'No Doc(tor)' Underwriting Required to Verify Disability Income

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Secure Medical Records. Concept image. Narrow depth of field.

When it comes to verifying the continuity of mortgage applicants' long-term disability income during underwriting, recently settled regulatory complaints have made it abundantly clear that medical records are off limits to lenders.

Settlements reached between regulators and three mortgage companies this summer stem from underwriting and investor guidelines that require lenders to verify three years' worth of income continuity when originating or selling mortgages.

"The use of medical documents to verify or single out borrowers with disability income can bring a multitude of compliance concerns for a lender," said Mark Miller, a manager in the compliance professional services unit at Wolters Kluwer Financial Services.

"As a best practice, lenders should refrain from obtaining medical information from a borrower," he added. "This type of documentation cannot be used to verify disability income."

In August, lender Fifth Third Mortgage Co. and mortgage broker Cranbrook Mortgage Co. agreed to pay $1.5 million and $2,000, respectively, as well as improve originator training to settle complaints by the Department of Justice, which included concerns related to requests for doctors' letters.

Also in August, lender Freedom Mortgage Corp. agreed to pay $104,000 in a settlement with the Department of Housing and Urban Development that alleged the company requested doctors' letters showing that consumers' income would continue for three years.

Among other things, this practice can trigger compliance concerns related to the unfair, deceptive, or abusive acts or practices provisions of the Dodd-Frank Act, rules designed to protect consumers' privacy and fair lending regulation designed to protect borrowers from discrimination, he said.

In addition, the Department of Housing and Urban Development specifically prohibits the practice, said Hillary Benham-Baker, a founding partner at Campins Benham-Baker LLP, a San Francisco law firm that represents employees.

"The HUD guidance doesn't allow that," she said. The Fifth Third settlement involved allegations that the lender violated the Fair Housing Act and the Equity Credit Opportunity Act, and the lawsuit arose as a result of a complaint loan applicants filed with HUD.

Any borrower could be disabled, but disabilities (and the likelihood of disability income) are particularly common in veteran and senior citizen communities. More than one-third of veterans are disabled, and a growing number of seniors are disabled. Many lenders are increasingly interested in making loans to these groups because they have promising market demographics.

But the need to make sure they approach the market in a compliant manner. Medical information is sensitive for those with disability income because it is private information, and requesting it in conjunction with a mortgage application is "unnecessary, inappropriate and illegal," U.S. Attorney Michael Moore for the Middle District of Georgia said in the Fifth Third settlement.

What lenders should use instead of medical records is a Social Security benefits letter, according to Miller. There were other documents originally used in this process, but due to a change in requirements under the ability-to-repay rule, the benefits letter is the only document lenders should use today.

"In the past, disability income was commonly verified through the Social Security administration's benefit award letter, borrower tax returns and bank statements. The 2013 ATR final rule now requires lenders to place sole reliance on the Social Security benefits letter, described in Appendix Q," he said.

Investors often request verification that borrowers' income will continue for three years in conjunction with loan sales, but the Social Security letter serves this purpose, too, said Miller.

"The Social Security benefit verification letter provides the best method of verifying receipt of Social Security income by the consumer and its continuance," said Miller. "The final rule specifically provides that if the Social Security benefit verification letter does not indicate a defined expiration date within three years of loan origination, the creditor must consider the income effective and likely to continue."

Fannie Mae, the largest investor in the market, also refers to the Social Security benefit verification letter as the best method for verifying both receipt of long-term disability income of this type and its continuance.

Authorized mortgage market participants can obtain the letters through on-line or phone requests made to the Social Security Administration or one of its local offices, but simply obtaining the letter doesn't end liability concerns.

Lenders and other mortgage stakeholders still need to ensure the letter submitted is genuine just as they would for any other document in the loan package, Miller said.

"Placing sole reliance on the borrower benefits letter reduces compliance flexibility and can introduce potential fraud concerns into the process," he said. "Lenders must ensure they exercise the same due diligence against fraud with regard to their review of Social Security benefit verification letters that they apply in their review of any mortgage loan related documents submitted to them."

One might also wonder about the three-year continuity of income given that the Social Security Disability Income trust fund reserves are currently on course to run out in late 2016 — although presumably, public officials will do something to prevent this from happening.

"It should not be a concern from an underwriting qualification perspective because the guidance provided in Appendix Q provides that unless an expiration date exists on the award letter it can be considered likely to continue," Miller said. "It also goes further to indicate that even if the letter indicates (on an individual basis) that award is pending re-evaluation of eligibility, it should not be considered an indication that payments would not continue."

He suggests lenders keep the development on their radar screens, though.

"Institutions should proactively monitor the current events related to this type of income and update procedures accordingly if guidance or underwriting requirements are changed," he said.

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