Why Haven’t Loan Officers Been Told These Facts?
RESPA – The Revised Guidance on Promotional Activities
The Loan Officer School Journal does not provide legal advice. Instead, our goal is to spotlight matters of importance in the loan manufacture.
Competition is always fierce in the mortgage business. The ability to build and maintain relationships is challenging. Promotions, gift-giving, and similar interactions are effective means to gain a seat at the table. Successful marketing often starts by gaining the attention of prospective customers. However, the Real Estate Settlement Procedures Act of 1974 aims to keep mortgage-related service providers honest. Since mortgage financing is a high-stakes game and consumers are vulnerable, Congress wanted to preserve competition and transparency with the referral process. A referral is a positive affirmation differing from a lead. Positive affirmations under RESPA are akin to endorsements. The complexity of real estate purchase and mortgage financing is what propels consumers into the care of professionals. The consumer’s trust or dependency on real estate professionals (including MLOs and Settlement Agents) makes the consumer vulnerable to conflict of interests and hidden double-dealing.
Recapping last week’s discussion; gaining the attention of prospects is not prohibited by RESPA Section 8. What Section 8 prohibits is the exchanging of a thing of value for a referral.
Compliance professionals often differ when prescribing practices commensurate with an organization’s risk tolerance. RESPA compliance overlays are typical, such as the guidance counseling that if the value of the promotional activity or gift is less than $25, the gift is not a thing of value. This is a false notion because there is no exception to RESPA Section 8 prohibitions solely based on the value of the gift. So then, where is the line that divides compliant promotional activities from violations?
MLOs frequently use promotional activities to give back to the real estate community. Or, like in any business, lenders use promotions in the hopes of gaining or maintaining business relationships. Frequently, MLOs target particular stakeholders for preferential treatment, being extra generous to some but not to all. For example, they are using promotional activities to reward or thank referral partners for business. For every closing, the MLO provides a guest pass to their country club. This quid pro quo is noncompliant.
Promotional activities are lawful under Regulation X. However, there are gray and some black and white areas. Exchanging a thing of value for a referral violates Section 8. Common examples of items that may constitute a thing of value include:
- Professional sporting events
- Restaurant meals
- Sponsorship of events
- An opportunity to win a valuable prize in a contest
Though it is not always apparent what is and is not compliant, it is possible for lenders to leverage things of value in a compliant manner. However, because of compliance uncertainties, compliance management should begin with risk assessments. For example, failure to compete is a threat risk. Section 8 noncompliance is a threat risk. How should one balance the two?
How then can lenders and Mortgage Loan Officers (MLOs) use promotions to market their business? Regulation X allows “normal promotional and educational activities” directed to a referral source in light of two conditions or tests.
As detailed last week, the first test describes patterns that indicate the exchange of a thing of value for a referral. In other words, it may not be so much a single event or occurrence that defines a violation but more of an ongoing practice. Furthermore, in tandem with the frequency of the exchange is the exclusivity of the promotion. For example, after every closing, the MLO provides the buyer’s agent their choice of the lender’s Yankee seats or a Broadway play. Thus, the qualities of frequency and exclusivity surrounding the exchange are prominently in view; a thing of value for referrals. Giving away tickets is not the problem. It is the apparent exchange of a thing of value for referrals that is the issue.
The second test determines if promotional and educational activities involve defraying expenses incurred by persons in a position to make referrals. Would the promotional item or activity involve a good or service that the referral source would otherwise have to pay for themselves? For example, suppose the lender sponsors mandatory continuing education for a real estate company. Unquestionably, the lender is paying for the costs of mandatory education that the potential and actual referral sources would otherwise need to pay. Likewise, paying for the referral source’s office supplies branded with the referral source’s name, contact information, or logo defray expected marketing costs.
Promotional activities that may provide something of value yet do not defray normative business costs likely to be incurred by the referral source may fall under the rubric of normal promotional and educational activities. For example, a lender hosts a one-time-only drawing for a 10 foot stuffed Gorilla. The lender broadly announces the drawing so that most real estate companies would be aware that the lender makes the promotion equally available regardless of any relationships. Whether real estate agents have, have not, or will refer business to the lender, the lender enters these parties into the drawing. There is no exclusivity in this case, and the thing of value is unlikely to defray the business costs of referral targets.
In another example, suppose an MLO routinely invites real estate agents to lunch and pays for the entire tab? That is possibly one of those gray areas. However, if the MLO conditions the event for a referral, that is noncompliant. For example, the MLO says, “I’ll pick up the tab if you promise me your next referral.” In that case, the promotion’s provider ties the promotion to referrals.
But what about taking out real estate agents for lunch as a means to establish rapport, to get to know each other? Here the frequency could be a factor. Is buying the agent’s lunch a rare thing? Not to mention, getting real estate agents to send MLO’s business is hardly as simple as taking them out for lunch. If the MLO has lunch with agents that do not send referrals and agents that do, that could indicate that the promotion is not tied to referrals. Picking up a lunch tab may defray a cost. However, for most real estate agents, there is no necessity to go out for lunch. Consequently, treating someone to the occasional lunch out might not provide sufficient patterns related to frequency or exclusivity that might be interpreted as exchanging a thing of value for referrals.
Next week’s Journal will look at a few more common practices and see if it is possible to apply these two tests to typical promotional activities.
Behind the Scenes
Gentrification in the Mortgage Market?
Profits, profits, profits. Our capitalistic economy and way of life run on profits, which is good unless you lean socialist or communist. In the USA, all things being equal, homeownership is a hedge against asset and income poverty. Education is important, but education or not, it is better to be a homeowner than a renter. Despite the 2008 era black-eye, homeownership has been and continues to be a primary engine for wealth-building among the dwindling middle class.
Residential housing and homeownership opportunities are so central to the wellbeing of this nation that the Federal Government sponsors the mortgage industry to promote homeownership stability, access, and equality. Hence, it is appropriate that the Federal Government practice policies that foster balanced homebuying opportunities. To be sure, the Government Sponsored Enterprises (GSEs) and everyone else is entitled to make a profit. Yet, it seems unfair to use the power of the Federal Government and even taxpayer dollars to support any stakeholder’s unbridled short-term profit-seeking at the expense of home buying opportunities for Low-Moderate-Income-Households (LMIH).
History often judges a society by the way it treats its most vulnerable or least powerful members. To illustrate this maltreatment of the vulnerable is the steady declines in Government guaranteed lending and a deemphasis by the GSEs in LMIH programs exacerbating the national wealth gap. Some might postulate, “if the peasants have no bread, let them eat cake,” but that is not how the USA should work. Keep in mind, the intent or motivation of those that unintentionally or otherwise diminish homeownership opportunities may not be the issue. It’s unfathomable that by design, stakeholders would intentionally keep vulnerable people from sustainable homeownership. Although, one can’t underestimate the corrupting effects which stem from the love of money. Moreso perhaps, the problem is indifference, or put another way, the failure to love thy neighbor.
Furthermore, as much as the least of our countrymen suffer inequalities in wealth-building opportunities and the pursuit of happiness, we all suffer along with them. The current barriers to entry-level opportunities mean that our housing markets, little by little, grow sicker and sicker. The argument for greater Federal support of LMIH mortgage opportunities is not for socialism or wealth redistribution. The argument supporting LMIH mortgage financing and equal opportunities are for healthier and more sustainable housing and mortgage markets.
All the talk about race relations and equal opportunity is a dominant national discourse and a good one. Yet, why on earth isn’t there more conversation about more apparent tools in the fight against wealth disparities and other disabling challenges resulting from the wealth gap problem? As the dissonance between the voices of the haves and have nots grow, it seems sustainable homeownership and the tools to overcome homeownership barriers have become fringe issues.
You might be wondering, what does race have to do with mortgage discrimination? You might ask, why would someone in the mortgage business discriminate against anyone? Aren’t they throwing away income? They may well be. But short-term profits are a honeytrap. As an illustration, on average, would you think MLOs earn the same commissions regardless of the applicant’s race, sex, or ethnicity? At the loan level, yes. In the aggregate, probably not.
Lenders and MLO’s can make profits in many ways. The short road to higher profit lending is funding higher loan volumes. Lenders achieve higher loan volume by increasing the number of funded units or boosting the average loan size. More units at lower profits per unit are less efficient ways to improve profits. By focusing on higher-margin larger loans, lenders achieve more immediate and greater overall margins and profit per unit—especially when compared to LMIH programs, where unit profits are significantly lower than higher-balance loans.
Congress chose to ban incentivizing or paying MLOs based on the profitability of the loan. Indeed, on the surface, the amendment is an excellent change to the Truth In Lending Act (TILA). Granted, the compensation constraint is probably a reasonable response to the pre-Dodd-Frank steering epidemic. Yet, the TILA amendment excludes one crucial incentive based on the “term”: the loan amount. Regulation Z states (12 CFR 1026.36(d)) Prohibited Payments to Loan Originators, “The amount of credit extended is not a term of a transaction or a proxy for a term of a transaction, provided that compensation received by or paid to a loan originator, directly or indirectly, is based on a fixed percentage of the amount of credit extended; however, such compensation may be subject to a minimum or maximum dollar amount.” Therefore, there is a profound incentive to originate higher-balance mortgages instead of low-balance mortgages. But wait, again, how does excluding loan size as a transaction term impact folks along racial, sex, or ethnic lines? And what is wrong with focusing on bigger profits from bigger mortgages?
Perhaps some background on national demographics might help. People of color overrepresent LMIH in the USA. Therefore, people of color could overrepresent the consumption of LMIH loan programs. On the other hand, white folks overrepresent larger and generally more profitable mortgages. Therefore, the failure to pursue less profitable LMIH programs with the alacrity such as demonstrated when chasing more profitable loans has a disparate impact on LMIH and, consequently, people of color. But, you might ask, can’t lender’s walk and chew gum at the same time? Yes, they can, but some don’t, and that is a problem. The focus on higher-margin loans to the extent that the concentration of efforts diminishes or excludes less profitable lending endeavors ultimately discriminates against LMIH. Discrimination in favor of non-LMIH lending means lesser products and services for LMIH, which has a more burdensome effect on people of color. Here lies the quandary. Choose either a myopic focus on margins that overshadows the ethical and legal responsibilities that lenders and MLOs must bear as THE facilitators of mortgage credit. Or recognize that the mortgage industry must take this challenge of equal credit opportunities seriously. If not, the industry risks having the freedom to serve as we are led, ripped from us.
As the immediate and long-lasting impact of diminished homeownership opportunities for LMIH worsens, the national struggle to overcome the wealth gap also worsens. Sadly, we are losing this fight. Unfortunately, there is no shortage of politicians and other stakeholders politicizing the wealth gap in the USA. Yet, the political hacks are quiet about the increasing gentrification of the mortgage market aggravating the problem. Maybe some are beholden to special interests (we need a Section 8 rule for our political leaders :)). Maybe homeownership is unsexy or makes a poor sound bite? Compounding matters is the federal Government’s ham-handed management of affordable housing prerogatives and two-fisted debt purchasing to float the rich and powerful.
Truly, affordable Housing got left in the wake of the recent Federal Reserve’s crazed purchasing of Mortgage-Backed Securities (MBSs) and other debt. In the early days of the pandemic, March 2020, the Fed authorized purchasing MBS at “reasonable” prices of up to 75 billion a day to shore up mortgage and bond prices! Compare that to the Feds intervention back in 2008 of 60 billion a month. Or what about the Fed’s Secondary Market Corporate Credit Facility – buying “A” paper corporate bonds to keep the interest costs down for Wall Street titans? They’ve created a financial Frankenstein. The Fed is unloading these corporate bonds in an unholy alliance with Wall Street giants Payden & Rygel, Black Rock, and State Street Bank. Good thing they have us little people in mind! The Fed significantly contributed to our inflationary environment, including runaway real estate prices and a lack of entry-level housing in buttressing the financial markets. In comparison, supply-side economics looks like a parlor game compared to the Fed’s unrivaled power to manipulate the financial markets on behalf of the very rich and powerful. However, the Federal Reserve should not be about making the rich richer at the expense of the poor. But sure enough, things are getting worse for LMIH buyers, not better. Despite all the yack attacks from the usual stakeholders, the Federal Government and its proxies effectively broaden the wealth gap and weaken the housing market on its current tack.
If you are interested in being part of the solution to the wealth gap, tune in next week as the Journal unpacks how MLOs can lead the way in answering the challenge of more outstanding LMIH lending. And join us for 2021 CE as we unpack nontraditional credit (alt-credit).
Tip of the Week
The Prospect Buying Processes
Getting Across Home Plate
To recap, in last week’s Tip of the Week, the Journal stressed the importance of emotions to the buying processes. Sticking with the baseball metaphor, the Third base represents the buyer’s perception of the MLOs value proposition.
In this article, we have bifurcated the value proposition into two discrete concerns. Firstly, the intrinsic goodness of the mortgage presentation. Secondly, how the applicant perceives and evaluates the goodness of your mortgage solution. We shall save the rudiments of an effective loan presentation for another day. In this issue, the emphasis is on emotional awareness, how the prospect perceives and evaluates the mortgage proposition.
Emotions are the essential filter your prospect uses to interpret your value proposition. Therefore, maintaining or building positive emotions is the task at hand.
Assume you have rounded the bases—building rapport on First Base. Then, after establishing professional competency for the job and instilling a sense that you shall do the prospect no harm, you get to Second Base. And finally, by building and maintaining the prospect’s positive emotions AND your own, we land on Third Base.
From Third Base, getting across Home Plate naturally follows. Closing or the sum of the many buying decisions is as natural as the sun rising in the east. While there are many beautiful techniques to nudge the prospect forward from Third Base, it should be just a nudge to Home. Contrast that with an ungainly shove. If it feels like you’ve got to shove someone into next week, chances are you haven’t got to First or Second Base. The close is a nexus – the sufficiency of the mortgage presentation coupled with a generally positive emotional state. Add the little buying decisions the prospect makes when rounding other bases, and you have a sale.
Always provide the prospect with no less than three discrete mortgage solutions. One should always include a rate trade-off for premium. It is a fact that the closing is elusive if, in the presentation, the prospect has only a single mortgage “option” to “choose.” Here you have the ham-handed single solution – what is decried as “order taking.” Folk’s, there ain’t no choice if there ain’t no options. The single option invites or even propels the prospect to look elsewhere for their mortgage.
Compare the ham-handed single solution to the natural closing. Here, in the natural closing, the prospect has at least two if not more options (though not necessarily at the same time) from which to choose. The prospect needs to smell the peaches to compare and select the choice fruit. Thus, to an extent, prospects who need to shop for their mortgage are mollified by a comparative product assessment.
Mortgage selection is a big decision. The prospect should feel they have invested adequate time in analyzing their options. Of course, the sale is dependent on the mortgage solutions. But we’ll save the fuller discussion on mortgage presentation for another issue of the Journal.
The current article was substantially inspired by the book, The Science of Selling by David Hoffeld. So do yourself a favor, read the book.
2021 CE – Sneak Preview
Would you like to know more about originating Nontraditional credit applications? What keeps MLOs from expanding their products and services? Are heebie-jeebies or, in a word, product or process complexity keeping you from expanding your mortgage repertoire? Apprehension, disquiet, and fear may ensue when you feel like you don’t know what you are doing. Add to that the specter of applicants, real estate agents, and your peers judging you as unprofessional and incompetent. So who wants to get on that bus? No worries – its just like learning to ride a bike.
What makes for complexity? Some things are intrinsically complex. But in mortgage lending, that is usually not so much the case. Moreso, a lack of familiarity, expertise, and appropriate support make for complexity in mortgage manufacture. How then can an MLO navigate the complexity of new implementations? The first step is a simple high-level overview. If you’d like to learn more about nontraditional credit applications, come on down to LoanOfficerSchool.com for your 2021 CE and a high-level review of nontraditional credit financing.