Conflicted Out: When Must a Servicer Follow FHA Guidelines over the Global Foreclosure Settlement Servicing Standards?
By: Krista Cooley, Rebecca Lobenherz
The National Servicing Standards, outlined in the March 2012 Global Foreclosure Settlement, are difficult to reconcile with the already stringent servicing requirements in place for the Federal Housing Administration’s (“FHA”) single family loan insurance program. The National Servicing Standards are expressly subject to and must be interpreted in accordance with applicable federal, state and local laws, rules and regulations, and the terms and provisions of the requirements, binding directives and investor guidelines of the mortgage insurer, including FHA. In the event of a conflict between such requirements and the National Servicing Standards such that a servicer cannot comply with the National Servicing Standards without violating these requirements or being subject to adverse action, then the servicer must document such conflicts and notify the monitoring committee that the servicer intends to comply with the FHA requirements to the extent necessary to eliminate the conflict.
It is not clear, however, that merely following FHA’s requirements will be sufficient to comply with the National Servicing Standards, and attempting to follow both the National Servicing Standards and the FHA requirements can be a difficult, and sometimes impossible, balancing act for a loan servicer absent specific guidance from the Department of Housing and Urban Development (“HUD”) and the committee responsible for monitoring compliance with the National Servicing Standards. HUD was an active participant in the negotiations surrounding the National Servicing Standards and clarification from the agency on how the National Servicing Standards will fit into the FHA servicing framework will be necessary going forward.
Below, we summarize some of the more difficult to reconcile requirements in the National Servicing Standards and how they may conflict with current FHA guidelines.
Loss Mitigation Requirements
Both the National Servicing Standards and FHA guidelines outline specific steps to take in evaluating a borrower for loss mitigation options. However, the two sets of requirements envision very different loss mitigation frameworks. Most importantly, while the National Servicing Standards contemplate only a few categories of loss mitigation options (the U.S. Department of the Treasury’s Home Affordable Modification Program, or “HAMP”, loan modifications and short sales) and view the servicer’s evaluation of the borrower for each option to be a separate occurrence, FHA guidelines outline a complete loss mitigation waterfall. FHA-approved servicers are required to evaluate a borrower’s eligibility for a number of well-defined loss mitigation options (repayment plans, special forbearance, loan modifications, partial claims, FHA-HAMP, pre-foreclosure sales and deeds-in-lieu of foreclosure) in a set priority order and select the most appropriate option based on HUD’s requirements and the borrower’s circumstances. This holistic approach to loss mitigation under the FHA guidelines makes many of the National Servicing Standards, while not expressly in conflict with FHA requirements, difficult to implement within the FHA loss mitigation program.
Moreover, the application and evaluation process differs significantly between the two sets of guidelines. Under the National Servicing Standards, borrowers initiate the loss mitigation process by submitting applications for assistance and servicers are required to analyze the borrower’s eligibility for loss mitigation by using a “net present value” calculation, which considers the borrower’s ability to repay as well as the risk of re-default and the cost of a loan modification as opposed to foreclosure. By contrast, under FHA guidelines, servicers initiate contact with delinquent borrowers and are required to obtain financial information from the borrowers sufficient to evaluate the borrower, which may be obtained verbally provided it is independently verified. Once the financial information is obtained, under FHA guidelines, the servicer must use that information to calculate the borrower’s “surplus income percentage,” and as discussed above, use good business judgment to select a loss mitigation option that is most appropriate for the borrower based on the borrower’s ability to repay. “Net present value” requirements discussed under the National Servicing Standards have no applicability in the FHA context.
Thus, the general loss mitigation evaluation process differs for servicers following the National Servicing Standards and servicers of FHA loans to a large degree even before considering the separate criteria for specific loss mitigation options available under both standards.
HAMP and FHA-HAMP
While the National Servicing Standards contain a number of restrictions on a servicer’s application of the Treasury’s HAMP program, it is worth noting that HAMP is not available for FHA borrowers. Rather, FHA servicers may use FHA-HAMP, which is a HAMP-like modification but which contains completely separate program features and requirements related to borrower eligibility. The National Servicing Standards appears to cover HAMP-like programs, such as FHA-HAMP, by extending many of the standards to HAMP or proprietary loan modification programs. Under the National Servicing Standards, when a borrower makes all of the required trial period payments under a HAMP or proprietary loan modification program, but then is denied a permanent modification, the borrower has the option of reapplying for the program. Under FHA’s version of the HAMP program, if the borrower does not successfully execute the permanent loan modification, the borrower is no longer eligible for FHA-HAMP and may not be reconsidered for the option. While these guidelines are clearly inconsistent, clarification from HUD of the inapplicability of the HAMP provisions in the National Servicing Standards would be helpful for servicers evaluating the application of the National Servicing Standards to their FHA portfolios.
Appeal Process
Under FHA requirements, if a servicer determines based on verbal financial information that a borrower is not eligible for any loss mitigation option available under FHA requirements, the servicer must send the borrower a letter explaining the reason for denial and provide the borrower seven calendar days to submit additional information that may impact the loss mitigation evaluation. The National Servicing Standards, in contrast, set up a lengthy and multi-step appeal process upon the denial of a loan modification. If the servicer denies a loan modification, an independent review of the decision must be performed and the borrower notified of the decision within 10 business days of the initial determination if the denial stands. At this point, the borrower generally has 30 days to request an appeal and provide the servicer with additional information that will impact this decision. However, if the denial was because the mortgage or property was ineligible, the offer was not accepted by the borrower, or the loan was previously modified, then the borrower does not have the right to appeal the decision. If the loan was denied because of the net present value test and the borrower disagrees with the property value, the borrower can request a new appraisal. Denials for FHA loan modifications, however, may occur because of loan or borrower eligibility, the servicer’s business judgment that the borrower has an inability to pay the modified mortgage amount, or simply because another loss mitigation option is better suited for the borrower’s needs. In short, the appeals process, while not in direct conflict with FHA requirements relating to the denial of borrowers for loss mitigation options, incorporates concepts and considerations that are not currently included in FHA’s loss mitigation framework. Thus, guidance from HUD will be necessary to determine whether, if at all, the appeals process outlined in the National Servicing Standards should be implemented within the FHA program.
Dual Tracking and Foreclosure Timelines
Both the National Servicing Standards and the FHA guidelines set out timelines servicers must follow when referring borrowers to foreclosure and proceeding to a foreclosure sale. FHA guidelines have strict standards regarding when foreclosure must begin and a relatively short timeline during which the servicer must either complete a loss mitigation option or refer the borrower for foreclosure. Meanwhile, the National Servicing Standards do not provide an overarching timeframe for completing loss mitigation evaluations and referring borrowers to foreclosure, but do require servicers to halt foreclosure if borrowers request loan modifications following foreclosure referral and to provide the borrower with a 30-day appeal period if the application is denied. While servicers under the FHA guidelines must stay foreclosure proceedings during loss mitigation evaluations and trial payment plans, once foreclosure is initiated, the servicer must exercise reasonable diligence in prosecuting the foreclosure proceedings to completion. And, while dual tracking after foreclosure referral is prohibited under the National Servicing Standards, under the FHA guidelines, the servicer is required to continue to work with a borrower to find an appropriate loss mitigation option up until the foreclosure sale date, which may result in loss mitigation during the foreclosure process.
Again, HUD will need to clarify whether its foreclosure timeframe requirements will prevail over the appeals process and any dual tracking requirement that could prohibit loss mitigation evaluation of borrowers in the pre-sale foreclosure process, or whether HUD will grant extensions of its foreclosure timelines so that servicers can adhere to the lengthy appeals and dual tracking restrictions contained in the National Servicing Standards.
In conclusion, while many of the National Servicing Standards can be implemented within the FHA program without conflicting with existing FHA requirements, conflicts do exist between the guidelines that cannot be resolved. Even where compliance with both FHA requirements and the National Servicing Standards is technically possible, the National Servicing Standards, tailored for conventional servicing programs, do not easily fit in with a government guaranty program. Servicers should seek guidance from HUD, as a key player in the negotiations, when implementing the National Servicing Standards into their FHA portfolios to ensure adherence to the FHA requirements.