RESPA

RESPA

The Real Estate Settlement Procedures Act, a federal consumer protection statute first enacted in 1974.

RESPA was designed to protect home purchasers and owners shopping for settlement services by mandating certain disclosures and prohibiting referral fees and kickbacks.

Current Disclosure Requirements: Different disclosure rules kick in at different stages of the home-buying or borrowing process.

At Time of Loan Application: Within three business days of receipt of a loan application, the lender must provide the applicant with a Special Information Booklet which describes the various real estate settlement services; a Good Faith Estimate (GFE) of settlement costs, which lists the estimated charges the borrower may have to pay at closing (see Settlement Costs); and a Mortgage Servicing Disclosure Statement, which discloses whether the lender intends to service the loan or transfer it elsewhere.

Before Closing: Before settlement service provider A refers an applicant to service provider B, A must provide the applicant with an Affiliated Business Arrangement (AfBA) Disclosure if A has an ownership or other beneficial interest in B. An applicant may request the HUD-1 Settlement Statement, which shows all charges imposed on buyer/borrowers and sellers, one day before settlement.

At Settlement: The borrower receives the final HUD-1 Settlement Statement at settlement and an Initial Escrow Statement that itemizes the estimated taxes and insurance premiums to be paid from the escrow account and the amounts to be paid into the account.

After Settlement: Borrowers must be provided with an Annual Escrow Statement which shows all inflows and outflows to and from the escrow account, and the balances, during the year. If the firm servicing the loan transfers the servicing to another firm, the borrower must be notified at least 15 days before the effective date of the transfer.

Practices Currently Prohibited:

Kickbacks, Referrals, and Unearned Markups: RESPA prohibits any settlement service provider from giving or receiving anything of value for the referral of business in connection with a mortgage or charging fees or markups when no additional service has been provided.

Seller Required Title Insurance: A home seller is prohibited from requiring a borrower to use a particular title insurance company.

Escrow Accounts Larger than Necessary: A lender may not require a borrower to pay into an escrow account more than 1/12 of the total payments out of the account during the year, plus any shortages. The cushion a lender holds for unexpected disbursements cannot exceed 1/6 of the disbursements for the year.

Loan Servicing Complaints: RESPA provides a complaint procedure for borrowers who are being taken advantage of by the firm servicing their loan. See Servicing/Predatory Servicing.

Proposals for RESPA Reform: The existing HUD rules have not prevented a number of market abuses and have not been effective in driving down settlement costs. In response, in July 2002, HUD announced a wide-ranging set of proposals “to simplify and improve the process of obtaining home mortgages and reduce settlement costs for consumers.” Because these proposals threatened the interests of several powerful groups, they were still being debated in September 2003, when this was written.

Disclosing Mortgage Broker Compensation: One proposal would change the way in which the compensation of mortgage brokers is reported, so that a broker's total compensation is transparent to borrowers. It is designed to deal with the practice of steering unwary borrowers into high-rate loans that command rebates from lenders, which the broker pockets. See Mortgage Scams and Tricks/Scams by Loan Providers/Pocket the Borrower's Rebate.

Under the proposed new rules, rebates would be reported on the Good Faith Estimate as a payment by the lender to the borrower. The borrower would have to authorize the rebate to be paid to the broker—as if it were coming directly out of the borrower's pocket, which for all practical purposes it is. Most brokers are against this rule, but their only serious argument is that lenders are not being held to the same standard.

Revising the Good Faith Estimate (GFE): The second of HUD's proposals would change the format of the GFE, on which lenders and mortgage brokers disclose settlement costs, to make it more useful to borrowers as a shopping tool. The existing GFE lists each individual settlement charge, which encourages borrowers to focus on individual charges. This distracts them from what should be their major focus, which is the total of settlement charges. See Settlement Costs/Fees Paid to Lender.

The existing GFE is also open-ended, inviting lenders to add new charges, which some do. In addition, the existing GFE makes no distinction between charges that lenders can control, and those they cannot. All are “estimates” subject to change. And they often are changed, after borrowers pass the point of no return, and always to the borrower's disadvantage. See Mortgage Scams and Tricks/ Strictly Lender Scams/Pad the GFE.

The proposed GFE is not simple, because the content is not simple, but it is light-years ahead of the existing GFE. The major difference is that settlement costs are consolidated into a number of major groups and only the total is reported for each group. A second major difference is that the new GFE limits the extent to which the costs may change. These limits are different for services controlled by the lender and services for which the borrower may shop independently.

Guaranteed Mortgage Package (GMP): The most far-reaching and controversial of HUD's proposals is to authorize lenders and others to offer borrowers complete (or almost complete) packages of loans and settlement services at a single price. This is permissive rather than obligatory. Lenders who package would use a Guaranteed Mortgage Price Agreement (GMPA) in lieu of the proposed new obligatory GFE.

GMPs could be offered by lenders or other entities such as real estate companies or title insurers. A package must include a loan at a guaranteed interest rate plus a guaranteed dollar price for all settlement services excepting per diem interest, hazard insurance, and escrows. Packagers can deal freely with their own affiliates and are exempt from kickback prohibition rules.

The major purpose of the GMP is to drive down settlement costs. Under existing arrangements, competition in the markets for settlement services is “perverse”—it tends to drive up prices or to prevent them from falling in response to deployment of more efficient technology. Perverse competition arises whenever one party selects the seller of the service and another party pays for it.

For example, lenders select the mortgage insurer but borrowers pay the premiums. Instead of competing for customers by lowering prices and improving service, service providers compete for the favor of the lenders.

While kickbacks for the referral of business are illegal, mortgage insurers and others have found legal ways to accomplish the same thing. The only difference is that the legal ways are more costly.

Under the GMP proposal, it is expected that competition will force down the prices that packagers pay for settlement services. Because the price of a package will consist solely of the interest rate plus a single dollar price for all settlement services, it will be relatively easy for borrowers to shop and compare. The major concern is whether there will be enough packagers to ensure that they will compete.

Because I share this concern, I support an alternative two-package proposal advanced by title insurers. One package, offered only by lenders, would consist of lender-related services. These are services provided directly by the lender or by third parties, such as independent appraisers, at prices known by the lender. This package would have the same rate guarantee as the GMP, but the price guarantee would cover only lender-related services.

The second package, offered by title insurance, real estate, or other non-lender firms, would consist of all real-estate-related services. These are all the services needed in the settlement of the real estate transaction. The price of real-estate-related services would also be guaranteed. Both groups of packagers would have the same type of exemptions (from restrictions on referral fees, for example) as GMP packagers.

The two-package approach would materially increase the number of competitive options available to borrowers. Many lenders reluctant to offer GMPs will be willing to offer lender packages because, except for the guarantee, it is what they do now. Afew forward-looking lenders already guarantee their settlement service package. Real estate firms that are disinclined to become subcontractors to lenders offering GMPs will take advantage of the opportunity to develop their own distribution networks.

Under the two-package approach, borrowers could buy a complete GMP or they could buy separate lender and real estate packages. It would be a simple matter to compare the price of a GMP package with the sum of the prices on a lender package and a real estate package.

At the time this was written, HUD was wrestling with the issue of one package versus two.