RESPA: HUD Revives RESPA

The Real Estate Settlement Procedures Act is not inherently clear. Regulation X, promulgated by HUD to give detail and clarity to RESPA, doesn't accomplish the purpose. As a result, the industry faces many troubling questions with at best murky answers but enormous and potentially criminal consequences.

Recently, several federal courts have dealt with RESPA issues, without clear uniformity. In the most recent case, Echevarria v. Chicago Title and Trust Company, the United States Court of Appeals for the Seventh Circuit issued an opinion finding that add-on fees that are not split or shared with another settlement service provider do not violate Section 8 of RESPA. In that case, the lender added a fee to the fees charged by public officials for perfecting security.

In an earlier case, Culpepper v. Irwin Mortgage Corp., the U.S. Court of Appeals in the Eleventh Circuit drew a somewhat conflicting conclusion, finding that yield spread premiums based on the rate of the loan may per se violate RESPA. The court looked at only the first part of HUD's two-part test, concluding that splitting a fee if any portion is unearned violates the act. HUD disagrees with both courts and has issued a policy statement (the first RESPA policy statement this year, numbered "2001-1") to make its disagreements clear. The only clear result from all this is that the waters are again very murky.

Yield Spread Premiums
In a 1999 policy statement, HUD explained that there are two elements to consider when considering whether a fee or fee-splitting arrangement violates RESPA. First, consider whether goods or services were actually provided or performed for the compensation paid. The fee must be related to an actual settlement service.

Second, consider whether the fee or any portion of it is unearned (i.e., not justified by work performed or goods or services actually provided). A fee that is reasonably related to the value or the goods or services provided may be legal. HUD looks at the total compensation to determine whether the fee is fair.

In the Culpepper case, the lender paid yield spread premiums to the broker based solely on the rate of the loan. The court concluded a jury could conclude that the lenders payments were illegal kickbacks when based on the rate and the lender had no knowledge of what services the broker may have performed.

In policy statement 2001-1, HUD re-states its conclusion that the issue of how much work was performed and the value of that work is an integral issue to determining whether a fee is earned or is an illegal kickback. Yield spread premiums are neither per se legal or illegal. The question is whether the fees are fair and earned by work performed. In HUD's words, "simply delivering a loan with a higher interest rate is not a compensable service." In each transaction, look to the transaction and consider the goods or services provided or performed to earn the fee.

The policy statement finds that using yield spread premiums as a technique to make loans available can be a desirable goal. It can make the loan transaction worthwhile to lenders, investors, and brokers while delivering a fairly-priced product to borrowers. HUD supports this position by pointing out that financing yield spreads or other fees, making the cost of the loan higher, may serve the public policy goal of making housing loans available to borrowers who do not have enough cash for closing costs and down-payments. HUD is using this affordability observation in a way that makes the interpretation look a little bit like a CRA policy.

Unearned Fees
HUD is attempting, in this policy statement, to override the holding in Echevarria v. Chicago Title. To do this, HUD cites the Congressional purpose in enacting RESPA - that consumers need protection from unnecessarily high settlement costs. To achieve this purpose, HUD considers that Section 8(b) prohibits the payment or acceptance of fees except for any service actually performed. HUD restates its opinion that unearned fees can occur in several situations: two or more persons split a fee; one settlement service provider marks-up the cost of services performed by another provider "without providing additional actual, necessary, and distinct services, goods, or facilities to justify the additional charge"; or one settlement service provider imposes a fee where no work is done or where the work is merely duplicative.

This interpretation actually brings up the question of whether the lender performed a service and earned a fee and did not simply use the third party's fee, such as a recording fee, to charge the borrower.

More Disclosures
The policy statement also discusses how yield spread premiums could be disclosed to be more meaningful to borrowers. HUD expects that meaningful disclosures will include more information than is currently provided on the GFE and the HUD-1. For example, HUD believes that borrowers would benefit from knowing the services a mortgage broker will perform, the broker's total compensation including yield spread premiums paid by the lender, and whether the broker has an agency or fiduciary relationship with the borrower. It will be interesting to see how HUD intends to fit that information onto the HUD-1.

For the time being, HUD is considering whether disclosure of yield spread premiums should be moved from the "800" series to the "200" series and shown as a benefit to borrowers.

Unearned Fees
The most significant disagreement sits in this topic. HUD has re-stated its position that add-on fees are a kick-back. However, the court in Echevarria reasoned that fee-splitting or kick-backs must, by definition, involve two parties. An add-on fee only involves the party that added on the fee.

Since RESPA's enactment, HUD has interpreted it to prohibit the receipt or payment of any unearned fees. HUD believes that three types of fees are prohibited. First, RESPA prohibits two or more parties from splitting a fee when any part of the fee is unearned. Second, HUD interprets RESPA to prohibit one settlement service provider from marking up the cost of a settlement service performed by another settlement service provider when no additional work is performed. Finally, HUD interprets RESPA to prohibit charging a fee when no services are performed or the reasonable value of services does not support the amount of the fee.

In each of these analyses, the key element is that work is performed to earn the fee charged. This justification would apply in any of the three scenarios HUD puts forward. In other words, if the lender earns the fee, the lender may charge the fee.

HUD prohibits an unearned fee, no matter how it is charged and without consideration to whether it is split. HUD states that a settlement service provider "may not levy an additional charge upon a borrower for another settlement service provider's services without providing additional services that are bona fide and justify the increased charge." HUD also believes that reviewing the work of another settlement service provider (presumably to ensure its accuracy) does not earn an additional fee.

In the wake of this issuance, it is interesting to note that the Court in Echevarria stated that HUD did not have the authority under RESPA to issue a rule having the effect of imposing the anti-kickback provisions on a transaction that only involves one party. HUD apparently ignored that little item in the holding.

Neither the court in Echevarria nor HUD have discussed the possibility that the lender charging the add-on fee performed work to earn the fee. For example, there has been no discussion of whether the lender performed work or earned the fee by actually doing the work to perfect security - going to or sending documents to the courthouse, for example. Arguably, this could have justified the amount of the add-on fee.

Future Rule-making
HUD announced that he plans to "expeditiously" provide "clear" requirements and guidance for the disclosure of broker fees. The Secretary also intends to issue new or additional guidance on disclosure of settlement costs and the mortgage lending process. Stay tuned!

ACTION STEPS

Advise your lenders and management that this dispute is raging. Any add-on fees are a risk.
Recommend that the institution use other methods - such as points - to compensate for the cost of making loan.
Review relationships with third party settlement service providers. Check to see that any fees are reasonable and earned.
In your next mortgage audit, compile information on the amount of the fee disclosed, and actually charged to the customer. Compare these fees to the bills from service providers that arrived after the loan was closed.