April 19, 2011
Transaction and Regulatory Committee
Distressed Properties Task Force
Federal Committee
[This material is for discussion purposes only and has not been approved by the Distressed Properties Task Force, Transaction and Regulatory Committee, Federal Committee, Executive Committee or the Board of Directors.]
Issue:
Should C.A.R., in conjunction with NAR, include in sponsored short sale legislation a safe harbor for servicers and lenders that will protect them from liability to investors when they approve a short sale?
Action:
Optional
Options:
1. Pursue existing policy in federal bill - C.A.R. leadership team previously approved inclusion of such a feature in a possible compromise on state legislation.
2. Reject the safe harbor
3. Other
Status/Summary:
Lender/Servicers that hold a loan in their own portfolio, or who have delegated authority from their investors to settle or "work out" loans, have a reputation for much faster approval times on proposed short sales. The safe harbor under discussion would create a presumption that the servicer enjoys such a delegated authority to settle as long as it treats investors' loans at least as well as its own. C.A.R. leadership preliminarily approved inclusion of such a feature in a possible compromise on C.A.R.-sponsored anti-deficiency legislation as an incentive to lender opponents.
At the January 2011 meetings, the Committee approved Option 1 above. After discussion, the Federal Committee disapproved the motion of the Transaction and Regulatory Committee. The conflict was resolved by the Executive Committee by a referral to the Distressed Property Task Force for additional background materials and further discussion. The Task Force recommends approval of the item in a proposed federal bill and this material implements the direction of the Executive Committee.
Discussion:
One of the factors (but certainly not the only one) that strongly influences a lender/servicer's response time and flexibility in short sale negotiations is whether the entity owns the loan as part of its own portfolio, or only services the loan for an investor or pool of investors. Particularly in the case of pools of investors, where the servicer must seek approval from all the pool members, the approval process can be prohibitively complex.
When C.A.R. leadership met with Bank of America representatives, the bank indicated that they could resolve a loan with delegated authority in about 42 days, but that one in which investor approval was needed took about 70 days or longer. Unfortunately, the total of bank owned and delegated authority loans make up only about a quarter of Bank of America loans. By contrast, Wells Fargo reportedly owns in its portfolio most of its own loans and the loans acquired in the Wachovia Bank purchase. While there are certainly corporate culture issues in play as well, it is widely believed that the difference in portfolio ownership is responsible for the better speed and flexibility reported in Wells Fargo settlement approval times.
A safe harbor against liability to investors for a decision to approve a short sale would act as an automatic delegation of authority for settlements, within the limits of the safe harbor rule.
Caution is in order - Institutions respond to financial incentives, so it is important to craft an incentive in a way that encourages more rapid short sale approval, but does not encourage some other sort of "gaming" of the system. An unqualified or unrestricted liability safe harbor might encourage unintended mischief if it does not require good faith from the servicer.
Banks are servicing their own loan portfolio as well as well as those of the investor pools that they represent. It is reportedly not uncommon for lender/servicers to even have loans secured by the same property in their own portfolio, while they service a note for an investor group. An example might be an "80-20" loan transaction originated by a lender that then sold the first mortgage into a pool but retained the servicing rights and the junior note in its own portfolio. It would be unfortunate if the bank were encouraged to favor its own loans at the expense of others. The example of the bank-owned junior note might be just such a situation.
If the safe harbor takes the form of a presumption (which could be overcome by proof of fraud or other misconduct) rather than absolute immunity, it is less likely to encourage inappropriate decisions. A verifiable standard for fair conduct, such as "bank treats investors’ loans at least as well as its own," will give assurance to regulators and investors that banks will not be immunized for misconduct.
Should a lender safe harbor for short sale approvals be included in proposed federal short sale legislation?
