Lenders should face penalties for violating representation and warranty clauses — beyond their obligation to re-purchase the loans — according to an expert in managing risk on mortgage-backed securities.
Penalties for poor underwriting and fraudulent loans would encourage better due diligence by investors, instead of waiting for the loan to go into foreclosure when the "damage has already been done," said Andrew Davidson, president of the New York firm Davidson & Co.
Davidson spoke at a joint Federal Deposit Insurance Corp./Federal Reserve Board conference on foreclosures and the future of housing finance. He also said there are problems in enforcing 'reps and warranties' when the loan has been sold multiple times.
Investors sign "knowledge qualifiers" that they are not aware of any fraud and are not liable for any violations, which means the note holder has to go up the chain of ownership to pursue any claims.
To correct this problem, Davidson says the originator of the loan should sign a document taking responsibility for the quality of loan and accept any penalties or re-purchase obligations because of defects or fraud.
This "origination certification would travel with the loan," he said. "Therefore the responsibly would rest where it makes the most difference – where the actual fraud and improper underwriting took place," Davidson said. The certificate also could be used to protect borrowers, he added.
