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Jack M. Guttentag The Mortgage Professor

Jack M. Guttentag, The Mortgage Professor

Preventing YSP Abuse: Part II

by Jack M. Guttentag

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Posted on Wednesday, December 5, 2007, 12:00AM

One of the important objectives of The Mortgage Reform and Anti-Predatory Lending Act of 2007 (HR 3915), which passed the House of Representatives Nov. 15, is to prevent YSP abuse. Will it? 

YSP abuse, as explained in my previous column, arises when mortgage brokers steer borrowers into high-rate loans on which the broker collects a rebate from the lender without the knowledge of the borrower.

To eliminate abuse, I suggested a simple and easily enforceable rule that would help the naïve as well as the informed borrower. The rule is that lenders must credit all rebates to borrowers. The borrowers would then have to authorize the payment to brokers.

Preventing Abuse but Eliminating Brokers

The first version of the bill that I looked at would indeed have prevented YSP abuse, but it also would have eliminated mortgage brokers. The version passed by the House, modified after inputs were received from brokers, would not put them out of business, but neither would it prevent YSP abuse. Section 123b1 reads as follows:

"AMOUNT OF ORIGINATOR COMPENSATION CANNOT VARY BASED ON TERMS- No mortgage originator may receive from any person, and no person may pay to any mortgage originator, directly or indirectly, any incentive compensation, including yield spread premium or any equivalent compensation or gain, that is based on, or varies with, the terms (other than the amount of principal) of any loan that is not a qualified mortgage..."

Let's start with the clearest part of this statement, which is the last phrase. Whatever restrictions are called for, they will not apply to qualified mortgages. A qualified mortgage, as defined elsewhere in the bill, is one with an interest rate that is no more than 3 percent above the comparable Treasury rate, or 1.75 percent above the average conventional rate.

This indicates that the framers of the bill believe that YSP abuse is a problem only for the highest-rate loans, which is absurd. The problem cuts across the entire market. Indeed, high-rate and high-cost are not the same thing; a loan with a rate only 2 percent above the average could be loaded with superfluous fees and charges.

Will the restriction on incentive payments at least eliminate YSP abuse on the high-rate loans to which it applies? The bill says that originators (which include loan officers employed by lenders as well as mortgage brokers) cannot be paid more on high-rate loans than on low-rate loans. Since YSP abuse is exactly that, this provision is right on target. It defines YSP abuse accurately, and declares it to be illegal.

An Unenforceable Provision

Unfortunately, this provision is unenforceable. The standard for determining whether compensation on a high-rate loan is excessive is the compensation received on a low-rate loan, which is unknown and in many cases unknowable. Originators collecting YSP on high-rate loans don't report what they would have charged on low-rate loans.

To enforce this rule, regulators would have to do a statistical analysis of the originator's charges on different loans so as to determine whether or not compensation is higher when a loan involves YSP. This is not feasible because there are too many originators and not nearly enough regulators. Even if it were feasible, it won't work for brokers who get paid only from YSP, which is very common, and it won't work for loan officers employed by lenders who originate at their own risk, for whom there is no YSP.

Indeed, the only originators who would leave a trail for the enforcement police would be the brokers who give their customers the choice of whether they want to pay the broker out of pocket or have the broker paid with YSP. Because these brokers offer borrowers a choice, fees will be shown with and without YSP, allowing a statistical analysis of whether there are any differences. There won't be, because these are the good guys. The bad guys will be beyond reach.

In contrast, a rule requiring lenders to credit rebates on high-rate loans to borrowers, who would have to explicitly authorize its payment to the brokers, would impact all brokers alike and impose no onerous enforcement burden on regulators. Indeed, because wholesale lenders would welcome such a rule, there would be no regulatory burden at all. Poof, YSP abuse would disappear overnight.

To level the playing field between lenders and brokers, a comparable rule is needed that would prohibit loan officers from charging prices above those posted by the lender.

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57 Comments

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  • Hugh - Tuesday, December 11, 2007, 11:57AM ET  Report Abuse

    • Overall: 2/5

    Let’s also look at some of the people who just purchased on speculation. They got homes, went back to the banks and pulled out equity (well fake equity) and then let the homes fall under foreclosure. These are not people who live in the homes. Private builders have done the same. They don’t care about credit and other items as they have their cash already. Then they turn around an buy back the home at a lower price at an auction, this is not something done by a so called “subprime borrower” . Let’s also note that some homes are under or behind due to layoffs in our market place. If credit standards go up and home prices go up and salaries don’t go up this may continue into 2010 or longer. That means that everyone has a part in this and the only answer is not the rate freeze, it helps no one, just delays what will happen later. Will foreclosures happen? Of course, nothing will stop that. But the biggest picture is who will buy these homes, who will buy the homes of sellers who buy homes. If credit standards are now raised and people who maintain their homes who purchased in 04-06 and only primary borrowers with perfect credit buy homes or investors (picking up homes now) who will buy them in the near future? Remember the economic circle, what was new becomes old and it grows outward before coming back in. any home that the current homeowner or investor loses will become empty adding to the empty homes already on the market. So cut the blame! Let’s get to work on correcting this and developing solutions in place to hopefully avoid this happening again. Or limit some of the causes….

  • Jeffrey - Tuesday, December 11, 2007, 10:21AM ET  Report Abuse

    • Overall: 2/5

    We are a mortgage banker that also brokers loans from time to time. Crediting the YSP to the borrower and then having the borrower pay the broker only makes sense when loan compensation is uniform across all lender types. You will create an unfair advantage for mortgage bankers (including banks) and have a double standard for different lender types. Let me explain… For example, banks and mortgage bankers CAN make YSP, but they don't have to disclose it to the borrower since they fund the loan. They call this selling the loan on a "flow" basis. The mortgage banker funds the loan, and then sells it for YSP (and SRP), meaning he doesn't have to disclose the amount. He may have already locked with an investor and have a purchase commitment. He knows exactly how much he will be paid on the sale of the loan. We do this all the time. Now… you may say that is just a Service Release Premium (SRP), but isn’t the amount of compensation also based on the yield spread? The other problem is when the borrower may request to “lock” the loan with the broker, but the broker “floats” the loan with the investor. The broker does this hoping for a better yield. The broker assumes the risk that they will increase the YSP paid if the market is improving. We do this all the time too. We never pass on a loss to the borrower if we choose to “float” a loan that the borrower has locked with us. There are a couple of holes in your suggested rule considering the things I've pointed out... In addition, haven't some of the biggest banks (such as Wells Fargo Finance, House Hold Finance (HSBC), Countrywide, etc) been accused of ripping people off? What do you say about your theory considering these banks and disclosure of compensation? Jack, I don’t think you’re exactly aware of how all types of ‘YSP’ compensation works in the mortgage industry. What do you suggest considering my points above?

  • ag - Monday, December 10, 2007, 9:52PM ET  Report Abuse

    • Overall: 2/5

    Sending the crooks to jail under existing law ought to be good enough. There is enough fraud and actual criminal behavior to track down. Creating more regulation that only the honest brokers will follow seems like a poor decision.

  • kurt - Monday, December 10, 2007, 8:02PM ET  Report Abuse

    • Overall: 4/5

    Brokers, If you want a level playing field become a bank. Banks, why on earth do you continue to use brokers and their filthy stretched appraisals and fraudulent documentation? Bunch of junkies...

  • Yahoo! Finance User - Monday, December 10, 2007, 6:57PM ET  Report Abuse

    • Overall: 1/5

    Jack, Please stop writing this verbal diarrhea. You have absolutely no idea how to effectively communicate to the general public. Your insight is totally biased and totally wrong. To say YSP is responsible for the current state of affairs is impotent. YSP is what fuels the mortgage business, dare I say economy and creates positive competition, which in turn gives consumers OPTIONS. I'm not referring to the options you buy and sell everyday whilst sitting comfortably in your ivy tower. If broker A charges a consumer at 6.000 at no points, and broker B charges a 6.000 with 1 point who benefits...the consumer of course. I can't believe you are insinuatiing that brokers should be responsible to disclose their compensation!!!! You, my friend, are preaching communism. How about you disclose to the readers of Yahoo! your income? I'll gladly tell you what I made in 2006 as a mortgage broker if you tell me how much you made. That is my challenge to you!! Sincerely, Capitalism

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