Sunday, October 12, 2008, 1:24PM ET - U.S. Markets Closed.

Jack M. Guttentag The Mortgage Professor

Jack M. Guttentag, The Mortgage Professor

Protecting Borrowers Against Opportunistic Pricing

by Jack M. Guttentag

Email this Page IM this StoryBookmark this StoryAdd to your Del.icio.us accountDigg this StoryPrint this Story
Good (105 Ratings)
2.466664/5
Posted on Tuesday, July 8, 2008, 12:00AM

Last week I reported favorably on one part of HUD's (the Department of Housing and Urban Development) current reform proposals. A new and substantially improved Good Faith Estimate (GFE) would make it easier for borrowers to shop alternative loan providers (LPs). The proposed GFE, along with new rules as to how it must be used, will also eliminate critical weaknesses of the current GFE that encourage opportunistic pricing -- the practice of charging as much as you can get away with.

The current GFE is an open-ended list of settlement costs with no meaningful subtotals, encouraging lenders to invent new charges. Further, all of the charges on the current GFE are "estimates" subject to change, the only barrier to abuse being the "good faith" of the LP. In all too many cases, charges are raised in bad faith and there is nothing HUD can do about it.

In the proposed GFE, settlement costs are divided into three categories. Category one includes all charges by the lender and mortgage broker, tabbed Our Service Charge, and government recording and transfer charges. At settlement, these charges must be the same as those on the GFE. This rule is completely appropriate regarding the lender's own charges; it is also long overdue. Charges by governmental entities are another matter; my experience suggests that these charges belong in category two, where the LP has a little latitude.

A Dysfunctional System

The second category now consists of services provided by third parties who are selected or identified by the LP. The most important of these is title insurance. The total of such charges can be as much as 10 percent higher at settlement than the total shown on the new GFE. This limit is better than no limit, but it doesn't touch the dysfunctional system that makes third-party settlement services far more costly than they should be. I comment on this further below.

The third category consists of services that the borrower has elected to shop among service providers not selected or identified by the LP. It includes homeowners insurance, which borrowers typically purchase on their own, and it can also include title insurance if the borrower solicits title agencies on his own. These charges are not subject to any limits on price increases. This is a reasonable exemption.

To help borrowers police their own transactions, HUD has proposed to change the HUD1 closing document so that it corresponds closely with the new GFE. It will then be easy for borrowers to compare the final charges on the HUD1 with those on the GFE. Good idea.

Another Good Idea

HUD also intends to seek authority to require that the HUD1 form be made available three days before closing, rather than one day, which is the current requirement. Another good idea, but they ought to include the mortgage note in this requirement. There is no excuse for forcing borrowers to confront a complicated contract for the first time at the closing table.

The most disappointing part of the proposed new GFE is that it leaves untouched the odious network of relationships between loan providers and third-party service providers, which raise the cost of these services to borrowers. Mandating that a title charge of $1,000 on the GFE can't be more than $1,100 on the HUD1 closing document doesn't accomplish much if the charge ought to be $300.

Perverse Competition Encourages High Prices

While it is not possible to know what the charge would be in a properly functioning competitive market, we do know that the perversely competitive markets we have now encourage high prices. Competition is perverse when service providers market not to purchasers but to the entities that refer the purchasers to them. The LPs who refer mortgage borrowers to third-party service providers share in the overcharges -- sometimes legally, sometimes not.

The remedy is well-known and well-tested. It is to require lenders to pay for all services that they require from borrowers. If lenders want title protection, they should buy it and pay for it, passing the cost to borrowers in the rate and points. The cost passed through will be a small fraction of what borrowers pay now, since lenders are large and knowledgeable purchasers who can buy in bulk.

This is not a pie-in-the-sky idea. Indeed, since Bank of America adopted it last year, it can be viewed as an industry "best practice." Yet HUD, despite its legal mandate to lower settlement costs, ignores it. If this reflects HUD's concern that they will receive no support, they are surely mistaken. If it were placed on the table, community groups would have to support it -- how could they not?

To be sure, the mortgage bankers would oppose the idea, because trade groups can't advocate best practices without alienating a major segment of their membership. But the fact that a leading lender has adopted it voluntarily and successfully will make it difficult for them to argue that the market will collapse.

Next week: How broker charges are handled in the new GFE.

Email this Page IM this StoryBookmark this StoryAdd to your Del.icio.us accountDigg this StoryPrint this Story

Rate This story

Good (105 Ratings)
2.5/5
Sign-in to rate!

59 Comments

Showing comments 1-5 of 59Next >>
Sort: first to last

  • Yahoo! Finance User - Thursday, July 17, 2008, 5:15PM ET  Report Abuse

    • Overall: 5/5

    Honestly, let's be real here. It doesn't matter what business you're in, if someone is willing to buy something, regardless of the price, as a business owner, you should be able to name your price. That is BUSINESS and American FREE Capitalism. I don't blame the mortgage lenders. I blame the average stupid American who walked into a mortgage lenders office and signed the documents and walked away with a tube of vaseline. When was it ever the responsibility of the business owner to point out when you're paying too much. Give me a break. If you're that stupid, then you shouldn't be getting a loan in the first place. People who purchased these homes with shady lending practices shouldn't be protected. Lending practices need to start from the ground up. Anyone who's looking to buy a house should be required to take a crash course in the basic fundamentals of loans. If you don't take the class and you still want the loan, you should sign a waver indicating that you are an idiot and that you've approved your lender to bend you over. Honestly people, when does it ever NOT make since to shop around and to read a contract that supposed to have a lasting impact on the outcome of your LIFE and your family. IDIOTS need to stop blaming the industry and start blaming themselves. If borrowers were more intelligent, these shady lenders would've gone out of business a long time ago.

  • Yahoo! Finance User - Tuesday, July 15, 2008, 2:42PM ET  Report Abuse

    • Overall: 1/5

    RE:Sanereconnoiterer: In response to your rather efite view of the poster you referred to, Jack Gutentag is trying to pump life into a dead horse. When you have mortgage lenders that did NOT even look into personal income, or even if people were EVEN employed, and the government actually allows this to happen (IndyMac a GRAND example), then I don't think it is poster's problem in understanding this. It is more about a person like you, who is still holding to this deregulation kick, even though it has shown to be detrimental to taxpayers who at their expense will be paying for the excesses of mortgage lenders who knowingly originated loans with no backing or collateral to fall back on (i.e. a sucker bet). Greed Kills, and this economy is bearing that so. No matter what, break the laws, and or repeal the law and screw the little guy. I don't think that HUD or for that matter even Jack, can come up with any sort of solution that would come close to taking care of the problem. Considering the current Bush Administration has rung up a 9 Trillion dollar deficit, and there are 90 more IndyMac's of varying sizes will only double that deficit. Basically put, while Jack is trying to pump life into a dead horse, GFE is a joke plain and simple.

  • sanereconnoiterer - Monday, July 14, 2008, 1:36PM ET  Report Abuse

    • Overall: 5/5

    The previous comment starting with the "Perverse Competition..." quote is very mixed up. Mr. Guttentag is pointing out why it is perverse, and what to do to fix it. He also isn't saying BofA is your friend, he is saying they already have taken steps to fix it. Your mismash of loosly coupled statements, most of which are not even germane to the subject, is a useless wall of text. You can't fix everything at once -- you have to take steps. This article does a good job of pointing out some of the needed steps. It is not meant to be a comprehensive solution to all of the problems. It is not another can't-be-done solution either. This fix is well within reach, and it is something we should all request of our lenders.

  • Yahoo! Finance User - Monday, July 14, 2008, 10:23AM ET  Report Abuse

    • Overall: 1/5

    "Perverse Competition Encourages High Prices." This alone should make anyone who is in the here and now, and realize this is the problem of what ails the real estate/sub-prime mortgage problem. I have said a couple of times over the past few weeks...Greed Kills, and consider why it does. First look at the NINJA (No Job, No Income) mortgages. This alone is unadulterated greed, giving basically loans to people that had no business owning a home, under false pretenses, and selling it as hedge (more like sucker) bets on Wall Street. IndyMac, the 9th largest bank goes into receivership over this mess, in the epicenter of the mortgage meltdown, Southern California. Then we have "The Gutenmeister" telling us basically that Bank of Amerihucksters is a friend to the consumer. They'll do right by the consumer, and yet shaft them with fees to keep competitive with everyone else. See a problem with this picture. This shouldn't surprise anyone. After all, Banks charge fees to make money, simple as that. They don't care about how much you save, or what you own, just keep nickel/diming the consumer, and in the end, you'll be on top. Yet as part of this cycle, when oil tops closer to $150/barrel, and job losses have been accrued 6 months in a row, and foreclosures are piling up over the past two years, the idea of charging fees isn't enough. So they put these NINJA loans on the market, and bet on whether they get paid or not. This game basically played by rich investment bankers (Sam Israel, Jr) who traded these morgages like a kid with E-Trades account, and basically wound up screwing the homeowners, the real estate market, and the mortgage industry with one fell swoop. Yet, the people who have constantly talked a great game that it isn't the fault of the broker, and that the broker is supposed to be your friend. Well, if you work for a crook, selling basically bad loans (like a crook does), in my book...you are a crook. This is like a raid on a whorehouse...the good go with the bad! Lastly, the guy who called this nation, "a nation of whinners, that is in a Mental Recession." is the guy who created this mess, starting this country on the road to deregulation of the mortgage industry. If that were NOT true, Bernanke wouldn't be doing otherwise, than what you 4/5 stars espouse. LOL!

  • Yahoo! Finance User - Sunday, July 13, 2008, 10:13PM ET  Report Abuse

    • Overall: 2/5

    Once again another Yahoo writer enlightens us with the rear view mirror opinion on the economy. What is Yahoo paying these people, $7/hr?

Showing comments 1-5 of 59Next >>

More from Jack M. Guttentag

The Mortgage Encyclopedia

An authoritative yet concise guide to the mysteries of mortgage finance, arranged alphabetically from "A-Credit" to "Zero Balance." Includes information that will help you decide whether to use a mortgage broker, learn if you can avoid mortgage insurance, and much more. Reach for this indispensable guide and get the fast, accurate information you need!

Order your copy now!

Find out more about The Mortgage Professor.

More from Yahoo! Sources

  • CNN Money
  • Consumer Reports
  • Kiplinger
  • The Motley Fool
  • Business Week
  • Wall Street Journal