The Role of Mortgage Servicers in the Subprime Mortgage Crisis

The Role of Mortgage Servicers in the Subprime Mortgage CrisisBreck Robinson

University of Delaware

0%

10%

20%

30%

40%

50%

60%

70%

80%

1989 1994 2000 2004 2007

Top 25

Top 5

Source: Inside Mortgage Finance

Mortgage Servicer Market Concentration

The Role of Mortgage Servicers

Bill and collect payments and fees from mortgage holders

Monitor non-discretionary payments (e.g. taxes, insurance)

Manage delinquencies to minimize losses and maximize asset recoveries, acting as the agent of the trustee

Manage mortgage insurance recoveries, if applicable Advances on delinquent loans Remit payments to trustee Provide required information to trustees/investors

regarding the performance of asset pools

Sources of Revenue

Annual fee based on the $ amount of mortgages serviced Fixed-rate prime loans = 25 basis points Prime ARMs = 37.5 basis points GSE sponsored mortgage pools = 44 basis points Subprime loans = 50 basis points

Fees structure of the following: Type of mortgage product

Typical loan size Reporting requirements Resource commitment

Float

Other Fees Can be a significant source of revenue

Sources of Costs

Labor Loss mitigation

Costs not associated with foreclosure may not be reimbursed $600 to $1,000 to modify loans

Advancing delinquent payments

Financing costs on delinquent paymentsCurrent environment may be expensive

Types of Loss Mitigation

Maturity extension: May increase the maturity of the mortgage by up to 10 years.

Deferring or forgiving missed payments: Missed payments can be rolled into the principal portion of the loan and

the monthly mortgage payment can be adjusted to reflect the larger principal amount

Or Missed payments can be treated as a separate monthly payment that

must be repaid in addition to the original monthly mortgage payment Time period for repayment is over a shorter period of time.

Principal reduction: Reduction of the actual loan amount to be repaid by the borrower.

Interest rate freeze or reduction

Types of Loss Mitigation

Short sale: Allows the lender to reduce the amount the borrower owes on

the home so that the borrower can sell the home without taking a significant loss

Short refinance: Lender is willing to take a loss on the loan by reducing the

outstanding balance of the loan in order to help the borrower refinance with a new lender

Deed in lieu of foreclosure: Lender may be willing to accept the deed to the home and

bypass the foreclosure process, if exchange the borrower would be released from all obligations under the mortgage

Cash-for-keys negotiation

Why is it difficult to modify mortgages? Compensation structure for servicers

Revenue is a percentage of assets serviced 25 to 50 basis points + fees collected from borrower

Ex: late fees

Foreclosure may maximize the discounted value of the cash flows for investors

It has been estimated that 40% to 60% of modified mortgages will eventual default

Investor may be worse off after a loan is modified

Why is it difficult to modify mortgages? Expenses are mainly labor

Modifications are very labor intensive and costs may not be reimbursed in full

PSAs may restrict the ability of servicers to modify mortgages At best, PSAs provide little guidance in how to modify

mortgages Potential litigation risk

Lenders that have the second loan on the property have no incentive to accept a loan modification

Subprime Mortgages Originated with Second Loans

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

30.00%

35.00%

2002 2003 2004 2005 2006 2007

Variable rate (2/28)

Fixed rate