Foreclosure INDIRECT LENDING: LITIGATION AND REGULATORY ISSUES

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1 Foreclosure INDIRECT LENDING: LITIGATION AND REGULATORY ISSUES 2015 MCUL Lending & Marketing Conference Patricia Corkery, Esq. Holzman Corkery PLLC ext. 238

2 BENEFITS OF INDIRECT LENDING Expand lending volume. Create membership growth. Enhance member retention and loyalty. Help credit union bottom line. Cross-selling products to new members.

3 RISKS RED FLAGS Examiners look at call reports for increased repossessions, increased delinquency and increased loan loss Key Red Flags High concentration of indirect loans to total loans or net worth without adequate controls Incentive programs tying loan officer bonuses to indirect loan volume Inadequate analysis of indirect portfolio performance High first payment defaults, payment deferment Frequent re-fi of past due interest Insufficient loan documentation Poor dealer management

4 NCUA RECOMMENDATIONS FOR IDL Successful Planning Process Establish goals for IDL program; monitoring Consistent Underwriting Standards Clear Vendor Policies Formalized Contracts and Written Agreements Effective Risk Management Preventing and Defecting Fraud

5 HOW TO MITIGATE ADDITIONAL RISKS WITH INDIRECT LENDING: Monitor dealer and credit union employees working with dealer. Updated and comprehensive policies. Lending AND Collection/Recovery Strong lending department. Strong collection department. Training. Pricing the deal. Recognizing fraud and poor lending decisions.

6 DEALER CONTRACT. Credit union has sole lending discretion. Dealer provided membership criteria but credit union must confirm eligible. Dealer warranties: Information true and accurate Cash down, trade-in and rebates Dealer agrees to buy back paper if breach. Comply with law and privacy. Attorney review and negotiate with dealer. Reg E Issues Discussed later.

7 DEALER CONTRACT TERMS. In the event Buyer defaults on the Contract, or for any reason should Credit Union be entitled to a refund of any unused premium for service warranties, GAP or other product sold by Dealer to Customer, Dealer shall assist Credit Union in obtaining refund from third party provider. Dealer represents and warrants to Credit Union: All down payments reflected as cash in the Contract are cash directly from the Buyer received on or before the date of the Contract and are not rebates, loans or contributions from Dealer or a manufacturer. Dealer, in conjunction with the sale of the Vehicle and/or Recreational Vehicle sold under the Contract, did not purchase any Vehicle and/or Recreational Vehicle other than indicated as a trade-in on the Contract. Any form of rebate (including manufacturer) applied to the Contract shall be identified as a rebate and not cash on all documents.

8 DEALER CONTRACT TERMS CONT. The Dealer has confirmed the identity of each Buyer and that each Buyer is a bona fide person. Dealer has met face-to-face with Buyer in connection with the application. Dealer has not communicated to Credit Union any incorrect information related to Buyer s application or credit statement, or failed to communicate financial or personal information provided by Buyer.

9 KNOW THY DEALER. Great contract with a lot of protection not worth anything if dealer is broke. As part of dealer contract require review of financials. Dealer must agree to provide information on its corporate structure and allow review of files at dealership. Take advantage of right to review deal files.

10 LICENSE -MVSFA Michigan Motor Vehicle Sales Finance Act governs financing of auto loans DIFS requires that dealers in Michigan only sell or assign loans to entities licensed under MVSFA Argument can be made that credit union does not have to be licensed to buy auto loans, but dealers being told they can only sell to licensed entities. License fee = $

11 CUSO OR THIRD PARTY PROVIDER Most credit unions contract with CUSO or third party to provide services. Credit Union still required to meet all consumer laws and privacy regs All contracts need legal review NCUA leery of outsourcing NCUA looks for documented due diligence and monitoring

12 LENDING POLICY Separate indirect lending policy Key components to policy: Term higher risk, shorter the term Higher the mileage shorter the term Employment Income verification Rebate separate from cash Collateral value new cars get MSRP used and trade in get book value including mileage and options Spot check collateral! Call member. Inspect sales contract

13 WHAT DEALERS ARE LOOKING FOR. Credit union to buy deep % LTV Long finance terms for used cars too. Insurance and add-on income. Pay them for deals. Up charge. Provide instant approvals with little verification. Take more risk than anyone else. Fast approvals.

14 COMMON CHARACTERISTICS OF INDIRECT LENDING GONE BAD: Program grew too fast. Credit union not staffed for growth. No increase in collection staff to deal with influx of problems. Lending and collection have issues. Waiting to long to stop program. No contract with dealer.

15 EMPLOYEE TOO CLOSE TO DEALER? Lending employee working with dealerships risky if only one person If one employee running program watch for them: Waiving stipulations Becoming defensive Wants deals to go through them Overrides decisions on declines Intimidates other employees

16 STRONG COLLECTORS A MUST FOR SUCCESSFUL INDIRECT PROGRAM. Collectors on indirect must be highly trained. Must understand scoring models. Must be able to know fraud when they see and promptly report to management. Dealer fraud is caught by collectors if asleep fraud continues.

17 COLLECTION POLICY PART OF LENDING. Aggressive collection needed on indirect loans. Faster calls shorter delinquent status Faster letters Strong repo timelines. Fast notices to members and pro-active on firstpayment defaults. GPS trackers? Disposition of collateral do what can be done to cut losses Monitor sale process Recondition cars?

18 WHAT EXAMINERS WILL REVIEW & CONSIDER: Strategic Red Flags Transaction Red Flags Credit Risk Red Flags

19 STRATEGIC RED FLAGS FLAGS High program exposure with no concentration parameters Concentration of credit quality and to individual dealers No portfolio credit quality standards High LTVs (need skin in the game!) Inadequate staffing, program analysis and board reporting Unusual Trends (high ROA, first payment defaults)

20 TRANSACTION RED FLAGSE FLAGS Inadequate segregation of duties Separate people to approve and cut checks Don t assign one person to particular dealer Lack of internal controls for: Loan documentation funding Dealer reserves (flat fee vs. int rate mark-up) Lien placement FOM eligibility

21 TRANSACTION FLAGS CONT. No follow up procedures CALL NEW MEMBERS Ensure contract terms Review contract and optional car features Cross-sell Ensure lien is perfected Improper Incentives Don t encourage risky loans

22 CREDIT RISK RED FLAGSFLAG Inadequate Review of Underwriting 3 rd party provider lending policy CU must do quality control review to assure loan compliance Review exception reports Loan Autopsy High Default Rates

23 NCUA AIRES WORKSHEET

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29 CASE STUDY: AL LONG FORD: AL LONG FORD Aimbridge Lending Program Dealer selects credit union to send deal Dealer close to certain employees Collectors discovery fraud Fraud falsify information: Contract breached Jury Trial Judgment in excess of $600,000 against Al Long Ford.

30 REPORTS TO DECREASE RISK: TO DECREASE RISK. First payment defaults review all loans. Policy violations? Bond claim? Mandatory loan autopsy. Review of member contact. Monitor dealership. Loans to individual dealers: First payment defaults Charge-offs One dealer more than others bringing in bad loans.

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32 EQUAL CREDIT OPPORTUNITY ACT: REG B United States law enacted in 1974 Unlawful for any creditor to discriminate against any application with respect to credit transaction On basis of race, religion, national origin, sex, marital status or age Failure to comply can subject financial institution to civil liability for actual and punitive damages Beware of class action claims

33 CFPB DISCRIMINATORY MARK-UPS Consumer Financial Protection Bureau Bulletin Subject IDL and compliance with Equal Credit Opportunity Act (ECOA or Reg B) Concerns allowing dealers to increase interest rates dealer mark-up or reserve Risk that pricing disparities will result because of race, national origin, etc. CFPB recommends controls on dealer markups, monitor mark-up policies and eliminate discretion to mark up rates

34 BREAKDOWN OF CFPB CONCERNS: AL LONG FORD Indirect auto lender s markup and compensation policies may trigger liability under ECOA/REG B Dealer s practices may result in disparity of rates and cost to protected class of borrowers As credit union is assigned paper, credit union is lender CFPB looking for controls on dealer markup and compensation policies Looking for dealers and creditors to address effects of policies that may violate ECOA Looking to eliminate dealer discretion to mark up buy rates and go to flat fee.

35 ALLY BANK LAWSUIT WITH CFPB-ACTIVE. Ally Bank was investigated for ECOA compliance from Sept 2012 through Nov 2012 CFPB found Ally engaged in pattern and practice of lending discrimination in pricing of auto retail contracts. Ally is one of largest indirect auto financing companies in US and purchases contracts from over 12,000 auto dealers. Ally sets buy rate based on underwriting/pricing model Dealers have discretion to mark up rate Difference between Ally s risk-based buy rate and consumer s interest rate is the dealer-mark up

36 ALLY CASE CONT. ACTIVE. CFPB and DOJ reviewed dealer markup on deals purchased between April 1 and March 31, Results were that on average African-American borrowers were charged approx 29 basis points more than similarly-situated non-hispanic whites. Differences were based on race and not credit. During review time period, approx 100,000 African- American borrowers paid higher mark-ups than whites and, on average, paid $300 more each in interest. Study found similar problems for Hispanic and Asian/Pacific Islander borrowers.

37 ALLY CONT.-ACTIVE. Ally did not monitor whether discrimination was occurring and did not offer fair lending training to dealers. In Dec 2013 Ally agreed to numerous items in consent order: Set up a Compliance Committee Form Compliance Plan Reporting Requirements Record Keeping Requirements Monetary fine - $80 million into a Settlement Fund Pay $18 million to CFPB as a civil penalty

38 WHAT TO DO IN WAKE OF ALLY BANK ACTIVE. First remember that your IDL program is a small fish in the pond. ALLY Financial had $182 billion in assets and Ally Financial (subsidiary) $94.8 billion in assets ALLY is one of largest auto finance companies in US Things to consider for your program: Fair lending statement to dealers Fair lending training for your staff and dealer Fair lending review of lending policies Statistical analysis applies to only very large portfolios

39 BE PRO-ACTIVE!-ACTIVE. Set short-term and long-term goals. Assess risk before launching program or signing on new dealer. Staffing collection and lending. Training Internal and Dealerships. Policies in place. Procedures in place. Assess viability of dealership. Contract review.

40 RRESOURCES Your credit union attorney experienced in indirect lending. NCUA August 2010 LCU 10-CU-15 Due diligence over 3 rd Party Providers LCU 01-CU-20 Evaluating Third Party Relationships LCU 07-CU-13 Specialized Lending Activity Subprime indirect 05-Risk-01 NCUA Examiner s Guide Appendix on IDL CFPB Bulletin /Ally Consent Order CFPB-0010