Author Archives: David Reiss

Watt’s Happening with Fannie and Freddie?

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FHFA Director Watt

Federal Housing Finance Agency Director Watt testified before the House Committee on Financial Services today and gave a good overview of the decade-long conservatorship of Fannie and Freddie.  He also gave some sense of the urgency of coming up with at least a stopgap measure before the two companies’ capital buffer drops to zero at the end of the year pursuant to the terms of the Senior Preferred Stock Purchase Agreements (PSPAs) that govern the two companies’ relationship with the Treasury. He stated that it would

be a serious misconception for members of this Committee, or for anyone else, to consider any actions FHFA may take as conservator to avoid additional draws of taxpayer support either as interference with the prerogatives of Congress, as an effort to influence the outcome of housing finance reform, or as a step toward recap and release. FHFA’s actions would be taken solely to avoid a draw during conservatorship.

This signifies to me that he is planning on doing something other than reducing the capital buffer to $0.  As far as I can tell, Watt is playing a game of chicken with Congress — if you do not act, I will.

It is not clear to me clear how much authority Watt has or thinks he has to change the rules relating to the capital buffer. Does he think that he could act inconsistent with the PSPAa and withhold capital?  I have not seen a legal argument that says he could.  Is he willing to do it and be sued by Treasury?  These are speculative questions, but I do think that he has laid the groundwork for taking action if Congress and Treasury do not.

It does not seem to me that he was much wiggle room according to the terms of the PSPAs themselves, except perhaps to delay making the net worth sweep at the end of this year by converting it to an annual sweep or by some other mechanism.  That will be a short-term fix.

Given his strong language — “FHFA’s actions would be taken solely to avoid a draw during conservatorship” — I think he might be prepared to take an action that is inconsistent with the plain language of the PSPAs in order to act in a way that he thinks is consistent with his duty as the conservator.  This is less risky than it sounds because the only party that would seem to have standing to sue would be the Treasury, the counter-party to the PSPAs.  One could imagine that the Treasury would prefer to negotiate a response with the FHFA or await Watt’s departure rather than to have a judge decide the issue.  One could also imagine that Treasury would go along with the FHFA without explicitly condoning its actions, particularly if its actions soothed a turbulent market for Fannie and Freddie mortgage-backed securities.

Watt has consistently signaled that he will act if no other responsible party does and he emphasized that again today.

Foreclosure Alternatives

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Realtor.com quoted me in 3 Foreclosure Alternatives: What to Do Before Your Mortgage Goes Underwater. It opens,

Maybe you’ve missed a couple of monthly mortgage payments. Maybe a notice of default from your lender is looming right now. You understand the severity of the situation, but what most homeowners don’t know is that foreclosure is not the only option you have when you’re no longer able to afford your house.

The first step for anyone in risk of foreclosure is to get in contact with your lender. This shows that you are aware of the problem and committed to finding a solution—and trust us, that will go a long way. The earlier you reach out, the greater shot you have of amicably rectifying the problem.

After you speak with your lender, your lender will lay out your options, including the foreclosure alternatives that you might be able to take advantage of. Let’s take a closer look at some of the alternatives so you—and your credit history—don’t suffer the ultimate blow.

1. Standard sale or rental

If your home is currently valued at more than you owe and if you are up to date on your mortgage payments (but you anticipate that paying your mortgage could become a problem), you can hold out as long as possible for a buyer.

You can also try to rent out the home to cover the mortgage payments until the house sells, says Carolyn Rae Cole, a Realtor® with Nourmand & Associates. In the end, virtually all homes eventually sell—it’s just about pricing.

2. Short sale

When a home has fallen in value and is priced so low that there isn’t enough equity to cover the mortgage, you might have the option to conduct a short sale. It’s also known as going “underwater.” This means the lender agrees to accept less than the amount the borrower owes through a sale of the property to a third party.

A short sale works like this: A specialist brokers a deal with the mortgage lender to sell the home for whatever the market will bear. If the amount of the sale is for less than what’s owed on the mortgage, the lender gets the money from the sale and relinquishes the remaining debt. (This means you won’t owe anything else.) In a short sale, the lender usually pays for the seller’s closing costs. A traditional sale takes about 30 to 45 days to close after the offer is accepted, whereas a short sale can take 90 to 120 days, sometimes even longer.

Sellers will need to prove hardship—like a loss of primary income or death of a spouse—to their lender. In addition to explaining why they’re unable to make mortgage payments, sellers will have to provide supporting financial documents to the lender to consider for a short sale.

3. Deed in lieu of foreclosure agreement

A deed in lieu of foreclosure is a transaction between a lender and borrower that effectively ends a home loan. Essentially both parties agree to avoid a lengthy foreclosure proceeding by the borrower voluntarily turning over the home’s deed to a lender, says professor David Reiss of Brooklyn Law School
. The lender then releases the borrower from any further liability relating to the mortgage. However, if the property is worth significantly less than the outstanding mortgage, the lender may require the borrower to pay a portion of the remaining loan balance.

You might be eligible for a deed in lieu if you’re experiencing financial hardship, can’t afford your current mortgage payment, and were unable to sell your property at fair market value for at least 90 days.

Bottom line: This agreement is a negotiated solution to a bad situation—borrowers who have fallen behind on their payments are going to lose their house and the lender is not getting paid back in full.

Selling Yourself When You Have A Broker

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image by Russellprisco

Realtor.com quoted me in Selling Your House Privately If You Have a Listing Agent: OK or a Big N-O? It opens,

So your home is for sale, and you’ve signed a contract with a real estate agent, but you were actually able to nab a buyer through your own efforts. Maybe it was through word of mouth or your aggressive push on Facebook (you should really apologize to your friends for posting so many pictures of your house!), but someone is writing you an offer and really wants to buy your house. Having found a buyer on your own, are you still legally obligated to pay real estate fees or commission? Here’s how to know if you’re on the hook.

Read your listing agreement

In most states, a seller and an agent draw up something called a listing agreement. The listing agreement details the rights and responsibilities of the seller and the broker, and usually outlines the circumstances when a broker is due a commission.

“If it is an open listing or an exclusive agency listing, the seller can sell the property and not have to pay the broker a commission,” says David Reiss, professor of law at Brooklyn Law School
.

Things get tricky if the listing agreement confers an exclusive right to sell. This means the real estate agent has the sole right to sell the property. All offers must go through him or her, and for any sale, you’re obligated to pay the agent the commission spelled out in the contract, according to Marc D. Markel, a board-certified Texas attorney in residential and commercial real estate law. Agents rely on these exclusive listing agreements to avoid putting in what can be months of free work without seeing a payoff. For this reason, the agreement outlines the many ways an agent earns a commission, including what happens if the seller breaches the exclusive agreement.

The loopholes

If the sellers do find a buyer on their own, despite having a contract with an agent, they may be able to negotiate a reduced commission with the agent. But the sellers should be up-front about their potential to find their own buyer when drawing up the exclusive-right-to-sell listing agreement, says Markel. Maybe they know of a friend of a friend who is looking for a house, or they plan on marketing their home on social media.

If the sellers feel as if they are doing all the work, they might also be able to modify the existing agreement and add a termination if the broker doesn’t meet certain obligations, like selling the home within a certain time frame, says Sandy Straley, a real estate agent in Layton, UT. Other obligations for the listing could include organizing open houses, creating and distributing printed materials, and even the posting of videos shot by drones, says Markel.

Equifax and Your Mortgage

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image by Mark Warner

HouseLoan.com quoted me in How Will The Equifax Data Breach Affect Your Ability To Get A Mortgage? It opens,

Like throwing a stone into a pond, the Equifax data breach has long-lasting repercussions. Already, because of what’s being considered one of the largest data breaches in recent history, 143 million consumers may be affected. Data compromised in the breach has the potential to impact any form of credit taken out in the U.S. — including mortgages, credit cards, and car loans.

WHAT ARE THE CONSEQUENCES OF THE EQUIFAX DATA BREACH?

The credit-reporting agency Equifax recently revealed that a data breach lasting from mid-May through July 2017 gave hackers access to their consumers’ names, Social Security numbers, addresses, birth dates, and, for some, driver’s license numbers. The Federal Trade Commission confirms that credit card numbers were stolen from an estimated 209,000 people and documents with personally identifying information for roughly 182,000 others. Hackers also accessed personal data for customers in the UK and Canada. Equifax says their agency didn’t discover the breach until July 29, 2017, after most of the damage was done.

Anyone who may be affected by the breach is encouraged to act fast, Lisa Lindsay, executive director of the collaborative group Private Risk Management Association (PRMA), which aims to raise awareness and educate agents and brokers, says. “Consumers will need to evaluate what they want to do next with regards to protection and what risk management options they want to take. Such as purchasing cyber and fraud insurance. Those impacted by the breach could be at risk for additional attacks.”

HOW WILL THE DATA BREACH AFFECT GETTING A MORTGAGE?

Buying a house may be the biggest financial decision you make. The last thing that you need is a credit setback — or disaster. Megan Zavieh, a Georgia attorney-at-law, explains that the full ramifications of the data breach have yet to be known because we don’t know who accessed private data or what they may ultimately do with it. But, she says, it could impact homebuyers significantly.

“If someone uses personal data to open new credit lines or take other typical identity theft actions, homebuyers could be in for a terrible surprise when they complete their home loan applications. Often, credit report correction following identity theft is a long process. And it could well prevent loans from closing if borrowers had identities stolen after the Equifax breach,” Zavieh says.

ADDING TO THE POST-EQUIFAX FRENZY, MANY PEOPLE ARE SEEKING TO FREEZE THEIR CREDIT IN THE WAKE OF THE BREACH.

David Reiss, Professor of Law and Academic Program Director of CUBE, The Center for Urban Business Entrepreneurship at Brooklyn Law School, says, “Those who are looking to refinance their mortgage or purchase a new home should be aware of how a credit freeze affects them. When they are ready to take the plunge and apply, they will need to contact the credit rating agencies where they had placed a freeze and lift the freeze temporarily.” Just as importantly, Reiss reminds buyers to put the freeze back in place after completing the mortgage process.

During the time when you’re buying a home and the freeze is lifted, you can place a 90-day fraud alert on your credit. Reiss explains that this should limit lenders from granting credit under your name without first verifying that you are the one who applied for the loan.

Fannie, Freddie and Climate Change

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NOAA / National Climatic Data Center

The Housing Finance Policy Center at the Urban Institute issued its September 2017 Housing Finance At A Glance Chartbook. The introduction asks what the recent hurricanes tell us about GSE credit risk transfer. But it also has broader implications regarding the impact of climate-change related natural disasters on the mortgage market:

The GSEs’ capital markets risk transfer programs that began in 2013 have proven to be very successful in bringing in private capital, reducing the government’s role in the mortgage market and reducing taxpayer risk. Investor demand for Fannie Mae’s CAS and Freddie Mac’s STACR securities overall has been robust, in large part because of an improving economy and extremely low delinquency rates for loans underlying these securities.

Enter hurricanes Harvey, Irma and Maria. These three storms have inflicted substantial damage to homes in the affected areas. Many of these homes have mortgages backed by Fannie Mae and Freddie Mac, and many of these mortgages in turn are in the reference pools of mortgages underlying CAS and STACR securities. It is too early to know what the eventual losses might look like – that will depend on the extent of the damage, insurance coverage (including flood insurance), and the degree to which loss mitigation will succeed in minimizing borrower defaults and foreclosures.

Depending on how all of these factors eventually play out, investors in the riskiest tranches of CAS and STACR securities could witness marginally higher than expected losses. Up until Harvey, CRT markets had not experienced a real shock that threatened to affect the credit performance of underlying mortgages (except after Brexit, whose impact on the US mortgage market proved to be minimal). The arrival of these storms therefore in some ways is the first real test of the resiliency of credit risk transfer market.

It is also the first test for the GSEs in balancing the needs of borrowers with those of CRT investors. In some of the earlier fixed severity deals, investor losses were triggered when a loan went 180 days delinquent (i.e. experienced a credit event). Hence, forbearance of more than six months could trigger a credit event. Fannie Mae put out a press release that it would wait 20 months from the point at which disaster relief was granted before evaluating whether a loan in a CAS deal experienced a credit event. While most of Freddie’s STACR deals had language that dealt with this issue, a few of the very early deals did not; no changes were made to these deals. Both Freddie Mac and Fannie Mae have provided investors with an exposure assessment of the volume of affected loans in order to allow them to better estimate their risk exposure.

So how has the market responded so far? In the immediate aftermath of the first storm, spreads on CRT bonds generally widened by about 40 basis points, meaning investors demanded a higher rate of return. But thereafter, spreads have tightened by about 20 basis points, suggesting that many investors saw this as a good buying opportunity. This is precisely how capital markets are intended to work. If spreads had continued to widen substantially, that would have signaled a breakdown in investor confidence in future performance of these securities. The fact that that did not happen is an encouraging sign for the continued evolution of the credit risk transfer market.

To be clear, it is still very early to reasonably estimate what eventual investor losses will look like. As the process of damage assessment continues and more robust loss estimates come in, one can expect CAS/STACR pricing to fluctuate. But early pricing strongly indicates that investors’ underlying belief in these securities is largely intact. This matters because it tells the GSEs that the CRT market is resilient enough to withstand shocks and gives them confidence to further expand these offerings.

Safeguarding The CFPB’s Arbitration Rule

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image by Nick Youngson https://nyphotographic.com/

 

I was one of the many signatories of this letter to Senators Crapo (R-ID) and Brown (D-OH) opposing H.R. Res. 111/S.J. Res. 47, “which would block the Consumer Financial Protection Bureau’s new forced arbitration rule.” the 423 signatories all agree “(1) it is important to protect financial consumers’ opportunity to participate in class proceedings; and (2) it is desirable for the CFPB to collect additional information regarding financial consumer arbitration.” The letter, reads, in part,

Class action lawsuits are an important means of protecting consumers harmed by violations of federal or state law. Class actions enable a court to see that a company’s violations are widespread and to order appropriate relief. The CFPB’s study shows that, over five years, 160 million class members were awarded $2.2 billion in relief – after deducting attorneys’ fees. Class actions are especially important for small dollar claims, because the time, expense and investigation needed for an individual claim typically make no sense either for the consumer or for an attorney. Additionally, class actions provide behavioral relief both for the plaintiffs and the public at large, incentivizing businesses to change their behavior or to refrain from similar practices.

Individual arbitrations are not a realistic substitute for class actions. Compared to the annual average of 32 million consumers receiving $440 million per year in class actions, the CFPB’s study found an average of only 16 consumers per year received relief from affirmative claims and another 23 received relief through counterclaims; in total, those consumers received an average of $180,770 per year. While the average per-person arbitration recovery may be higher than the average class action payment, the types of cases are completely different. The few arbitrations that people pursue tend to be individual disputes involving much larger dollar amounts than the smaller claims in class actions. Most consumers do not pursue individual claims in either court or arbitration for several reasons: they may not know their rights were violated; they may not know how to pursue a claim; the time and expense would outstrip any reward; or they cannot find an attorney willing to take an individual case. Thus, if a class action is not permitted, most consumers will have no chance at having their dispute vindicated at all. Class actions, on the other hand, are an efficient method of resolving claims impacting a large number of people.

The U.S. legal system depends on private enforcement of rights. Whereas some countries invest substantial resources in large government agencies to enforce their laws, the United States relies substantially on private enforcement. The CFPB’s study shows that, in those cases where there was overlap between private and public enforcement, private action preceded government enforcement 71% of the time. Moreover, consumer class actions provide monetary recoveries and reform of financial services and products to many consumers whose injuries are not the focus of public enforcers. American consumers can’t solely depend on government agencies to protect their rights.

Reporting on individual arbitrations will increase transparency, broaden understanding of arbitration, and improve the arbitration process. As scholars, we heartily endorse the information reporting requirements of the rule for individual arbitrations. This reporting will address many questions that have gone largely unanswered, due to the lack of transparency that currently exists in this area of law. For example, the public will now know the rate at which claimants prevail, whether it is important to be represented by an attorney, and whether repeat arbitrators tend to rule more favorably for one side than the other. The reporting will permit academic study, which will prompt a necessary debate on how to strengthen and improve the process.

In conclusion, we strongly support the CFPB rule as an important step in protecting consumers. We believe it is vital that Congress not deprive injured consumers of the right to group together to have their day in court or block important research into the arbitration process.

Getting CAMELS Past Regulators

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photo by Max Pixel

Bloomberg BNA Banking Daily quoted me in Court Asked to Second-Guess Bank Capital, Earnings, Risk Ratings (behind a paywall). It reads, in part,

A now-shuttered Chicago bank is taking on the proverbial giant in a fight to give banks the right to challenge safety and soundness ratings by federal regulators.
Builders Bank, an Illinois-chartered community bank that technically closed its doors in April, wants a federal judge to review a so-called CAMELS rating of 4 it got from the Federal Deposit Insurance Corporation, a rating it said triggered higher costs for insurance premiums (Builders Bank v. Federal Dep. Ins. Corp., N.D. Ill., 15-cv-06033, response 9/13/17). The rating should be reviewed by a court, it said, because it didn’t accurately reflect the bank’s risk profile. A 3 rating would have been more appropriate, it said.
It’s hard to exaggerate the importance of the awkwardly-named CAMELS ratings, which also are used by the Federal Reserve and the Office of the Comptroller of the Currency. The ratings — which measure capital, assets, management, earnings, liquidity, and sensitivity to market risk on a range of 1 to 5, with 1 being the best rating — can mean thumbs-up or thumbs-down on business plans by banks and affiliates.
Want to merge with or buy another bank? Don’t bet on it if your bank has a low CAMELS rating. Want to pay lower premiums for federal deposit insurance? A high rating may mean yes, a low rating probably not. Want to lower your capital costs? Endure fewer examinations? Open new branches? Hold on to a profitable business unit or face regulatory demands to divest it? All of those business decisions and others can turn on how well a bank scores under the CAMELS system.
Pinchus D. Raice, a partner with Pryor Cashman LLP in New York who represents the New York League of Independent Bankers, said judges should be able to look over those rating decisions.
Judicial review would enhance the integrity of bank examinations, he said. “I think it would increase confidence in the process,” Raice told Bloomberg BNA. “Somebody should be looking over the shoulders of the agency, because CAMELS ratings are critical to the life of an institution.” The New York trade group has filed a brief in the suit urging the court to rule against the FDIC.
FDIC Rating Challenged
The FDIC has asked Judge Sharon J. Coleman of the U.S. District Court for the Northern District of Illinois to dismiss the case on several grounds.
For one, the FDIC said, Builders Bank no longer exists. It voluntarily dissolved itself earlier this year and in April transferred its assets to Builders NAB LLC, a nonbank limited liability company in Evanston, Ill., that couldn’t be reached for comment. In a Sept. 13 filing, the bank said Illinois law allows it to continue the suit even though it’s now merged with the LCC, and that it’s seeking damages in the amount of the excessive deposit insurance premiums it says were paid.
Bank Groups Join
The next likely step is a ruling on the FDIC’s motion to dismiss, though it’s not clear when the court might make a decision. Meanwhile, the case has attracted briefs from several banking groups — a joint brief filed in August by the Clearing House Association, the American Bankers Association, and the Independent Community Bankers of America, and a separate brief a few weeks later by the New York League of Independent Bankers.
None of the four groups is wading into the actual dispute between Builders Bank and the FDIC, and their briefs explicitly said they’re not supporting either party. However, all four groups urged the court not to issue a sweeping decision that says CAMELS ratings are exempt from outside review.
According to the Clearing House, the ABA, and the ICBA, banks should be able to seek judicial review in exceptional cases “where such review is necessary and appropriate,” such as if regulators get their calculations wrong, or if regulators use ratings to retaliate against banks that criticize FDIC policies or personnel.
“At a minimum, given the complexity of the CAMELS rating system and the consequences of CAMELS ratings, this court should not issue a ruling that is broader than necessary to decide this dispute and that may undermine the ability of other banks to obtain judicial review,” the brief said.
*     *      *
David Reiss, professor of finance law at Brooklyn Law School in Brooklyn, N.Y., called the case a signal that the banking industry believes a range of agency actions might be held to be unreviewable. “As a general philosophy, unless Congress has made unreviewability crystal clear, I think we want to be careful,” Reiss told Bloomberg BNA. “This does seem intuitively overbroad to me.”
He also said the case, because it involves a bank that no longer exists, raises the possibility of a result that might not be welcomed by the banking industry. “The bank groups may be somewhat worried that a now-dissolved bank may get a court ruling that could have unintended consequences for banks still doing business,” he said.