UNIT 9 LOAN SERVICING INTRODUCTION Loan servicing is the act of supervising and administering a loan after it has been made. Normally, the servicing function begins at the point of funding. Loan servicing is required for all real estate loans. The lender who originated the loan may perform this function, or the servicing may be sold to a loan servicing company. When a borrower takes out a real estate loan with a mortgage company or a bank, there is always a possibility that the lender will sell or transfer the note to another institution with or without the servicing of the loan. This may happen right after the borrower closes the loan or several years later. In cases in which the lender sells the note but keeps the opportunity to continue to collect and disburse payments, the originating lender remains the servicer. In today s market, real estate loans and loan servicing rights are bought and sold often. Learning Objectives After reading this unit, you should be able to: identify characteristics of loan servicing. specify how a change in servicer affects loan terms. recognize procedures for loan servicing transfers. recall the responsibilities of real estate loan administrators. identify the purpose of an escrow (impound) account. select the elements in a payoff demand statement. TRANSFER OF REAL ESTATE LOAN SERVICING A promissory note is a negotiable instrument that may be bought and sold. The loan servicing may be retained or transferred. The transfer of loan servicing is a process in which a loan is sold to a third party who will service the loan in the future. Real estate lenders involved in the origination of loans usually transfer the servicing of their loans soon after closing and funding. Since the servicing of a loan is a paid service, the originating lender receives a fee, which is called a servicing release premium (SRP), from the loan servicing company (servicer) who buys the loan. The new loan administrator takes the payments, handles the escrow accounts, pays the insurance and/or taxes, and answers questions about the loan. The practice of selling or transferring the servicing of a loan is a very common and necessary part of the mortgage loan industry. In fact, the real estate loan servicing may be transferred more than once during the life of a loan. 1
When the servicing is sold, it is usually packaged (pooled) in a bundle with other loans. Many of the larger loan servicing companies set up servicing centers in order to consolidate loan servicing and keep costs as low as possible. Changes to Terms and Conditions The transfer of servicing should not affect the borrower or the real estate loan adversely. The original terms and conditions of the real estate loan stay the same. The interest rate and duration of the loan do not change on fixed-rate loans. The payment amount and payment schedule stay the same. However, the payments on loans with escrow accounts may change due to increases or decreases in real property taxes or insurance requirements. If the borrower has an adjustable-rate mortgage (ARM) loan, the original conditions of the ARM note stay in effect and the rate changes according to the adjustment period (i.e. every 6 months, annually, every 3 years). This information is contained in the note and any riders to the note. The subsequent servicer(s) must honor all the terms of the original agreements contained in the note and its riders. Although the ability to sell and transfer the rights in a real estate loan is standard practice in our national mortgage industry, the process is not always without incident. Human and computer errors sometimes interfere with the orderly transfer of the servicing. As a result, the Real Estate Settlement Procedures Act (RESPA) requires disclosures to protect borrowers during the loan-servicing period (life of the loan). Notification of Loan Servicing Transfer The originating lender and subsequent noteholder holding a loan do not have to ask the borrower s permission to transfer the servicing, but they do have to inform the borrower of the transfer. If the loan servicing is going to be sold, the borrower should receive two notices one from the current servicer and one from the new loan servicer. Servicing Transfer Statement If the loan servicer sells the servicing rights to a borrower s loan to another loan servicer, a Servicing Transfer Statement must be sent to the borrower. The loan servicer must notify the borrower 15 days before the effective date of the loan transfer. This letter states that the transfer will not affect any terms or conditions of the loan documents except the terms directly related to the servicing of the loan. Items Included in a Servicing Transfer Statement Name and address of new servicer Toll-free telephone number Contact information for new servicing company Date and location to which borrower should send next payment It should state if a borrower can continue any option insurance, such as mortgage life or disability insurance, and what action, if any, a borrower must take to maintain coverage. 2
Example: If the contract states the borrower is allowed to pay property taxes and insurance premiums on his or her own, the new servicer cannot demand that the borrower establish an escrow account. However, if the contract is neutral on this issue or merely limits the actions of the originating lender, the new servicer may be able to require such an account. Welcome Letter The borrower should also receive a welcome letter from the new servicer that outlines the same information. This letter should give the same information that was given in the Servicing Transfer Statement, such as the name of the new institution, a contact, phone number (toll-free if available), the new servicer s address, and instructions for making the next payment. The welcome letter from the new servicer informs the borrower that new payment coupons will be mailed. However, if the payment is due before the coupons arrive, the borrower should write the loan number on the check and mail it to the address provided in the welcome letter. If the borrower has coupons from the previous servicer, one of the coupons can be included with the payment. The borrower should read the welcome letter carefully for payment instructions. The payment date will not change since it is determined in the original loan documents. If the loan is paid through electronic funds transfer or automatic draft each month, the borrower needs to cancel that arrangement and fill out new forms for the payment to be sent to the new servicer. Since this can take time, the borrower may need to pay by check until changes in electronic funds transfer are completed. The new servicer cannot take the payment from the borrower s savings or checking account without his or her signature. It is very important that the borrower receive both letters. If the borrower receives only one of the two letters, he or she should be sure to call the original servicer to verify that the loan has actually been transferred. It is extremely important that the borrower keep the servicer informed of his or her current mailing address so that all relevant correspondence will be received on time. Mailing Payments to New Servicer If the borrower has received both letters or has verified the transfer of the real estate loans with the previous servicer, he or she should be sure to send all payments to the new servicer from that point forward. If the payment is sent to the previous servicer, the borrower runs the risk of the payment not reaching the correct noteholder in time, paying a late charge, or increasing the chance that the payment is lost. It is the borrower's responsibility to send the payment to the new servicer once the borrower has been informed of the transfer. Regardless of who holds the note, the borrower must fulfill his or her responsibilities under the deed of trust or mortgage. These include making loan payments, keeping property taxes and insurance premiums current, and maintaining the property. If a servicing transfer occurs during a grace period, late charges cannot be assessed on a payment that is received beyond the usual grace period. If a borrower accidentally sends the payment to the previous servicer, the company will usually forward the first payment to the new servicer, but this will not continue after the first month. In some instances, such as a 3
merger or take-over, the previous servicer no longer exists. In this case, the payment may not be returned by the postal service for several weeks, which can result in the servicer assessing a late charge to the borrower s account. If this occurs, the borrower should request a refund of the late charge as soon as new servicer information is provided. After transfer, it is the previous servicing company's responsibility to provide the insurance agent or company with a notice of transfer. The servicing company may change the beneficiary on the hazard insurance policy from one company to the other. The borrower should make sure this occurs so that if there is a claim, the check will be written and sent to the appropriate servicing company. Grace Period After the transfer, there is a grace period of 60 days. The grace period is a time period provided by the noteholder during which the borrower makes payments without penalty. A borrower cannot be charged a late fee for mistakenly sending a loan payment to the previous real estate loan servicer instead of to the new one. In addition, during the grace period, the new servicer cannot report late payments to a credit bureau. RESPONSIBILITIES OF A LOAN ADMINISTRATOR A loan administrator is an employee of a loan servicing company. He or she performs the day-to-day management of individual loans and services entire loan portfolios while protecting the interests of both the borrower and the investor. In addition, the loan administrator must establish effective lines of communication with borrowers and investors and maintain them throughout the life of the loan. Loan administrators process payments and pay real estate taxes, insurance premiums, and other assessments from escrow accounts. In addition, they handle loan assumptions, payoff requests, defaults, and foreclosures. Payment Processing The collection and processing of payments is the primary responsibility of real estate loan administrators. This includes collecting both principal and interest on the loan. If an escrow account is set up, loan payments may also include amounts for hazard insurance premiums, property taxes, and, in some instances, mortgage default insurance. An escrow account (impound account) is a fund the lender may require the borrower to establish in order to pay mortgage default insurance, property taxes, and/or hazard insurance as they become due on the property during the year. This account protects the lenders and any subsequent noteholders interests because the loan administrator controls the remittance of these payments. The loan administrator sets up a billing process, which can be by coupon book or direct billing. If the monthly payment is fixed, the administrator may provide a coupon book. However, with an ARM or option-arm loan, the administrator may prefer direct billing. 4
Items the Bill Should Show Statement date Loan number Total payment due Due date Date after which payment is considered late Amount of late charge Remaining principal balance Escrow amounts Whether a coupon book or direct billing is used, most noteholders allow borrowers to make the payments online. Late Payments If a payment is not received when due, a computer-generated reminder notice should be sent. In states where a late charge is allowed, the reminder states that a late charge will be assessed unless the payment is received before the end of the grace period. The late charge encourages prompt payment and helps offset any collection expenses. The late fee is stated in the promissory note as a percentage or a flat amount. The loan administrator should never waive late charges without the knowledge and consent of the investor. If the loan becomes 30 or more days delinquent, the loan administrator drafts a formal demand for payment and forwards a copy to the investor. Sometimes, mentioning the possibility of accelerating the entire loan balance encourages the borrower to make timely payments. Default and Foreclosure If the borrower s delinquency is caused by circumstances beyond his or her control, the loan administrator may need to work out a loan modification plan or foreclose. Loan servicers must let borrowers know about any loss mitigation options to retain their home after borrowers have missed two consecutive payments. Loss mitigation option means an alternative to foreclosure offered by the owner or assignee of a mortgage loan that is made available through the servicer to the borrower. [ 1024.31]. Servicers must provide borrowers a written notice that includes examples of available alternatives to foreclosure and instructions how to obtain more information. Servicers cannot start a foreclosure proceeding if a borrower has already submitted a complete application for a loan modification or other alternative and that application is still pending review. To give borrowers reasonable time to submit such applications, servicers cannot make the first notice required for the foreclosure process until a mortgage loan account is delinquent more than 120 days. Escrow Account The loan administrator is responsible for managing the borrower s escrow account. When the escrow (impound) account is first established, the lender determines the estimated taxes, insurance premiums, and other charges that are anticipated over the next 12 months, along with the expected totals for these payments. These amounts are shown on the 5
Initial Escrow Statement. Although the statement is usually given at settlement, the lender has 45 days from settlement to deliver it. At closing, the borrower deposits money into the escrow account and then makes monthly deposits to accumulate funds to pay real estate taxes, insurance premiums, and other assessments. The loan administrator pays these items from the account when they become due and payable. If the lender s estimates were correct, there will be enough money in the account to pay the taxes and insurance. However, if the funds are insufficient, the administrator must collect the extra money from the borrower. The loan administrator does an annual analysis of the escrow account. During the analysis, the administrator reviews the escrow amount and determines if it is adequate to cover the fees for the insurance, taxes, and any other premiums paid through the escrow account. If the amount is insufficient, the servicer may ask the borrower to increase the regular monthly deposit. Sometimes the borrower receives a notice that either the insurance or taxes are due. The borrower should call the servicing company to make sure the company has information on file that funds have been escrowed for the premium. Annual Statements The loan administrator is required to give the borrower an Annual Escrow Statement that details the activity in the escrow account. This statement shows deposits into the account and the account balance. It also reflects remittances of property taxes and homeowners insurance. It accounts for any shortages or surpluses in the account and helps advise the borrower about the course of action being taken. Items on the Annual Escrow Account Reconciliation Balance of account at beginning of year Total amount deposited by borrower Amount, date, and nature of disbursements Balance of account at end of year The loan administrator prepares annual statements for noteholders and borrowers. At the end of the year, the borrower will receive a 1098 Mortgage Interest Statement that shows how much interest was paid. If the loan had two or more servicers over the course of the year, the borrower may receive more than one statement. Sometimes, the interest paid to the noteholders is combined into one report from the final servicing company, which sends the borrower one tax statement at the end of the year that covers the entire year. The loan administrator also forwards the proceeds to investors who have purchased real estate loans and acts as the investors representative when any problems arise with the loan. Insurance Requirements Noteholders always require evidence of property insurance coverage for building(s) on which a loan is made before they disburse money on the loan. As set out in the loan documents, borrowers must have fire and hazard insurance on the property. If the borrower does not maintain 6
insurance coverage, the noteholder may take out force-placed insurance to cover the property until the borrower provides a new insurance policy. However, an initial notice must be sent to a borrower at least 45 days before charging a borrower for force-placed insurance coverage, and a second reminder notice must be sent no earlier than 30 days after the first notice and at least 15 days before charging a borrower for force-placed insurance coverage. All costs for installing the necessary insurance will be added to the loan balance at the time of installation of the borrower s new insurance. If a borrower provides proof of hazard insurance coverage, the servicer must cancel any force-placed insurance policy and refund any premiums paid for overlapping periods in which the borrower s coverage was in place. [ 1024.37]. The loan administrator is responsible for protecting the investor from liability by making sure that all properties in the portfolio are adequately insured against loss or liability. Each insurance policy should describe the coverage terms, the policy limits, effective/expiration dates, and have a mortgagee s clause. The mortgagee clause gives the full name and address of the noteholder and provides that any loss be paid to the noteholder. The loan administrator should keep copies of the policies and create a tracking system with the expiration dates. This system will help avoid any lapse in policy coverage. Records of expired policies should be kept for 5 years. When a property is properly insured, the element of risk is shared with, or partly transferred to, the insurer. Types of Insurance Coverage There is a broad range of types of insurance offered to protect the noteholder and borrower. Typically, a noteholder requires homeowners and hazard insurance. In areas subject to flooding, flood insurance is required as well. Homeowners Insurance Homeowners insurance is property insurance that covers the building or structure, any completed additions, and the possessions inside from serious loss such as that caused by theft or fire. Homeowners insurance is required by all lenders to protect their residential loan investment and must be obtained before the loan closes. In most cases, coverage must be at least equal to the loan balance or the value of the home. Policy coverage for property insurance is written to cover either the replacement value or actual cash value of the building. Replacement value covers a structure for the amount it will cost to rebuild the same structure if it is built today. Actual cash value covers a structure at the depreciated value of the loss. If a building is 10 years old, the structure is considered to have depreciated to a lesser value over the last 10 years. When the building is insured for actual cash value, the amount paid is equal to today s cost to replace the structure minus depreciation. The noteholder must be named as a loss payee on the required policy. A loss payee is a party named to receive benefits when a claim on an insurance policy is filed. The insurance company provides a copy of the loss payee endorsement to the noteholder. 7
Fire, Extended Coverage, & Vandalism Basic property insurance can be customized with additional coverage. This coverage insures against direct loss to property caused by fire or lightning, windstorm or hail, explosions, riot or civil commotion, theft, aircraft, vehicles, smoke, vandalism, and malicious mischief. Earthquake Insurance In states like California, where earthquakes are common, owners of property can obtain earthquake insurance. Earthquake insurance policies cover damage to the structure during an earthquake, but can vary greatly in terms of exclusions and deductibles. Deductibles are much higher than those on property insurance policies. Some earthquake insurance policies have extensive exclusions patios, decks, detached garages, fences, swimming pools, satellite dishes, and sprinkler systems, to name a few. Flood Insurance Property located in areas that tend to flood should be covered with flood insurance. In fact, federal law requires mortgage lenders to assure that all properties within designated flood prone areas have flood insurance before the lenders provide a mortgage on the property. However, if the finished floor elevation is three feet above the 100-year flood plain, flood insurance may be waived. Flood insurance covers losses from flooding, including structural damage; damage to furnace, water heater, and air conditioner units; flood debris clean up; and the replacement of floor surfaces. For more information, visit http://www.fema.gov. Flood insurance is provided almost exclusively by the National Flood Insurance Program (NFIP), which is operated by the Federal Emergency Management Agency (FEMA). Insurer Eligibility The loan administrator determines whether an insurance policy is acceptable and meets the investor s requirements. The insurance carrier must have financial strength and be licensed to transact business in the state where the property is located. Another important consideration the loan administrator has is to verify the carrier s rating. Only policies from insurance carriers with a rating of A or better should be accepted. Independent firms such as A.M. Best rate insurance companies. A.M. Best can be found at www.ambest.com. A.M. Best ratings of A++ or A+(superior), A or A- (excellent), or B++ or B+ (good) are given to companies that are considered financially secure. Companies considered financially vulnerable are rated B, B-, and lower. Real Estate Taxes Property taxes must be kept current during the term of the loan. The loan administrator is responsible for making sure that the real estate taxes and other assessments are paid promptly whether paid out of an established escrow (impound) account or paid directly by the borrower. Before releasing funds from an escrow account, the loan administrator should review the property tax bill to determine its accuracy. The bill should have the correct property description and assessment. 8
If the borrower pays the property tax directly, he or she must submit proof of payment to the loan administrator. Some administrators use a tax service bureau to ensure that the property taxes have been paid. Non-payment of property taxes puts the noteholder at risk. At the least, the property will be subject to a tax lien. This is critical because tax liens are superior to mortgage liens. If left unpaid, the property may be sold at a tax sale with insufficient proceeds remaining to satisfy the noteholder s lien. If the borrower fails to maintain payment of property taxes, the noteholder may choose to advance funds to pay the delinquent property taxes to prevent the property from being sold at a tax sale. The amount advanced (tax payment plus any penalties) is added to the loan balance. At this point, the loan administrator will continue to monitor the account. If any delinquencies occur in loan payments, insurance premiums, or property taxes the loan administrator should recommend foreclosure proceedings to protect the investor s interest. Loan Assumption and Payoff Procedures The loan administrator must be notified whenever ownership of the property is transferred. The administrator needs to know if the loan is to be assumed or paid off. Assumption Request When a property is sold, the buyer may want to assume the existing loan. Under an assumption, the buyer takes over primary liability for the loan and the original borrower becomes secondarily liable. In the event of a default by the new borrower, the original borrower may still be held responsible for the note based on state laws. The original borrower (seller) can avoid any responsibility for the loan by asking the noteholder for a substitution of liability. The substitution of liability (novation) relieves the seller of all liability for repayment of the loan. Before approving the assumption, the loan administrator must determine if the loan documents have an alienation (due-on-sale) clause. A due-on-sale clause in the note prevents a buyer from assuming the loan. If the note does not have an alienation clause, many noteholders allow an assumption, but only after the buyer pays an assumption fee. The noteholder may also require a credit report and other information from the new borrower. The settlement agent requests that the noteholder prepare a document called a statement of condition. This document acknowledges the current balance, interest rate, amount and due date for monthly payments, late fees, and the date of maturity for a loan. The statement of condition is used when property subject to a real estate loan is sold and the buyer wants to assume the debt. The statement of condition is called a reduction certificate when a mortgage is being assumed and a beneficiary statement in deed of trust situations. 9
Payoff Request When the loan administrator receives a request for a payoff demand statement (typically from a settlement or escrow officer), he or she must determine if the loan has a lock-in provision or prepayment penalty. This must be determined before he or she prepares the payoff demand statement. A lock-in clause in the promissory note prohibits prepayment of the loan prior to a specified date. Typically, the lock-in period is for the first 2-3 years of the loan. Some promissory notes have a prepayment penalty clause. However, prepayment penalties are not allowed on conforming, FHA, or VA loans. If the note has a prepayment penalty clause, the loan administrator should calculate the amount of the premium and send it, along with the payoff figure, to the noteholder for approval. The loan administrator prepares the payoff demand statement. The payoff demand statement details the current principal balance, interest, statement fees, and recording and reconveyance fees. The noteholder s approval must be obtained unless there are specific instructions to the contrary. The payoff demand statement requires payoff funds to be sent by wire transfer or certified funds. A wire transfer is the electronic transfer of funds from one bank to another. Certified funds refer to a payment that is guaranteed to clear by the company certifying the funds. Types of certified funds include cashier s checks, certified bank checks, and money orders. Personal checks and credit cards are not allowed. This is because the personal checking account may have insufficient funds and the credit card transaction may be disputed and reversed. Once the loan is satisfied (paid in full), the loan administrator prepares and records loan release documents. A satisfaction of mortgage is the recorded instrument used to evidence payment in full of a mortgage debt. When a loan secured by a deed of trust is paid in full, a deed of reconveyance is recorded. The deed of reconveyance transfers title from the trustee to the trustor (borrower). The loan administrator should do a final review of the file to be sure everything is complete. The loan servicing company should archive the paid-in-full files. The length of time required varies by state. SUMMARY At closing, the lender must tell the borrower who will be servicing (administering) the real estate loan. In other words, to whom does the borrower send loan payments? When a borrower takes out a real estate loan with a mortgage company or a bank, there is always a possibility that the lender will sell or transfer the note to another institution with or without servicing the loan. In other words, the loan servicing may be handled by a third party instead of the lender who originated and approved the loan. The loan servicing may be sold once or several times. 10