The Role of Mortgage Servicers in the Subprime Mortgage Crisis Breck Robinson University of Delaware

Source: Inside Mortgage Finance Mortgage Servicer Market Concentration

The Role of Mortgage Servicers Bill and collect payments and fees from mortgage holders Monitor non-discretionary payments (e.g. taxes, insurance) Manage delinquencies to minimize losses and maximize asset recoveries, acting as the agent of the trustee Manage mortgage insurance recoveries, if applicable Advances on delinquent loans Remit payments to trustee Provide required information to trustees/investors regarding the performance of asset pools

Sources of Revenue Annual fee based on the $ amount of mortgages serviced  Fixed-rate prime loans = 25 basis points  Prime ARMs = 37.5 basis points  GSE sponsored mortgage pools = 44 basis points  Subprime loans = 50 basis points  Fees structure of the following: Type of mortgage product  Typical loan size  Reporting requirements  Resource commitment Float Other Fees  Can be a significant source of revenue

Sources of Costs Labor  Loss mitigation Costs not associated with foreclosure may not be reimbursed  $600 to $1,000 to modify loans Advancing delinquent payments Financing costs on delinquent payments  Current environment may be expensive

Types of Loss Mitigation Maturity extension:  May increase the maturity of the mortgage by up to 10 years. Deferring or forgiving missed payments:  Missed payments can be rolled into the principal portion of the loan and the monthly mortgage payment can be adjusted to reflect the larger principal amount Or  Missed payments can be treated as a separate monthly payment that must be repaid in addition to the original monthly mortgage payment Time period for repayment is over a shorter period of time. Principal reduction:  Reduction of the actual loan amount to be repaid by the borrower. Interest rate freeze or reduction

Types of Loss Mitigation Short sale:  Allows the lender to reduce the amount the borrower owes on the home so that the borrower can sell the home without taking a significant loss Short refinance:  Lender is willing to take a loss on the loan by reducing the outstanding balance of the loan in order to help the borrower refinance with a new lender Deed in lieu of foreclosure:  Lender may be willing to accept the deed to the home and bypass the foreclosure process, if exchange the borrower would be released from all obligations under the mortgage Cash-for-keys negotiation

Why is it difficult to modify mortgages? Compensation structure for servicers Revenue is a percentage of assets serviced  25 to 50 basis points + fees collected from borrower  Ex: late fees Foreclosure may maximize the discounted value of the cash flows for investors It has been estimated that 40% to 60% of modified mortgages will eventual default  Investor may be worse off after a loan is modified

Why is it difficult to modify mortgages? Expenses are mainly labor  Modifications are very labor intensive and costs may not be reimbursed in full PSAs may restrict the ability of servicers to modify mortgages  At best, PSAs provide little guidance in how to modify mortgages Potential litigation risk Lenders that have the second loan on the property have no incentive to accept a loan modification

Subprime Mortgages Originated with Second Loans