The coronavirus (COVID-19) outbreak is causing widespread public concern and economic impacts for individuals and businesses across the globe. The situation is fast-moving. Most mortgage lenders and servicers already have business continuity plans in place, but those plans may not fully address the dynamics of the COVID-19 crisis. Beyond business continuity, lenders and servicers must grapple with evolving regulatory requirements, the risk of downstream regulatory and litigation scrutiny for actions taken today, and management of reputational risk. Below, we detail the key regulatory developments, issues and risk mitigation strategies lenders and servicers should consider.
Government Intervention, Forbearance, and Reduced Consumer Payments
The COVID-19 pandemic and its impact on the mortgage industry has prompted a significant government response. For example, the federal bank regulatory agencies, the Consumer Financial Protection Bureau (CFPB) and Conference of State Bank Supervisors (CSBS) issued an interagency statement encouraging financial institutions to work constructively with borrowers affected by COVID-19. The agencies specifically indicated loan modifications would be viewed as a means not only to prevent borrower harm, but also to improve loan performance and credit risk. Further, the agencies promised not to categorize loan modifications automatically as troubled debt restructurings. The agencies suggest short-term modifications made in good faith and in response to COVID-19 to borrowers who were current prior to such relief should include payment deferrals, fee waivers, and extensions of repayment terms.
The Federal Housing Finance Administration (FHFA) has directed Fannie Mae and Freddie Mac to suspend all foreclosures and evictions on residences (primary and secondary) and investment properties for at least 60 days for homeowners with mortgages backed by the government-sponsored businesses. Servicers, as a result, are taking increasing applications from customers asking for such forbearance. The Department of Housing and Urban Development (HUD) also has suspended all home foreclosures and evictions to the end of April amid the COVID-19 outbreak. Banks themselves are generally extending these same moratoriums to balance of their loan portfolios. Borrowers who take advantage of these programs will see their obligations suspended until their income normalizes and their monthly payments resume.
More extensive loss mitigation options, including loan modifications, will likely be needed. The Federal Housing Administration (FHA) also reminded FHA-approved mortgagees and servicers that FHA’s loss mitigation options should be offered to borrowers impacted by COVID-19. Those loss mitigation options include those enumerated in HUD’s Single Family Housing Policy Handbook, 4000.1 Section III.A.2., which include special forbearance agreements, affordable modification programs, and deed in lieu of foreclosure.
To further facilitate relief for borrowers, on March 19, the Federal Reserve Board, the Federal Deposit Insurance Corporation (FDIC), and the Office of the Comptroller of the Currency (OCC) released a joint statement encouraging financial institutions to work with affected customers and communities, with emphasis on those that are low- and moderate-income. The agencies stated that they will, in line with the Community Reinvestment Act (CRA), provide favorable consideration for certain retail banking services and community development activities related to the COVID-19 crisis. Both the OCC and FDIC recommended that banks encourage greater access to cash for customers by increasing daily ATM withdrawal limits and easing restrictions on cashing checks from non-customers and those from out of state. The FDIC also told banks that, although it recommended keeping service disruptions to a minimum, that the agency would accept the use of alternative service options should bank branches begin to close, such as operating temporary facilities to provide more convenient and accessible availability of services.
State agencies, including the New York Department of Financial Services (NYDFS), have encouraged regulated institutions, including servicers, to consider all reasonable steps to assist consumers adversely impacted by COVID-19. Recommended assistance includes extending payment due dates, allowing borrowers to defer payments, easing credit terms for new loans, waiving late fees for loan balances, and helping borrowers avoid delinquencies and negative credit agency reporting.
Pandemic Response is a Critical Component of Business Continuity
Most lenders and servicers did not foresee the operational constraints associated with a widespread health crisis like COVID-19. The Federal Financial Institutions Examination Council (FFIEC) handbook on business continuity management advises that in developing a business continuity plan, management must evaluate the likelihood and impact of disruptive events, such as pandemics. Business continuity plans concerning pandemics should address issues related to employee availability and continued access to company infrastructure and technology despite disruptions to public transportation and government-mandated quarantines. A well-designed business continuity plan will consider the risks posed by a pandemic and provide for multiple alternative solutions in case of a pandemic or related public health crisis.
Pandemic-specific plans, according to the FFIEC, should include the following concepts and themes:
- A program to prevent significant disruptions to operations. Emphasis should be placed on monitoring potential outbreaks and providing employee-centered education to communicate with services providers and suppliers throughout the duration of a pandemic.
- A comprehensive framework for maintaining critical business functions and operations despite large-scale employee unavailability and infrastructural disruptions.
- A program for testing, monitoring, and revising pandemic planning protocols, including thorough engagement of key stakeholders such as Boards of Directors and executive management.
Lenders and the Rush to Refinance
Mortgage lenders in particular have been greatly impacted due to increased demand in mortgage loan refinancing, record-low interest rates, and unexpected layoffs and unemployment for borrowers. Even before the COVID-19 pandemic, the Federal Reserve cut interest rates to historic lows, creating a stampede of borrowers seeking to refinance. That demand has only grown. As of early March, Freddie Mac estimated that nearly 11 million borrowers applied to refinance their home loans and mortgages. Mortgage refinances currently make up 75% of all mortgage applications. These refinancings are taking place against a backdrop of lenders moving to telework, being short-staffed and having to cross-train employees from other parts of the business to help process backlogs.
As economic circumstances of many borrowers in the midst of refinancing change in real time, lenders must work hard to understand those shifting dynamics. For lenders already servicing loans of such borrowers, helping distressed borrowers access the servicing team to better understand forbearance and other loss mitigation options will be important. Beyond those challenges, lenders will need to address borrower concerns related to new and in-process loan applications. For example, can loans be closed without going to a physical office? Are appraisals required? What happens if a borrower's credit score changes between preapproval and loan closure? What happens if someone's employer cannot provide employment verifications in writing? The difficulty of performing otherwise normal functions has caused lenders to ask for waivers on items like being able to accept verbal employment verifications from Fannie Mae, Freddie Mac, and FHFA. Non-bank lenders are also seeking appraisal waivers and assurances that gap insurance meets lien requirements if there are delays in recording titles and mortgage notes.
Mortgage Servicers Under Strain
Servicers are facing a range of issues as their customers deal with financial uncertainty. Borrowers want to know if they can skip loan payments, want more detail on federal and state forbearance and related programs, want to know what proprietary programs servicers themselves offer, and what documentation borrowers need to show to demonstrate they have been negatively impacted by COVID-19. As with lenders, servicers are experiencing this wave of borrower inquires at a time when operations remain short-staffed and under the constraints of social distancing and telework.
The borrower relief provided by the government detailed above will greatly exacerbate the financial strain mortgage servicers face. When a mortgage servicer receives payment, it passes that payment onto investors who own these loans in mortgage-backed securities. Servicers are required to pay their investors, even if borrowers do not pay. Bob Broeksmit, CEO of the Mortgage Bankers Association (MBA) noted this week that “while a mortgage servicer might have some additional flexibility for loans held on its balance sheet, advancing is required for loans that back” government-sponsored entities (GSEs). These loans constitute more than 60% of the mortgage market. Normally, mortgage servicers have cash reserves to cover a few missed payments, but the mortgage industry as a whole is now facing the likely probability of an unprecedented number of missed mortgage payments. Given the swiftness with which the effects of COVID-19 have been felt across the economy, mortgage servicers may find themselves needing their own government relief. Unlike banks that have access to federal liquidity facilities, nonbank mortgage servicers (now 50% of the servicing market) rely on financing from commercial banks and private firms. In response, industry representatives and lawmakers are making calls for the Federal Reserve and Treasury Department to establish a credit facility for servicers.
Pro-Active Risk Mitigation for Mortgage Lenders and Servicers
Amid concerns around COVID-19, mortgage lenders and servicers are monitoring the latest reports from the Center for Disease Control (CDC) and are taking a number of precautionary measures for the health and safety of their employees and to minimize any impacts to the services they provide their customers. However, many servicers are recognizing that while they might have been prepared for natural disasters or cyberattacks, addressing the difficulties associated with a pandemic like COVID-19 places unforeseen constraints on their business operations. Lenders and servicers alike should be sure to update contingency and continuance plans with the lessons learned today.
Additional pro-active risk mitigation strategies for lenders include:
- Clarify approval criteria. With inquiries at all-time highs given mortgage rates and economic circumstances, mortgage lenders should revise or develop guidance to customers on the requirements for loan approval, including documentation requirements.
- Be transparent. Let customers know what you are doing to ensure applications are being handled promptly. Borrowers should know where they are in the process, who to go with questions and how the virus is impacting the timing of approvals.
- Provide virtual service. Under present circumstances, alternative options should be available and also should be communicated clearly to consumers. In addition, if online or telephone line requests spike, lenders and servicers should be prepared to reallocate their branch staffs to online channels to accommodate the strained call centers.
- Develop policies to handle changes between preapproval and close. Given workers in many sectors - hospitality and travel - will experience job loss or reduced income or may suffer credit score impairment due to increasing consumer debt, create policies now to address these types of situations. Communicate those policies upfront clearly and apply them consistently.
Additional pro-active risk mitigation strategies for servicers include:
- Identify at-risk borrowers. Analyze data to learn which borrower segments will need the most help, like hospitality workers. Focus on borrowers with markers, like high debt-to-income, that suggest they could face payment challenges. Beyond individual borrower characteristics, monitor CDC data to learn which geographic areas have been most impacted by the outbreak and focus more heavily on those areas. Overlay individual borrower analysis with analysis of impacted areas to create a heat map of the highest risk borrowers.
- Have a strategy for communicating with impacted borrowers. Once you know which borrowers are most at risk, develop an omni-channel plan for communicating with them that is consistent in approach and message and includes regulatory disclosures.
- Develop plans for managing distressed borrowers. Develop policies now on how you will handle late or missed payments and how long you will suspend credit reporting for payment arrearages. Develop policies regarding loss mitigation, including when and how you will move from payment deferrals to loan workouts.
- Establish consistent criteria for loss mitigation approaches. Consult with outside counsel concerning what loss mitigation you offer, to whom and how you will do so in a fair and consistent manner.
As the COVID-19 pandemic continues to unfold and affect the consumer financial services industry, regulators may offer further information and supervisory guidance related to mortgage and consumer loan servicing practices. Entities may choose to consult with the regulators when determining how their financial services products might impact consumers and the broader consumer financial services market during this time.
