JIM FLYNN: New rules may help borrowers
After three years of trying, the Federal Reserve Board has finally adopted regulations under the Truth In Lending Act intended to remove smoke and mirrors from mortgage-loan-originator compensation.
The board was encouraged in this enterprise by the recent passage of the financial-services reform bill — the Dodd-Frank Wall Street Reform and Consumer Protection Act. That law contains explicit limitations on mortgage-loan-originator compensation. It also puts the board out of business as one of the government’s chief consumer-protection agencies, with the new Bureau of Consumer Financial Protection taking over those responsibilities.
The problem being addressed in the new board regulations is that mortgage-loan borrowers don’t have a clue how mortgage-loan-originator compensation works, and the way it works has often created a conflict of interest between the borrower and the loan originator.
Specifically, the loan originator would make more money by talking the borrower into a loan with a higher interest rate, higher front-end costs and/or other terms (such as prepayment penalties) that were good for the lender but bad for the borrower. And, all the while, the borrower was being led to believe the loan originator was working to get the borrower the best deal possible.
Under the new regulations, compensation paid to mortgage-loan originators cannot be based on the terms of a loan, with the exception that compensation determined as a fixed percentage of the loan amount is permitted. Even this was controversial, with the fear that loan originators will now try to convince loan applicants to borrow more money than they need or can afford to repay.
Also, if a mortgage-loan originator is being paid compensation directly by the borrower, the originator cannot receive compensation from the creditor who will end up owning the loan. The originator’s compensation has to come from either the borrower or the owner of the loan — not both. In theory, at least, this arrangement will still allow borrowers to choose between higher upfront costs and a lower interest rate, and lower upfront costs and a higher interest rate.
Under the new regulations, a mortgage-loan originator is prohibited from steering applicants to a lender offering less-favorable terms in an effort to increase the loan originator’s compensation. Since steering can be in the eye of the beholder, the regulations create a safe harbor. A mortgage-loan originator can stay out of trouble by presenting a loan applicant with options — loans with the lowest interest rate; loans with the lowest upfront costs; and loans with the lowest interest rate that don’t also have risky features, such as pre-payment penalties, negative amortization and balloon payments.
Compliance with the new board regulations becomes mandatory on April 1 — April Fools Day.
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Jim Flynn is a private attorney
at Flynn Wright & Fredman LLC in Colorado Springs. Reach him at
jtflynn@fwflegal.com.
