Paperless mortgage advocates welcomed the Federal Housing Administration's decision to begin accepting electronic signatures but warn the wording of the new policy is confusing and will likely require further clarification for lenders to adopt it.
The Jan. 30 Mortgagee Letter immediately allows lenders and servicers to use e-signatures on the FHA's documents for insurance endorsements, servicing and loss mitigation, insurance claims and real estate owned property sales. The document also sets a path for e-signed promissory notes, also known as e-mortgages, at the beginning of 2015. But the ruling contains some puzzling language.
"I know what they're saying and what they probably mean and how I'd interpret it, but there's some wording in here that's a little careless," says Margo Tank, a partner at the Washington law firm of BuckleySandler and counsel for the Electronic Signature and Records Association, an industry trade group.
For example, in the section outlining "Integrity of Records" requirements, the FHA's Mortgagee Letter reads: "Mortgagees must ensure that documents signed electronically cannot be altered. The documents must be tamper sealed to ensure their validity."
But the industry standard has long been to require tamper-evident seals, not tamper-proof ones.
"We've always defined the tamper-evident seal because it's virtually impossible to say you can completely prevent a document from being tampered with," says Harry Gardner, a board member of the Mortgage Industry Standards Maintenance Organization, the industry data standards body operated by the Mortgage Bankers Association. "We did the next best thing, which is provide solid evidence that tampering has occurred, instead of trying to prevent the tampering in the first place."
Tamper-proof documents " might be a difficult bar to meet and it's certainly something that's not required on the paper side," Gardner adds. "If you think about paper documents, there's no requirement that says you have to ensure that a paper document can't be tampered with because it's impossible."
The Mortgagee Letter also requires a lender's "system must be designed so that the signed document is designated as the Authoritative Copy." But the legal concept of an "authoritative copy" applies to transferable records, the digital equivalent of negotiable instruments in the paper world.
Transferable records and negotiable instruments are used for mortgage notes and other loans, where physical possession of the original document substantiates a creditor's claim to a debt. E-sign and e-doc standards — as well as the equivalent practices in the paper world — have not previously applied the "authoritative copy" standard to initial disclosures or closing package documents (outside of the promissory note and mortgage or deed of trust) because nonoriginal versions of the forms can still be enforced.
"There's a lot in here that could be subject to interpretation or companies saying, 'What does that really mean? Our system does this, but it doesn't do that; is that ok?'" Tank says.
And if the FHA actually expects all documents in a loan package to meet the standard of an authoritative copy, it would require a centralized registry like the MERS eRegistry, the system of record that tracks the owners and custodians of e-signed promissory notes.
"It's not necessary for the other documents in the closing package to be designated as an authoritative copy because there is no legal concept of possession and in fact, it doesn't actually make any sense," Gardner says.
The Department of Housing and Urban Development, which oversees the FHA, did not respond to several requests for comment about these concerns.
Some lenders are already taking advantage of the new policy, despite the potential confusion about the rule's wording. In what's been billed as an industry first, Mountain America Credit Union closed its first electronically-signed FHA mortgages under the new policy in March.
The federal Electronic Signatures in Global and National Commerce Act became law in 2000. Freddie Mac began accepting e-signatures on documents for the mortgages it purchases in 2001, followed by Fannie Mae in 2002. The first e-mortgages were accepted in 2004 and since then, more than 322,000 e-mortgages have been originated in the U.S.
The Internal Revenue Service began accepting e-signatures on its 4506-T forms last year, following pilot testing from 2011 to 2012. The form, also known as the "Request for Transcript of Tax Return," gives lenders permission to review borrowers' tax returns for income verification. That left the FHA as the last major industry participant holding out on adopting e-signatures, leaving many lenders reluctant to go paperless because they didn't want separate processes for FHA loans and mortgages sold to the Fannie and Freddie.
Mortgage Bankers Association President and CEO David Stevens says it's understandable why the FHA took so long to implement an e-signature policy. During his time as the FHA's commissioner from July 2009 to April 2011, "I had frequent meetings on e-signatures. The primary issue affecting e-sign was focus," he says.
The government mortgage insurance program was becoming a burgeoning source of lending after other sources of market liquidity had dried up. That strained the organization, most notably in 2009, when the annual actuarial review of the FHA's Mutual Mortgage Insurance Fund revealed the fund's capital ratio was below the federally-mandated 2% for the first time — where it still remains today, as the FHA's latest report, issued in December 2013, put the capital ratio at negative 0.11%.
And establishing an e-sign policy for the FHA couldn't be done in a vacuum, Stevens says. It required approvals from HUD's Office of Inspector General and other auditors, as well as the Department of Justice, which wanted assurances that e-signed documents would hold up as evidence when it pursues fraud cases.
With the policy in place, Stevens is hopeful that lenders will take advantage of the opportunity, but adds he expects lenders will carefully review the directive so they can ensure that their implementation of the e-sign policy aligns with the nuances of the FHA's rules.
"Each financial institution needs protocols and unless the HUD rule is explicit, you're going to see different policies," Stevens says.
The Consumer Financial Protection Bureau called the new FHA policy a "step toward improving the mortgage closing experience for consumers."
"Electronic closing processes have the potential to reduce errors, limit unexpected surprises, and create more time and opportunity for consumers to review critical documents with the tools they need to make informed decisions," CFPB Director Richard Cordray said in January. "HUD's decision to accept electronic signatures for FHA loans can help jumpstart the move towards a more seamless, paperless, and consumer-friendly process."
The CFPB is now building on the FHA's e-sign policy. In April the bureau unveiling its "eClosing pilot project," designed to give consumers the ability to electronically review and file mortgage closing documents.
Now, all the pieces are in place for broader paperless processing and a migration to full e-mortgage closings, says Tim Anderson, director of eServices at document preparation technology developer DocMagic.
"It was always one more thing and one more excuse why you couldn't do an e-closing," he says. "But you can't come up with any more excuses why people can't do e-closings."
Amid growing regulatory compliance requirements in the mortgage industry, the FHA's optional e-sign policy could be a low priority for some lenders. But upcoming changes to borrower disclosure requirements emphasize the timing of when consumers receive loan paperwork. Using electronic documents that can provide a time stamp for delivery receipt and the e-signature will help lenders not only comply with the requirements, but prove it to regulators.
"This is all about making sure that you have an electronic audit trail and proof that you've complied," Anderson says. "When the CFPB comes in later and wants you to prove that you actually disclosed to the consumer and verified the information prior to closing, they're not going to do that with a paper file. They're going to want to see an electronic date and time stamp."