Congress passed H.R. 4173 on July 15. Although it's formally known as the Dodd-Frank Wall Street Reform and Consumer Protection Act, I like to think of it as "FrankenDodd" because this monster tops out at more than 2,300 pages and will require several hundred new rules to fully implement. It will be at least three years before everything is finalized, and it will take a decade or two to judge whether its purpose—to overhaul the financial services industry so as to prevent another economic collapse—was successful. Meanwhile, despite all of its good intentions, "FrankenDodd" does little to protect lenders against fraud. While everyone scrambles to figure out exactly how to deal with all the changes brought on by this monster legislation, I predict plenty of chaos. And chaos will bring new opportunities for fraud.
FrankenDodd takes direct aim at residential mortgage originations, which is not surprising since it's pretty clear that fraud, abuse of loan programs, poor underwriting practices and inadequate due diligence lie at the heart of the economic crisis. What is surprising is that FrankenDodd does not address fraud committed against lenders.
One of the most significant provisions of FrankenDodd is the new Consumer Financial Protection Bureau. It's charged with enforcing consumer financial protection laws, including TILA and HOEPA, which were previously enforced by federal banking regulators. When it comes to mortgage originations, its mission is to "ensure that responsible, affordable mortgage credit remains available" to consumers. To fulfill that mandate, the CFPB has been given very broad authority to prohibit or condition lending "terms, acts and practices" that it finds to be abusive, predatory or unfair. This includes setting the specific parameters of those "responsible" loan programs, like debt-to-income ratios and the compensation loan originators can receive. As a lawyer I will tell you that the bill's use of vague terms like "responsible," "affordable," "abusive" and "unfair" gives the CFPB a lot of latitude to fill in the blanks, so get ready for a real tug of war once these rules are drafted and open for public comment. Add to that the fact that fraudsters are sure to take advantage of any new "consumer protections" and I think we, as an industry, should be concerned.
Title XIV of FrankenDodd, the Mortgage Reform and Anti-Predatory Lending Act, makes it very clear that Congress thinks that the best loans for consumers are 30-year fixed-rates. It bans yield-spread premiums based on the interest rate, expands HOEPA's coverage, and will require a slew of new consumer disclosures. Title XIV also makes a host of changes relating to appraisals of one-to-four residential units, which includes mandatory physical appraisals with interior inspections for subprime loans, barring broker price opinions as the primary basis for determining values on properties purchased as principal dwellings, and a requirement that lenders pay appraisers "reasonable and customary" fees for their work which should not be judged, according to the MBA's interpretation, by appraisal management company fee scales.
Since the law was written with a very broad brush, it's impossible to predict exactly what the end-product of the rule making procedure will be. It is, however, safe to say that the emphasis will be on further tightening of underwriting and due diligence standards and that the fraudsters will no doubt seek to turn any industry uncertainty into opportunity.
To protect themselves against the backlash of the Wall Street Reform and Consumer Protection Act, lenders would be well advised to use the time between passage of the law and its ultimate implementation to review their due diligence procedures and tool up their internal fraud prevention processes surrounding borrower identity, collateral valuation and verification of assets/income. Changes are inevitable but the way we prepare for changes can make the difference between survival and extinction.
Ann Fulmer is vice president of business relations at Interthinx.
