Real Estate Settlement Procedures Act (RESPA): Disclosure of Fees Paid to Mortgage Brokers (Retail Lenders), and Notice of Consideration of Negotiated Rulemaking

SUMMARY: The Department has developed a proposed rule presenting

alternative approaches to the disclosure of fees to retail lenders and

other matters relating to such fees that are addressed in HUD's current

regulations implementing the Real Estate Settlement Procedures Act

(RESPA). Under this proposed rule, the Department specifically seeks

comments on whether the disclosure of indirect fees paid to mortgage

brokers is useful to the consumer and should continue to be required.

Disclosure of direct charges imposed upon the borrower or seller is

clearly required under Section 4 of RESPA and is not the subject of

this proposed rule.

The Department also has commenced the convening process to

determine whether to establish a committee for negotiated rulemaking on

this proposed rule. If negotiated rulemaking appears desirable and

feasible, then the Department expects to undertake the establishment of

such a committee by publication of a separate notice in the Federal

Register. If a negotiated rulemaking committee is formed, the public

comments concerning the substance of this proposed rule will be given

to the committee for consideration in its deliberations. If it is

determined that a committee is not appropriate, the comments submitted

on this proposed rule will be used by the Department in promulgating a

final rule.

DATES: Comment due date: November 13, 1995.

ADDRESSES: Interested persons are invited to submit comments regarding

this proposed rule, the feasibility of forming a negotiated rulemaking

committee, and suggestions for committee participation to the Rules

Docket Clerk, Office of General Counsel, Room 10276, Department of

Housing and Urban Development, 451 Seventh Street, SW., Washington, DC

20410-0500. Communications should refer to the above docket number and

title. Facsimile (FAX) comments are not acceptable. A copy of each

communication submitted will be available for public inspection and

copying between 7:30 a.m. and 5:30 p.m. weekdays at the above address.

FOR FURTHER INFORMATION CONTACT: David R. Williamson, Director, RESPA

Enforcement, Room 5241, Department of Housing and Urban Development,

Washington, DC 20410; telephone 202-708-4560; or (for legal questions)

Grant E. Mitchell, Senior Attorney for RESPA, Room 10252, Department of

Housing and Urban Development, Washington, DC 20410; telephone 202-708-

1552 (these are not toll free numbers). Hearing or speech-impaired

individuals may call 1-800-877-8339 (Federal Information Relay Service

TDD, which is a toll-free number).

SUPPLEMENTARY INFORMATION: The current RESPA regulations make clear

that ``secondary market transactions'' are not covered by most

provisions of RESPA: ``a bona fide transfer of a loan obligation in the

secondary market is not covered by RESPA and this part, except as set

forth in section 6 of RESPA and Sec. 3500.21 [mortgage servicing

transfers].'' The current rule details certain tests for what does or

does not constitute a secondary market transaction. The Department

seeks comments on its classifications of mortgage loan transactions

under the current rule as ``primary funding'' or ``secondary market''

transactions and, in particular, on whether the Department has drawn

the line in the appropriate place between a primary funding and a

secondary market transaction.

The Department also seeks comments on aspects of its current

regulations that provide, inter alia, that all fees paid to mortgage

brokers, either directly or indirectly, must be disclosed on the Good

Faith Estimate and the HUD-1 or HUD-1A, which are furnished to

borrowers/consumers. Specifically, the Department seeks comments on its

determination that the disclosure requirement for ``all charges imposed

on the borrower'' includes fees paid to the mortgage broker by the

lender, because all charges are ultimately borne by the borrower.

Finally, the Department, in this proposed rule, also requests comments

regarding a related issue: whether certain compensation by lenders to

mortgage brokers normally paid after settlement, based on the volume of

loans produced, should be permitted and disclosed under RESPA.

I. Certain Definitions in Proposed Rule

In this proposed rule, mortgage brokers 1 and certain other

mortgage originators are frequently referred to as ``retail lenders.''

Entities that purchase mortgage loans are frequently referred to as

``wholesale lenders.'' In any event, the description of the lender is

not dispositive of whether the transaction is covered by the rule. The

proposed rule would apply to a transaction based on the characteristics

of that transaction, rather than on whether the lender generally

functions in a retail or a wholesale capacity.

\1\ The historical discussion in this proposed rule uses the

term ``mortgage broker'' because this is the terminology that the

Department used in addressing the issue in both the informal opinion

and regulatory context. Section 3500.4(d) of the current RESPA rule

withdrew all previous informal legal opinions, in particular a

letter of August 14, 1992, issued by a former General Counsel of

HUD, which dealt extensively with the disclosure of mortgage broker

fees and the manner in which such fees should be disclosed on the

HUD-1. This preamble uses the term ``retail lender'' whenver

feasible in discussing the proposed rule and when the discussion

does not clearly require the use of the term ``mortgage broker.''

II. RESPA Coverage

A. Background

The Real Estate Settlement Procedures Act of 1974 (12 U.S.C. 2601

et seq.) (RESPA) was enacted for several purposes, ``including insuring

that a consumer engaged in a real estate settlement is afforded

effective information about the transaction in a timely manner.'' In

addition, the Congress sought to address specific abusive settlement

practices that had developed in certain areas of the country. In this

proposed rule, HUD is seeking public input on specific disclosure-

related issues, including where the lines should be drawn to determine

whether RESPA applies.

Since 1974 the mortgage lending industry has experienced a rapid

evolution. This industry has experienced major technological advances--

new and different kinds of business entities have entered the field,

and new business relationships have emerged among the various entities

that serve the consumer in a single lending transaction. Much of the

change that has occurred is attributable to the growth of the secondary

market during the 1980s.

Prior to the 1980's, a mortgage loan transaction was relatively

easy to understand. A lender (e.g., a savings and loan, mortgage bank,

or commercial bank) typically processed a loan from

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start to finish. The loan application was processed, evaluated, and

underwritten by the lender's own employees. The loan was funded by and

closed in the lender's name. The loan was usually held in the lender's

portfolio of loans, and any activities regarding the loan (receiving

and crediting the payments, paying out monies from an escrow account,

etc.--sometimes called ``servicing'') were handled by that lender.

Sometimes the loan was sold to another entity, in a ``secondary

market'' transaction that was a precursor of today's more sophisticated

secondary market transactions.

By the end of the 1970s and into the early 1980s, two Government-

sponsored enterprises (Federal National Mortgage Association (Fannie

Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac)) had

developed into major purchasers of mortgages from original lenders. By

the early 1980s, these secondary market entities not only bought

mortgage loans, but repackaged many of these loans and sold them as

mortgage-backed securities and, with the liquidity created, were able

to be even greater purchasers of lenders' mortgage loans. By 1994,

Fannie Mae and Freddie Mac were purchasing or otherwise dealing in more

than 70 percent of all the conventional 1- to 4-family residential

mortgage loans originated in the United States.

Today, the retail lender that works with the consumer to process

and close a mortgage loan often is not the entity that will hold or

service the loan. Rather, the retail lender serves as an intermediary

between the consumer and the entity purchasing or servicing the loan

(or ``wholesale lender''). Many loans are purchased by, or servicing is

transferred to, a wholesale lender at, or shortly after, closing. When

a retail lender serves as an intermediary, it may perform services for

which it is compensated in processing the loan. Compensation paid to a

retail lender therefore may be ``direct'' and ``indirect.'' Direct

payments are fees paid directly by the consumer and must be disclosed

under Section 4 of RESPA; indirect payments are fees paid by the

wholesale lender to the retail lender. The issue arises over whether

the amount and nature of indirect compensation should be disclosed to

the consumer. HUD has been presented with arguments that the current

RESPA rule, which requires disclosure of all indirect payments to

mortgage brokers, focuses too narrowly on this particular class of

retail lenders or intermediaries. These arguments suggest that the

underlying issues for discussion should be how RESPA's fee disclosure

requirements should apply to compensation of mortgage brokers, mortgage

bankers, and other financial institutions that originate mortgages

(retail lenders) by entities that purchase their mortgages (wholesale

lenders).

B. Legal Analysis Under the Current Regulation

Section 4(a) of RESPA (12 U.S.C. 2603(a)) requires the Secretary to

create a uniform settlement statement that ``shall conspicuously and

clearly itemize all charges imposed on the borrower * * * and the

seller in connection with the settlement.'' The stated purposes of the

statute include the provision of ``greater and more timely information

as to the nature and costs of the settlement process'' by ``more

effective advance disclosure to homebuyers and sellers of settlement

costs * * *'' (12 U.S.C. 2601). Section 5(c) (12 U.S.C. 2604(c)) of

RESPA requires the provision of a ``good faith estimate of the amount

or range of charges for specific settlement services the borrower is

likely to incur in connection with the settlement. * * *''

Under HUD's current rules, the disclosure of all fees paid to

retail lenders, including all compensation from wholesale lenders, is

required when the retail lender is being compensated as part of the

settlement transaction. This position is set out, inter alia, at 24 CFR

3500.5(b)(7); in the Instructions for filling out the HUD-1 and HUD-1A

in Appendix A; and in Illustrations of Requirements of RESPA, Fact

Situations 5 and 12 in Appendix B. This same disclosure requirement has

not been applied to subsequent purchases of loans by wholesale lenders,

on the theory that Congress only intended to cover costs related to the

initial settlement transactions. The Department's current regulations,

therefore, treat compensation to the retail lender under three

settlement situations somewhat differently, depending upon how the

loans are funded at settlement.

(1) Loan Closing and Subsequent Assignment of the Loan. This is a

transaction in which a retail lender processes the loan from start to

finish, funds the loan, and closes the loan in its own name. The

current RESPA regulation requires that such retail lenders disclose the

fees paid by the consumer. At a later point in time, the retail lender

may sell the loan to a wholesale lender. The Department has not

required that the terms of this subsequent secondary market

transaction, including compensation paid to the retail lender by a

wholesale lender, be disclosed to the consumer.

(2) Loan Closing in the Wholesale Lender's Name Using the Wholesale

Lender's Funds. For this arrangement, the retail lender originates the

loan, but is functioning solely in the capacity of an intermediary. The

loan funds are provided by the wholesale lender and the loan is closed

in the wholesale lender's name. The wholesale lender typically sets the

underwriting criteria and makes the underwriting decision. In this

instance, the current RESPA regulation applies to the entire fee

arrangement between the retail lender and the wholesale lender. The

Department regards the retail lender as being compensated as part of

the settlement transaction. Indirect, as well as direct, payments to

the retail lender must be disclosed under the current RESPA

regulations.

(3) Table-funding. For this arrangement, the loan is processed by

the retail lender and is closed in the name of the retail lender. There

is, however, at or about the time of settlement, a simultaneous advance

of loan funds to the retail lender by the wholesale lender and an

assignment of the loan and servicing rights to the wholesale lender.

Table-funding is therefore somewhat a hybrid of the two arrangements

described above. As in situation (1), where the Department requires

disclosure of the compensation at settlement, the loan is closed in the

name of the retail lender. There is a subsequent assignment of the loan

to the wholesaler. Thus, an argument could be made that the assignment

constitutes a secondary market transaction, for which the terms (i.e.,

concerning the retail lender's indirect compensation) are not required

to be disclosed under the RESPA regulations. On the other hand, because

the mortgage broker assigns the loan simultaneously with closing, it

may be asserted that the mortgage broker acts only as an intermediary,

as in situation (2).

HUD has consistently determined, in opinions of the General Counsel

going back to 1986 and in the final RESPA rule published on November 2,

1992 (57 FR 49600, and restated on February 10, 1994 (59 FR 6506)),

that compensation received by a mortgage broker in a table-funded

transaction is subject to disclosure. This interpretation treats

mortgage brokers in table-funded transactions as settlement service

providers ancillary to the loan, akin to title agents, attorneys,

appraisers, etc., whose fees are subject to disclosure. This

interpretation does not view a mortgage broker as the functional

equivalent of a mortgage lender. Unlike a mortgage lender, the mortgage

broker in a table-funded transaction does not

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close the loan with its own funds. Conversely, a mortgage broker using

its own funds, or with a ``warehouse'' line of credit for which it is

liable, is not viewed as a mortgage broker, but rather as a mortgage

lender under the extant HUD interpretation. The salient criterion for

this conclusion is the source of funds. HUD's interpretation, embodied

in the current RESPA regulations, has given rise to some controversy,

as set forth in Section C of this preamble. In light of this

controversy, the Department has elected to revisit and invite public

comment on these issues. However, the Department wishes to stress to

all concerned parties, and particularly to Federal and State

regulators, that the Department's willingness to reexamine the issue

does not affect the provisions of the current rule as now effective,

unless and until modified. All affected parties should continue to make

full disclosure of all direct and indirect compensation, as required by

the current RESPA rule.

C. Criticism of Existing Policy

(1) HUD's Interpretation of the RESPA Statute is Incorrect.

Opponents argue that the Department's interpretation of RESPA's

disclosure requirements (``all charges imposed upon the borrower * *

*'') to include indirect charges and payments from the borrower funds

is too expansive and beyond the scope of the statute. They argue that

all charges imposed on the borrower are fully included in direct

charges. Indirect compensation need not be separately enumerated

because it is already reflected in those direct charges. For example,

the wholesale lender pays a retail lender fees from income received

from the interest rate, points and other direct fees. Separate

enumeration constitutes a redundancy, and combining direct and indirect

costs overstates the total cost of the loan. Moreover, since the

borrower is aware of the borrower's cost for the mortgage loan, no

useful purpose is served by disclosing indirect charges reflected in

points, interest rate, etc.

Second, opponents argue that a table-funded loan should be treated

as a secondary market transaction. They maintain that such a

transaction is the functional equivalent of a loan made by another type

of lender, e.g., a mortgage banker, who has an advance commitment to

sell the loan shortly after settlement.

(2) HUD's Interpretation of the Statute Treats One Class of

Participants Unfairly. First, mortgage brokers argue that an unlevel

playing field is created, because mortgage bankers need not disclose

the terms of a subsequent sale of the loan (although they do disclose

origination fees and points, as well as other direct costs); mortgage

brokers must effectively do so for table-funded transactions.

Second, by concluding that mortgage brokers engaged in table-funded

transactions are not subject to the secondary market exemption, the

Department has put an additional burden of scrutiny on these mortgage

broker fees by making them subject to requirements of Section 8 of

RESPA, which requires that all compensation be reasonably related to

goods or services provided. The same scrutiny does not apply to the

sales transactions of other originators that sell their loans to

wholesale lenders following settlement.

(3) HUD's Interpretation of the RESPA Statute is Poor Public

Policy. Opponents argue that retail lenders (particularly mortgage

brokers) play an important role in making financing more available to

``nontraditional'' borrowers. They argue that HUD's interpretation,

insofar as it places retail lenders at a competitive disadvantage, is

not consistent with public policy designed to expand access to mortgage

credit for such nontraditional borrowers.

Opponents also suggest that HUD's policy often requires retail

lenders to spend added time and resources explaining the nature of

indirect fees to a consumer. Occasionally, a consumer, or even an

employee of a retail lender, will attempt to negotiate for a share of

the fees paid to the retail lender.

D. Other Considerations and Concerns

(1) The fundamental premise underlying RESPA is that disclosure of

information empowers the consumer to shop for better services and lower

costs. All fees and charges, other than seller contributions, are

ultimately borne by the borrower, whether by direct payments, such as

points, or by indirect payments through a higher interest rate that the

borrower pays over time. However, the seller also has a fundamental

interest in this process, because the seller, particularly in difficult

markets, is asked to absorb an increasingly greater part of the

settlement costs. Knowledge of all fees, including those paid to a

retail lender, may allow consumers to negotiate reductions in overall

costs of the transaction.

(2) The Housing and Community Development Act of 1992 (Pub. L. 102-

550; 106 Stat. 3672, at 3874) extended RESPA to junior lien

transactions and confirmed the Department's position that refinancing

transactions were covered by RESPA. As of August 9, 1994, the same

principles of disclosure of indirect fees paid to mortgage brokers were

extended to junior lien transactions. Refinancing and junior lien

transactions are frequently advertised on a ``no point'' or ``no cost''

basis, which effectively means that all or much of the ancillary costs

and charges of making the loan are contained in the interest rate or in

a combination of the interest rate and the points. The consumer

typically has a somewhat lesser interest in points and mortgage broker

fees, in part because, unlike a purchase money transaction, points may

only be amortized and deducted for Federal and State tax purposes over

the life of the loan.

The high level of competitiveness through advertising and other

publicity in the first mortgage industry, aided by the borrowers'

interest in being able to make full IRS deductions, have helped assure

that many of the costs of making a mortgage loan have been highly

visible. However, while the Department has had extensive experience

with purchase money and other first mortgage 1- to 4-family residential

loans, because RESPA has only covered junior lien transactions since

August 9, 1994, the Department has no comparable range of experience

respecting junior lien transactions, which frequently are regulated and

limited under different Federal or State laws and are funded by

different institutions or branches of institutions. Therefore, the

Department welcomes policy or legal commentary regarding the

possibility of having one provision for first mortgage transactions and

a second provision for junior lien transactions, or whether the

Department should treat junior lien transactions made by retail lenders

in the same manner as first lien purchase money and refinancing

transactions.

(3) Under the statutory or judicial interpretations of the laws of

several States, mortgage brokers are treated as agents of the consumer

and are considered to have a fiduciary duty to disclose all fees that

the mortgage broker obtains from the transaction. In Virginia, a case

brought by the Virginia Poverty Law Center was settled when the major

mortgage company agreed to restitution of certain fees collected by

mortgage brokers, but without answering the fiduciary question. In

California, where the courts have adopted the agency theory, the

Department of Real Estate has implemented this requirement by creating

a combined good faith estimate and mortgage broker disclosure form,

thereby requiring all mortgage brokers (who close as many as 50 to 60

percent of all loans in the State) to disclose all direct, indirect, or

anticipated mortgage

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broker compensation. Because RESPA defers to State laws that provide

more benefits to the consumer, any new interpretation by the Department

will arguably not affect State provisions that provide for such direct

and indirect mortgage broker fee disclosures. Also, while the

Department has been informed that several class action law suits have

been filed regarding the issue of payment of ``overages'' to mortgage

brokers, the Department is not a party to these suits and is unaware of

any effect an interpretation by the Department might have on the

actions.

E. Possible Results of This Rulemaking

As a result of this rulemaking, HUD could establish uniform

disclosure requirements for all retail lenders, either: (1) to require

the disclosure of all direct fees paid to retail lenders by borrowers

and to require disclosure of all indirect fees paid to retail lenders

by wholesale lenders; or (2) to require the disclosure of all direct

fees paid to retail lenders by borrowers only. In addition to, or

instead of, modifying the rules on disclosure of fees in loan

transactions, as a result of this rulemaking HUD may redefine what

constitutes a ``secondary market transaction''. As set forth above,

such transactions are exempt from RESPA, including, inter alia, its

disclosure requirements, its prohibitions against kickbacks and

referral fees, and its requirement that all compensation be reasonably

related to the goods or services provided. HUD could define a

``secondary market transaction'' as a loan transaction involving: (1)

the sale of a loan by a retail lender to a wholesale lender occurring

after settlement (the position in the current regulations); (2) the

sale of a loan by a retail lender at any time--before, contemporaneous

with, or after settlement; or (3) the sale of a loan on some other

date, such as after the first accrual date for the loan following

settlement; i.e., the date the first payment is due from the borrower

under the loan.

Combining the two options of requiring either disclosure of direct

and indirect fees, or disclosure of direct fees only, with the three

possibilities for defining the secondary market transaction results in

six alternative approaches to regulating settlement transactions under

RESPA. Each of these six alternatives would have a different effect on

each of the major types of loan transactions described above,

including: (1) Loan closing and subsequent assignment of the loan; (2)

loan closing in the wholesale lender's name using the wholesale

lender's funds; and (3) table-funding. None of these alternatives will

affect a fourth type of transaction--a portfolio transaction in which a

retail lender processes, funds, and closes a loan in its own name for

its own portfolio and the lender then holds the loan (if the loan is

sold at all, the sale occurs long after settlement). Each of these

alternatives or combinations of requirements is discussed below, along

with its effect on each type of loan transaction. The public is

specifically invited to comment on these six alternatives, as well as

other approaches.

Alternative 1: The regulations would require the disclosure of

direct and indirect fees at settlement, and a loan sale is classified

as a ``secondary market transaction'' only if it occurs after

settlement. This is the approach in the current RESPA rule. Under this

alternative, the direct fees for a portfolio lender at settlement must

be disclosed and the settlement transaction is subject to RESPA, there

are no indirect fees, and any subsequent loan sale by the lender when

indirect fees are paid is a secondary market transaction not subject to

RESPA. Likewise, the direct fees for a retail lender at settlement, in

other transactions involving a loan closing and subsequent assignment

of the loan, must be disclosed, but any loan sale after settlement is a

secondary market transaction not subject to RESPA (any indirect fees

need not be disclosed and RESPA's other restrictions do not apply). In

a table-funded transaction, the advance of loan funds to the borrower

and the sale of the loan by the retail lender to a wholesale lender are

contemporaneous with settlement. Accordingly, all direct and indirect

fees to the retail lender must be disclosed under RESPA and the entire

transaction--the making of the loan to the borrower and the loan sale--

are subject to RESPA. Similarly, in a settlement transaction in the

name of a wholesale lender--where there is no sale following

settlement--all direct and indirect fees to and from the retail lender

and the wholesale lender must be disclosed, and the entire transaction

is otherwise subject to RESPA.

Alternative 2: The regulations would require the disclosure of

direct and indirect fees at settlement, and any loan sale--before,

contemporaneous with, or after settlement--is classified as a

``secondary market transaction''. Under this alternative, although

disclosure of direct and indirect fees would be required for RESPA-

covered transactions, more loan sales would be treated as ``secondary

market transactions'' exempt from RESPA's coverage. As in Alternative

1, the direct fees to a portfolio lender at settlement must be

disclosed, but any subsequent loan sale would be a secondary market

transaction exempt from RESPA's disclosure and other requirements.

Also, as in Alternative 1, the direct fees for other transactions

involving a loan closing and subsequent assignment of the loan would

have to be disclosed, but a subsequent loan sale would be a secondary

market transaction exempt from RESPA. Unlike Alternative 1, the sale at

settlement of a table-funded loan would also become a secondary market

transaction exempt from RESPA's requirements and prohibitions. Indirect

fees would not have to be reported and would not be covered by RESPA.

Under a settlement transaction in the name of a wholesale lender,

however, all direct and indirect fees to and from the retail lender and

the wholesale lender would require disclosure, because there is no loan

sale or secondary market transaction involved.

Alternative 3: Regulations require the disclosure of direct and

indirect fees at settlement, and only loan sales following the first

accrual--the date the first payment is due from the borrower under the

loan--are ``secondary market transactions''. Under this alternative,

RESPA's disclosure and other requirements would cover more

transactions; only loan sales transactions that occur relatively long

after settlement would be regarded as secondary market transactions

exempt from RESPA's requirements. Under this alternative, loan sales by

a portfolio lender--coming, if at all, well after the first loan

payment--would be regarded as secondary market transactions. RESPA's

disclosure requirements and restrictions would apply to a loan closing

and subsequent assignment of the loan, unless the loan is sold after

the first accrual date (currently, in most transactions the loans are

sold much earlier). RESPA's prohibitions would apply to table-funded

transactions when the loan is sold at settlement and transactions when

a loan is closed in the name of a wholesale lender and there is no

subsequent loan sale.

Alternative 4: Regulations require the disclosure of only direct

(not indirect) fees at settlement, and a loan sale is classified as a

``secondary market transaction'' only if it occurs after settlement.

This alternative differs from the current rule in requiring the

disclosure only of direct fees from borrowers to retail lenders. Under

this alternative, because there is no requirement for the disclosure of

any indirect fees to retail lenders for loan sales, the classification

of such sales as secondary market transactions is only determinative of

whether RESPA's

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requirements and prohibitions (other than disclosure) apply to the

transaction. Under this alternative, direct fees to retail lenders must

be disclosed in portfolio transactions, other transactions involving a

loan closing and subsequent assignment of the loan, table-funding

transactions, and transactions in which a retail lender closes in the

name of a wholesale lender (including any direct fees to the wholesale

lender). Because retail lenders in portfolio transactions and other

transactions involving a loan closing and subsequent assignment of the

loan sell their loans after settlement, such sales would be subject to

the secondary market exemption and outside of RESPA. Because loan sales

in table-funded transactions occur at and not after settlement, under

this alternative, such sales transactions would not be secondary market

transactions and would be subject to RESPA (although indirect fees need

not be disclosed). Also, because a loan in the name of a wholesale

lender occurs at settlement and there is no subsequent sale, the retail

and wholesale lender's transaction would be subject to RESPA's

prohibitions.

Alternative 5: Regulations require the disclosure of only direct

(not indirect) fees at settlement, and a loan sale, at any time, is

classified as a ``secondary market transaction''. Under this

alternative, direct fees to retail lenders must be disclosed in

portfolio transactions, other transactions involving a loan closing and

subsequent assignment of the loan, and table-funding transactions, as

well as transactions in which retail lenders close in the name of a

wholesale lender. Any loan sales (following settlement) by portfolio

lenders, or under another transaction involving a loan closing and

subsequent assignment of the loan, would be secondary market

transactions outside of RESPA's coverage. Under this alternative, a

loan sale (at settlement) in a table-funded transaction would also be a

secondary market transaction. However, settlement in the name of the

wholesale lender not involving a sale, would not be subject to the

exemption--RESPA would apply to the entire transaction although

indirect fees need not be disclosed.

Alternative 6: Regulations require the disclosure of only direct

(not indirect) fees at settlement, and a loan sale is classified as a

``secondary market transaction'' only if it occurs after the first

accrual date. Under this alternative, direct fees to a retail lender

must be disclosed in a portfolio transaction; a transaction involving a

loan closing and subsequent assignment of the loan; a table-funding

transaction; and a transaction in which a lender closes in the name of

another lender. Although indirect fees need not be disclosed, RESPA's

other requirements would cover more transactions, because fewer

transactions would be regarded as secondary market transactions. The

exception is a loan sale by a portfolio lender, which, when it occurs,

would follow the first accrual date and would, therefore, still be

regarded as a secondary market transaction. Loan sales transactions by

retail lenders in other transactions involving a loan closing and

subsequent assignment of the loan and in table-funded transactions

would not be regarded as secondary market transactions and would be

subject to RESPA. Settlement in the name of the wholesale lender,

because it does not involve a sale, would not be subject to the

exemption and RESPA's provisions would also apply to the entire

transaction.

HUD seeks comments from the public on which, if any, of these

alternative approaches should result from this rulemaking, or whether

other approaches that would be permissible under RESPA would better

serve the interests of the public and the intent of the statute.

II. Volume-Based Compensation

Volume-based compensation is a payment of money or any other thing

of value, as defined by 24 CFR 3500.14(d), that a wholesale lender

provides to a retail lender and is based on a number or dollar value of

loans that the retail lender sells to the wholesale lender in a fixed

period of time.

Volume compensation also encompasses volume discounts, in which a

retail lender that is to provide a stated volume of loans is given a

lower ``start-rate'' than the wholesale lender's advertised rate and

the retail lender keeps a differential between the start rate and the

advertised rate as part of its compensation at settlement.

The Department believes that volume-based compensation is a fairly

widespread practice, particularly in California. As noted above,

California regulatory requirements provide for disclosure to borrowers

of this compensation (the amount, if known, or its potential for

receipt by the mortgage broker). HUD has never enunciated a formal

policy on whether volume-based compensation is permissible under RESPA.

If the Department concludes that it is allowable, the issue also arises

as to whether and how the payment should be disclosed on the Good Faith

Estimate and the HUD-1 and HUD-1A.

A. Should Volume-Based Compensation be Permitted?

Critics argue that volume-based compensation may lead to loan-

steering. Arguably the consumer's interest (in seeing a range of loan

options) may be subordinated to the interest of the retail lender in

receiving greater compensation from a particular wholesale

lender.2 Also, as discussed earlier in this preamble, Section 8 of

RESPA prohibits payments in the absence of ``goods or facilities

furnished or for services actually performed.'' Therefore, awarding

additional compensation for loans closed above a threshold number,

where no added services are provided, could, standing alone, violate

RESPA.

\2\ Retail lenders who fail to present a full range of loan

options to all consumers may risk charges of discriminatory

treatment on a prohibited basis, which is unlawful under the Fair

Housing Act.

On the other hand, others argue that volume-based compensation may

be an appropriate payment for goods or services actually performed.

Wholesale lenders must exercise careful oversight over retail lenders,

because decisions by the retail lender can expose the wholesale lender

to default risk. For this reason, wholesale lenders typically perform

some underwriting review for each mortgage. There also must be a good

working relationship between the staffs of the retail and wholesale

lender to ensure that important matters, such as document transfer and

the handling of escrow funds, are accomplished smoothly and punctually.

Establishing this working relationship and oversight involves some

fixed costs to the wholesaler, which decrease on a per loan basis as

the volume of business increases. The wholesale lender's variable costs

may also decrease with increased volume, because the retail lender

becomes more familiar with the requirements of the wholesale lender and

the wholesale lender's staff is more familiar with the product and

practices of the retail lender. Declining per-unit costs may justify

volume compensation.

The consumer may benefit from volume-based compensation. In

competitive markets, price concessions from wholesale lenders to high-

volume retail lenders generally get passed along to the consumers. To

obtain the volume of business needed to obtain price concessions and to

benefit from volume-based compensation, the retail lender may pass

along part of the high-volume benefits to the consumer, through lower

points or other cost savings.

Critics argue that if the retail lender originates in its own name,

the consumer is generally unaware that the

[[Page 47655]]

retail lender has wholesale options available and may not even be

consciously aware of the retail lender's intention to sell the

mortgage. In this context, steering does not exist in the typical

sense, that is, advising the consumer to choose lender A over lender B

when lender B's prices are as good as, or better than, lender A's

prices. It is also conceivable that wholesale lender X may not offer a

loan product that wholesale lender Y offers, such as a 15-year

adjustable rate mortgage (ARM). The retail lender may influence the

consumer not to select the 15-year ARM so that the retail lender can

increase its business with lender X, which offers volume compensation.

However, most wholesale lenders offer a comparable range of products.

In addressing the policy issues of whether and how volume-based

compensation should be permitted and, if so, disclosed, a commenter may

offer legal arguments as to whether RESPA prohibits the practice.

B. Is Volume-Based Compensation Subject to Disclosure?

A retail lender required to make disclosure could argue that HUD

has created an ``uneven playing field'' between mortgage bankers and

other retail lenders, inasmuch as the issue of volume-based

compensation is not relevant for mortgage banker transactions. (See

Section II.C.(2) of this preamble.)

If HUD decides to allow this kind of compensation, practical

questions are raised about how to disclose this information--what

numbers should be disclosed? At the time of a given closing, a retail

lender may not know whether a volume-based payment will be received or

how much it will be. As noted above, the California standard Good Faith

Estimate and Mortgage Broker Fee Disclosure form requires the

disclosure of the compensation, if known, or an indication that a

mortgage broker will receive additional compensation.

III. Other Compensation

In addition to volume-based compensation, retail lenders also

receive compensation from wholesale lenders under a variety of names,

the most common of which are ``servicing release premiums'' and ``yield

spread premiums'' (which are cited by name in the current RESPA

regulation as compensation to be disclosed; 24 CFR part 3500, Appendix

A, Fact Situation 12.) Such compensation is also included in ``rate

differentials,'' ``indirect payments,'' or ``back-funded payments''

(occasionally called ``back-end points'') in Appendix A instructions

for filling out the HUD-1A. A ``yield spread premium'' or ``yield

spread differential'' or ``overage'' means any compensation paid to or

retained by a retail lender based upon the difference in the interest

rate provided in the sold loan and some other benchmark interest rate.

It compensates the retail lender for a loan priced at a rate higher

than the rate at which the wholesale lender would otherwise have been

willing to accept the loan. A ``servicing release premium'' is any

compensation paid to a retail lender for the release of rights to

service the loan.

The names of the fees (those cited in the previous paragraph may

vary) are not definitive or dispositive. The concerns of the Department

regarding such forms of compensation are similar to those expressed

regarding volume-based compensation; that is, do those fees constitute

kickbacks or fee-splitting for delivery of the loans. Commenters are

invited to address: (a) whether any such types of compensation should

be permissible under RESPA; and (b) what would be the effect of

requiring disclosure of such payments.

IV. Proposed Amendments to 24 CFR Part 3500

In this proposed rulemaking HUD is requesting comment on several

questions that may lead to new regulatory language in 24 CFR part 3500.

For example, several new definitions are proposed for inclusion in

Sec. 3500.2. In addition, Sec. 3500.14(g) would be revised to address

explicitly the applicability of RESPA to volume-based compensation, and

Appendix B, Fact Situation 12, could be modified. HUD may also need to

modify the HUD-1 and HUD-1A instructions regarding payments to mortgage

brokers. If new definitions are adopted, other definitions may need to

be modified for consistency. While the Department has set forth

illustrative changes in the definitions, it has not attempted to

provide alternative regulatory text for every possible amendment that

might result from this rulemaking. Instead commenters are invited to

comment on the questions raised in this preamble and provide input on

the direction they believe the Department should take on these matters.

If a determination is made that regulatory changes should be

developed through a negotiated rulemaking process, the Department

expects to publish another proposed rule at the conclusion of the

negotiation process and will provide the negotiating committee with the

comments submitted in response to today's proposed rule. If negotiated

rulemaking is not used, the Department will formulate its final rule

after reviewing the comments received in response to this proposed

rule.

V. Other Relevant Issues

(a) Recent Legislation. In 1994 Congress enacted the Riegle

Community Development and Regulatory Improvement Act of 1994 (Pub. L.

103-325, 108 Stat. 2160, September 23, 1994) (the Act), which includes,

as Subtitle B, the Homeownership and Equity Protection Act of 1994.

Subtitle B requires the Federal Reserve Board to require additional

levels of disclosure in certain circumstances, and requires for its

computations inclusion of all compensation paid to mortgage brokers,

including both direct and indirect payments, in order to determine if

the loan will be a ``high-rate mortgage.'' (See section 152(a)(4)(B) of

the Act.) If HUD ultimately determines that indirect fees need not be

disclosed in a final rule, the Federal Reserve Board (which relies on

information contained in HUD's Good Faith Estimate and the HUD-1 or

HUD-1A forms) might have to require its own cost disclosure form in

order to determine coverage. Accordingly, HUD plans to invite staff of

the Board to comment on the proposed rule. The public is also welcome

to address this matter.

(b) Impact of Regulation on State Laws. Whatever HUD determines in

final rulemaking, it is possible that a State may have more stringent

disclosure requirements than HUD. Under RESPA, State laws that provide

greater protection to the consumer would prevail and would not be

preempted by HUD requirements. Of course, a salient issue embraced

within this proposed rulemaking is whether more disclosure is, in fact,

beneficial to consumers. In addressing the alternative proposals in

this rulemaking, a basic question for commenters is whether disclosure

of the terms of a mortgage loan (e.g., interest rates and points) alone

is sufficient consumer information.

VI. Other Matters

Executive Order 12866

This proposed rule was reviewed by the Office of Management and

Budget under Executive Order 12866, Regulatory Planning and Review. Any

changes made to the proposed rule as a result of that review are

clearly identified in the docket file, which is available for public

inspection in the Office of the Rules Docket Clerk, Room

[[Page 47656]]

10276, 451 Seventh Street, SW, Washington, DC.

Regulatory Flexibility Act

The Secretary, in accordance with the Regulatory Flexibility Act (5

U.S.C. 605(b)), has reviewed this proposed rule before publication and

by approving it certifies that this proposed rule does not have

significant economic impact on a substantial number of small entities.

There are no anticompetitive discriminatory aspects of this proposed

rule with regard to small entities, nor are there any unusual

procedures that would need to be complied with by small entities. The

requirements of the Real Estate Settlement Procedures Act must be

uniformly adhered to by all lenders and servicers.

Environmental Impact

A Finding of No Significant Impact with respect to the environment

has been made in accordance with HUD regulations in 24 CFR part 50 that

implement section 102(2)(C) of the National Environmental Policy Act of

1969 (U.S.C. 4332). The finding is available for public inspection

during regular business hours in the Office of the General Counsel,

Rules Docket Clerk, room 10276, 451 Seventh Street, SW., Washington, DC

20410.

Executive Order 12612, Federalism

The General Counsel, as the Designated Official under section 6(a)

of Executive Order 12612, Federalism, has determined that the policies

contained in this proposed rule will not have substantial direct

effects on States or their political subdivisions, or the relationship

between the Federal government and the States, or on the distribution

of power and responsibilities among the various levels of government.

As a result, the proposed rule is not subject to review under the

Order. Promulgation of this rule clarifies the coverage of the

applicable regulatory requirements.

Executive Order 12606, The Family

The General Counsel, as the Designated Official under Executive

Order 12606, The Family, has determined that this proposed rule does

not have potential for significant impact on family formation,

maintenance, and general well-being, and, thus, is not subject to

review under the order. No significant change in existing HUD policies

or programs will result from promulgation of this rule, as those

policies and programs relate to family concerns.

List of Subjects in 24 CFR Part 3500

Consumer protection, Condominiums, Housing, Mortgages, Mortgage

servicing, Reporting and recordkeeping requirements.

For the reasons stated in the preamble, 24 CFR part 3500 is

proposed to be amended to address the regulatory questions raised in

the preamble and as follows:

PART 3500--REAL ESTATE SETTLEMENT PROCEDURES ACT

1. The authority citation for Part 3500 continues to read as

follows:

Authority: 12 U.S.C. 2601 et seq.

2. Section 3500.2 is amended by adding in alphabetical order

definitions for ``Direct fee'', ``Indirect fee'', ``Retail lender'',

``Secondary market transaction'', ``Volume-based compensation'', and

``Wholesale lender'', to read as follows:

Sec. 3500.2 Definitions.

* * * * *

Direct fee means any payment made by a borrower to a lender or any

other settlement service provider or to a third party, to be

transmitted to a lender or any other settlement service provider, in

connection with a settlement of a federally related mortgage loan.

* * * * *

Indirect fee means any payment made by a wholesale lender to a

retail lender for services rendered in connection with a federally

related mortgage loan origination. [Indirect loan fees are not subject

to disclosure on the Good Faith Estimate or the HUD-1 or HUD-1A.]

* * * * *

Retail lender means a person who originates and sells a federally

related mortgage loan to a wholesale lender.

Secondary market transaction means a sale of a federally related

mortgage loan. A secondary market transaction [as defined by one of the

alternatives set out in the preamble of this proposed rule] [is/is not]

covered by RESPA and this part, except as set forth in Section 6 of

RESPA (12 U.S.C. 2605) and Sec. 3500.21.

* * * * *

Volume-based loan compensation means any added payment or

additional thing of value provided by a wholesale lender to a retail

lender to a retail lender based on the number or dollar value of loans

originated.

Wholesale lender means a person who purchases a mortgage loan from

a retail lender.

Dated: August 11, 1995.

Jeanne K. Engel,

General Deputy Assistant Secretary for Housing--Federal Housing

Commissioner

[FR Doc. 95-22691 Filed 9-12-95; 8:45 am]

BILLING CODE 4210-27-P