As the subprime shakeout works its way through housing’s crumple zone, and delinquent borrowers struggle to restructure their loans or otherwise hold on to their property,

“I’m innocent and you’re guilty!“

the search for blame among the lending community’s dramatis personae is increasingly zeroing in not so much on the subprime lenders as companies but rather on the individual originators –

 

I think I see a mortgage broker in the trees

mortgage brokers — who placed customers into the loans:

Originator. An individual who works for a mortgage broker or direct lender, and who interviews the applicant in hopes of turning him into a borrower.

 

Now then, Mr. Apricot, do you qualify for this loan?

As Bob Hagerty of the Wall Street Journal provocatively asks:

The political debate over how to deal with a surge in defaults on home loans is raising a question that consumers ought to consider: Is my mortgage broker really working for me?

To which the answer is, “Of course not.”

 

“He’s not?!?”

“Why would you think so?”

Borrowers often see mortgage brokers as their allies, searching far and wide for just the right home loan at an attractively low price. But many brokers are making it clear they don’t see things that way. They are fighting efforts by federal and state politicians to impose a fiduciary duty on them to put their customers’ interests first, as lawyers, real-estate agents and financial planners generally are required to do with their clients.

“The mortgage broker does not represent the borrower,” says Chris Holbert, president of the Colorado Mortgage Lenders Association. “We sell access to money.”

“Selling access”? Spoken like an independent actor!

“Don’t look at me, I just sell access to money.”

Such a view is seemingly at odds with the CMLA’s noble statement of “Who We Are“:

 

Who We Are

The Colorado Mortgage Lenders Association is an organization committed to a world of homeownership achieved through the practice of integrity-based lending. We serve our community through effective education, principled representation, and gracious networking to advance free enterprise and the highest ethical standards in the mortgage lending industry.

Apparently “highest ethical standards” can be loosely translated as “selling access to money.”

The industry group recently opposed language in Colorado legislation that would have required mortgage brokers to act “primarily for the benefit of the borrower.”

 

We’re against having to work primarily for benefit of the borrower

That provision was later deleted.

 

There goes that nasty fiduciary duty

I’m sure they had their reasons, although what those might be is, shall we say, not readily apparent, since lawyers, accounts, securities brokers and others have been generally found to have fiduciary duty, and have learned to live with it.

 

Brokers, most of whom are lightly regulated by state agencies, are involved in originating around 60% of all home loans, according to Wholesale Access, a research firm in Columbia, Md. The industry is under scrutiny in Washington and state capitols because rogue brokers have been accused of contributing to the spike in mortgage defaults and foreclosures by encouraging borrowers to take risky loans and by charging excessive fees.

 

You’ve contributed to a spike in defaults!

That doesn’t mean consumers should shun all brokers.

No need to avert your eyes, folks

Many provide good service and can help people sort through the complexities of choosing a loan.

I’ll go further than Mr. Hagerty — most mortgage brokers add value for their customers.

Why then the resistance to a fiduciary standard?

 

Consumers don’t necessarily get a better deal by going directly to lenders, which also can charge excessive rates and fees.

Like their cousins the real estate attorneys, mortgage brokers perform services, assembling and analyzing customer information, helping customers determine how big a loan they can prudently afford, and in general providing the front-end loan application assembly that lenders value. But as classic middlemen, they are paid contingent, if and only if the loan actually closes, which means they are pro-transaction.

 

We get paid only if you buy!

None of this is to say that mortgage brokers are any more venal than the rest of us. It’s simply a feature of their economic incentives.

 

Commission? Commission?

When you are paid a commission wholly contingent on closing a transaction, you have an economic incentive to be pro-transaction. When you further space each customer’s transactions apart by many years, past the memory and grudge horizon, you invite short-term behavior to the customer’s detriment.

Camilo Ramos, a house painter and remodeler in Minneapolis, wishes he had asked a few more questions of his broker before refinancing a home loan last year. Mr. Ramos says he wasn’t warned how much his monthly payment on the $300,000 adjustable-rate mortgage could jump after an initial low-payment period. The brokerage firm, Source Lending Corp., Brooklyn Park, Minn., received total compensation of $13,517 from the transaction, says Jeff Skrenes, a member of the Minnesota branch of the Association of Community Organizations for Reform Now, a nonprofit advocacy group [that is not universally beloved — Ed.], which is trying to help Mr. Ramos refinance into a more suitable loan.

 

There’s no question fees of 4.3% of loan proceeds are way higher than they should be.

Chris Hacker, owner of Source Lending, says his firm did nothing wrong in this transaction and adds, “We have thousands of satisfied clients.” [Google finds at least one dissatisfied one — Ed.]

 

Favorable behavior occurs only when there is a time series record, so the prisoner’s dilemma effect of reputation can come into play — hence Mr. Hacker’s invocation of his thousands.

 

Every one of us a satisfied customer

When the professional-client relationship is brand new, it’s risky. As I previously expressed it:

 

Welcome to the realm of agency risk. The financial interests of the individual originator are misaligned with those of the borrower family, and with her own company. It goes like this:

1. Applicant lacks enough income to repay loan, so unscrupulous originator commits fraud by inflating borrower’s income.

2. Borrower now qualifies for a loan.

3. When loan closes, originator is paid a closing fee (often, one percent of the loan), and has no further responsibilities.

Got it? Lying about a borrower’s income is worth money for the originator unless somebody catches on.

 

Flight is always part of the business model

Meanwhile, the poor borrower is stuck with payments he cannot afford:

How then to pick a good mortgage broker?

Ask tough questions first. Among them: In searching for loans, do you feel obliged to put my interests ahead of yours?

 

Is that a trick question?

Exactly how much will you earn on this loan? And how many lenders do you check regularly for rates and terms?

Some brokers offer to fix their fees in advance so they won’t have any incentive to recommend a loan that would be more lucrative for them.

Fixing the commission amount changes one incentive — which loan to take — but leaves the more fundamental one untouched — just do a loan, any loan, no matter how it is.

Trade group Upfront Mortgage Brokers Association maintains a list of brokers who set their fees in advance.

 

We set our fees in advance

The National Association of Mortgage Brokers, the main nationwide trade group for brokers, argues that brokers work neither for consumers nor for lenders.

If you work neither for buyer nor for seller, are you working for anyone but yourself?

Shouldn’t your customers know this?

Did you know that my glasses have no lenses in them?

[Continued tomorrow in Part 2.]

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