Most people read the headlines (and heard Obama tell us) today that the federal government and 49 state attorneys general reached a $25bn agreement with the five largest mortgage servicers to address mortgage loan servicing and foreclosure abuses. It seems that many people are unclear on what the implications of the various aspects of the settlement are and so we present Bank of America's concise summary of the costs, commitments, penalties, and scope of the long-awaited agreement. Theoretically this by no means closes the book on bank litigation liabilities, as BofA discusses, but we note that after all initially rallying they ended with a mixed performance post the settlement announcement (which admittedly seemed well telegraphed) as WFC rallied modestly (+0.2% from the 10amET announcement), with Citi (-1.2% from the announcement), BofA (-0.85%), and JPM (-0.4%) underperforming.
Stock performance post the 10amET press announcement of the settlement shows an initial 'relief' rally followed by all but Wells Fargo ending lower for the day.
$25bn agreement with 49 AG’s and federal government
The federal government and 49 state attorneys general reached an agreement with the five largest mortgage servicers to address mortgage loan servicing and foreclosure abuses (Table 1). The agreement requires servicers to implement comprehensive new mortgage loan servicing standards and to commit $25bn to resolve violations of state and federal law. These violations include servicers’ use of “robo-signed” affidavits in foreclosure, deceptive practices in loan modifications, failures to offer non-foreclosure alternatives before foreclosing on borrowers with federally insured mortgages; and filing improper documentation in federal bankruptcy court. The settlement will be filed as a Consent Judgment in the United States District Court for the District of Columbia and remain in effect for three-and-a-half years.
We believe that the servicers have largely provided for their respective settlement commitments and do not expect there to be a material incremental impact to future profits from this agreement – although costs associated with the implementation of and compliance with new mortgage servicing requirements will most likely increase servicing expenses, in our view.
77% of settlement commitments are non-cash ($19.1bn)
$19.1bn of the $25bn settlement amount will be provided toward various forms of financial relief to borrowers (i.e., non-cash debt forgiveness):
- At least $10bn for principal reduction on loans that are either delinquent or at imminent risk of default and owe more on their mortgages than their homes are worth.
- At least $3bn for refinancing loans for borrowers who are current on their mortgages but who owe more on their mortgage than their homes are worth.
- Up to $7bn for other forms of relief, including forbearance of principal for unemployed borrowers, anti-blight programs, short sales, etc.
Although we have not yet seen the details, servicers will receive only partial credit toward their individual commitments for certain of the above activities (e.g., $100 of forgiveness may not equal $100 applied against the $20bn total). Crediting rates were said by the DOJ to be higher for loans held on a bank servicer’s balance sheet vs. crediting rates for mortgages serviced for others under private RMBS transactions. GSE-related mortgages are not included in this settlement.
For this reason and because banks will have greater flexibility to modify loans that they own (vs. those serviced for others under Pooling & Servicing Agreement constraints), the Justice Department estimated that approximately 85% of principal reductions would be on bank-owned mortgages. Each servicer must fulfill its commitment within three years, 75% within the first two years.
Cash costs ($5.9bn) are manageable
Cash payments to the federal and state governments will serve two purposes:
- $1.5bn will be used to establish a Borrower Payment Fund to provide cash payments to borrowers whose homes were sold or taken in foreclosure between 1/1/08 and 12/31/11, and who meet other criteria. This program is separate from the restitution program currently being administered by federal banking regulators related to restitution for financial harm caused by wrongful servicer conduct. Borrowers will not release any claims in exchange for a payment.
- $3.5bn will go to state and federal governments to repay public funds lost as a result of servicer misconduct and to fund housing counselors, legal aid and other similar public programs.
Noncompliance will be costly
Compliance will be overseen by Joseph A. Smith, who will serve as Monitor in enforcing the consent judgment. He is currently North Carolina’s Banking Commissioner. The Monitor will oversee implementation of new mortgage servicing standards required by the settlement. He has the power to impose penalties of up to $1mn per violation (or up to $5mn for certain repeat violations) and publish regular public reports that identify any quarter a servicer fell short of the standards imposed in the settlement.
The scope of the settlement is not broad
Although the settlement resolves certain violations of civil law, the US and state attorneys general preserved the right for further legal action in the following areas:
- Criminal. The US and the state attorneys general can still pursue criminal enforcement actions
- Securities claims. The agreement does not prevent the US from pursuing action against the banks related to misrepresentations of the quality of loans that were packaged into MBS or the conduct that is the focus of the new Residential Mortgage-Backed Securities Working Group. The states have also preserved their rights to bring actions related to securitization activities and MERS.
- Loan Origination claims. The US retains its full authority to recover losses (and assess penalties) caused to the federal government when a bank failed to satisfy underwriting standards on a government-insured or government-guaranteed loan with certain exceptions.
- Borrower claims. The settlement does not prevent any claims by individual borrowers who wish to bring their own lawsuits.
Oklahoma negotiated a separate settlement
The Attorney General of Oklahoma negotiated a separate $18mn with the five largest servicers. We do not have the breakdown of settlement commitment by servicers.