Expert Insights: The State of Compliance and Digital Technologies
This piece originally appeared in the April 2022 edition of MReport magazine, online now.
As President of Sourcepoint, Steve Schachter helps the company deepen relationships with existing customers, add new customers, and grow the Sourcepoint brand in the market.
He joined Sourcepoint in 2008 and has played a pivotal role in expanding Sourcepoint’s relationships with existing customers, consistently growing the customer list and exceeding revenue targets.
Prior to joining Sourcepoint, Schachter was a partner, COO and CFO of Richmond Title Services LP, a national title agency. He was also a successful entrepreneur, having been part of management teams that launched two successful start-ups.
What are some of the top compliance and regulatory risks for lenders in 2022?
Schecher: Perhaps the biggest and most obvious risk is the market shift from refinancing to buying loans, and the heightened scrutiny that comes with buying. Demand for non-QM, jumbo and bank statement loans, which are inherently riskier, is also poised to grow. Lenders have been spoiled for some time with vanilla lending and rate and term refitting, and both will represent a much smaller subset of volume this year.
Meanwhile, you have a new administration in Washington and a director of the Consumer Financial Protection Bureau (CFPB) who has already taken steps to look at compliance and oversight on the services side of the industry, and we expect to what they follow closely on the side of origination. Most businesses were given a pass in the first and second years of the pandemic, but as we enter year three, that laxity will be gone and scrutiny will increase.
Unfortunately, the CFPB generally doesn’t regulate the industry by issuing rules – they regulate by enforcement.
Another looming risk is the growing popularity of artificial intelligence (AI) and automated technologies. There’s a lot of excitement about these tools, but the big question is how to use them without inadvertently introducing discrimination into the loan decision process.
The industry now has the opportunity to collaborate and ensure that fair lending standards are maintained.
Why do you think 2022 will be the year of quality control and due diligence?
Schecher: With refi night ending, I think we will see a hangover effect among lenders that will show up in loan defaults. You also have millions of borrowers coming out of forbearance plans, and not all of them will be able to resume payments, which means we’re going to see some level of non-performing loans.
According to a recent CoreLogic loan performance report, there were about 500,000 more loans in serious arrears last October than at the start of the pandemic.
The main challenge for lenders will be to manage costs without affecting their ability to stay in compliance. Government Sponsored Entities (GSEs) will look closely at originators.
I also believe that we will see a significant demand for QC services due to the risk of delays related to entries. Another wrinkle in all of this is that trading firms and Wall Street banks want to invest in mortgage-backed securities (MBS) as demand increases for non-agency loans, especially mortgages for independent borrowers, which will also create a different spin on due diligence activity.
We expect to see a greater need for an experienced due diligence partner to validate the work done by authors. In fact, it’s a key reason we acquired The StoneHill Group, one of the nation’s largest providers of outsourced loan quality control (QC) and due diligence services.
What will mortgage lenders need operationally to avoid surrender risk?
Schecher: The good news is that right now lenders are doing a reasonable job with critical defaults. But when you get lax on the manufacturing side, minor issues can quickly turn into critical ones.
Keep in mind that 85% or more of defaults associated with loan manufacturing are convenience errors. In other words, the problems arise when someone tries to do too many things at once and doesn’t take care to cross the T’s and dot the I’s. It got much worse. In fact, I would say that 18 months ago only 20% of errors were errors of convenience.
Operationally, lenders need to pay more attention to online QC and pre-closing QC, whether they do the work in-house, use a partner, or both. The problem for most lenders is that they haven’t had the ability to do online or pre-closing CQ for the last couple of years because they were moving at such a high speed. Now is the time to adopt best practices in both of these areas to avoid what might come back to bite you in the future.
Our most successful lending clients are those who have built what I call a “correction culture”. They create a plan, do the work, review everything, identify issues, and use that information to adjust their plan. The goal is always to do things better. It’s never too late to put in the effort to fix something once you’ve caught it. If a lender has fostered a culture of correction, whether created internally, externally, or both, small problems are much less likely to become big ones.
It’s also important to remember that federal agencies require a certain amount and style of reporting, but that shouldn’t be the target. There are many other quality issues that will emerge that the reporting requirements won’t help you detect, and you need to adapt to them.
What are some of the technologies available to manage takeovers, compliance and regulatory risk?
Schecher: On the origination side, there are several compliance-focused tools that can be integrated into a lender’s LOS. For example, there are automated post-close platforms that use artificial intelligence (AI) and machine learning tools to streamline the document classification process and create client-specific checklists. This can help lenders improve the integrity of loan records and reduce redemption risk.
Lenders should also have a strong third-party risk management provider and ensure that all their third parties and commercial parties use the latest technology to ensure data security.
While it may seem obvious, lenders need technology that makes compliance more efficient and doesn’t slow things down. Timing is everything, whether funding a loan, closing a trade, or paying off warehouse lines. However, technology is only one variable – it is QC and risk management plans that complete the equation.
How are mortgage lenders managing the costs of compliance risk management upgrades, especially with margin squeeze issues in 2022
Schecher: That’s an excellent question. I have yet to see a company that puts items in their budget for issues that aren’t supposed to happen.
A good practice is to attach a dollar amount to your risk. It is very difficult to anticipate contingencies and losses, but if you are able to get a decent estimate, you are better able to gauge what the benefit of deploying a certain strategy will be.
Lenders need to realize there is a cost to compliance and monitoring. They must determine the level of cost and risk acceptable to their organization. Smart companies, however, view these costs as an investment. You can either buy these abilities or build them, but the smarter ones do both. While every organization is different, it’s always good to have the ability to purchase high-level abilities without having to develop them yourself. This allows lenders to “variabilise” their costs and improve their expertise more quickly. Ultimately, the cost of effective and smart compliance management is always less than enforcement or redemption costs.