National Mortgage Servicing Standards:
Legislation in the 112th Congress
Sean M. Hoskins
Analyst in Financial Economics
August 29, 2012
Congressional Research Service
7-5700
www.crs.gov
R42041
CRS Report for Congress
Pr
epared for Members and Committees of Congress
National Mortgage Servicing Standards: Legislation in the 112th Congress
Summary
The United States single-family housing market has $10.5 trillion of mortgage debt outstanding.
Servicers play an important role in this market. The owner of a mortgage loan or mortgage-
backed security typically hires a servicer to act on its behalf. When loans are current, a mortgage
servicer collects payments from borrowers and forwards them to the mortgage holders. If the
borrower becomes delinquent, a servicer may offer the borrower an option that could allow the
borrower to stay in his or her home, or the servicer may pursue foreclosure.
Following high foreclosure rates and recent allegations of abuse, mortgage servicing has attracted
attention from Congress. In addition to hearings and congressional investigations, some in
Congress have called for national servicing standards. The most comprehensive proposal, S. 824,
the Foreclosure Fraud and Homeowner Abuse Prevention Act of 2011 (Senator Sherrod Brown et
al.), and its companion bill in the House, H.R. 1783 (Representative Brad Miller et al.), contain
provisions intended to protect investors and borrowers from improper servicing practices. S. 967,
the Regulation of Mortgage Servicing Act of 2011 (Senator Jeff Merkley et al.), includes
borrower protections in addition to those offered by S. 824 and H.R. 1783.
The servicing standards proposed in S. 824 and H.R. 1783 include provisions intended to ensure
that servicers act in the best interest of investors who hold mortgage loans. The proposals would
adjust the servicing compensation structure to better align servicer incentives with the incentives
of the mortgage holder. Servicers would also be prohibited from purchasing services offered by
their affiliates at inflated costs and passing the costs on to investors. In addition, servicers would
be prohibited from choosing a loss mitigation option that would benefit their affiliates at the
expense of other investors.
S. 824, H.R. 1783, and S. 967 have three major components for borrower protection. First, the
three bills would require servicers to establish a single point of contact with the borrower. The
single point of contact would be a case manager who is assigned to each delinquent borrower and
would manage communications with the borrower. Second, the three bills would prohibit
servicers from dual tracking, which means initiating foreclosure on a borrower while
simultaneously pursuing a loan modification. Servicers would instead be required to determine
whether the borrower is eligible for an alternative to foreclosure before initiating foreclosure.
Third, S. 824 and H.R. 1783 would set minimum experience, education, and training levels for
loan modification staff and limit caseload levels for individual employees.
Legislation is not the only avenue to setting servicing standards. On August 10, the Consumer
Financial Protection Bureau (CFPB) issued proposed rules that would establish mortgage
servicing standards that would apply to most mortgages. Servicing standards for some mortgages
were also part of the national mortgage settlement and the enforcement actions taken by federal
regulators in response to deficient servicing practices by some banks.
Congressional Research Service
National Mortgage Servicing Standards: Legislation in the 112th Congress
Contents
Introduction...................................................................................................................................... 1
Are Servicer and Mortgage Holder Incentives Misaligned?............................................................ 2
The Principal-Agent Problem and Mortgage Holders ............................................................... 2
Specific Conflict-of-Interest Situations ..................................................................................... 5
Servicer Compensation ....................................................................................................... 5
Affiliate Relationships......................................................................................................... 6
Servicer Advances............................................................................................................... 8
How are Borrowers Affected? ......................................................................................................... 9
Single Point of Contact and Dual Tracking ............................................................................. 10
Staffing Requirements ............................................................................................................. 10
Potential Implications of Standards ............................................................................................... 11
Figures
Figure 1. Volume of Mortgage-Backed Security Issuance............................................................... 4
Figure 2. Servicer Consolidation ................................................................................................... 11
Figure B-1. Percentage of Loan Modifications Involving Principal Reduction ............................ 16
Figure B-2. Percentage of Loan Modifications Involving Principal Deferral ............................... 17
Tables
Table 1. Summary of Servicing Standards..................................................................................... 11
Appendixes
Appendix A. Non-Legislative Approaches .................................................................................... 13
Appendix B. Data Analysis of Principal-Agent Problem .............................................................. 15
Contacts
Author Contact Information........................................................................................................... 18
Congressional Research Service
National Mortgage Servicing Standards: Legislation in the 112th Congress
Introduction
In the United States, outstanding mortgage debt in the single-family housing market amounts to
$10.5 trillion.1 Mortgage servicers play an important role in this market. The owner of a mortgage
loan or mortgage-backed security typically hires a servicer to act on its behalf in servicing
mortgages. When loans are current, a mortgage servicer collects payments from borrowers and
forwards them to the mortgage holders. If the borrower becomes delinquent, the servicer may
pursue foreclosure or offer the borrower a workout option that may allow the borrower to stay in
his or her home.
Examples of workout options include loan modifications, such as principal balance reductions
and interest rate reductions, as well as repayment plans, which allow borrowers to repay the
amounts they owe and become current in their mortgage payments. By contrast, mortgage
liquidation options result in borrowers losing their homes. For example, in a short sale, the
borrower sells the home and uses the proceeds to satisfy the mortgage debt, even if the sale
proceeds are less than the amount owed on the mortgage. Foreclosure is similar to a short sale
except that it is often involuntary. The home is repossessed and sold by the lien holder. If the sale
price does not cover the amount owed, the borrower may have to pay the difference.2
Following high foreclosure rates and recent investigations of fraud and abuse, mortgage servicing
has attracted attention from Congress. For example, congressional hearings, as well as state and
federal investigations, have addressed allegations of “robo-signing,” in which a small number of
individuals sign a large number of affidavits and other legal documents that mortgage companies
submit to courts and other public authorities to execute foreclosures.3
To protect borrowers and investors from abuse, some in Congress have called for national
servicing standards. The proposed servicing standards include provisions to ensure that servicers
act in the best interest of the holders of the mortgage loans and that delinquent borrowers are
properly evaluated for loan modifications before foreclosure proceedings are initiated. The most
comprehensive bill, S. 824, the Foreclosure Fraud and Homeowner Abuse Prevention Act of 2011
(Senator Sherrod Brown et al.), and its companion bill in the House, H.R. 1783 (Representative
Brad Miller et al.), contain provisions to protect investors and borrowers. S. 967, the Regulation
of Mortgage Servicing Act of 2011 (Senator Jeff Merkley et al.), also proposes reforms to the
servicing industry.
In addition to the legislative proposals, there are other avenues through which servicing standards
may be adopted. On August 10, the Consumer Financial Protection Bureau (CFPB) issued
proposed rules that would establish mortgage servicing standards that would apply to most
mortgages.4 Servicing standards for some mortgages were also part of the national mortgage
1 Board of Governors of the Federal Reserve System, Household Finance: Mortgage Debt Outstanding, June 2011, at
http://www.federalreserve.gov/econresdata/releases/mortoutstand/current.htm.
2 See CRS Report R41572, Incentives and Factors Influencing Foreclosure and Other Loss Mitigation Outcomes, by
Darryl E. Getter.
3 See CRS Report R41491, “Robo-Signing” and Other Alleged Documentation Problems in Judicial and Nonjudicial
Foreclosure Processes, by David H. Carpenter.
4 David Silberman, Putting the ‘service’ back in ‘mortgage servicing’, Consumer Financial Protection Bureau, August
10, 2012, at http://www.consumerfinance.gov/blog/putting-the-serviceback-in-mortgage-servicing/.
Congressional Research Service
1
National Mortgage Servicing Standards: Legislation in the 112th Congress
settlement and the enforcement actions taken by federal regulators in response to deficient
servicing practices by some banks. Appendix A describes the non-legislative proposals.
This report analyzes the potential misaligned incentives in the servicer-mortgage holder
relationship and the servicing standards that attempt to address each concern, the servicer-
borrower relationship and the relevant servicing provisions, as well as the possible implications of
reforming the servicing industry.
Are Servicer and Mortgage Holder Incentives
Misaligned?
The Principal-Agent Problem and Mortgage Holders
Some experts argue that servicers face a host of competing incentives, not all of which encourage
the servicer to act in the best interest of the loan holder. These incentives could encourage the
servicer to pursue foreclosure when the investor would be best served by a loan modification, or
they could encourage the servicer to offer a loan modification when the holders would have
preferred foreclosure. The tension between what a servicer has incentives to do and what the note
holder would prefer is an example of a principal-agent problem.5 The servicer may make
decisions about loans that maximize its income rather than maximize the return for the holders of
the loans if the holders give the servicer too much flexibility to act.6
A principal-agent problem is unlikely when the servicer holds the loans in its own portfolio
because, in this case, the principal is the agent and the interests are aligned from the start. The
severity of the principal-agent problem differs for other types of mortgage holding arrangements:7
investors in private-label securities (PLS)8 and government-sponsored enterprises (GSEs).9
The principal-agent problem may be of most concern for investors in PLS because of their
difficulty in effectively monitoring servicers and in structuring servicing contracts, which are
called pooling and servicing agreements (PSA).10 There are several ways in which private
5 Sheila Bair, “Opening Address at Summit on Residential Mortgage Servicing for the 21st Century,” Washington, DC,
January 19, 2011, at http://www.fdic.gov/news/news/speeches/chairman/spjan1911.html.
6 Office of the Special Inspector General for the Troubled Asset Relief Program, Quarterly Report to Congress,
October 26, 2010, p. 160, at http://www.sigtarp.gov/reports/congress/2010/
October2010_Quarterly_Report_to_Congress.pdf.
7 There are also loans guaranteed by the federal government, but current legislation and academic literature does not
focus on those loans so they will not be discussed in this report.
8 In housing finance, a private-label security is “a mortgage-backed security or other bond created and sold by a
company other than a government-sponsored enterprise (GSE). The security often is collateralized by loans that are
ineligible for purchase by a GSE,” Financial Stability Oversight Council, 2011 Annual Report, p. 159, at
http://www.treasury.gov/initiatives/fsoc/Documents/FSOCAR2011.pdf.
9 A government-sponsored enterprise is a “corporate entity that has a federal charter authorized by law but that is a
privately owned financial institution,” Financial Stability Oversight Council, 2011 Annual Report, p. 156, at
http://www.treasury.gov/initiatives/fsoc/Documents/FSOCAR2011.pdf. For more on Fannie Mae and Freddie Mac, see
CRS Report R40800, GSEs and the Government’s Role in Housing Finance: Issues for the 112th Congress, by N. Eric
Weiss.
10 Pooling and servicing agreements (PSAs) are contracts negotiated between the investors and servicers to help guide
(continued...)
Congressional Research Service
2
National Mortgage Servicing Standards: Legislation in the 112th Congress
investors can monitor servicers. Prior to purchasing a share in a mortgage-backed security,
investors can get one measure of the quality of a servicer by looking at rating agencies’
evaluations of servicers’ performances.11 Nevertheless, the servicing rights may still be retained
by the servicer affiliated with the loan originator12 rather than shopped around to the best servicer
available. This reduces the investors’ ability to influence the choice of a servicer. After the
servicing rights have been awarded, investors can monitor the servicer through the trustee13 that is
hired by investors to act on their behalf. A trustee may replace the servicer if the servicer violates
the PSA by failing to act in the best interest of the investor, but close monitoring of servicers may
be costly and difficult. Servicers are not required to transparently report information on loan
performance to trustees, and, close monitoring of servicers may not be explicitly stated in the
PSA for some trustees.14 Investors also have limited ability to encourage the trustee to monitor the
servicer. Investors may have difficulty organizing their efforts to monitor because they may not
know who the other investors are or may wish to free ride on the organizing efforts of other
investors.15 However, just because there are difficulties does not mean that they cannot be
overcome. With billions of dollars at stake, investors have organized to file lawsuits against
servicers and loan originators.16
In addition to facing minimal monitoring, servicers have some flexibility to determine what
action to take with delinquent borrowers. To determine which option to pursue on a non-
performing loan, servicers often perform a net present value (NPV) test. In an NPV test, servicers
calculate the expected value of multiple loss mitigation and foreclosure options to determine
which has the highest benefit for the owner of the loan. Servicers are often required by the loan
holder to choose the option that has the highest NPV. Servicers in PLS are generally given
discretion17 in choosing the variables involved in the NPV calculations, which may in theory
enable rigging the NPV test to achieve an outcome that increases servicers’ income even if better
options might exist for investors.18
(...continued)
the actions of servicers when borrowers are delinquent on their mortgage payments.
11 Office of the Special Inspector General for the Troubled Asset Relief Program, Quarterly Report to Congress,
October 26, 2010, p. 160, at http://www.sigtarp.gov/reports/congress/2010/
October2010_Quarterly_Report_to_Congress.pdf.
12 Adam J. Levitin and Tara Twomey, “Mortgage Servicing,” Yale Journal on Regulation, vol. 28, no. 1 (2011), p. 67.
13 Working on behalf of the investors, “the trustee’s role involves holding transaction cash flows in segregated
accounts, notifying investors and rating agencies of covenant breaches and events of default, and managing servicing
transfers if the original servicer is no longer able to function as servicer,” Moody's, Moody’s Re-examines Trustees’
Role in ABS and RMBS, February 4, 2003, p. 1, at http://www.moodys.com.ar/PDF/Research/Trustee's%20Role.pdf.
14 U.S. Congress, Senate Committee on Banking, Housing, and Urban Affairs, Subcommittee on Housing,
Transportation and Community Development, Testimony of Laurie Goodman, Amherst Securities Group, 112th Cong.,
1st sess., May 12, 2011, p. 6.
15 Adam J. Levitin and Tara Twomey, “Mortgage Servicing,” Yale Journal on Regulation, vol. 28, no. 1 (2011), p. 58,
62.
16 Carrick Mollenkamp, “Banks Pressed on Sour Home Loans,” The Wall Street Journal, September 23, 2010, at
http://online.wsj.com/article/SB10001424052748704814204575508143329644732.html.
17 A recent white paper that studied the content of subprime securitization contracts found that servicers are often given
general guidelines for modifying loans, such as follow customary servicing standards or service the loans as if they
were held in your own portfolio. See John P. Hunt, What Do Subprime Securitization Contracts Actually Say About
Loan Modification? Preliminary Results and Implications, Berkeley Center for Law, Business and the Economy,
March 25, 2009, p. 9.
18 Office of the Special Inspector General for the Troubled Asset Relief Program, Quarterly Report to Congress,
October 26, 2010, p. 164, at http://www.sigtarp.gov/reports/congress/2010/
(continued...)
Congressional Research Service
3
National Mortgage Servicing Standards: Legislation in the 112th Congress
The GSEs have taken steps to address the principal-agent problem. Even before the Home
Affordable Modification Program (HAMP),19 the GSEs offered financial incentives to servicers
for performing approved loan modifications. They quantitatively track servicer performance and
recognize their top servicers.20 They also give specific guidelines to servicers for NPV tests.21
Because the GSEs have assumed an even larger role in the housing finance system since the
beginning of the most recent recession, servicers have an incentive to act in the GSEs’ best
interest in order to attract new business. Through these reputational, contractual, and financial
incentives, the GSEs attempt to minimize the principal-agent problem.
During the housing boom of the mid-2000s, PLS gained a larger share of the market. Figure 1
shows the volume of mortgage-backed securities issued by Fannie Mae, Freddie Mac, and
private-label investors. Fannie Mae and Freddie Mac have assumed a dominant role since the
beginning of the most recent recession.
Figure 1. Volume of Mortgage-Backed Security Issuance
Source: Federal Housing Finance Agency, “Conservator’s Report on the Enterprises’ Financial Performance,”
Second Quarter 2011.
Given the limitations of monitoring servicers and their flexibility in choosing options for
borrowers in default, it is possible that servicers may choose to maximize their income rather than
serve the holders’ interests. This is more of a concern for PLS, where the principal-agent problem
is strongest, and less of a concern for loans held in servicer’s portfolio, where incentives are
aligned.
(...continued)
October2010_Quarterly_Report_to_Congress.pdf.
19 HAMP is part of the Obama Administration’s Making Home Affordable program. HAMP provides financial
incentives to participating servicers in order to encourage them to provide loan modifications to eligible troubled
borrowers. See CRS Report R40210, Preserving Homeownership: Foreclosure Prevention Initiatives, by Katie Jones.
20 Larry Cordell, Karen Dynan, and Andreas Lehnert et al., The Incentives of Mortgage Servicers: Myths and Realities,
Federal Reserve Board, Finance and Economics Discussion Series, Working Paper 2008-46, September 8, 2008, p. 20,
at http://www.federalreserve.gov/pubs/feds/2008/200846/200846pap.pdf.
21 Ibid., p. 18.
Congressional Research Service
4
National Mortgage Servicing Standards: Legislation in the 112th Congress
Specific Conflict-of-Interest Situations
The principal-agent problem can be manifested in a variety of conflict-of-interest situations. The
conflicts are of concern because they can exacerbate such problems as high foreclosure rates and
the breakdown in securitization. The conflicts that arise typically have to do with servicer
compensation, servicer affiliation with other entities, and servicer advances. Each is discussed
below.
Servicer Compensation
Servicers have five primary sources of compensation. The largest form of compensation is the
servicing fee. Servicers receive a percentage of the unpaid principal balance on the loans they are
servicing. Depending on the type of loan, the fee can range from 25 basis points for a prime
fixed-rate loan to 50 basis points for a subprime loan.22 Second, servicers earn float income. Float
income is the interest servicers earn by collecting payments from borrowers at the beginning of
the month, earning interest on that money, and then forwarding the borrowers’ payments at the
end of the month. Third, servicers earn fee income from the fees that they charge delinquent
borrowers. Other sources of fees include property valuation fees, credit report fees, and notary
fees.23 Fourth, servicers may receive investment income by retaining an ownership share in the
investment that they are servicing. Fifth, servicers may receive incentive payments as part of
HAMP or other government programs for each borrower that receives a permanent modification.
Some critics believe that this compensation structure leaves servicers unconcerned about
maximizing the value of the underlying loan for investors.24 They argue that servicers are likely to
perform a loan workout only if doing so is more profitable for the servicer than foreclosure. This
implies that a servicer will only perform a workout if it will earn enough revenue on the
reperforming loan before it potentially redefaults to compensate it for the upfront cost of
performing the workout. However, critics argue that, under this model, a servicer’s decision is
independent of the value of the loan and instead depends on the length of time before the loan
redefaults and the size of the loan. Servicer compensation does not, therefore, incentivize the
servicer to maximize the value of the loan to investors.
S. 824 and H.R. 1783 separate the servicing of borrowers that are current from the servicing of
borrowers that are delinquent. Borrowers that are paying as scheduled would be serviced by the
traditional primary servicer, whereas borrowers who are at least 60 days delinquent would have
their servicing transferred to special servicers that specialize in minimizing losses for investors.
The special servicer will be compensated through a fraction of the stream of payments from the
entire pool.
22 A basis point is 0.01%. For example, a subprime loan with a $200,000 unpaid balance would yield (0.0050*200,000)
$1,000 in annual income to the servicer. Servicers are compensated more for subprime loans because those loans often
are more costly to service. Subprime borrowers default at a higher rate so servicers spend more to manage those
defaults. Larry Cordell, Karen Dynan, and Andreas Lehnert et al., The Incentives of Mortgage Servicers: Myths and
Realities, Federal Reserve Board, Finance and Economics Discussion Series, Working Paper 2008-46, September 8,
2008, p. 15, at http://www.federalreserve.gov/pubs/feds/2008/200846/200846pap.pdf.
23 Office of the Special Inspector General for the Troubled Asset Relief Program, Quarterly Report to Congress,
October 26, 2010, p. 161, at http://www.sigtarp.gov/reports/congress/2010/
October2010_Quarterly_Report_to_Congress.pdf.
24 The model that follows is based on Adam J. Levitin and Tara Twomey, “Mortgage Servicing,” Yale Journal on
Regulation, vol. 28, no. 1 (2011), p. 72.
Congressional Research Service
5
National Mortgage Servicing Standards: Legislation in the 112th Congress
The compensation structure for the special servicer is intended to make the servicer indifferent to
the type of loss mitigation option and instead encourage it to maximize the NPV for investors.
This could better align the interest of the special servicer with the interest of the investors.
However, aligning servicer and investor incentives requires addressing both revenue and costs.
The legislation addresses servicer compensation issues, but it does not address the costs borne by
the parties when defaults occur. A servicer is often reimbursed for foreclosure expenses but not
for the added cost of performing a workout option.25 Some claim that this incentivizes servicers to
perform foreclosures. It is unclear if the reforms will address this issue by requiring the same
treatment of foreclosure and workout expenses.26 Failure to address the costs of servicing
distressed loans may still leave the incentive alignment issue unresolved.
Affiliate Relationships
Servicers are often affiliated with other entities such as providers of foreclosure services, loan
originators, and securitizers. These affiliate relationships may also incentivize servicers to act in
ways that are not in the investors’ interests. Three types of affiliate relationships that critics cite as
sources of potential conflict are described below, together with legislative and other proposed
policy options that address each conflict.
First, servicers may be affiliated with organizations that provide foreclosure completion services,
such as property preservation companies.27 The opportunity to earn additional income for an
affiliate may make the servicer more likely to choose foreclosure as an option. Even if servicers
offer foreclosure services themselves, they are reimbursed on a first-priority basis once the house
is liquidated.28 This gives servicers an incentive to inflate the true cost of providing the additional
services at the expense of investors. In other words, the opportunity to earn additional fees may,
for decisions that are on the margin between foreclosing and offering a loss mitigation option,
incentivize the servicer to choose foreclosure.29 These additional fees are not required to be
broken down in a transparent manner when reported to the trustee, making it difficult for
investors to hold servicers accountable.30
25 Investors may be reluctant to reimburse servicers for added loss mitigation expenses because pursuing loss mitigation
options that maximize the NPV is the expected function of the servicer. Investors may argue that performing
appropriate loss mitigation options is what the servicer is already paid to do. See Larry Cordell, Karen Dynan, and
Andreas Lehnert et al., The Incentives of Mortgage Servicers: Myths and Realities, Federal Reserve Board, Finance and
Economics Discussion Series, Working Paper 2008-46, September 8, 2008, p. 19, at http://www.federalreserve.gov/
pubs/feds/2008/200846/200846pap.pdf.
26 It is also unclear what will happen if a delinquent loan reperforms. The special servicer may not have the incentive to
make the loan reperform if doing so transfers the servicing rights back to the primary servicer.
27 U.S. Congress, Senate Committee on Banking, Housing, and Urban Affairs, Subcommittee on Housing,
Transportation and Community Development, Testimony of Laurie Goodman, Amherst Securities Group, 112th Cong.,
1st sess., May 12, 2011, p. 7.
28 Office of the Special Inspector General for the Troubled Asset Relief Program, Quarterly Report to Congress,
October 26, 2010, p. 162, at http://www.sigtarp.gov/reports/congress/2010/
October2010_Quarterly_Report_to_Congress.pdf.
29 Fee income is only one source of servicer compensation. Even if the opportunity to earn additional fee income
offered the incentive to foreclose, there are also incentives to not foreclose, such as the opportunity to earn additional
revenue from the servicing fee (which is dependent on the unpaid principal balance; foreclosing on a home lowers the
unpaid principal balance).
30 U.S. Congress, Senate Committee on Banking, Housing, and Urban Affairs, Subcommittee on Housing,
Transportation and Community Development, Testimony of Laurie Goodman, Amherst Securities Group, 112th Cong.,
1st sess., May 12, 2011, p. 6.
Congressional Research Service
6
National Mortgage Servicing Standards: Legislation in the 112th Congress
Overcharging the investor for fees does not necessarily mean that incentives are misaligned with
respect to the foreclosure decision. Fees to the servicer and its affiliates are just one component of
the NPV test.31 Foreclosure might still be the best option for the investor even if the investor pays
more in fees. Overcharges may not be enough to tip the NPV test in some cases.
S. 824 and H.R. 1783 would limit servicers’ ability to charge excessive fees for services that may
be sold by an affiliate of the servicer. For example, if a borrower is no longer paying for his or her
homeowner’s insurance policy, the servicer is required to attempt to keep in place or reinstate the
borrower’s previous insurance policy. If that cannot be achieved, the servicer must provide force-
placed insurance that is of similar cost and coverage as a standard homeowner’s insurance policy.
This proposal would prevent servicers from purchasing above-market rate insurance from an
affiliate and passing the cost on to investors.
Other proposals to limit foreclosure fees have called for servicers’ fees to be reasonably related to
the cost of actually providing a service and to be disclosed more clearly in monthly statements to
investors and borrowers.32
Second, servicers may be affiliated with loan originators or securitizers and lead to
“representations and warranties” (rep and warrants) conflicts. Often in the case of mortgage-
backed securities, the securitizer or loan originator will establish rep and warrants on the
underlying loans that make up the pool for the security. A rep and warrants violation occurs when
a loan is not of the type or quality that it was alleged to be at the time of the security’s issuance.33
When detected, the securitizer or originator may be required to purchase the loan out of the pool
and place the loan on its balance sheet. The trustee is responsible for enforcing rep and warrant
violations. Trustees, however, often do not have the loan-level information or ability needed to
track violations, but servicers do have that information.34 Servicers affiliated with the securitizer
or originator that would need to repurchase the loan may, therefore, have an incentive to not
report the violation. Rep and warrant issues, however, do not necessarily influence the decision of
the servicer to offer a delinquent borrower a loss mitigation option or proceed with foreclosure
given that this issue does not factor into the NPV test.
To address rep-and-warrant conflicts, some experts have suggested that an independent third
party be responsible for protecting investors’ interests and be given access to the loan-level
information needed to detect rep and warrant violations.35 The compensation of the third party
would be structured to incentivize it to act in the best interest of the investors. However, private
investors did, in some instances, hire third-party firms before the downturn in the housing market
31 For an example of an NPV test, see Federal Deposit Insurance Corporation, FDIC Loan Modification Program, at
http://www.fdic.gov/consumers/loans/loanmod/FDICLoanMod.pdf.
32 U.S. Congress, Senate Committee on Banking, Housing, and Urban Affairs, Subcommittee on Housing,
Transportation and Community Development, Testimony of Laurie Goodman, Amherst Securities Group, 112th Cong.,
1st sess., May 12, 2011, p. 6.
33 Rep-and-warrants violations can occur for many reasons, such as misrepresentations of the income level of the
borrower or the occupancy status of the house. U.S. Congress, Senate Committee on Banking, Housing, and Urban
Affairs, Subcommittee on Housing, Transportation and Community Development, Testimony of Laurie Goodman,
Amherst Securities Group, 112th Cong., 1st sess., May 12, 2011, p. 8.
34 Ibid., p. 8.
35 Ibid., p. 8.
Congressional Research Service
7
National Mortgage Servicing Standards: Legislation in the 112th Congress
to perform due diligence on a pool of loans, and this proved to have limited effectiveness.36 Other
suggestions include increasing the penalties for violations beyond just repurchasing the loan.37
A third affiliate issue relates to second mortgages. During the housing boom of the mid-2000s,
many borrowers took out a second mortgage to help finance the purchase of their home. Servicers
of the first lien often retained ownership of the second lien.38 A conflict of interest may arise if a
servicer pursues options for a delinquent borrower that ensures that the second lien will be repaid.
For example, a servicer whose affiliate owns the second lien may be less likely to agree to a short
sale in which the price offered for the house will not cover the amount owed to the second lien
holder even if a short sale may be the best option for the owners of the first lien.39 The option that
benefits the second lien holder may not necessarily benefit the first lien investors.
A recent study has found that borrowers have often continued to pay their second mortgage even
if they could not afford to pay their first mortgage.40 The study used a data sample of 1.4 million
borrowers covering nearly all U.S. borrowers that had just one first and second lien. It found that
the most important reason that borrowers stayed current on their second lien, which is often a
home equity line of credit (HELOC), even if they were delinquent on their first lien mortgage was
to maintain access to the credit offered by a HELOC. The study found limited evidence that
servicers’ conflicts of interest concerning second lien ownership could explain borrowers’
behavior.
To address a possible second lien conflict, S. 824 and H.R. 1783 would prohibit a servicer or an
affiliate of the servicer from owning a lien that is secured by a property if it is also servicing a
different lien on the same property. For example, the servicer could not service the first lien but
have its affiliate own the second lien on a home in the pool that it services. Others have put
forward less stringent proposals that would require the servicer to disclose its ownership of a
second lien and establish a formula to determine how much the subordinate lien should be
reduced if the primary lien is also adjusted.41
Servicer Advances
When a borrower does not pay the full monthly amount that is due, servicers are often required to
advance the principal or interest to investors. Servicers are typically reimbursed for these
36 DBRS, Review Services for the Secondary Mortgage Market, August 14, 2007, at http://www.dbrs.com/research/
213821/dbrs-issues-report-review-services-for-the-secondary-mortgage-market.html.
37 U.S. Congress, Senate Committee on Banking, Housing, and Urban Affairs, Subcommittee on Housing,
Transportation and Community Development, Testimony of Anthony Sanders, 112th Cong., 1st sess., May 12, 2011, p.
7.
38 For example, an executive with Bank of America testified during a congressional hearing that, “of the 10.4 million
first liens Bank of America services 15% have a second lien with Bank of America.” U.S. Congress, House Committee
on Financial Services, Testimony of Barbara Desoer, President, Bank of America Home Loans, 111th Cong., 1st sess.,
April 13, 2009, p. 6.
39 U.S. Congress, Senate Committee on Banking, Housing, and Urban Affairs, Subcommittee on Housing,
Transportation and Community Development, Testimony of Laurie Goodman, Amherst Securities Group, 112th Cong.,
1st sess., May 12, 2011, pp. 2-5.
40 Amherst Mortgage Insight, Strategic Default and 1st/2nd Lien Payment Priority, February 17, 2011, p. 15.
41 Sheila Bair, “Opening Address at Summit on Residential Mortgage Servicing for the 21st Century,” Washington, DC,
January 19, 2011, at http://www.fdic.gov/news/news/speeches/chairman/spjan1911.html.
Congressional Research Service
8
National Mortgage Servicing Standards: Legislation in the 112th Congress
advances, but do not receive interest on their payments.42 This gives servicers an incentive to
minimize the amount of time that a loan is in default. Although servicers have the option to
charge late fees to the borrower, servicers may still lose money on advances because the advances
are basically a zero interest loan to investors.43 This practice may be another reason why servicers
might decide not to maximize the NPV of defaults and be concerned about the duration of
delinquency or default. Some default periods could be profitable for servicers but other periods
could be costly; all periods in which investors do not receive full payment are costly.
Often servicers will only have to advance payments to investors if the servicer thinks the
advances are considered recoverable (usually through the sale of the house in foreclosure).44 The
GSEs will also limit advances to four months.45 In addition, servicers are reimbursed for their
advances soon after a loan modification. If reimbursement of advances after a loan modification
occurs prior to the reimbursement after a foreclosure, then servicers would have an incentive to
not foreclose.46
S. 824 and H.R. 1783 would prohibit servicers from advancing the delinquent principal and
interest for more than three payment periods unless financing or reimbursement is made available
to the servicer.
How are Borrowers Affected?
Mortgage servicing is not a consumer-facing market. Servicers are hired by investors and,
therefore, are ultimately responsible to the investors. Servicers have an incentive to be concerned
with the quality of their interaction with borrowers insofar as investors evaluate servicers by their
customer service. For example, servicers may have little incentive to respond quickly to
borrowers if investors do not value servicers that respond in a timely manner. Typically,
borrowers cannot choose to switch servicers the way they can compare and choose goods and
services in most markets. Critics say that the absence of this market-force mechanism makes
borrowers vulnerable to servicer abuse.47
42 Servicers may be reimbursed, but often not until the house is sold. Office of the Special Inspector General for the
Troubled Asset Relief Program, Quarterly Report to Congress, October 26, 2010, p. 162, at http://www.sigtarp.gov/
reports/congress/2010/October2010_Quarterly_Report_to_Congress.pdf.
43 Diane E. Thompson, Why Servicers Foreclose When They Should Modify and Other Puzzles of Servicer Behavior:
Servicer Compensation and its Consequences, National Consumer Law Center, October 2009, pp. 23-24.
44 Ibid., p. 23.
45 Larry Cordell, Karen Dynan, and Andreas Lehnert et al., The Incentives of Mortgage Servicers: Myths and Realities,
Federal Reserve Board, Finance and Economics Discussion Series, Working Paper 2008-46, September 8, 2008, p. 16,
at http://www.federalreserve.gov/pubs/feds/2008/200846/200846pap.pdf.
46 Mortgage Bankers Association, Residential Mortgage Servicing for the 21st Century, White Paper, May 2011, p. 22,
at http://www.mbaa.org/files/ResourceCenter/ServicingCouncil/ResidentialServicingforthe21stCenturyWhitePaper.pdf.
47 U.S. Congress, House Committee on Financial Services, Subcommittee on Financial Institutions and Consumer
Credit and Subcommittee on Oversight and Investigations, Testimony of Raj Date, 112th Cong., 1st sess., July 7, 2011,
p. 2.
Congressional Research Service
9
National Mortgage Servicing Standards: Legislation in the 112th Congress
Single Point of Contact and Dual Tracking
S. 967, H.R. 1783, and S. 824 address the absence of a consumer-facing market by requiring
servicers to assign a case manager to serve as a single point of contact to each borrower that seeks
a loan modification. The case manager would manage communications with the borrower and be
available to communicate by telephone and email during business hours. The case manager would
also have the authority to decide if the borrower is eligible for a loan modification. If the
borrower is deemed ineligible by the case manager, S. 967 would require an independent
reviewer to confirm the eligibility status before the borrower is notified. The independent
reviewer would be allowed to work for the same servicing company as the primary servicer so
long as the reviewer was not under the same immediate supervision as the division that
determines loan modifications.
The three bills further address the concerns stemming from the absence of a consumer-facing
market by prohibiting dual tracking. Dual tracking occurs when servicers pursue a loss mitigation
option while simultaneously initiating the foreclosure process on a borrower. Instead, servicers
would be required to determine if the borrower is eligible for a loan modification before initiating
foreclosure even if the foreclosure is otherwise authorized under the state’s law.
Staffing Requirements
The servicing industry consolidated during the housing boom of the early 2000s. The top five
mortgage servicers had a 60% market share by the end of 2009 compared with a 27% share for
the top five servicers in 1999.48 With relatively low delinquency rates, servicers could invest in
automating their transaction processing systems and take advantage of economies of scale.49
Servicers found little incentive to invest as heavily in the equipment and personnel required for
loss mitigation. Critics argue that this left servicers understaffed when the delinquency rate spiked
later in the decade.50 Figure 2 shows how the servicing market consolidated from 2004 to the first
quarter of 2010. The rate of servicer consolidation slowed as the delinquency rate increased.
48 Office of the Special Inspector General for the Troubled Asset Relief Program, Quarterly Report to Congress,
October 26, 2010, p. 163, at http://www.sigtarp.gov/reports/congress/2010/
October2010_Quarterly_Report_to_Congress.pdf.
49 A 2007 study found that mega servicers can service performing loans at a monthly cost of approximately $4/loan,
large servicers at a cost of $6/loan, and small/medium servicers at $7/loan. See Federal Housing Finance Agency,
Servicing Compensation Initiative pursuant to FHFA Directive in Coordination with HUD, February 2011, p. 8, at
http://www.fhfa.gov/webfiles/19719/FHFA_Servicing_Initiative_-_Background_and_Issues_2011-02-
14_3pm_FINAL.pdf.
50 See the discussion of the enforcement actions taken by the regulatory agencies in Appendix A.
Congressional Research Service
10
National Mortgage Servicing Standards: Legislation in the 112th Congress
Figure 2. Servicer Consolidation
Source: Servicer market share data from Federal Housing Finance Agency, “Servicing Compensation Initiative
pursuant to FHFA Directive in Coordination with HUD,” February 2011; delinquency rate data from the Federal
Reserve Bank of New York, “Quarterly Report on Household Debt and Credit,” August 2011.
Notes: The delinquency rate measures the fraction of the total outstanding mortgage balance that is at least 30
days delinquent as of the first quarter of each year.
To address concerns about staffing, S. 824 and H.R. 1783 mandate staffing requirements that set
minimum experience, education, and training levels for loan modification staff. The legislation
also proposes caseload limits for individual employees.
Potential Implications of Standards
Table 1 summarizes the issues and the reforms proposed by S. 824, H.R. 1783, and S. 967.
Table 1. Summary of Servicing Standards
Issues Reform
Proposals
S. 824 and
H.R. 1783
S. 967
Misalignment due to compensation
Require a special servicer for delinquent
X
structure
borrowers
Relationship with provider of
Limitation on fees charged to investors
X
foreclosure services
Rep and warrant conflicts
Third-party reviewer; increased penalty
Ownership of 2nd lien
Prohibit owning 2nd lien
X
Servicer advances
Limit servicer advances to three payment
X
periods
Absence of a consumer-facing market Require a single point of contact; prohibit
X X
dual tracking
Understaffed servicers
Limitations on caseloads and requirements
for training, education levels, and experience
X
of staff
Source: Table compiled by CRS.
Congressional Research Service
11
National Mortgage Servicing Standards: Legislation in the 112th Congress
The servicing standards may align servicers’ incentives with investors’ interests and protect
borrowers from abuse, but could come at the expense of higher interest rates and closing fees for
borrowers and lower returns for investors.51 Just as servicers receive higher compensation for
handling subprime mortgages that are more costly to service than prime mortgages, all borrowers
could expect rates to increase as servicers would need to be compensated for the added cost of
hiring and training more personnel to meet proposed regulations.52 Servicers may experience
reduced revenues as a result of the limitations on the fees servicers can charge and restrictions on
ownership of second liens. Hence, borrowers might be required to pay higher rates or closing
costs.
In addition, some believe that higher costs for servicers could accelerate the consolidation of the
servicing industry and squeeze out community banks.53 Servicers may satisfy the increased
staffing requirements by taking advantage of the economies of scale offered by large call centers
and automated transaction processing. If the proposals require that the special servicer for
delinquent loans be from a different company than the primary servicer (as opposed to the special
servicer being part of the same company as the primary servicer), then the servicing market may
further segment into a few large primary servicers and smaller special servicers. If special
servicers are also subject to similar regulations about customer service, then they would be
subject to the same pressures to consolidate as the primary servicers. If the lack of competition in
the servicing industry was one of the factors driving the need for servicing standards, some may
ask whether the standards are be self-defeating.
51 Adam J. Levitin and Tara Twomey, “Mortgage Servicing,” Yale Journal on Regulation, vol. 28, no. 1 (2011), p. 89.
52 For more on the potential costs of requiring a single point of contact and prohibiting dual tracking, see Mortgage
Bankers Association, Residential Mortgage Servicing for the 21st Century, White Paper, May 2011, pp. 23-24, at
http://www.mbaa.org/files/ResourceCenter/ServicingCouncil/ResidentialServicingforthe21stCenturyWhitePaper.pdf.
53 U.S. Congress, Senate Committee on Banking, Housing, and Urban Affairs, Testimony of Jack Hopkins, President
and CEO of CorTrust Bank, 112th Cong., 1st sess., August 2, 2011.
Congressional Research Service
12
National Mortgage Servicing Standards: Legislation in the 112th Congress
Appendix A. Non-Legislative Approaches
In addition to the legislative proposals, servicing standards may be adopted through other
avenues. On August 10, the CFPB issued proposed rules that would establish mortgage servicing
standards that would apply to most mortgages.54 The proposed rules have two main components:
reforms to the billing and general operations that would impact all borrowers and reforms to aid
delinquent borrowers. The reforms to the billing and general operations include adding more
information to the regular monthly billing statements, requiring borrowers to be notified of
upcoming rate and payment changes, simplifying the process of reporting errors, and protecting
consumers against unnecessarily paying for force-placed insurance. The reforms to aid delinquent
borrowers include requiring servicers to contact borrowers who are at least 30 days late, provide
easy access to staff, establish reasonable data and information policies and computer systems, and
evaluate some delinquent borrowers for foreclosure alternatives.
In addition, the Federal Reserve Board, the Office of the Comptroller of the Currency, and the
Office of Thrift Supervision are taking enforcement actions against 14 servicers.55 When
examining the servicers, the agencies found “unsafe or unsound practices and violations of law,
which have had an adverse impact on the functioning of the mortgage market.”56 The
enforcement actions require servicers to establish a compliance program (subject to regulator
approval) that includes some of the reforms already mentioned in this report. For example,
servicers will have to improve their staffing and training as well as have a single point of contact
to assure that communications are timely during the loan modification and foreclosure
processes.57 The regulatory agencies also plan to impose monetary sanctions.58 The agencies’
enforcement actions may have a significant effect because the 14 servicers represent more than
two-thirds of the servicing market.59 The actions taken by the regulatory agencies do not preclude
other federal or state regulatory and law enforcement agencies from taking additional actions. For
example, as part of the national mortgage settlement, five banks agreed to meet certain servicing
standards.60
The Federal Housing Finance Agency, which regulates Fannie Mae and Freddie Mac, has directed
the GSEs to require their servicers to adopt servicer reforms. Through the Servicing Alignment
Initiative, Fannie and Freddie will establish consistent policies and processes for servicing
54 Consumer Financial Protection Bureau, “Summary of Proposed Mortgage Servicing Rules,” at
http://files.consumerfinance.gov/f/201208_cfpb_summaries_proposed_rules-consumers.pdf.
55 The 14 servicers are Ally Bank/ GMAC, Aurora Bank, Bank of America, Citibank, EverBank, HSBC, JPMorgan
Chase, MetLife, OneWest, PNC, Sovereign Bank, SunTrust, U.S. Bank, and Wells Fargo.
56 Federal Reserve System, Office of the Comptroller of the Currency, Office of Thrift Supervision, Interagency
Review of Foreclosure Policies and Practices, April 2011, p. 13, at http://www.occ.gov/news-issuances/news-releases/
2011/nr-occ-2011-47a.pdf.
57 Federal Reserve System, Office of the Comptroller of the Currency, Office of Thrift Supervision, Interagency
Review of Foreclosure Policies and Practices, April 2011, p. 13, at http://www.occ.gov/news-issuances/news-releases/
2011/nr-occ-2011-47a.pdf.
58 The Federal Reserve System, Press Release, April 13, 2011, at http://www.federalreserve.gov/newsevents/press/
enforcement/20110413a.htm.
59 Federal Reserve System, Office of the Comptroller of the Currency, Office of Thrift Supervision, Interagency
Review of Foreclosure Policies and Practices, April 2011, p. 3, at http://www.occ.gov/news-issuances/news-releases/
2011/nr-occ-2011-47a.pdf.
60 The five banks are Ally/GMAC, Bank of America, Citi, JPMorgan Chase, and Wells Fargo. See National Mortgage
Settlement, at http://nationalmortgagesettlement.com/.
Congressional Research Service
13
National Mortgage Servicing Standards: Legislation in the 112th Congress
delinquent loans in four areas: borrower contact, delinquency management practices, foreclosure
timelines, and loan modifications/foreclosure alternatives.61 The initiative prohibits dual tracking
during the first 120 days of delinquency but does not require (though it does encourage)
designating a single point of contact. Because of the large role that Fannie and Freddie play in the
housing market,62 the reforms have the potential to significantly affect the servicing industry.
FHFA is also working with the Department of Housing and Urban Development through the
Servicing Compensation Initiative to reform the servicing compensation structure for Fannie and
Freddie servicers.
61 Federal Housing Finance Agency, Frequently Asked Questions- Servicing Alignment Initiative, April 28, 2011, p. 1,
at http://www.fhfa.gov/webfiles/21191/FAQs42811Final.pdf.
62 See Figure 1.
Congressional Research Service
14
National Mortgage Servicing Standards: Legislation in the 112th Congress
Appendix B. Data Analysis of Principal-Agent
Problem
Servicers are constrained in their dealings with delinquent borrowers by contractual agreements
with the owners of the loans, but the contracts may be vague enough to allow servicers the
flexibility to choose the workout option that is in their best interest. Servicers’ relationships with
affiliates, the requirement to advance payment or interest, and servicers’ compensation structures
may influence decisions about loss mitigation options. If the option that is selected contrasts with
the interest of the investor, then the servicer might profit at the investors’ expense. Because
incentives influence servicer actions in conflicting ways, economic theory alone is insufficient to
determine whether the net effect of servicers’ incentives is to offer too many foreclosures, too
many loss mitigation workouts, or the wrong type of workout. The potential principal-agent
problem is reexamined in this section to see what data trends might suggest.63 A comparison is
presented of how loans are serviced when owned by the servicer versus when loans are serviced
for a GSE or PLS. Assuming that a servicer that keeps its loans in portfolio is less likely to have a
principal-agent problem, the loans serviced for GSEs should be serviced differently. The
differences are expected to be even more exaggerated when comparing loans serviced for PLS to
loans held in portfolio due to the stronger principal-agent problem in PLS.
A principal-agent problem may most strongly manifest itself when looking at the data on
principal reductions. Servicers are compensated primarily on the unpaid principal balance of the
loans they are servicing. Therefore, they have an incentive to not reduce the loan principal if other
options are available.
Figure B-1 shows the frequency with which principal reductions are performed when loans are
held in servicers’ portfolios and when serviced for a GSE or for a PLS. The data span the first
quarter of 2009 to the first quarter of 2011. For example, of all the loan modifications performed
in the fourth quarter of 2009 for loans held in a servicer’s portfolio, 27.7% included a principal
reduction.
63 The data is taken from the OCC and OTS Mortgage Metrics Reports, which can be accessed at
http://www.ots.treas.gov/?p=Mortgage%20Metrics%20Report. The reports contain data from eight national banks
(Bank of America, JPMorgan Chase, Citibank, HSBC, MetLife, PNC, U.S. Bank, and Wells Fargo) and one thrift
(OneWest Bank). Collectively, the nine institutions represent 63% of all first-lien residential mortgages outstanding in
the United States. For more on the data, see OCC/OTS Mortgage Metrics Loan-Level Data Collection: Field
Definitions, April 20, 2009, at http://www.occ.gov/publications/publications-by-type/other-publications-reports/
mortgage-metrics-q2-2009/loan-level-data-field-defin-q2-2009.pdf.
Congressional Research Service
15
National Mortgage Servicing Standards: Legislation in the 112th Congress
Figure B-1. Percentage of Loan Modifications Involving Principal Reduction
Source: OCC and OTS Mortgage Metrics Report.
Loans held in portfolio saw more principal reductions than those owned by GSEs or PLS. The
difference could be attributed to the principal-agent problem. However, alternative hypotheses
may also explain the outcome. It is possible that the different mortgage holders own different
types of loans.64 Principal reductions may yield the highest NPV for portfolio loans but not for
private investors’ or GSEs’ delinquent loans.65 There may also be contractual differences facing
servicers for each of the mortgage holders. Fannie and Freddie servicing guidelines do not allow
for loan modifications involving principal reduction.66 Servicers for private investors may also be
limited by their pooling and servicing agreements in their ability to offer principal reductions.67
Servicers for private investors may be less likely to reduce principal because they are concerned
about being sued for choosing an option that an investor believes not to be in his or her best
interest.68 Investors may be more familiar with foreclosure or other forms of loan modification
64 Loans held in servicers’ portfolios reportedly tend to be nonconforming loans with increased risk characteristics and
geographic concentration in weaker real estate markets, whereas GSEs have a greater percentage of prime loans.
No background is given on PLS loans. Office of Comptroller of the Currency, Office of Thrift Supervision, OCC and
OTS Mortgage Metrics Report, First Quarter 2011, p. 14,17, at http://www.ots.treas.gov/_files/490078.pdf.
65 For an analysis of why principal reduction may not be pursued, see Chris Foote, Kris Gerardi, and Paul Willen, The
seductive but flawed logic of principal reduction, Federal Reserve Bank of Atlanta, March 9, 2011, at
http://realestateresearch.frbatlanta.org/rer/2011/03/seductive-but-flawed-logic-of-principal-reduction.html.
66 Office of Comptroller of the Currency, Office of Thrift Supervision, OCC and OTS Mortgage Metrics Report, First
Quarter 2011, p. 27, http://www.ots.treas.gov/_files/490078.pdf; see Fannie Mae, Fannie Mae Single Family 2011
Servicing Guide, June 10, 2011, pp. 706-67, at https://www.efanniemae.com/sf/guides/ssg/svcg/svc061011.pdf.
67 One study noted that PSA bans on mortgage modification are rare, but the analysis is based on a relatively small
sample of securitizations. See John P. Hunt, What Do Subprime Securitization Contracts Actually Say About Loan
Modification? Preliminary Results and Implications, Berkeley Center for Law, Business and the Economy, March 25,
2009, pp.7-8.
68 Larry Cordell, Karen Dynan, and Andreas Lehnert, et al., The Incentives of Mortgage Servicers: Myths and Realities,
Federal Reserve Board, Washington, D.C., Working Paper 2008-46 of the Finance and Economics Discussion Series,
September 8, 2008, p. 23, at http://www.federalreserve.gov/pubs/feds/2008/200846/200846pap.pdf.
Congressional Research Service
16
National Mortgage Servicing Standards: Legislation in the 112th Congress
and therefore be less likely to question a servicer than if a principal reduction is offered to the
borrower.69
Other forms of loss mitigation yield similar problems in attempting to isolate the impact of the
principal-agent problem. Figure B-2 shows the frequency with which a principal deferral70 is
used in a loan modification. The use of principal deferral varies over time and the difference
between its usage for loans held in portfolio versus loans serviced for GSE and PLS also varies.
The amount of that variation that is attributable to the principal-agent problem is not captured in
this model because there are too many differences across types of holders.
Figure B-2. Percentage of Loan Modifications Involving Principal Deferral
Source: OCC and OTS Mortgage Metrics Report.
These two examples illustrate the difficulty in attempting to isolate the principal-agent problem in
the data on loan modifications. The principal-agent problem cannot be measured without loan-
level information as well as data on the limitations imposed by the pooling and servicing
agreements.71 Such detailed data are not available. Others have tried to determine if there is a
69 However, there have been few instances of investor litigation in response to a servicer’s loan modification decision.
See Diane E. Thompson, Why Servicers Foreclose When They Should Modify and Other Puzzles of Servicer Behavior:
Servicer Compensation and its Consequences, National Consumer Law Center, October 2009, p. 8.
70 Principal deferral modifications are modifications “that remove a portion of the principal from the amount used to
calculate monthly principal and interest payments for a set period. The deferred amount becomes due at the end of the
loan term.” In a principal reduction modification, a portion of the principal amounted is permanently forgiven. Office
of Comptroller of the Currency, Office of Thrift Supervision, OCC and OTS Mortgage Metrics Report, First Quarter
2011, p. 10, at http://www.ots.treas.gov/_files/490078.pdf.
71 Regulators have reviewed servicers’ foreclosure activities, but have not focused extensively on servicers’ loan
modification processes. See Federal Reserve System, Office of the Comptroller of the Currency, Office of Thrift
Supervision, Interagency Review of Foreclosure Policies and Practices, April 2011, p. 2, at http://www.occ.gov/news-
issuances/news-releases/2011/nr-occ-2011-47a.pdf.
Congressional Research Service
17
National Mortgage Servicing Standards: Legislation in the 112th Congress
causal link between securitization and increased foreclosures72 (possibly due to a principal-agent
problem), but the results are inconclusive.73
Author Contact Information
Sean M. Hoskins
Analyst in Financial Economics
shoskins@crs.loc.gov, 7-8958
72 See Tomasz Piskorski, Amit Seru, and Vikrant Vig, Securitization and Distressed Loan Renegotiation: Evidence
from the Subprime Mortgage Crisis, Chicago Booth School of Business Research Paper No. 09-02 , April 15, 2010.
73 See Manuel Adelino, Kristopher Gerardi, and Paul S. Willen, What Explains Differences in Foreclosure Rates? A
Response to Piskorski, Seru, and Vig, Federal Reserve Bank of Boston, Working Paper 10-2, at http://www.bos.frb.org/
economic/wp/wp2010/wp1002.htm.
Congressional Research Service
18