State attorneys general continue to aggressively investigate Ocwen Financial's mortgage servicing practices, but they are also mindful that too much enforcement could cripple the company and cause major headaches for millions of homeowners whose loans Ocwen services.
Ocwen has already paid $150 million to New York regulators for mishandling foreclosures, overcharging fees to distressed borrowers and steering work to related businesses, and the Atlanta company remains under intense scrutiny from officials overseeing the three-year-old national mortgage settlement.
But further enforcement of the nation's largest nonbank servicer is turning out to be a delicate balance act. The more punishment Ocwen absorbs, the tougher it could become for the company to focus on actually helping distressed borrowers, improving systems and complying with regulations. If Ocwen were forced to sell itself, or even failed, the transfer of some $410 billion in servicing rights could create havoc in the mortgage market, industry experts said.
Roughly half of the 20 largest mortgage servicers are banks that are expected to sell nearly $1 trillion in servicing right for delinquent loans in the next few years. That leaves few servicers with the ability to absorb large numbers of delinquent loans. Moreover, the Consumer Financial Protection Bureau is paying close attention to servicing transfers because they can cause disruptions to borrowers, potentially upending loan modifications that may result in more foreclosures.
"We can't just put [specialty servicers] out of business," said Patrick Madigan, an assistant attorney general in Iowa, who is investigating Ocwen for the committee of state attorneys general monitoring the 2012 national mortgage settlement.
Ocwen's case is further complicated because it is the largest servicer of subprime loans, many of which were made to minority borrowers in blighted urban areas. State officials want to hold servicers accountable but also need firms with the expertise to help distressed borrowers avoid foreclosure.
"There is a need for specialty servicing and we have to find a good balance in dealing with servicers willing to take on more challenging portfolios," Madigan said. "Special servicers grew very, very rapidly in the last several years and they are having challenges with their systems that are different from the big banks, just maintaining it all with personnel, systems and compliance."
While Ocwen is not considered "systemically important" to the global financial system on the scale of JPMorgan Chase or Goldman Sachs, it does pose some systemic risks in the U.S., industry experts said.
The Financial Stability Oversight Council, which is charged by the Dodd-Frank Act to identify systemic threats, recommended in its 2014 annual report that state regulators create standards for nonbank servicers. The states now are in the process of defining prudential standards for capital, liquidity and operating practices.
The concerns stem from massive growth as banks sell off mortgage servicing rights to comply with Basel III capital rules. Overall, the five top nonbank servicers have increased their market share from just 5% in 2012 to nearly 17% today.
In a recent report, Fitch Ratings said Ocwen's 10-fold growth since 2009 presented unique risks.
"The size of the portfolio and the increased cost and heightened regulatory requirements of servicing subprime loans in particular limits the number of companies willing and able to quickly assume the servicing rights in the event a servicing transfer is required," Fitch analysts wrote in a report last week.
To be sure, some servicing experts think the notion that Ocwen poses any systemic risk is completely off base.
Private investors would be on the hook for any of Ocwen's debt in the unlikely event of a bankruptcy. Moreover, Ocwen has no underlying risk from credit losses on defaulted loans, which have already been written down by the large banks that originated the loans in the first place.
But there is an argument to be made that it would be too difficult and complicated to find other servicers to handle Ocwen's portfolio servicing 2.2 million customers and loans held in 4,000 private label securitizations.
Bill Glasgow, president of Glasgow Mortgage Advisors, said regulations have dramatically increased the cost of servicing. As result, there are a limited number of companies that are able, let alone willing, to quickly take on servicing transfers.
"There is systemic risk in servicing all types of residential loans and much of that risk has not been properly accounted for," said Glasgow, a 45-year industry veteran.
Mortgage servicing transfers are extremely complicated because servicers have multiple legacy technology systems that make so-called "boarding" of loans difficult. To keep costs down Ocwen has about 70% of its employees in India, but analysts say its investments in technology have not kept pace with its grown.
In 2013, Ocwen was forced to boost spending after it agreed to a $2.1 billion settlement with the CFPB and state authorities for providing false and misleading information to borrowers about their accounts, denying loan modifications to eligible borrowers, robo-signing court documents through the foreclosure process, and miscalculating interest rates and other fees.
Ron Faris, Ocwen's CEO, said on a conference call in December that the company had added more than 1,000 employees over the past two years.
In its last skirmish, Ocwen was threatened with having its servicing license pulled in California, a crisis it averted last month through a $2.5 million settlement with regulators. Servicing experts said it would have been very difficult to extract the 378,000 loans Ocwen services in California, many of which had been packaged into separate securitizations.
Moreover, the CFPB has warned servicers about the potential for error with mortgage servicing transfers that involve massive amounts of loans.
(Ocwen has been trying to cut costs by selling off mortgages backed by Fannie Mae and Freddie Mac. On Monday, it announced that it was selling $9.8 billion in servicing rights on loans backed by Freddie Mac to Nationstar Mortgage.)
It's unclear what future enforcement Ocwen may face. Madigan, the assistant Iowa attorney general, declined to disclose details of the states' investigation. But observers noted that technological shortcomings have made it difficult for Ocwen and other servicers to effectively manage their large portfolios.
Still, state attorneys general also are hyper-aware of the fallout from the failure of servicer Taylor, Bean & Whitaker in 2009. Freddie Mac, which backed most of TBW's loans, had to scramble on short notice to find other servicers to handle borrowers. Some states fielded calls at the time from distressed homeowners who had no idea where to send their mortgage payments.
Ocwen has long boasted of its track record of modifying loans and finding alternatives to foreclosure. It is responsible for 20% of all loans that have received a loan modification through the government's Home Affordable Modification Program. An Ocwen spokeswoman declined to comment.
The Treasury's Office of Financial Research has suggested two additional reforms that so far are absent from servicing: reforming the model of servicer compensation and establishing industry-wide standards for transferring servicing files that would make it easier to transfer servicing rights if a servicer failed.
"Even if there were alternatives to nonbank firms, servicing transfers would create havoc in the system," said David Berenbaum, the CEO of the Homeownership Preservation Foundation. "There is little to no market interest in servicing these portfolios."
Michael Stevens, a senior executive vice president at the Conference of State Bank Supervisors, expects states to propose standards for capital nonbanks this spring.
"The real driver of this is the shift from banks to nonbanks," Stevens said. "A lot has changed in terms of supervision over these firms. This is not the same industry from 2008."