Vulture Mentality of Piling On Fees or Countercyclical Diversification Strategy

In the recent hearing on mortgage servicing, the Senators probed Countrywide's chief executive for loan administration, Steve Bailey, on exactly how mortgage servicers (distinct from the owners of the mortgage) make their profits. Mr. Bailey confirmed the description in my article of the three ways that servicers earn revenue: a fee that is a percentage of the mortgage, float income from interest on temporarily-held funds, and retained fees such as late charges and other fees that are paid by borrowers.  Senator Schumer described the imposition of these default costs as "piling on" and expressed a fear that a "vulture mentality" was developing among servicers as defaults rise. Mr. Bailey tried to diffuse these concerns, but Senator Schumer called him to task in attempting to deny that servicers can and do generate profit from delinquent homeowners, even when borrowers and loan holders might benefit if the family retained its home, rather than struggle to pay an avalanche of default costs. The Senator quoted from a Countrywide earnings' call that characterized the "piling on" practice as a "counter-cyclical diversification strategy."

David Sambol, president of Countrywide, said in an earnings call for 2007 that when "asked what the impact on our servicing costs and earnings will be from increased delinquencies and lost mitigation efforts, and what happens to costs . . .  we point out that increased operating expenses in times like this tend to be fully offset by increases in ancillary income in our servicing operation, greater fee income from items like late charges, and importantly from in-sourced vendor functions that represent part of our diversification strategy, a counter-cyclical diversification strategy such as our businesses involved in foreclosure trustee and default title services and property inspection services."

Mr. Sambol is saying that, for the 75-88% of loans that Countrywide services but does not hold any loss position, the servicer's additional expenses when a loan defaults are paid by the borrower. Defaults do not cut into a servicer's profits. Indeed, the reference to ancillary income tending to "fully offset" increased operating expenses suggests that in at least some cases, a servicer will make money when a loan is non-performing, particularly if that loan is repeatedly non-performing but ultimately the borrower pays (Gee, that sounds a lot like the situation before bankruptcy, doesn't it?)

I think the most damning part of this statement is the reference to "in-sourced vendor functions." Allegations are swirling around that servicers, and their agents such as MERS, bloat their actual costs of collection or default and build in a profit margin. This is illegal, in part, because most mortgages only permit the recovery of "costs," which most courts read to mean actual costs incurred, not some amount chosen to "offset" the costs of servicing delinquent loans. Judge Elizabeth Magner has a recent opinion that addresses the propriety of this practice. She writes in the Memorandum Opinion in In re Stewart (07-11113, Bankr. E.D. La. April 10, 2008) that "Wells Fargo's national counsel has represented to this Court that only $50.00 of each invoice represents the actual cost incurred by Wells Fargo fro a BPO. The remaining amounts, approximately $880.00 in total, were added to the actual costs by Wells Fargo. The Court concludes that these additional charges are an undisclosed fee, disguised as a third party vendor cost, and illegally imposed by Wells Fargo." Her opinion, combined with the statement in Countrywide's earnings statement, suggest that Senator Schumer may be too generous in calling servicers' practices "piling on."  If this practice is widespread, the more apt term may be "ripping off" struggling homeowners.

Comments

[DragonScholar]

Countrywide certainly is not having a good time to judge by the various bits of news drifting in.

http://www.nytimes.com/2008/05/15/business/15countrywide.html?_r=1&ref=business&oref=slogin

First, I think this is going to become a poster child for the housing bubble and increasing regulation.

Secondly, I see no reason whatsoerver for BofA to go ahead with this deal. Countrywide is toxic.

[Patches]

Thank you for making the hearing available on the blog Katie. I got to see the whole thing and had some concerns.

One of the senators “Sessions??” started attacking debtors attorneys alleging that they are somehow part of the problem. I can see how someone who knows nothing about the biz could say that and of course the 13 trustees will concur with that position more or less. Attorneys are the first line of defense no doubt.

For a rebuttal though, you need not look any further than to calculate the attorney time and man hours that have been spent by the UST in investigating a “WITHDRAWN” Motion for Relief from Stay in the “Parsley” Bankruptcy. That’s the US Government for crying out loud! I know a lot of the fight had to do with “does the UST have standing?” Look at the fight Countrywide put up! What if consumer chapter 13 Attorneys had to do that on every case they filed? $3,000.00 for Attorneys fees thru a Chapter 13 plan is nothing compared to time and effort that will eventually be put into the case. Mortgages are not the only debts that are put into a Chapter 13 Plan! Do debtors’ attorneys look at POCs’? Of course they do! Do they fight creditors when they do not file the proper paperwork with the POC? Of course they do! Some more than others. Are they at a tactical disadvantage? Most certainly! The Chapter 13 Bankruptcy rules and codes were meant to even the playing field. That is why debtors’ attorneys get paid so little. If creditors followed the rules then the fees consumer attorneys are currently getting are almost enough.

VOLUME BANKRUPTCY “Argument”: Again an allegation that volume consumer BK firms fudge on their duties because of the volume they take in. That holds enough water to fill my coffee cup in the morning! 1. Most consumer BKs are done by volume firms because…. Hello……Bankruptcy law is so complicated and the compensation is not enough for the complex nature of the law. (BAPCPA making things worse of course) A “normal” attorney will have nothing to do with Bankruptcy. Just in my city alone I know of at least 8 attorneys who no longer take consumer bankruptcy cases (7 or 13) due to Bankruptcy Reform. 2. Attorneys who take on say, 5 BKs’ a year are at a severe disadvantage when it comes to litigating creditor misconduct.(again look to USTs’ fight with mortgage servicers) 3. Debtors Attorneys fees are looked at with more scrutiny than Mortgage Claims, Unsecured claims, Creditor Attorneys fees put together. You would think by the Senators comment that Attorneys are “breaking down the doors” to be able to get into the consumer bankruptcy market. NOT!

Mortgage Creditors Hold all the Cards in Bankruptcy: A simple denial of a Mortgage arrearage POC does not fix the problem. It makes it worse! Why? Mortgage contracts pass thru the Bankruptcy system! Mortgage claims 90% of the time out live the terms of the plan. And because Bankruptcy Judges have little to no authority to change the Mortgage terms, the Mortgage Co. can simply wait until after discharge to enforce their contractual rights. The Judge can offset a Mortgage Claim upon a finding of contempt pursuant to his powers under 11 U.S.C 105 or Rule 9011 motion but those are extremely rare.

Then Sessions complains about Mortgage creditors being hit with adversaries by debtors’ attorneys claiming a laundry list of frivolous counts. Which is it? Consumer Bankruptcy attorneys are doing not enough or too much?

I understand the need for there to be two sides of the coin and representation for both sides but the least the good Senator could do is to make a better argument than he did.

[Barry S Schermer]

I found your posting to be thought provoking. You stated, ". . .a servicer will make money when a loan is non-performing, particularly if that loan is repeatedly non-performing but ultimately the borrower pays"
That sounded to me strikingly similar to the credit card industry.