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Commentary: New rules for mortgage loans

Thomas L. Wolf

It is widely accepted that the recent real estate collapse was primarily due to lenders reducing, or disregarding the standards relating to home mortgage qualifications. Exacerbating these issues was having these same lending institutions bailed out, closed and reopened under another name.

As a result of this collapse, President Obama signed into law on July 21, 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Act”). The stated aim of the legislation is “to promote the financial stability of the United States by improving accountability and transparency in the financial system, to end ‘too big to fail,’ to protect the American taxpayer by ending bailouts, to protect consumers from abusive financial services practices, and for other purposes.”

While the Act will affect all financial markets, it will directly impact the real estate market due to clauses relating to mortgage loans, asset-backed securities and appraisals.

Mortgage Loans

The purpose of Title XVI-Mortgage Reform and Anti-Predatory Lending Act is to “assure that consumers are offered and receive residential mortgage loans on terms that reasonably reflect their ability to repay the loans and that are understandable and not unfair, deceptive or abusive.”

The Act sets forth that all mortgage originators be qualified, registered and licensed as a mortgage originator in accordance with applicable state or federal law, including the Secure and Fair Enforcement for Mortgage Licensing Act of 2008. Furthermore, for all residential mortgage loans, no mortgage originator may receive compensation that varies based on the term of the loan, other than the principal amount.

Finally, the mortgage originator must verify the consumer’s ability to pay. A violation of this, or if the mortgage loan has unfair, deceptive or abusive terms, can be raised as a defense in a foreclosure hearing, without regard to a statute of limitations.

Asset-Backed Securities

A provision in the legislation requires the Securities and Exchange Commission and the banking agencies by April of next year to:

jointly prescribe regulations to prohibit a securitizer (defined as an issuer of an asset-backed security) from directly or indirectly hedging or otherwise transferring the credit risk the securitizer is required to retain with respect to an asset; and

require a securitizer to retain not less than five percent of the credit risk for any asset that is not a qualified residential mortgages, while requiring something less than five percent of the credit risk for securities selling asset-backed products involving qualified residential mortgages that meet certain underwriting standards.

The banking agencies and the SEC will specify items such as the permissible forms and minimum duration of risk retention and the fact that the securitizer is not required to retain any part of the credit risk for an asset-backed security if all the assets that collateralize the asset-backed security are qualified residential mortgages.

The Act also establishes underwriting standards for each asset class that specifies the terms, conditions and characteristics of a loan within the asset class that indicate a low credit risk with respect to the loan.

Lastly, the SEC will establish rules and regulations for registration statements and filings by issuers of asset-backed securities as well as for disclosures of information regarding the assets backing each class or tranche of a security.

The goal of this section of the Act is to require securitizers to think twice about taking unnecessary risks. What better way to do so than to keep these parties “on the hook” for their required percentage of the asset? Attorneys and other commentators are divided on whether investors will be encouraged to purchase more asset-backed securities if they know the seller is also interested in the outcome.

On the other hand, issuers and underwriters may be required to engage in fewer deals because their investment assets are tied up in the retained portion of the security.


The Act requires the Federal Reserve Board to implement Section 129E of the Act. This imposes new requirements to insure appraisal independence with respect to consumer transactions secured by a principal dwelling. The provisions of the proposed rule are briefly described below.

The Federal Reserve said the rules are designed so that appraisers make judgments “without influence or pressure from those with interests in the transaction.” The rule also calls for appraisers to receive “the customary and reasonable payments for their services.”

Significant Provisions

The rule prohibits coercion or other similar actions intended to cause an appraiser to base an appraisal on factors other than the appraiser’s independent judgment.

The rule bars appraisers and management companies hired by lenders from having financial or other interests in the properties or the credit transaction.

The rule bars creditors from extending credit based on appraisals if it is known beforehand of violations such as appraisal coercion or conflicts of interest unless the creditor determines the property values are not materially misstated.

The rule requires creditors or settlement service providers having information about appraiser misconduct to file reports with state licensing authorities.

Extent of Rule

The rule applies to appraisals for any consumer credit transaction secured by the consumer’s principal dwelling. The Federal Reserve said the scope of the final rule as presently stated is broader than the 2008 appraisal independence rules that apply to closed-end loans but not to home equity lines of credit. The final rule will come into effect on April 1.


Thomas L. Wolf is a Partner with Mengel, Metzger, Barr & Co. LLP. He can be reached at 585-423-1860 or at twolf@mmb-co.com.

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