help from bankers to allow people to refinance their homes into better terms. And yet, if the Merkley Amendment passes today as it is currently written, the amendment will end FHA and VA streamline refinance loans, which allow borrowers to refinance into more favorable terms without requalifying. Since guidelines are much stricter now than they were three years ago, a borrower wanting to refinance today might not qualify today even if his or her credit is good and all of the mortgage payments have been made on time. That is why a streamline is great. The borrower does not need a new appraisal on a streamline. If streamlines are gone, they will have to pay for the cost of getting the house appraised and hope that the appraisal comes in for value. A good, useful product being used by employed Americans who are meeting their obligations is being eliminated.

This is, of course, just one example of how life will change for consumers and lenders after financial reform becomes law. And industry groups on both sides are lobbying hard at the last minute. For instance, the Americans for Financial Reform, an umbrella group of unions and consumer advocacy groups, has posted on its website its eleventh hour push to make sure that the reform bill gets to the president's desk sooner rather than later. The AFR's efforts include lobbying Senators in states across the U.S. to make sure that they vote for the provisions of the bill and manning a phone bank in coordination with the SEIU to make sure that all elected officials get the AFR's message.

One interesting but little discussed provision that the AFR is pushing for today is passage of the House of Representative's amendment for foreclosure avoidance and affordable housing. On their website, the AFR has posted an open letter with today's date demanding that Congress include as part of financial reform a $3 billion fund to assist homeowners facing foreclosure because of unemployment or medical debt. This $3 billion would come from TARP money. The AFR's letter states that 58% of delinquent homeowners are delinquent on their payments because they are unemployed. "The Obama Administration's foreclosure prevention program, Making Home Affordable, was designed to assist homeowners in costly subprime loans. It has had mixed success dealing with that population. However, the only provision focused on the unemployed guarantees a mere three month's forbearance to those without jobs. This is totally inadequate and offers homeowners little more than is already the practice in the private market."

Actually to say that HAMP has met with mixed results is extremely generous--most people would say that it is has been a mess. A Huffington Post article dated June 21 states that 436,000 of the 1.24 million people who started with the HAMP program have dropped out since the program started in March of 2009. Initially the government pressured banks to bring borrowers into the program without insisting on proof of income, but then when the banks began to demand proof of income, the borrowers could not qualify. Of those who modified, 65-75% will default according to a CNN money story posted June 16. Diane Pendley, a managing director of Fitch, is quoted in the article as saying that the reason for the high defaults is that "on the average HAMP borrowers have 64% of their monthly pre-tax income spent before they can buy a quart of milk."

And since this program which is about thirteen months old has been proven not to work, Congress is going to take a typically governmental approach to the problem by throwing more money at it. Rather than continuing to concentrate on overextended working homeowners who cannot make their payments, why not turn the focus on to borrowers who are not working at all and cannot make their payments?

And that is what the AFR is lobbying for: a Congressional amendment to use $3 billion in TARP money so that HUD can make 24 month bridge loans to unemployed homeowners to give them time to find work. Also, "It is well known that homeowners who have legal representation have a much better chance of successfully navigating the HAMP foreclosure prevention program, which is the main government foreclosure-prevention effort," so the amendment would authorize $35 million for legal aid attorneys to represent homeowners facing foreclosure.

And finally, since foreclosures are devastating for neighborhoods, the amendment authorizes $1 billion for the Neighborhood Stabilization Program to purchase and redevelop foreclosed properties which will be turned into affordable housing.

This is the crux of what I believe is wrong with financial reform--it punishes people who are employed and qualify for mortgages by taking away competition and sound market choices while making it possible for the unemployed to stay in houses they cannot pay for. Don't misunderstand--I really do empathize with people who have lost their jobs over the last three years. I know first-hand how devastating long term unemployment can be to a family. But is a taxpayer subsidy of the family's mortgage payment for up to 2 years really the answer to this problem? I don't think so. Rather, I believe that if Congress really wanted to help the unemployed, they would stop killing small businesses with over regulation so that everyone could go back to work and pay their own mortgages.

Stay tuned; within the next couple of days we are going to know exactly what is in and out of the final bill.

Monday, June 21, 2010

Magic Water and Big Government

During the wee hours of this morning, my brother saw an infomercial for magic water that will erase all of a person's debt. (I am not making this up; we googled it today to make sure that he was not putting us on!). A person who wants a fresh start in life merely sends to some money to the organization hawking the water, and when the vial of elixir arrives, he or she pours it over the mailbox. Within days, all debt has been forgiven.

The infomercial apparently featured happy users of the magic water who had been deeply in debt before receiving their supply. They are now debt free and prosperous. The magic water apparently not only forgives existing debt but is income producing as well. One of them is now closing on her third home. (I wonder whether she will use the magic water to expunge the mortgage or whether this is a once in a lifetime debt forgiveness.)

As reasonably intelligent, worldwise people, we would tend to scoff at the very concept of magic water, but that is mainly because we don't believe it would work. But I wonder what would happen if we knew for sure that, instead of just a pile of soggy mail, we really would have complete debt forgiveness. If the water did work, if we could see its effects and know that it could meet every claim, would we still scoff? I submit that the purveyors of magic water would have an immediate shortage as it became the most in-demand product in the U.S--perhaps even worldwide as its fame spread. And unless one of its magic properties is to reimburse the creditor, it would be responsible for the greatest financial crash in history. How many of us would stop to say to ourselves, "I wonder how much money it will cost the companies I borrowed from it I don't pay them back." Would we even think about those losses at all?

This sounds ridiculous, because it is, but if you think about it, that is exactly what we as a nation are attempting to do right now with so much of our personal debt. When we demand that lenders reduce the principal balances of mortgages, we are not considering that the bank loaned that money on a specific piece of property, and that when we refuse to pay it back we are costing them money. How many borrowers exercising "strategic default" think about the fact that they are walking away from a house that the bank will have to sell at less than the amount owed. In most cases, that is no more the bank's fault than it is ours as the buyer of the home, yet we don't feel guilty about it. We just want a quick fix, even if it comes at somebody else's expense.

The only real long term solution to debt and financial problems is to work to solve the problem. For some that means bankruptcy with a payment plan, for others it means learning to live within our means. Real financial reform starts at a personal level with personal integrity and the knowledge that our actions and decisions affect others--sometimes many others. The core principal of a credit society is that we honor our obligations and we all do our part, without looking for magic water or a magic fix from Uncle Sam.

Friday, June 18, 2010

The Tax Credit Extension Passed the Senate

On June 16, the Senate passed the first time homebuyer tax credit extension as an amendment to an extension of unemployment benefits. As you know, the first time homebuyer tax credit ended on April 30, but buyers with executed contracts on April 30 had until June 30 to close on those contracts.

Locally, I have been getting emails from title companies promising to stay open until midnight on June 28, 29, and 30 so that buyers will be able to close and fund on their loans. Having attended more closings than I can count, I cannot personally imagine a more potentially stressful experience that trying to close a purchase loan at 10:00 P.M.!

Fortunately, everyone is going to get a reprieve. The Senate extension means that the tax credit still extends only to home buyers who had executed contracts no later than April 30, but those borrowers will now have until September 30 to close. Apparently, enforcing the June 30 deadline would have deprived about 180,000 borrowers of the opportunity to receive the tax credit, as well as depriving thousands of loan officers and escrow officers of a good night's sleep.

With so many new regulations, closing and funding take longer than in the past because the new HUD forms have to be compared to the GFE and the process of HUD approval can take up to 72 hours. That, coupled with the fact that the drop in interest rates at the end of May brought in a glut of refinances which are backing up many underwriters more than 10 business days, means that this extension really is necessary. And when we look at the fact that new purchase contracts have dropped off since April 30, closing these buyers is very important to everyone's bottom line.

But now it looks as though, on this issue at least, we can all rest easy--just in time for the weekend!

Thursday, June 17, 2010

The Snowe-Pryor Amendment to HR 4173--Looking out for the Little Guy

I realize that the CEO of BP got into a lot of trouble this week saying that he cares about the "small people," but honestly somebody needs to. With so much emphasis on Wall Street, major banks, corporations which are too big to fail, no one really seems to care about the rest of us at all.

That is probably the reason that a lot of small business advocates are banding together to lobby for inclusion of the Snowe-Pryor Amendment (S Amendment 3883) in the final conference version of financial reform. The list of businesses lobbying for inclusion of this amendment is about as diverse as can be imagined: The Associated Builders and Contractors, the Association of Kentucky Fried Chicken Franchisees, the Taco Bell Franchisees, the Tire Industry Association, the Society of American Florists, Hispanic Leadership Fund, National Federation of Independent Businesses, the U.S. Chamber of Commerce, the U.S. Hispanic Chamber of Commerce and the United States Black Chamber of Commerce are among some of the organizations that sent a letter on June 11 to the members of the conference committee asking that Snowe-Pryor be included in the final bill.

The businesses and organizations named above are hardly the titans of Wall Street, nor are they companies and organizations which sell credit as a commodity. So why are they even interested in financial reform? Because they fear the overreaching powers of the Bureau of Consumer Financial Protection and its ability to regulate finances and limit and perhaps cut off access to credit.

The letter which these agencies sent to the conference committee states that the Snowe-Pryor Amendment, (S Amend. 3883, The Small Business Fairness and Regulatory Transparency Amendment) is necessary in order to require the Consumer Financial Protection Bureau to include recommendations from a small business advocacy review panel with any proposed rules that will have a significant impact on small businesses. And the Consumer Financial Protection Bureau must also inform the public of how its rules affect small business access to credit.

Senator Olympia Snowe (R Maine) and Senator Mark Pryor (D Ark) co-sponsored the amendment. On her website, Senator Snowe explains the need for this amendment as follows: "Plain and simple, onerous regulations are crushing the entrepreneurial spirit of American small businesses and hindering their ability to create new, good-paying jobs. By establishing a transparent rule making process that requires an impact analysis for smaller firms and valuable input from stakeholders, this amendment provides the one-two punch we need to guarantee that the CFPB will issue rules that maximize consumer protection while minimizing economic harm." By making the CFPB a "covered agency" under the rules of Regulatory Flexibility Act, the amendment guarantees that small business advocates can weigh in on its decisions. Federal agencies would have to consider the impact that their rules have on the cost of credit for small businesses and consider specific alternatives to minimize increases to the cost of credit.

Sounds great, doesn't it? After all, isn't the purpose of financial reform partially to protect the U.S. Taxpayer and by extension all of us individually--the small people--from the economic consequences of another financial meltdown. And shouldn't part of that protection include bolstering and protecting small businesses which provide most of the job creation in the U.S. According to the letter signed by the various small business advocates, "Small businesses have created about two out of every three net new jobs in the United States since the 1970's." And according to the SBA, as quoted on Senator Snowe's website, the annual cost of federal regulations totals $1.1 trillion with small firms paying 45% more per employee than their large counterparts.

So who would oppose an amendment to cut some breaks to the small business owner--who is the primary creator of the jobs that are so desperately needed right now? The American for Financial Reform would. This group, you may recall, is an umbrella organization pushing for financial reform comprised of a variety of organizations including the AFL-CIO, AARP, ACORN, the Center for Responsible Lending, and many other unions and consumer advocacy groups. One of their organizations, which calls itself the Main Street Alliance, "a national network of small business coalitions representing small business owners across the country," has written a letter which is posted on the Americans for Financial Reform website opposing passage of the Snowe-Pryor Amendment. The reason? "A strong, independent consumer financial protection arm is critically important to the future health and prosperity of America's small businesses...the Consumer Financial Protection Bureau will protect our customers from the toxic financial products that triggered the financial crisis, destroying millions of jobs, siphoning away disposable income, and decimating our sales and customer base."

But, adds the letter, "The Snowe-Pryor Amendment...will actually harm small business owners' best interests by undermining the consumer protection bureau's ability to operate efficiently. The amendment will add between two and six months to the rules process, possibly much more, by adding a redundant comment window...and by requiring a multi agency panel to draft a joint report on new rules ideas before the rules are even proposed to the public." The Main Street alliance wants passage of the Landrieu-Dodd-Kerry amendment, which it says has the "same commitment to small business input on rules and the same panel review process, but in a streamlined way that allows rulemaking to move forward without cumbersome and unnecessary delays."

Now wait a minute. Small business owners are already shouldering a disproportionately high burden of the 1.1 trillion dollars that are currently the cost of federal regulations, and yet the Americans for Financial Reform are concerned about cumbersome delays to the Consumer Financial Protection Bureau? Personally, I would love to know exactly what businesses the Main Street Alliance actually represents, because if the idea of an autonomous, powerful, intrusive new government agency doesn't scare them witless, I'd like to know why not.

Since the conference committee is slated to finish with the final reform bill which is on track to be on the President's desk by June 25, time is running out. But hopefully, in the end, someone will actually care for the small business owner, who is often the most overlooked, and overburdened species in our modern world.

Wednesday, June 16, 2010

The High Cost of Reform to Private Businesses--HR 4173 and the CBO

This week we have been examining the Congressional Budget Office's score card for HR 4173--the Restoring American Financial Stability Act of 2010. Today, we will conclude our series on this by taking a look at the direct cost to private businesses. The CBO estimates that the bill will add $19.7 billion to the deficit between 2010 and 2020, and the first part of the report is aimed at detailing how those monies will be allocated.

However, the final part of the CBO's report is dedicated to the private sector impact of the implementation of this reform bill. The Unfunded Mandates Reform Act sets an annual threshold for private sector mandates which is currently $141 million for 2010. In their summary, the CBO concludes that the fees imposed on private businesses will "significantly exceed" that figure. The last 7 pages of the CBO's analysis are devoted to letting us know how significant these additional costs will be.

For some parts of the bill, the CBO cannot determine a cost because they do not have sufficient information. For example, the CBO is not able to adequately evaluate the impact of the Merkley amendment--which caps loan originator compensation at 3% and prohibits the financing of fees unless the Yield Spread Premium is the only mechanism for compensation, because they do not have enough information about the mortgage industry and how it currently utilizes yield spread premium as a form of compensation to realistically predict the potential impact on business. For the same reason, the CBO does not attempt to address the cost of risk retention or the Landrieu/Isakson amendment.

HR 4173 authorizes the SEC to prohibit predispute mandatory arbitration agreements. These are used by brokers, dealers, municipal financial advisors, investment advisors, mortgage lenders and car dealers as a cost saving mechanism for dealing with conflict without going to court. With mandatory arbitration agreements outlawed, businesses will face potentially much higher litigation costs, which the CBO acknowledges, but to which it does not attempt to assign a dollar figure. The report says simply, "Based on information from industry sources, CBO expects that if the SEC were to impose such mandate, the incremental cost to those entities of using the court system instead of arbitration could be significant."

So what is the CBO able to assign monetary cost to? First, the Orderly Liquidation Fund. The CBO estimates that this fund, which will be part of the Orderly Liquidation Authority, which has the power to seize and dissolve financial institutions which are endangering the economy, will cost the private sector approximately $1 billion in assessments during the first five years of its existence.

Next, the Securities and Exchange Commission fees. Fee increases levied by the SEC are estimated to total at least $650 million during the first five years.

The Financial Stability Oversight Council, which will have the authority to require large bank holding companies to comply with certain requirements and which will be able to issue cease and desist orders for certain activities, will cost the private sector about $75 million a year.

New fees imposed by the Federal Reserve to cover expenses in supervising certain firms will cost the private sector an additional $75 million a year.

New requirements on hedge fund advisers which require advisers managing funds with over $100 million in assets to register with the SEC will cost approximately $30,000 per firm.

Other costs cannot be measured because they involve legislation that has not yet been written. For instance, HR 4173 requires the SEC to establish new rules to address any deficiencies in the regulations of brokers, dealers and advisers, but the CBO cannot score this because the cost depends on whatever new rules are implemented.

And finally, perhaps the oddest note in the CBO's report: HR 4173 contains a section requiring that manufacturers using certain minerals disclose where they obtained the minerals and what measures were "taken to ensure that obtaining the minerals did not benefit any armed groups in the Democratic Republic of the Congo or an adjacent country." Why this is included in financial reform, I cannot even imagine; how much it will cost no one apparently knows. The CBO could not put a price tag on this because they would need to know what data the manufacturers would be required to collect regarding mineral origin.

In summary: The estimated cost of HR 4173 to the U.S. taxpayer: $19.7 billion in deficit spending between 2010 and 2020.

The cost to the private sector in fees and assessements plus additional court costs: well over $1 billion in five years.

Implementing a massive new bureaucracy with unprecedented powers over businesses and the financial lives of Americans: priceless

Tuesday, June 15, 2010

Where Is the Money Being Spent?--The CBO Scores HR 4173

Yesterday we looked at the CBO score card for HR 4173--The Restoring American Financial Stability Act. According to the CBO, HR 4173 will cause a net increase to the deficit of $19.7 billion over the 2011-2020 period. Today we will look at where that money is going to be spent.

According to the CBO's report, which can be viewed by going to, most of the cost of the bill will occur as a result of the cost of the orderly liquidation program. As you may recall, in May we wrote about the program which allows the Secretary of the Treasury to identify financial institutions which may be in danger of failing and take them before a panel of judges which are appointed by the Chief Justice of the U.S. Bankruptcy Court. If the judges decide that the Treasury Secretary has proven his case, they can order immediate dissolution of the firm. The firm can appeal but they cannot remain open pending appeal. The CBO estimates that the cost of the Orderly Liquidation Authority alone will increase the deficit by $20.3 billion from 2011-2020, but this deficit spending will be offset by a $4.9 billion increase in revenues from fees.

Why so expensive? The bill gives the FDIC the authority to take steps to liquidate endangered firms through organizing bridge banks which would be exempt from federal and state taxes. The FDIC will borrow funds from the Treasury to finance the creation of these banks. Any borrowed sums are to be repaid with interest through assessments on bank holding companies and financial firms. "Although the estimate reflects CBO's best judgment on the basis of historical experience, the cost of the program is inherently might take several years, for example, to recoup the funds spent to liquidate a complex financial institution. As a result, some of the proceeds from asset sales or cost recovery fees related to financial problems emerging in any 10-year period might be collected beyond that point. All told, actual spending and assessments in each year would probably vary significantly from the estimated amounts--either higher or lower than the expected value estimate provided for each year."

The reason that it is hard to come up with a firm number is that the CBO acknowledges that if the Orderly Liquidation Authority has to liquidate a large firm, the costs will be huge. CBO estimates that the costs of liquidating large firms through 2020 will be as much as $26.3 billion and that $6 billion of that will be recovered through assessments.

On a brighter note, the new regulatory authority issued to the SEC, which will give them permanent authority to collect and spend fees, is projected to decrease deficits by $4.9 billion from 2011-2020. Most of that figure--$4.3 billion--will be unavailable to the agency for spending.

Since this fee collection will be permanent rather than subject to annual appropriations, the collections will become part of the SEC's budget. The SEC will be authorized to collect fees sufficient to maintain its annual operating expenses and to retain a reserve of 25% of the following year's budget. However, since the CBO estimates that the SEC will need to add 800 new jobs over the next few years in order to meet all of its regulatory authority, we can look for their budget to increase. "The reduction in budget deficits from changes in direct spending and revenues would probably be accompanied by increases in discretionary spending."

Another money pit will be the Bureau of Consumer Financial Protection which will exist as an independent regulatory authority within the Financial Reserve. The Board of Governors of the Federal Reserve will fund the Bureau through earnings from the Federal Reserve, at a rate of 10% in 2011, increasing to 12% in 2013. If the Bureau's expenditures are reported in the federal budget as direct spending--as the CBO recommends--creating and maintaining the Bureau will cost $4.5 billion over the 2011-2020 period. The CBO estimates that the Federal Reserve will transfer 515 jobs to the Bureau of Consumer Financial Protection--which will ultimately be responsible for making that payroll. All told, the CBO estimates the the Bureau of Consumer Financial Protection will contribute $3.2 billion to the deficit during 2011-2020 period.

The bill creates a Federal Insurance Office within the treasury department to coordinate federal policy on insurance issues. This department will cost $9 million from 2011-2015.

Finally the bill creates a huge new entitlement to provide access to traditional banking services for those people who are currently using payday loans, non bank money orders, check cashing businesses and rent to own agreements. HR 4173 will subsidize access to banking services for these people who have traditionally been considered a poor credit risk at a cost of $248 million from the 2011-2015 period.

Tomorrow we will talk about the costs to the private sector.

Monday, June 14, 2010

The High Cost of Financial Reform--HR 4173 and the CBO

The title of this blog is "Paying for Protection: The High Cost of Financial Reform." Since the primary focus of reform has been HR 4173 and SB 3217, today we are going to focus on the costs of financial reform as it pertains to budgets, deficits, and the taxpayer.

On June 9, the Congressional Budget office released its cost estimate for HR 4173 (The Restoring Financial Stability Act of 2010) as passed by the Senate on May 20, 2010. A complete copy of the 30 page report is available at The first page summary reiterates briefly the changes that will be implemented as a result of HR 4173, and it makes clear that all costs involved in enacting this legislation are not included in the CBO scoring model. For instance, the summary states that HR 4173 will change the terms and conditions of the FDIC programs guaranteeing financial obligations of bank and bank holding companies when there is a liquidity crisis. The CBO cost estimate includes the cost of repealing the FDIC's current authority but not the costs for creating the new program authorized by HR 4173 since that program would be created by another piece of legislation which would be scored separately.

The CBO is also frank about the fact that passing this legislation is not a guarantee of no future crises. "Under the legislation, as under current law, there is some possibility that, at some point in the future, large financial firms will become insolvent and liquidity crises will arise, and that those financial problems will present significant risks to the nation's broader economy. The cost of addressing those problems under current law is unknown and would depend on how the Administration and the Congress chose to proceed when faced with financial crises in the future; they could, for example, change laws, create new programs, appropriate additional funds, and assess new fees. Depending on the effectiveness of the new regulatory initiatives and new authorities to resolve and support HR 4173, enacting this legislation could change the timing, severity, and federal cost of averting and resolving future financial crises. However, CBO has not determined whether the estimated costs under the act would be smaller or larger than the costs of alternative approaches to addressing future financial crises and the risks they pose to the economy as a whole."

A glowing endorsement indeed--a piece of legislation which will create massive new bureaucracy with unprecedented powers over businesses, "could change the timing, severity and federal cost of averting and resolving future financial crises." So how much is this bill which may or may not solve the problem going to cost?

According to the CBO estimate, HR 4173 will increase revenues by $12.1 billion over the 2011-2015 period and by $33.5 billion over the 2011-2020 period. During the 2010-2014 period, HR 4173 is estimated to increase direct spending by $19.7 billion and net deficits by $10.6 billion. Over the period from 2010-2019 the CBO estimates that enacting HR 4173 will increase direct spending by $46.9 billion and net deficits by $18.3 billion.

In addition, implementation of the bill will impose mandates on the private sector and the states as defined under the Unfunded Mandates Reform Act. For example, states will no longer be able to tax and regulate certain types of insurance. The CBO does not have enough information to calculate the exact cost to the states or to determine whether the costs would exceed the threshold provided for in the Unfunded Mandates Reform Act which was $70 million in 2010. However, where the private sector is concerned, the CBO states that the cost of HR 4173 on private businesses will "significantly exceed" the threshold established by the UMRA for governmental mandates on the private sector, which is $141 million in 2010, because according to the CBO's report, "the amount of fees collected would be more than that amount."

So we have a cost of "significantly" greater than $140 million in fees and costs to private businesses, and deficit spending of $18.3 billion to be covered by the American taxpayer for a new bill which may or may not "change the timing, severity and federal cost of averting and resolving financial crises." Tomorrow we will look at how all of that money is going to be spent.

Friday, June 11, 2010

Texas Home Equity Laws, Reasonable Oversight and Stable Property Values

This afternoon I closed a home equity loan. Going through the often tedious process of complying with the Texas Equity Law (the A6 law) reminded me of at least part of the reason that Texas property values have remained more stable than those in many other parts of the U.S. Texas has reasonable regulation and enforcement of those regulations which protect consumers against some of their most ill-conceived ideas while still allowing them the freedom to make choices about their financial future and their real estate.

Texas was the last state to allow homeowners to borrow the equity out of their home. Texas is a homestead state, and the homestead laws provide a special layer of protection for homeowners. For example, a married homeowner cannot purchase a primary residence, refinance a primary residence, or sell the residence without his spouse's signature. This can sometimes pose problems since if couple's separate without divorcing, one spouse cannot purchase or sell his primary residence without involving the other spouse. In cases where an ugly divorce is underway, often the party who wants to purchase a new home has to wait until his decree of divorce has been signed by all parties and then the judge, but in most cases of amicable separation, one spouse will sign the deed of trust so that the other party can purchase their home.

The homestead law not only protects the interests of both spouses by preventing one from entering into a contract on a primary residence without the other party's permission, it protects the homeowner by preventing creditors for taking the home because of non-payment of non-real estate related debts. In Texas, the mortgage company can take your home if you do not make the payments, the IRS can take your home if you owe back taxes, and the county property tax office can take your home for failure to pay property taxes. Other than that, you are fairly safe. A judgment filed against you by your business partner for the money you owe him from your failed venture will not cost you your home.

Because of these protections, Texas lawmakers were careful when they drafted the home equity law in 1998. The A6 law--which takes its name from its amendment number to the Texas Constitution--was designed to protect the homeowner from himself. The law mandates that no homeowner may borrow more than 80% of the fair market value of his homestead for an equity loan. Since the fair market value can be established only by an appraisal, even during the height of lax guidelines, no property which was being underwritten for a home equity loan could use an appraisal waiver option. The appraisal had to be presented to the borrower not later than at closing so that he would have proof of the fair market value of his home.

Lawmakers were concerned with equity stripping, so they established a provision that all fees, including origination fees, third party fees for credit reports, and surveys, lender fees, and title insurance and title fees, could not exceed 3% of the loan amount. This fee cap did not apply to discount points paid to the lender, and it did not cover prepaids for escrows for taxes and insurance, or prepaid interest on the loan. This provision made it more difficult to do loans under $80,000.00. However, yield spread premium--the spread on the interest rate--which is paid by the lender to the originator, was not included, so the originator could still be compensated for his work. Borrowers understood that a cash out loan would carry a higher interest rate than a non cash out loan, but they also understood that the fees rolled into their loan had to be contained in the 3% cap, so they did not have to worry about their equity being eaten up by excessive costs.

Most interestingly, Texas mandated a 12 day disclosure form which the borrower and his spouse had to sign at application. This disclosure form listed for the borrower his rights under Texas law. His loan would never have a pre-payment penalty; he could not borrow more than 80% of his equity; his fees would never exceed 3%. A Texas cash out loan is recorded on a home equity deed of trust, and if that loan is ever refinanced, it must be also refinanced on a home equity deed of trust. Whether the borrower is taking out additional cash, or just reducing his interest rate and term, the provisions and protections of the original equity note apply--he can never borrow more than 80% of the value of his house, his fees can never exceed 3%, and he can never have a pre-payment penalty. A Texas home equity loan can be refinanced only once a year, so the borrower has to wait one year and one day before obtaining a new loan--even if no cash is being taken out of the house. Further, foreclosures on Texas cash out loans are judicial foreclosures.

The 12 day disclosure started a 12 day cooling off period. Loan docs could not be signed until the 13th day, and then the borrower entered another 3 day federally mandated cooling off period. If at any time during the cooling off period he decided to cancel the transaction, all fees paid to the loan originator, including the appraisal fee, had to be refunded to the borrower in full.

I entered the loan origination industry in 1998--the first year of the law. In fact, my first mortgage origination was a Texas cash out. I had never seen so many forms in my life! As I got to know other people in the origination community, I heard a lot of complaints about the new law--other states allowed the borrowers to borrow 100% or more of their property values. (In New Mexico in 1998, a homeowner could borrow 125% of their home's equity in cash!) Many people complained that the new law was too strict and that borrowers who really needed cash would have to sell their homes because they were too restricted in the amounts they could borrow.

A few years later, the Texas legislators returned to make some changes to the A6 law in response to demands for home equity lines of credit (HELOCS) which were becoming increasingly popular around the country. Texas did allow HELOCS, but only up to 80% of the property's fair market value. And even as they added the revolving line of credit as a lending option in Texas, they also added some additional protections. Now, in addition to waiting through a 12 day cooling off period before signing loan docs, the borrower had to review his HUD 1 settlement statement of closing costs and his final loan application 1 business day before closing. No changes could be made to the application or the settlement statement after the borrower's review, so this eliminated the possibility of changing any fees at the closing table.

And while a homeowner could get a line of credit against his house, he could not take a sum of less than $4000.00 at any one time, and he could not have credit card for his HELOC. This eliminated the possibility of spending one's home equity on fast food or a weekend trip to DisneyLand. By making the minimum draw $4000.00 and prohibiting credit cards for accessing the HELOC, the state sent a clear message that the equity in an individual's home is not to be frittered away on impulse purchases.

During the height of the real estate boom, we read about many homeowners who tapped and utilized up to 100% of the equity in their home. In states like California, Arizona and Florida, the appreciation was so rapid that the equity replenished itself like a magic elixir. But in Texas, and specifically in my market of El Paso, we never had great appreciation. I counseled many disappointed borrowers from other states that in our market, the property values remained fairly steady and they could not expect to see much appreciation in their homes for the first several years of their note.

But today in 2010, the wisdom the Texas home equity protection is clearer. By protecting borrower's equity, lawmakers protected property values for entire state. By requiring that borrowers who were cashing out maintain at least a 20% equity in the property, the state did not enable borrowers to end up "upside down" in their properties. It would be interesting to know how many of the borrowers nationwide who are choosing "strategic default" as an option for dealing with the fact that they are in an upside down equity position are in that position because of home equity loans and lines of credit.

"Lead us not into temptation," is a line from the Lord's Prayer. The truth is that most of us do not have the willpower to resist the impulse buy on credit, and if protections are not in place, Aunt Martha's home equity will be spent on a series of afternoon shopping trips and lunch with the girls. But the other truth is that people need flexibility to access their equity when they have a legitimate need or a desire to do something that could potentially better their lives.

That is what reasonable well-planned oversight and consistent enforecment does--it provides boundaries. It gives consumers the freedom of choice while acknowledging that not all choices will necessarily be positive ones.

As Congress wrestles with financial reform, maybe it should be using Texas as a model. Without reasonable oversight, we have financial chaos and widespread irresponsible behavior for which in the end all of us pay. But excessive and burdensome regulation kills opportunity, choice and freedom. A well-planned, consistently enforced regulatory model creates an environment in which businesses can prosper and consumers can thrive, and that is the kind of reform all of us should embrace.

Thursday, June 10, 2010

Redeeming the Time--Understanding Fannie Mae Guidelines and Right of Redemption Laws

As the summer homebuying season heats up, a lot of first time home buyers and investors are going to be looking to take advantage of lower housing prices and historically low interest rates. To get the most bang for their buck, many of them are going to look at foreclosed properties. And with a new crop of ARMS expiring in 2010, and a number of homeowners choosing the "strategic default" option as a means of dealing with the loss of their home's equity, there are going to be a lot of options to choose from in the foreclosure market.

That makes it especially important to really understand the new guidelines from Fannie Mae regarding loans for foreclosed properties. These guidelines were published in the May 27, 2010, Seller Guide updates regarding property title defects with regard to foreclosed properties with a redemption period.

Twenty-five states now have a redemption period for foreclosed properties during which an interested party can redeem a home sold at foreclosure. The interested party does not have to be the former home owner--it could be an investor with an interest in the property. For instance, suppose that Ted and Jane bought their home using a 75% first lien through ABC Bank and the seller carried a second lien of 20% to bring the total financing to 95% CLTV. Five years into the note, Ted and Jane are foreclosed on. Normally in the case of a foreclosure, the second lien holder is the loser, but where a right of redemption exists, the investor can redeem the foreclosed property within the set period of time.

A homeowner can also sell his right of redemption to a third party. Then that person can utilize the right of redemption to buy back the property.

Right of redemption laws exist to help homeowners get their properties back if they so desire, but in reality the person redeeming the property has to pay back any principal due, plus interest and all other lender costs associated with selling the property. Short of winning the lottery, for most homeowners who have gone into foreclosure, raising that kind of cash is an impossibility. And for more financially solvent borrowers who have simply chosen to walk away from their homes because they are underwater--a strategy called "strategic default"--it is counterproductive to destroy one's credit and then buy back the property.

However, laws granting right of redemption periods do give the homeowner that right, and starting May 27, Fannie Mae will not be financing these properties until the right of redemption has expired. According to the seller guide, "Unexpired redemption periods create an unacceptable title defect on the subject property, and do not conform to the existing policy that requires the property to have 'good and marketable' title. As such, Fannie Mae is clarifying the Selling Guide to state that properties with unexpired redemption periods have unacceptable title defects. Therefore, these mortgage loans are not eligible for delivery to Fannie Mae until after the expiration of the redemption period. The purchase of additional insurance, a redemption bond or similar coverage during the redemption period does not remedy the title defect and the mortgage loan remains ineligible for delivery to Fannie Mae."

When working with a foreclosed property, you now need to know the specific redemption laws of each state in which you work. Texas does not offer a redemption period--our state laws offer numerous homestead protections to the homeowner up front, and our state leaders apparently feel that the protections offered in the way of homestead rights are sufficient. New Mexico does provide a 30 day redemption period. California's redemption period is three months but if the property has not been sold for enough to cover the debt owed against the property the redemption period becomes one year, and Tennessee's is up to 2 years unless the redemption period has previously been waived.

That is one of the problems with redemption laws--they can vary widely based on state, and the amount of time alloted can be a moving target. Some states begin the redemption period from the time the foreclosure notice is filed; other states begin from the time that the foreclosure takes place. Still other states give the courts the right to review the foreclosure to make sure that the sale was fair.

Bear in mind that although this new change is a Fannie Mae Guideline, since both agencies are in conservatorship, Freddie usually follows suit with Fannie changes. And since the possibility of redemption does exist in those states that allow it, we could see similar guidelines being imposed on by all lenders. By preparing the eager borrower of the foreclosed property upfront, everyone in the process can save themselves a lot of stress.

Wednesday, June 9, 2010

The River is Still Rising

On May 11, this blog was devoted to the lapses in coverage for the National Flood Insurance Program. NFIP's funding has to be authorized by Congress, and it has experienced several lapses this year alone, including a 20 day lapse in April. The program had been refunded through May 31, 2010, pending votes on HR 5114 by Maxine Waters (D CA) and its companion bill HR 5522 offered by Barney Frank (D. MA). These two bills would reauthorize the flood insurance program through 2015 and provide for expanding mandatory coverage for homeowners who are currently living in zones that have been remapped by FEMA as flood zones. These homeowners have not been required to pay flood insurance in the past, but they will be required to obtain this coverage going forward.

As of May 31, 2010, Congress had not reauthorized funding for NFIP, so the flood insurance program is again defunded, and no new flood insurance policies can be issued. Now 9 days into June, during the peak of the homebuying season (which is traditionally Memorial Day to Labor Day) this inability to close loans on properties which require flood insurance is certain to put a damper on summer sales. Congress estimates that for each day that NFIP remains unfunded, 1400 buyers are unable to close on their homes nationwide. I do not know whether this figure is adjusted seasonally, since certainly the real estate industry is subject to seasonal cycles, but assuming that the 1400 homes figure does not need adjustment, 12,600 buyers would have failed to close in this 9 days alone.

FEMA's website has guidance posted for dealing with the lapse of funding for NFIP, including an FAQ section. Basically, a person who had his application for flood insurance submitted and approved can be covered--anyone who did not will have to wait until Congress reauthorizes the program. The FEMA FAQs state that there is normally a thirty day waiting period for flood insurance to go into effect, but if the flood insurance is being obtained in connection with a loan, there is no waiting period. For policies that have a waiting period, if Congress funds the NFIP retroactively, the waiting period would begin May 31. Claims will be paid on existing policies during the program hiatus.

Why would Congress allow funding to lapse on such an important insurance program at just the time of year when its absence would be felt the most? Probably because rather than just tying funding to another bill, as they have the last few times that they have authorized additional funds for NFIP, Congressional leaders are hoping to secure passage of HR 5114. The Congressional Budget Office completed its cost estimate of the new bill on May 17, 2010, and the results are available on line at the CBO website.

FEMA requires flood insurance for properties located in areas which have a 1% or better chance of flooding. Under the current law, about 20% of the flood insurance policies are subsidized at about a 60% discount because the properties were constructed before the community flood insurance maps were written, or before 1975.

According to the CBO report, Congress established the National Flood Insurance Fund as the only source to play claims and other expenses associated with the National Flood insurance program. In addition to raising money through premiums, fee income, and earned interest on fund balances, the National Flood Insurance Fund has the authority to borrow from the US Treasury (up to $20.775 billion). However, because of the 2005 hurricane season, the NFIP owes $18.75 billion to the treasury as of May 2010. (This is interesting because the paragraph 3 of HR 5255 states that "several years of below average flood claim losses and increased voluntary participation in the National Flood Insurance have allowed the program to fully service the debt incurred following Hurricanes Katrina and Rita and allowed the program to pay $598,000,000 of the principle of that outstanding debt." That sounds impressive unless you understand that the debt repayment is less than 5% of debt itself.)

HR 5114 will authorize the National Flood Insurance program for an additional 5 years, so upon passage there should be no more lapses in funding until 2015. As of January of 2010, NFIP had 5.6 million policies in force and receives about $3.2 billion in premiums. HR 5114 will bring some extra funds into the coffers by doing the following:

Increasing premiums for policyholders who are currently paying discounted premiums; gradually implementing and increasing premiums for homeowners who are in recently remapped flood zones; increasing the deductible for some policyholders; increasing the limit of average annual premium growth; increasing the maximum coverages for structures and contents and introducing new lines of coverage. The bill will also increase civil penalties from the current rate of $350 to 2000 per violation for lenders who do not enforce NFIP purchase and notification requirements for mortgagors and will increase the maximum penalties which can be levied against a financial institution in one year from $100,000 to $1,000,000, with no limit for any institution fined at the maximum level for three out of the previous five years. These fines and penalites alone are estimated to bring in an additional $1,000,000 per year.

By increasing deductibles, the CBO estimates that the bill will reduce claims by less than 5%. By raising premiums, the CBO estimates that the bill will increase income by $2.8 billion from 2011-2020, and if the increased premiums cause some policy holders who are currently having their premiums subsidized to let their policies lapse, the CBO estimates that this will result in a net savings to program costs of $50 million a year over the next 10 years. That $50 million a year being saved because homeowners dropped their policies can in turn be used to pay for the outreach program that FEMA will be starting to "encourage and facilitate the purchase of flood insurance coverage by property owners and renters and to increase public awareness of flood risk retention." This new outreach program will cost an estimated $222 million over the 2011-2015 period.

NFIP is going to incur some other new expenses in addition. HR 5114 authorizes $476 million dollars between 2011 and 2015 for mitigation and outreach and to establish the Office of the Flood Insurance Advocate, which will operate at an estimated cost of $23 million over the next five years. Why does every new federal bill create and fund another government agency? HR 5114 would authorize FEMA to undertake studies and issue reports on the national flood insurance program which are estimated to cost about $1 million in 2011. FEMA will have up to $40 million a year to extend its Severe Repetitive Loss Mitigation Pilot Program to provide grants for up to 75% (in some cases 90%) of the cost of projects to reduce flooding to areas that have flooded at least four times in history or received two payments that exceed the market value of the structure.

Finally, HR 5114 will create another mandatory disclosure. The bill will require mortgage originators to include specific information about the availability of flood insurance on each good faith estimate. (That way the borrower can see how much flood insurance would cost, whether they are required to have it or not.)

Overall, the CBO estimates the changes in HR 5114 will increase net income to the National Flood Insurance Program by $3.2 billion over the next ten years, but they also estimate that these funds will be spent on claims, so while the NFIP will look a little better financially than it does today, it apparently still will not have the money to pay back all of the $18 billion dollars in loans still owed to the U.S. Treasury.

Tuesday, June 8, 2010

Just When You Thought It Was Safe to Go Back in the Water

With the homebuyer tax credit ending at the end of this month, and the summer home buying season kicking off, many home buyers are looking to take advantage of lower housing prices and historically low interest rates. But many unsuspecting borrowers are going to get caught in new, even stricter underwriting guidelines being implemented by Fannie Mae starting June 1.

According to Fannie Mae's FAQ's posted on May 28,2010, the new Loan Quality Initiative is necessary because "in recent months we have seen a large portion of Fannie Mae's postpurchase file reviews with material differences between the loan data delivered to us and the actual facts of the loan (differences caused by data mismatch, calculation errors or other inaccuracies)."

Of course, in reality Fannie Mae is still dealing with losses from 2005, 2006 and 2007, and both Fannie Mae and Freddie Mac are bleeding red ink. As of May 25, 2010, Fannie and Freddie had received $145 billion in aid from the U.S. Treasury, and Edward De Marco, acting director of the Federal Housing Finance Agency, gave a report to Congress that more funds are needed in order to shore up the entities.

To prevent additional losses, Fannie Mae seems to be now placing the emphasis on guaranteeing fewer loans. The Loan Quality Initiative is a new overlay of scrutiny being applied to Fannie Mae loans to verify that no new debt has been acquired from the time of application to the time of the closing.

Back when I started in lending 12 years ago, discrepancies between the broker's credit report and the lender's credit report used to be a major source of problems. The broker would pull a trimerge credit report (one that accesses three credit reporting agencies) and think everything was fine, and then the lender would pull their own report which often looked quite different, and the entire loan would change. But with the advent of automated underwriting systems, the broker could pull a report, upload it to the automated system, and the credit report was valid for up to 90 days (at one time it was 120 days) so that no new pulls were necessary and everybody knew what credit score was being used for qualification.

Unfortunately, now we are regressing back to the old days of two credit reports. According to the Fannie Mae FAQ's, "The lender is responsible for implementing practices to identify undisclosed liabilities in a transaction. It is the lender's responsibility to develop and implement its own business processes to support compliance with Fannie Mae's requirements on loans delivered to us. Although many lenders already have such processes in place, Fannie Mae provides lender tips on for compliance." Fannie Mae's suggestions for compliance with the loan quality initiative include the following:

1. Pulling a new credit report just before closing and reviewing the report for additional trade lines and new inquiries. (Fannie Mae states in a footnote that credit reports are still good for 90 days and that pulling a credit report just before closing does not let the lender off the hook for any additional debt incurred up to closing.) However, if the lender chooses to pull a new credit report, they must qualify the buyer with any new debt that appears on the report.

2. Utilizing new vendor services for borrower credit report monitoring from the time of loan application to closing to alert the lender if any new inquiries have occurred. For example, if Ted and Jane go out over the weekend to Furniture Mart to look at bedroom suites for their new home, and they allow Furniture Mart to do a credit check, the lender is going to need to know about it, and the inquiry will trigger a request for more information.

3. Direct creditor verification. If Ted and Jane get that credit check at Furniture Mart, the lender needs to verify with Furniture Mart directly that no additional credit has been opened. If the lender finds out that they actually purchased the bedroom suite over the weekend, then Ted and Jane now need to qualify with the new payment.

4. Running a report to verify that the borrower has not taken out another mortgage simultaneously. This would normally be an issue only with an investor who is purchasing multiple properties. When he closes the mortgage on one of the properties, it would trigger an alert.

The new system of verifications is going to give a whole new meaning to the phrase "buyer beware." In the new world of tightened credit guidelines, Fannie Mae typically does not allow debt to income ratios of over 45%, although ratios of up to 50% can be acceptable with enough reserves. For loans with mortgage insurance or second liens, debt to income ratios typically cannot exceed 41%. Since reserve requirements can vary depending on the product--for example, a person who already owns a home which is going to become a rental needs six months of principal, interest, taxes and insurance to cover the payments on the previous home and the new home, and since retirement accounts can no longer be used for reserves unless they have been liquidated, cash in the bank is more important than ever. For this reason, if the borrower who is having to wait 60 days for his loan approval has to take the car to the mechanic to get the brakes fixed, he would probably charge that work to his credit card after being warned by his loan originator not to spend any cash. But now, that brake job may still cost him the loan for his house, because it might raise his minimum monthly payment just enough to keep him from qualifying. (I have seen loans where ratios really are that tight.)

And even if the new debt is not sufficient to derail the loan, inquiries and higher balances on credit reports can lower credit scores. Since 30 year fixed interest rates are now based on credit scores, lowering a score one point could raise the interest rate .5%. Interest rates are based on 20 point credit score intervals, so a credit score of 660-680 has a higher interest rate than a credit score of 680-700. If the borrower has a 681 score at the time of the initial application, and he is locked in at a 4.99% rate, but then the final credit score in the second report is 679, his rate could go up to 5.25%. (And the higher monthly payment on the mortgage could keep him from qualifying.)

Buyers need to be counseled carefully at the time of application and at the time of contract to not use their credit cards at all, and to not apply for any new credit, no matter how tempting the offer. With new strict guidelines governing nearly every aspect of the mortgage loan process, the underwriting and closing turn times are longer than in the past. The new guidelines from Fannie Mae mean that at the very least, a final credit check can trigger a file going back to underwriting which can delay the process another week and result in a ready to close file being declined at the eleventh hour, or the borrower closing on a final loan which has less favorable terms than the one for which they were initally approved. And, in an era of supposedly protecting the consumer, that is the real irony of all of the new changes.

Monday, June 7, 2010

How Will Financial Reform Affect the Future of HVCC?

As the two financial reform bills (HR 4173 and SB 3217) go to conference committee this week, one of the major questions on the minds of those in various aspects of the real estate industry is how the bills will ultimately affect the future of the HVCC (Home Valuation Code of Conduct).

The Home Valuation Code of Conduct was the outgrowth of a settlement between New York attorney general Andrew Cuomo and Fannie Mae and Freddie Mac. Cuomo agreed to drop an investigation against the two mortgage giants if they would agree to accept the code. HVCC went into effect of May of 2009 and has presented a number of challenges for the industry ever since.

HVCC was supposed to guarantee appraisal independence by banning mortgage loan originators from ordering appraisals, choosing appraisers, or speaking to appraisers directly. Retail banks can have a separate department that is not compensated based on loan volume order the appraisals, but the code expressly states that no mortgage broker or employee of a mortgage broker can order an appraisal.

In order to ensure compliance with the code, the appraisal-ordering process was turned over to appraisal management companies who take down the order, charge the loan originator for the appraisal, select the appraiser, handle all interaction with the appraiser, and send the completed report back to the loan originator.

The problems arose as AMCs hired out of area appraisers who did not understand the real estate market, undervalued houses, and refused to acknowledge errors or look at different comps. The costs also rose for the consumer (in some cases dramatically) since the AMC added its fees for managing the process to the fees of the appraiser who was actually doing all of the work.

Both mortgage brokers and many appraisers have opposed the provisions of the code, and widespread industry opposition has led to lobbying efforts to include a "fix" in the financial reform bill. In fact, the house bill, HR 4173, section 4312, specifically deals with the Home Valuation Code of Conduct and appraisal independence issues. Under the provisions of the house bill a negotiated rulemaking committee would be set up to review and set in place new standards for appraisal independence. The Negotiated Rulemaking Committee: "shall not prohibit lenders, the Federal National Mortgage Association (Fannie Mae) or the Federal Home Loan Mortgage Corporation (Freddie Mac) from accepting any appraisal report completed by an appraiser selected, retained or compensated in any manner by a mortgage loan originator" (provided that the originator is properly licensed under the SAFE ACT). The bill also mandates appraisal independence, sets clear guidelines for maintaining the autonomy of appraisers and seeks to enforce, "state or federal laws that make it unlawful for a mortgage originator to make any payment, threat or promise, directly or indirectly, to any appraiser of a property, for the purposes of influencing the independent judgment of the appraiser with respect to the value of the property, except that nothing in this section shall prohibit a person with an interest in a real estate transaction from asking an appraiser to consider additional appropriate property information; provide further detail, substantiation or explanation for the appraiser's value conclusion, or correct errors in the appraisal report." The bill also covers appraiser compensation, which has become a huge issue since HVCC was enacted. Once appraisals on loans which were sold to Fannie Mae and Freddie Mac had to be ordered through third party AMCs, the AMCs could dictate how much money appraisers were paid. HR 4173 does address this issue, and states that "lenders and their agents [must] compensate appraisers at a rate that is customary and reasonable for appraisal services performed in the market area."

Effective on the date that the new rules are introduced, the problematic Home Valuation Code of Conduct will no longer remain in effect.

While the House bill spells out this section very clearly, the Senate bill ignores HVCC and appraisal independence totally, so it will be up to the conference committee to see whether the final bill includes the verbage from section 4173 or whether the current Home Valuation Code of Conduct is allowed to stand. But regardless of what happens in conference for the final bill, HVCC's days are probably numbered. The reason? HVCC is not federal law--it was a legal agreement among Fannie Mae, Freddie Mac and the attorney general of New York. Loans that are not sold to Fannie Mae and Freddie Mac are not governed by the agreement, although most lenders do require the use of AMCs on all loans now. And the Senate Bill does call for a study of exit strategies for Fannie Mae and Freddie Mac to be completed no later than January of 2011. Barney Frank and Tim Geithner have both stated that a whole new system of housing finance needs to be introduced. That new agency, whatever it turns out to be, will not be bound by HVCC; it will be subject to whatever laws and guidelines are set in place by its creators. So for everyone who is hoping for an end to all of the problems caused by HVCC, help appears to be on the way--one way or another.