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McGrath Testimony

10Apr 2011
Published in Resources
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Good morning Mr. Chairman and members of the Committee. My name is Maureen McGrath, and I appear today on behalf of the National Advocacy Against Mortgage Servicing Fraud. I wish to thank you for holding this important hearing to examine the problem of predatory mortgage lending and real estate fraud in the Poconos and for allowing me to testify before you today. I would also like to extend a special thank you to Congressman Kanjorski for the extraordinary time and effort he expends on this and other issues on behalf of his constituents in the Poconos. Although the National Advocacy Against Mortgage Servicing Fraud is a relatively new consumer advocacy group, my co-advocates and I have many years of experience in fighting for and attempting to protect consumer rights against mortgage servicing fraud. Besides myself, there are currently advocates in the Commonwealth of Massachusetts, as well as the States of New Hampshire, New Jersey, New York, Ohio and Arkansas, and we are growing and expanding as we find other individuals who champion the cause for which we fight. I am a homeowner in Monroe County, Pennsylvania, and until September 11, 2001, I worked as a paralegal in New York City. I speak with deep personal conviction that predatory lending and mortgage servicing fraud devastates communities and individuals lives, and with great certainty that approaches to the problem are workable and fair. Prior to founding the National Advocacy Against Mortgage Servicing Fraud, I was involved in fighting the mortgage servicing fraud perpetrated on over 1 million victims across the United States. The publicity of that dispute brought the matter to the attention of Senators Serbanes and Mikulski of
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Maryland, the investigation by FTC and HUD of Fairbanks Capital’s practices and handling of sub-prime or non-conforming loans and the subsequent settlement of a nationwide class action lawsuit. The National Advocacy against Mortgage Servicing Fraud assists homeowners who have been victimized by various forms of mortgage servicing fraud. These practices include, but are not limited to not posting a payment as timely; forced placed insurance; daily interest when payments are made after due date; charging late fees on the entire outstanding principal; charging interest on servicing fees; abusive collection practices; charging prepayment penalties when not authorized by either the note or law; usurious forbearance agreements; and foreclosure abuses. The Advocacy has not received any funds from any source whatsoever, and relies entirely on its volunteers to individually fund whatever monies are needed to assist consumers, which basically is for web sites, long distance telephone calls, copies, postage and faxes. On a daily basis, we assist individual homeowners who have been targeted by their mortgage servicer. Everyone is aware of such terms as home equity theft and predatory mortgage lending. However, very few people are aware of mortgage servicing fraud, and this is the abuse that I would like to discuss with you today, for it is my firm belief that this is the missing link in the scheme of things, and hopefully I will be able to bring into the light the reasons for mortgage servicing fraud, the effects it has on entire communities, the secondary mortgage market, investors and taxpayers. I hope that this committee, after reading and hearing my testimony will no longer look at predatory -1-
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mortgage lending as a process that begins with the mortgage broker and ends with the mortgagee, but will look further and realize that predatory lending breeds further abuse, in the form of mortgage servicing fraud. As you know, predatory mortgage lending often consists of lenders who purposely target homeowners with substantial equity but less than perfect credit for high-cost, abusive mortgage loans. The lenders employ a bogus theory of high risk to legitimize lending money at unconscionably high interest rates and engaging in other abusive practices which increase the revenue on the loans. The abusive practices include loan flipping, balloon payments, and the sale and financing of overpriced credit life and disability insurance (insurance packing). Predatory mortgage lending by its innate nature, also brings about mortgage servicing abuse, because the consumer is already tagged with a nomenclature, and the mortgage servicers perpetrate this title consistently. That title is “deadbeat”. See Exhibit A for a list of the abusive practices and a description of each. WHY DOES MORTGAGE SERVICING FRAUD OCCUR? First, with some exceptions, the quality of servicing ranges from poor to abysmal, for reasons that are no secret. The financial incentives to provide good service to customers, which work in other sectors of our economy, don’t work for loan servicing. The firm servicing mortgages will not get more customers by improving service quality, only higher costs. And the firm providing minimal service or less will not lose customers, because their customers are locked in. -2-
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While this problem has been around for some time, the development of the sub-prime market in the 90s raised the stakes significantly. Sub-prime borrowers, unable to meet traditional underwriting requirements, became a profitable source of business at higher prices than those paid by prime borrowers. Mortgage credit thus became available to a group that had previously been excluded from the market, which was a plus. Unfortunately, this group was also highly vulnerable to a number of sharp practices that left some worse off than if they had never borrowed. These practices came to be called "predatory lending”. Sub-prime loans had to be serviced, and some of the firms doing the servicing adopted practices as outrageous as those used by predatory loan originators. Here are some: *They purchased overpriced homeowners’ insurance, even though the borrower already had a policy, and paid for it by increasing the borrower’s balance so it would not be noticed for a period, if ever. *They failed to credit borrowers for extra payments. *They held scheduled payments past the grace period before posting them, thus collecting late fees. *They imposed prepayment penalties on borrowers who were refinancing, even though the notes stated that there was no such penalty. -3-
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*In the past, they failed to report good payment history to the credit reporting bureaus, thus preventing borrowers from improving their credit scores. It is hoped that the new legislation requiring the prompt reporting of all information will alleviate this problem. *The statements provided borrowers were late, and so poorly designed that even an expert found them incomprehensible, thus making it difficult for borrowers to detect their shenanigans. Predatory servicing is even easier to get away with than predatory lending, since the customer has already been landed and has no place to go. While numerous legislative and regulatory actions have been taken at the Federal and state levels to curb predatory lending, predatory servicing has been relatively immune until recently. In a much-publicized action last year, the Federal Government sued Fairbanks Capital Corporation for a series of practices similar to those cited above, and won an injunction against continuation of the practices, along with a $40 million fine. Such suits are useful but won’t stop predatory servicing because there is too much money to be made. Predatory servicing won’t go away until it starts resulting in lost customers. That will happen when borrowers are empowered to select another lender to service their loan. Second, high equity makes homes attractive for mortgage servicing fraud. High equity is generally the result of two factors: (1) the appreciation of property values; -4-
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and (2) payment of mortgages, which over time results in the reduction of the principal balance on the mortgage loan. Third, the absence of strong consumer protection laws and the lack of enforcement of existing laws permit these scams to flourish. For example, until 2002, loan servicers were not classified as a bank, lender, broker, debt collector, or any other entity governed by state and/or federal laws. Finally, in Schlosser v. Fairbanks, it was decided that Fairbanks Capital (a mortgage servicer) was in fact a “debt collector” if the debt they were servicing was in default at the time they assumed the servicing contract. (See Exhibit B) This, at least, gave footing to consumer complaints under the FDCPA. In addition, many states permit non-judicial foreclosure sales, which facilitate foreclosures and impede homeowners' efforts to raise defenses in court. Fourth, consumers do not have a choice concerning who will service their loans. The decision is made between the original mortgage lender, and the trustee of the REMIC, or REIT, and they are the customers of the servicer. When a tranche of sub-prime loans are bundled and sold in the secondary market, many servicers will target those loans as an easy target, and will foster the impression that the mortgagors are “deadbeats”, knowing that the consumers are a captive market with no access to any other way of paying their monthly principal and interest on their mortgage. Fifth, greed is the primary driving force behind mortgage servicing fraud. The game is motivated by the economics of loan servicing. In recent years, servicing has become an increasingly specialized activity. Many firms originate few or no loans, but purchase servicing contracts as an investment. Even among firms that both -5-
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originate and service loans, servicing is viewed as a profit center that must justify itself by earning a target rate of return. The investment in servicing is what a specialized servicer pays for it, or what an originating firm that retains the servicing could have sold it for. For example, lets say a firm pays $1 million for the right to service a loan portfolio of 1,000 loans with total balances of $100 million. The portfolio has an estimated average life of 7 years. The servicing fee on the $100 million is .25%, which generates income of $250,000 a year. It only costs the firm $50 a year to service each loan, or $50,000 in total. Net income is thus $200,000 a year for 7 years. The rate of return on investment is 9.20%. Now add late charges, which by industry practice are retained by the servicing agent. If a late charge of 5% of the payment is collected from just 1% of the borrowers, the rate of return on the investment in servicing jumps almost to 10%. If late charges can be collected from 5% of the borrowers, the rate of return exceeds 12%. TYPES OF VICTIMS The loans that fall prey to mortgage servicing fraud consist of sub-prime or non-conforming loans, usually in a trust wherein the note holder has either declared bankruptcy or is no longer in business. Homeowners who tend to have substantial equity are perhaps the principal targets. The abusive business practices of the mortgage servicers have resulted in a substantial increase in foreclosures which divest homeowners of their property and often make them homeless. The result is destabilization of what were formerly vibrant neighborhoods populated by owner-occupied homes and an increase in the need for government-funded social service agencies to address the social ills generated by this -6-
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destabilization. We also see that many of the Trusts are not making distributions to their certificate holders, thus causing an increasingly growing distrust of the pass- though certificates. ILLUSTRATIVE CASES At this point, I would like to provide the stories of three victims of mortgage servicing fraud abuse. Mr. M. is a forty year old who lives in Monroe County. He is gainfully employed, and has consistently paid his mortgage in a timely manner. He has owned his home in eight years. In November 2001, Mr. M was notified by his mortgage servicer that they were placing his loan in default. The reason was that he was in arrears for four months. Mr. M. disputed the servicer’s claim, and immediately wrote qualified RESPA written letters of dispute. Despite three such letters, the mortgage servicer never responded to Mr. M’s RESPA inquiry, and his loan was foreclosed on. After commencing litigation, a redacted copy of the loan history was finally supplied to Mr. M. A line-by-line audit of the information provided indicates that at the time of foreclosure, over $8,000 in principal and interest payments were missing, charges for a property in Cleveland, Ohio, were charged to Mr. M’s account, and usurious fees were assessed. Ms. X is a fifty-eight year old African-American woman. She has owned her home in Monroe County, Pennsylvania since January 2000. Over a period of three years, the value of her home has dropped over $40,000, based on the BPO’s conducted -7-
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by her mortgage servicer. There is no explanation for this decrease in value, and is currently under investigation Ms. Y is a fifty-year-old immigrant. She has owned her home in Monroe County, Pennsylvania, since November 1999. Her mortgage servicer assessed her with forced placed insurance fees, in the amount of $1,998 per year, despite the fact that Ms. Y had hazard insurance in place on her home. Lenders require homeowners to carry homeowner's insurance, with the lender named as a loss payee. Mortgage loan documents allow the lender to force place insurance when the homeowner fails to maintain the insurance, and to add the premium to the loan balance. Some predatory mortgage lenders force place insurance even when the homeowner has insurance and has provided proof of such insurance to the lender. Even when the homeowner has in fact failed to provide the insurance, the premiums for the force placed insurance are often exorbitant. Often the insurance carrier is a company affiliated with the lender. Furthermore, the cost of forced placed insurance is frequently padded because it covers the lender for risks or losses in excess of what the lender may require under the terms of the mortgage loan. The taking of the forced placed fees placed Ms. Y’s mortgage in default, and she was forced into bankruptcy to save her home. The case is on going. These cases typify what we have been seeing in mortgage servicing fraud. Why are we seeing these cases? Mortgage servicers say that the fees assessed and handling of the loan is correct and justified. This explanation is bogus. These are not uncollateralized, signature loans. If they were, the argument about risk might be justified. Most predatory lenders lend up to only 80% of the value of the home, leaving -8-
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the other 20% as a cushion to protect the lender in case of foreclosure. If the homeowner is able to make the payments, the revenue stream created by these loans is very profitable because of the high interest, points and other revenue enhancers. If in fact a default occurs, the lender forecloses, often buys the home at the foreclosure sale, and resells it for a substantial profit. The mortgage servicing fraud is a result of greed, and the need to always increase the bottom line of profits. I would like, at this time, to focus on one of the ways that equity is stripped from a home, how a homeowner is forced either into foreclosure or bankruptcy and how this has an effect on an entire community. The path toward losing a home is actually quite simple. The first phase is designed to fabricate the default, and typically begins with the Servicer’s records being fed false data. Usually the very first fraudulent entry made is the manipulation of the date the monthly payment is received in order to create a late payment. This will now trigger a “late fee”. The “late fee” is deducted from the next month’s principal and interest payment, which then creates a) a partial payment, which is placed in suspense and b) another late fee. The homeowner is now considered 1 month delinquent. The following month, when the principal and interest payment is again made on a timely basis, the payment will be divided once again. Part of the payment will be applied to the money being held in suspense to make a whole month payment. Part of the payment will be applied to the new late fee, and part of the payment will be placed in suspense, because it is now a partial payment for the current month’s scheduled payment. This series of events will continue until the consumer is 90-days late. At that point, the loan is placed into default. -9-
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Usually, at the 60-day delinquent point, the Servicer will initiate property preservation. This will involve real estate agents “driving-by” the property to make sure that it is not in a condition that would jeopardize the investment of the trust. This, in and of itself, is a normal procedure of the mortgage industry, and is considered innocuous. However, in order to reap additional fees, the Servicer will normally bill for 2, 3 or even 4 “drive-bys” per month, week, or even per day, charging anywhere from $10.00 to $150.00 per occurrence. In most cases, the “real estate personnel” who are doing the property preservation are actually employees of the Servicer, and the Servicer is actually just creating book entries in order to garner additional fees. At the 90-day delinquent point, the Servicer will institute foreclosure proceedings. This is where I wish to focus your attention, to bring to the forefront what has happened not only in the Poconos, but also throughout the nation. Once the foreclosure process has commenced, the Servicer will order a “BPO”, or Brokers Price Opinion. This is meant to be used by legitimate sellers and buyers of real estate, who are interested in a property and wish to know the best, worst and median price of a home they are contemplating selling or purchasing. However, in the case of mortgage servicing fraud, it has become a lethal weapon. The mortgage servicer will use the BPO in lieu of an Appraisal, performed by a licensed appraiser. The mortgage servicer will also order a “quick sale” price for the property. This will often drop the price of a home by thirty, forty, or even fifty thousand dollars. In the case of one mortgage servicer, if the BPO does not come in low enough, the “internal review” will lower the -10-
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price of the home down to what they feel is should be. (See Exhibit C) Why would a mortgage service do this? 1. According to most pooling and servicing agreements, once a property has been placed in default and it has been determined that recoupment of any “advanced” fees is negligible, the mortgage servicer no longer need forward the monies collected to the trustee for distribution. Usually, at this point in time, the consumer is still making mortgage payments, however, they are being applied to fees assessed by the servicer. This now leaves the servicer free from having to advance any of its own money, and leaves the mortgage payments free for application to fees. 2. According to most pooling and servicing agreements, once a property has been placed in default, the mortgage servicer is reimbursed from the trust for all out-of-pocked expenditures, including servicing advances. In addition, the servicer is entitled to recoup from the proceeds of the sale any advances not reimbursed by the trust. If, however, there is no realization of sufficient capital to pay off the note and recoup the out-of-pocket expenditures, the mortgage servicer is reimbursed by the insurer of the trust. 3. According to most pooling and servicing agreements, the mortgage servicer has the right to purchase from the trust the notes of any properties placed in default. The certificate holders of the top tiers of the trust are reimbursed for this loss through the lower tiers over collateralization. 4. The servicer can have a judgment entered against the homeowner for any arrearage not covered after the foreclosure sale. -11-
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5. The servicer is often the entity that enters the bid for the property, and they will then place the property in an REO and attempt the sale of same for full market value. What typically happens is that i) The use of a “fast sale” BPO deflated the value of the home by tens of thousands of dollars; ii) The mortgage servicer no longer needs to advance any funds to the trust; (iii) The mortgage servicer is reimbursed from the trust for any funds advanced; and (iv) the mortgage servicer will purchase a home a below market cost. As seen in the Poconos, this practice of having undervalued, or “quick sale” BPO’s performed has the devastating effect of devaluing an entire community. Once one or two homes are placed into wrongful foreclosure (and due to the fact that many loans in the Poconos are sub-prime or non-conforming, there is a high propensity towards this behavior on the part of the servicers), any legitimate appraisal for a refinancing request by any of the homes in the proximity of the wrongfully foreclosed home, will need to be “adjusted” to reflect the value of the home due to the low sale or foreclosure price of the comparable wrongfully foreclosed home. Once you have several homes with high loan-to-value ratios because of the downward trend of the values of the homes, an avalanche effect begins, effecting home after home, consumer after consumer, until finally, you have the phenomenon of people simply walking away from their homes because they cannot afford their current mortgages; they have been placed in a fraudulent status of default; or they cannot refinance because of the downward trend of the values of their homes. -12-
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We must also, at this point in time, look at how this trend will affect the secondary mortgage market, the REMICS, REITS, and pass-through certificates. First, let us address the distribution, or lack thereof, of dividends (or interest) to the certificate holders. If enough loans in a trust are placed in default, the trustee will not have sufficient funds to make a distribution. In several trusts being serviced by known fraudulent mortgage servicers, distributions have not been made to certificate holders for over a year. This may, or may not, cause litigation (usually in the form of a class action) to be commenced on the part of the certificate holders; adding additional expense in the form of attorney fees for both the certificate holders, the trust originator, the trustee, and often the securities dealer. This will eventually make it more and more difficult to sell the securitization of these loans in the secondary market, and will eventually affect the ability of lending institutions to offer credit to borrowers. We also need to look at the tax consequences to the REMICS. If a multitude of homes are wrongfully foreclosed on, the REMIC may in fact be in violation of tax code. The foreclosures may not be considered “foreclosures” and may actually be considered a “prohibited transaction” causing the asset cap to be effected. This, in turn, will affect the tax consequences for the certificate holders, and once again, this will affect the ability to sell securitizations, and will affect the ability of lending institutions to offer credit. The implications and effects of mortgage servicing fraud are far reaching, and need to be considered when looking at real estate fraud or predatory lending. I would like to propose that when future legislation is considered that consideration should be given that a certified appraisal performed by a licensed -13-
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appraiser accompany any foreclosure. This will curtail the current practice of using “quick sale” BPO’s and falsely devaluing the value of a home, which in turn will serve to protect not only the certificate holders of the trusts, but also the neighboring property owners by maintaining the value of the homes in a neighborhood, and guaranteeing that the “fair market value” of a home is preserved. Concerning the mortgage servicing aspect of the industry, it should be kept in mind that the great majority of loans today are serviced by firms that don’t own the notes. The servicer is paid by, and is beholding to the owner of the mortgage. Borrowers have no say in who services their loan, and if they get poor service, about all they can do is write a letter of complaint to HUD or the FTC. It is hardly surprising, therefore, that servicing does not generally meet the needs of borrowers. However, it doesn’t have to be that way. Servicing systems can be designed to meet the needs of borrowers as well as the trusts. The borrower would be the client along side the lender, and have the right to change servicers. This would invoke competition between servicers to keep their cash flow basis, and would help prevent the fraud that is currently being perpetrated. I estimate there are roughly 38 million homeowners who have a long-term relationship with a servicing agent that they did not choose. Their loan provider was either a mortgage broker, or a lender who subsequently sold the servicing. These borrowers should be empowered to opt out. -14-
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To avoid undue disruption and encourage rational decisions, the opt-out option should become effective only after (approximately) 6 months of servicing, and should apply only once. If borrowers have the right to opt out, many firms with servicing capacity will vie for the privilege of serving them. The stream of income generated by servicing contracts has value. Ordinarily, these contracts must be purchased for anywhere from 1/2% to 2% or more of the balance. An opt-out contract would be free. To win the favor of opt-outs, servicers would be obliged to compete. Since servicers are paid by lenders rather than by borrowers, they will compete with service, which is exactly what is needed. Firms with efficient and courteous support people, short waits, easy-to-read statements, etc., will draw opt-outs from firms that have served the consumer badly. The market would, at long last, begin to work for the borrower. This concludes my testimony. Once again, thank you for your time and kind consideration. I will be available to provide answers to any questions that may arise. . -15-
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EXHIBIT A The following is a catalogue of predatory mortgage lending abusive practices. The practices have been placed into categories of abuses associated with the origination of the loan, servicing of the loan, and collection of the loan. I. ORIGINATION OF LOAN 1. Solicitations. Predatory mortgage lenders engage in extensive marketing in targeted neighborhoods. They advertise through television commercials, direct mail, signs in neighborhoods, telephone solicitations, door to door solicitations, and flyers stuffed in mailboxes. Many of these companies deceptively tailor their solicitations to resemble social security or other U.S. government checks to prompt homeowners to open the envelopes and otherwise deceive them regarding their predatory intentions. 2. Home Improvement Scams. Predatory mortgage lenders use local home improvement companies essentially as mortgage brokers to solicit business. These companies solicit homeowners for home improvement work. The company may originate a mortgage loan to finance the home improvements and then sell the mortgage to a predatory mortgage lender, or steer the homeowner directly to the predatory lender for financing of the home improvements. The home improvements are often grossly overpriced, and the work is shoddy and incomplete. In some cases, the contractor begins the work before the three-day cooling off period has expired. In many cases, the contractor fails to obtain required permits; thereby making sure the work is not inspected for compliance with local codes. 3. Mortgage Brokers - Kickbacks. Predatory mortgage lenders also originate loans through local mortgage brokers who act as bird dogs (finders) for the lenders. Many predatory mortgage lenders have downsized their operations by closing their retail outlets and shifting the origination of loans to these brokers. These brokers represent to the homeowners that they are working for the homeowners to help them obtain the best available mortgage loan. The homeowners usually pay a broker's fee. In fact, the
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