AMB Blog

Historically low mortgage interest rates and recovering labor markets should be enough to shore up sales and housing starts once an expected dip due to the expiration of the federal home buyer tax credit passes, according to the State of the Nation’s Housing report, released Monday by the Joint Center for Housing Studies of Harvard University.

“If history is a guide, what happens with jobs will matter the most to the strength of the housing rebound,” says Eric S. Belsky, executive director of the center. “Right now, economists expect the unemployment rate to stay high, but if employment growth surprises on the upside or downside, housing numbers could, too.”

Unemployment held at 9.9% in April, representing more than 7.8 million fewer establishment jobs than existed in December 2007.

Even if the recovery in sales and residential construction flourishes, the report warns, the adverse consequences of the recession and the financial crisis will linger. An estimated one in seven homeowners are in a negative-equity position, and nearly 5 million need their home prices to rebound by 25% before they are back above water. It will take time to work through the foreclosure inventory, the report adds.

“[M]any current owners are effectively trapped in homes that are worth less than the amount owned on their mortgages,” the report’s executive summary reads. “If these distressed owners want or need to sell, their only choices are to walk away from their homes or write a check at the closing table. This will inhibit a recovery in repeat home sales.”

Despite falling home prices, loan modifications and softening rents, the downturn did not reduce the number of households spending half or more of their income on housing – which was 18.6 million in 2008.

Instead, the share with such severe housing-cost burdens climbed to a new height. More than 40 million borrowers spent more than 30% of their incomes on housing in 2008, and the report says many households with incomes that are one to three times the full-time minimum wage equivalent still have to devote at least half their incomes to housing.

SOURCE: Joint Center for Housing Studies of Harvard University

The Mortgage Bankers Association’s (MBA) Market Composite Index – a measure of mortgage loan application volume – increased 17.7% on a seasonally adjusted basis from June 4-11.

On an unadjusted basis, the index increased 29.7% compared with the previous week, which was a shortened week due to the Memorial Day holiday.

The Refinance Index increased 21.1% from the previous week – the highest Refinance Index recorded in the survey since May 2009. The seasonally adjusted Purchase Index increased 7.3% from one week earlier, which is the first increase in six weeks. The unadjusted Purchase Index increased 17.4% compared with the previous week and was 31.3% lower than the same week one year ago.

“While it is clear that purchase applications in May dropped sharply as a result of the tax credit-induced increase in applications in April, it is unclear whether we are seeing the beginnings of a rebound now,” says Michael Fratantoni, the MBA’s vice president of research and economics.

The refinance share of mortgage activity increased to 74.8% of total applications from 72.2% the previous week, which is the highest refinance share observed in the survey since the week ending Dec.18, 2009.

The adjustable-rate mortgage share of activity increased to 5.2% of total applications from 5.1% the previous week.

SOURCE: Mortgage Bankers Association

The Federal Housing Finance Agency (FHFA) has directed Fannie Mae and Freddie Mac to delist their common and preferred stock from the New York Stock Exchange (NYSE) and any other national securities exchange. Once the delisting is completed, each enterprise’s common and preferred stock is expected to be quoted on the Over-the-Counter Bulletin Board.

“FHFA’s determination to direct each company to delist does not constitute any reflection on either enterprise’s current performance or future direction, nor does delisting imply any other findings or determination on the part of FHFA as regulator or conservator,” says FHFA Acting Director Edward J. DeMarco. “The determination to direct delisting is related to stock-exchange requirements for maintaining price levels and curing deficiencies.”

Each company’s common stock price has hovered near the NYSE minimum average closing price requirement of $1 over 30 trading days for most months since the conservatorships were established in September 2008.

Most recently, Fannie Mae’s closing stock price has been below the required $1 average price for the past 30 trading days. Per NYSE rules, a company in that condition must either drop from the exchange or undertake a “cure” to restore the stock price above the $1 mark if it does not meet the NYSE’s minimum price requirements.

The alternatives for putting in place such a cure do not assure maintaining the minimum price level or avoiding loss of shareholder value.

In view of Freddie Mac’s share price being close to the $1 mark and the common situation of both companies operating in conservatorship with support from the Treasury Department, FHFA has determined that Freddie Mac should also initiate an orderly delisting process.

“A voluntary delisting at this time simply makes sense and fits with the goal of a conservatorship to preserve and conserve assets,” says DeMarco.

Each enterprise’s stock will continue to trade, but through a different trading mechanism. The enterprises remain Securities and Exchange Commission registrants and subject to applicable federal securities laws.

SOURCE: Federal Housing Finance Agency

U.S. home prices were trending up in 155 out of 384 metro areas in the fourth quarter of last year, including in markets in Ohio and Michigan, Fiserv Inc. reports, based on its analysis of the Fiserv Case-Shiller Indexes.

Despite the positive performance in these regional markets from recent lows, average U.S. home prices were down 2.5% from the fourth quarter of 2008, which can be attributed to the continued high level of unemployment, rising interest rates and the large number of distressed properties that remain in markets such as Florida, Arizona and Nevada.

“Optimism that a sustainable economic recovery is under way is driving increases in home prices across many U.S. metro areas,” comments Dave Stiff, chief economist for Fiserv. “More and more, consumers have confidence that buying a home doesn’t mean catching a falling knife. Very large price declines have also made housing much more affordable, drawing in both first-time home buyers and investors.”

Ohio and Michigan – two states hit hard by the recession and the loss of manufacturing jobs – are seeing signs of stabilization, with housing very affordable across metro areas in these states. There is less uncertainty about the future of the U.S. auto industry, and jobs in auto and auto parts manufacturing have been increasing since December 2009, Fiserv notes.

Other markets where investor purchases of foreclosed homes have dominated housing sales are also coming back into balance. These markets include metro areas such as Minneapolis, Detroit and Memphis, Tenn., where recent sales have included more regular, nondistressed homes.

Relative to bubble-era prices, California markets – which collapsed about one full year before must of the rest of the U.S. – have seen the greatest improvement in housing affordability, Fiserv says.

From the fourth quarter of 2008 to the fourth quarter of last year, prices rose in eight of 28 California metro areas and have increased from recent lows in 24 of 28 metro areas. The strongest rebounds were in coastal markets, including the Bay Area, Los Angeles, Orange County and San Diego, where there are decreasing levels of foreclosed homes. Markets in the interior have also experienced a price bounce, mainly due to strong investor demand.

In Washington, D.C., meanwhile, home prices were up 5.2% year-over-year. Since the market bottom in early 2009, prices in this metro area have risen by more than 9%. Washington boasts a relatively strong local economy, with 6.8% unemployment (compared to 9.9% for the U.S.). The earlier rapid decline in prices also substantially improved affordability, Fiserv says.

However, Stiff warns there will be renewed downward pressure on home prices. “The first-time home buyer tax credit has expired, the Federal Reserve has stopped buying residential mortgage-backed securities and the projected number of foreclosures remains extremely high,” he says. “As a result, markets with recent price increases may see small price declines before prices finally stabilize at the end of this year or early 2011.”

Over the past year, the U.S. housing market continued its price correction, with single-family home prices across the U.S. falling an average of 2.5% over the 12-month period ending Dec. 31, 2009. The Fiserv Case-Shiller Indexes forecast that average single-family home prices will fall another 3.1% over the next 12 months.

Steep home-price declines are expected to continue in markets that have been hurt most by the housing crisis. From the fourth quarter of 2009 through the fourth quarter of 2010, average home prices in Nevada, Arizona and Florida are projected to decline 9.2%, 9.5% and 7.7%, respectively.

SOURCE: Fiserv

REQUIRED READING: John Walsh does not need to be convinced that underwriting standards are tight

- he discovered that the hard way when a home loan that he originated on a condominium unit was rejected for a reason that left him baffled and astonished.

“We had a loan questioned by a large lender for a condo,” recalls Walsh, president of Total Mortgage Services LLC, based in Milford, Conn. “It turns out that another unit in this 36-unit development was listed on Craig’s List for a week as a rental. The lender considered the development to be condo hotel based on that one-week Craig’s List ad and kicked out the loan – and there was nothing wrong with the other 35 units.”

For Walsh, the rejection of the loan offered prima facie evidence that underwriting standards are too tight for comfort. “That is the level they went down to – checking on Craig’s List,” he adds. “That is an example of going a little bit too far. That’s not due diligence – that’s brutal diligence!”

Within the industry, the current parameters on underwriting standards have become a topic of divisive debate. On one side, many originators and secondary marketing officers share Walsh’s view that standards have constricted to a point that they are beginning to suffocate the market.

But there is also a faction that believes underwriting standards are not creating any great damage. Indeed, this side of the debate believes that current underwriting standards offer something of a life preserver to an industry that is still treading water.

Origins of ouch

If there is any common ground in the debate, it comes in the agreement that today’s underwriting standards represent the residue of the housing bubble’s unceremonious deflation was unceremoniously deflated.

“The whole industry is doing a bit of an over-correction,” says Steve Jacobson, CEO of Fairway Independent Mortgage Corp. in Sun Prairie, Wis. “There were so many loan losses that we now have top-down thinking: We can’t take any more losses. Thus, underwriting guidelines are stricter and more conservative across the board.”

David Oser, executive vice president, chief investment officer and treasurer for Chicago-based ShoreBank, agrees with that assessment.

“Current underwriting standards are too tight, marking an overreaction to the too-loose standards in the past,” he observes. “The pendulum has swung very far to the right. To every action, there is an equal but opposite reaction.”

Terrence Floyd, vice president and affordable-lending manager at People’s United Bank in Bridgeport, Conn., says other sectors of the market contributed to the problem.

“Standards are the product of the industry,” he says. “Banks were able and willing to make loans, but mortgage insurance companies and investors took a big hit and tightened up standards. We know why this is, and there is a good reason for it.”

Furthermore, all sides agree that singling out underwriters as the villains behind the crisis is unfair.

“The recent crisis showed that one culprit could have been the easy monetary policy of the last 50 years,” explains Dr. Gregory Price, chairman of the Department of Economics at Morehouse College in Atlanta. “There was also the inability of the authorities to control the flow of credit.”

Dr. Anthony Sanders, professor of finance at George Mason University in Fairfax, Va., shares the view that the post-bubble underwriters have been left holding the proverbial bag.

“The fatal mistake in the bubble and burst were the low-down-payment and exotic adjustable-rate mortgage products, including Alt-A mortgages, and not subprime, per se,” he says. “The other fatal mistake was the overreliance on credit scores as a substitute for thorough underwriting.”

Sign of the times

Fast forward to today, and many originators feel that underwriting guidelines have been reconfigured with too much fear of the potential for risk.

“Mortgage underwriting guidelines have indeed tightened,” says Dick Wertzberger, senior vice president of mortgage banking at Landmark National Bank, based in Manhattan, Kan. “I am always amused at the word ‘guidelines.’ By definition, guidelines are to direct the underwriter and all those involved in the origination process on how to process and underwrite a home loan. Given today’s climate, we might as well call them underwriting commandments!”

But will tighter underwriting standards prove to be beneficial for the industry and, by extension, the recession-afflicted economy? Price believes that attempts to correct the market by placing greater pressures and controls on underwriters can have a negative effect on the recovery effort.

“My fear is throwing the baby out with the bathwater,” he continues. “This could hamper growth in our economy. You don’t want to encourage too much risk-taking, but it is unfair to attack the underwriters market. Underwriting may have been a symptom of the problems, but it was not the cause.”

Walsh argues that current underwriting standards are not encouraging the recovery of the housing market.

“The pool of available people who qualify is shrinking with each day,” he says, ruefully. “This puts further pressure on the value of homes. And that, in turn, only further and further decreases the pool of potential buyers.”

Sanders considers the federal conservatorship of the government-sponsored enterprises (GSEs) a root cause for making this situation more difficult for many lenders.

“The problem with over 90 percent of the mortgages being originated for sale to the GSEs is that government is de facto setting credit standards for lenders,” he says. “And they have set the standards extremely high for borrowers other than first-time home buyers. Instead of having thorough underwriting and accepting moderate-risk borrowers at a correct price or risk premium, the government is now rationing credit to borrowers.”

As a result, he continues, today’s market is the mortgage banking industry equivalent of artificial engineering.

“Instead of social medicine with a single payer system, we now have a socialized single-family mortgage market with credit rationing,” he says. “This will hurt a large number of households bitten by the recession and collapse in housing prices, particularly in the sand states.”

Oser believes that this leaves mortgage bankers in a bind from which there is no easy way out.

“Lenders have very little choice, because the private mortgage securitization machine remains broken,” he says. “Fannie Mae has effectively reinvented redlining by declaring whole cities ‘distressed areas’ and imposing extremely high credit score requirements and low loan-to-value (LTV) standards. Regulators are forcing write-downs to worst-case appraisals.”

Sharing the pain

For Westberger, the current situation is creating a one-size-fits-all environment that, quite frankly, doesn’t fit all.

“Rare is the underwriter who is willing to allow for compensating factors,” he says. “The hard reality facing those who originate and sell is that investors are quick on the recourse trigger button, forcing the underwriter to treat guidelines as such. And it isn’t enough to know the agency guidelines – you must be familiar with the overlays that private mortgage insurance companies and investors have added, as well. And lest we forget, appraisals trump credit every time.”

At the moment, Westberger doesn’t see the situation changing.
“What are the agencies and investors supposed to do?” he asks. “In this current economic climate, home values have not stabilized. In fact, recent reports say 25 percent of all homeowners owe more than the value of their home, and delinquencies continue to rise. And we can’t forget that mortgage fraud is at an all-time high. Our industry is based on standardization, yet at the same time, it is required to minimize the risk.”

Scott B. Woll, principal with SBW Advisors LLC in Mount Laurel, N.J., worries that potential borrowers are being forced to bear the financial brunt of this situation.

“Some underwriters are putting on layers of double approval, where they look at the same loan twice,” he says. “That will now create double cost-efficiencies borne by borrowers, in some cases.”

Tom Millon, CEO of Capital Markets Cooperative, based in Ponte Vedra Beach, Fla., says the troubled jumbo mortgage market is being weighed down by today’s underwriting standards.

“The non-agency jumbo market is very aggressive for perfect loans,” he says. “In that space, with its very tight underwriting, business is very slow. I believe that the very tight underwriting guidelines contributed to that.”

Elizabeth Deal, senior vice president with ICBA Mortgage, a subsidiary of the Independent Community Bankers Association, believes that community banks seeking to get involved in the secondary market will be discouraged due to the nature of today’s underwriting standards.

“From the community-bank perspective, these standards make it very difficult to get people approved in the secondary market,” she says. “LTV and collateral guidelines are killing deals that would normally go to the secondary market; they are now staying in-house.”

Deal believes that community banks, in particular, are being unfairly weighed down by these requirements. “We all understand why parameters are what they are,” she adds. “But community banks were always conservative lenders, and their ability to lend to customers is being affected by the changes now in place.”

What problems?

However, there are those across the industry who are not complaining about underwriting standards – including those from the community-bank sector.

“From our perspective, underwriting standards today aren’t much different than they were a few years ago,” says Robert DeWit, president of Manhattan Bank in Manhattan, Mont. “The present economy is having a negative impact upon our mortgage volume, but adopting irresponsible underwriting practices to bolster volume is not an acceptable response. Instead, mortgage providers need to be better capitalized, retaining productive capacity during these slow times and using more restraint in building overhead during headier times.”

DeWit believes that even if underwriting standards can be seen as tough medicine, the ultimate effect is therapeutic. “Yes, that means there are times of little to no profit from mortgage lending, and there are times where potential profits are foregone,” he adds. “But it is a much more socially and ethically balanced approach to mortgage lending than the cutthroat, commission-based model the industry has embraced.”

Another community banker – Jesse Torres, president of Pan American Bank in East Los Angeles, Calif. – also doesn’t feel asphyxiated by the current standards. He attributes this to the $40 million bank’s history of conservative underwriting.

“We typically require 20 percent down,” says Torres. “Even during the housing market heyday, we required 20 percent down on a purchase. Historically, we are not a traditional FICO lender; we’re more of an old-school lender. We look at FICO, but we are not FICO-driven – each loan is reviewed case by case, and we rely on cashflow and debt coverage.”

Torres adds that this strategy never impacted his business. “Our folks have no problem,” he says of his customers. “We have a fairly consistent pipeline, and we are able to cherry-pick some of the better deals. The rest of the industry, obviously, is a little different, but we kept it very simple and conservative.”

And what are the results of these efforts? “In 2009, we had zero foreclosures,” he says. “In 2008, we had one.”

Within the industry, there are people who believe the state of underwriting will help to stabilize a still-shaky market.

“It is part of a natural evolution,” says Brian O’Reilly, managing director at The Collingswood Group in Washington, D.C. “I’ve had folks complain that credit standards are too tight. I say that we have to be in a vital market, not just in an active one. Now, the emphasis is on home lending versus homeownership. When we come out of this, we’ll be a better industry for it.”

Dennis Santiago, CEO of Institutional Risk Analytics, based in Torrance, Calif., concurs by noting that today’s underwriting will ensure that only the best-qualified borrowers receive mortgages that they will ultimately repay without incident.

“The lenders don’t want to take any chances on losing money on new loans or perceived to be continuing doing risky things,” he says. “It adds pressure to the lender: If they make a loan that isn’t perfect, will they get caught up in that?”

People’s United’s Floyd adds that many underwriters have forgotten that the bubble period was an aberration. “Things will never be what they were from 2000 to 2007,” he says. “I think we will see credit requirements and credit scores loosen up again.”

How large will the decline in the homeownership rate ultimately prove to be? That’s the question that three authors raise in a new study published by the Federal Reserve Bank of New York.

To address this question, authors Andrew Haughwout, Richard Peach and Joseph Tracy propose the concept of a “homeownership gap” as a gauge of the downward pressure on the homeownership rate. They define the homeownership gap as the difference between the official homeownership rate tabulated by the Census Bureau and an “effective” rate that excludes owners who are in a negative-equity position.

According to the trio, negative-equity homeowners will face such daunting saving requirements to retain their home or purchase a new home that they will very likely convert to renters over time. Thus, the effective rate may serve as a useful guide to the future path of the official rate.

For the nation, the effective rate of homeownership calculated by the authors is 5.6 percentage points below the official homeownership rate. For certain metropolitan areas hit hard by the boom and bust in the housing market – Las Vegas, Miami and Phoenix, for example – the effective rate falls short of the official rate by a dramatic 20 to 39 percentage points.

In an appendix to their article, Haughwout, Peach and Tracy consider the extent to which public policy initiatives such as mortgage modifications can help to reduce foreclosures and to enable negative-equity homeowners to save for a new house. The authors conclude that the effectiveness of mortgage modification programs will vary with their structure: Programs that reduce the principal balance on the mortgage will be appreciably more effective in supporting homeownership than those that simply lower the interest rate and extend the term of the loan.

Haughwout and Peach are both members of the New York Fed’s research and statistics group, while Tracy is an executive vice president in the chief of staff’s office at the regional Reserve Bank.

SOURCE: Federal Reserve Bank of New York

The Mortgage Bankers Association (MBA) has released its Weekly Mortgage Applications Survey for the week ending June 4. According to the MBA, its Market Composite Index, a measure of mortgage loan application volume, decreased 12.2% on a seasonally adjusted basis from one week earlier. This week’s results include an adjustment to account for the Memorial Day holiday. On an unadjusted basis, the index decreased 21.1% compared with the previous week.

The Refinance Index decreased 14.3% from the previous week, and the seasonally adjusted Purchase Index decreased 5.7% from one week earlier. The unadjusted Purchase Index decreased 16.3% compared with the previous week and was 30.4% lower than Memorial Day week last year.

“Purchase applications are now 35 percent below their level of four weeks ago, as home buyers have not yet returned to the market following the expiration of the home buyer tax credit at the end of April,” says Michael Fratantoni, the MBA’s vice president of research and economics. “Although rates remained essentially flat, refinance applications dropped this past week for the first time in a month. Despite the historically low rates, many homeowners have already refinanced recently, remain underwater on their mortgages, have uncertain job situations or have damaged credit following this downturn and, therefore, may not qualify to refinance.”

The refinance share of mortgage activity decreased to 72.2% of total applications from 73.8% the previous week. This is the first decline in the refinance share in five weeks.

SOURCE: Mortgage Bankers Association

The 90+ day delinquency rate for mortgages insured by the Federal Housing Administration (FHA) fell slightly in April, totaling 8.5% (527,504 loans), according to the FHA’s monthly report. A month earlier, seriously delinquent loans backed by the agency totaled 536,858, for an 8.8% delinquency rate.

So far this fiscal year, the agency has paid 153,540 claims – 88,822 of which were loss mitigation retention claims and 55,653 of which were property conveyances.

Fewer applications were submitted to the FHA for endorsement in April. The number of applications for FHA mortgage insurance was 215,578, down from March’s total of 246,406 applications. April’s total consisted of 150,935 purchase applications, 56,474 refinance applications and 8,169 home equity conversion mortgage applications.

Of the 84,723 purchase money mortgages endorsed for insurance during April, 67,218 were for first-time home buyers, the FHA data show.

SOURCE: Federal Housing Administration

REQUIRED READING: We all like a good deal. The trick is to know a good deal when you see one and then take the appropriate action.

Suze Orman, “The Antiques Roadshow,” and even Jim Cramer’s “Mad Money” all stress the importance of wise investments that can yield future dividends or increases in value.

One such good deal offered by the Federal Emergency Management Agency (FEMA) through the administration of the National Flood Insurance Program (NFIP) is a special allowance known as the “Grandfather Rule.” By understanding this rule and taking appropriate action, homeowners can save thousands of dollars over the life of their loan in “future” discounted premiums, based on the previous flood map, for required flood insurance protection. Equally important, mortgage servicers need to recognize when this allowance applies, thereby helping their borrowers protect and maximize this indefinite savings vehicle.

To understand this rule and how the applicable savings apply, one needs to recognize that historically, communities experience changes in flood-zone rating determinations. While some high-risk flood zones may be re-identified on new maps as low- to moderate-flood-risk zones, more often, it is the reverse.

These changes can be based on changes to the typography due to community development or as a result of natural causes, such as erosion and subsidence. These changes may alter the base flood elevations (BFEs) and/or flood insurance risk zones. As flood zones or BFEs change, corresponding premiums rate to the flood risk change respectively. By some estimates, the average servicer had about 19% of its portfolio affected by flood-map updates in 2009.

The “Grandfather Rule” recognizes the occurrence and impact of the above zone changes and rewards the following policyholders:

• Those who built their homes in compliance with the Flood Insurance Rate Map in force at the time of construction (these structures adhered to existing BFE building requirements at the time of construction); and/or
• Proactively purchased flood coverage through the NFIP on a voluntary basis before a flood-zone map change required the mandatory purchase of specified flood coverage. This voluntary coverage must be current and in force, without interruption, prior to the new zone’s effective date.

The good deal for homeowners who meet any of the above conditions is now having the option to use the previous map zone and BFE under standard rates for calculating the flood insurance premium. The grandfathered rates reflect zone conditions based on the zone ratings before their properties were classified as flood insurance “required” based on new higher-risk flood-zone mapping changes. Additionally, this rating option is made available to the homeowner’s benefit in perpetuity, as long as they own the home and maintain their insurance coverage without lapse or interruption.

Grandfathering in action
Perhaps two examples will help to illustrate the value of the Grandfather Rule.

In our first example, a homeowner had voluntarily purchased a “Preferred Risk Policy.” He could do this because he resided in a low to moderate flood zone with a rating of “B,” “C,” or “X.” Later, the homeowner, through his community’s awareness program, is notified that the flood maps in his area are changing. Now, the changed flood zone reflects an “A” zone, whereby flood insurance becomes mandatory.

In this situation, the coverage rate for a new flood-required insurance policy is nearly six times that of the homeowner’s original Preferred Risk Policy rate. However, because this homeowner chose to take advantage of the NFIP Grandfathering Rule, his rate increase is three to four times his Preferred Risk Policy rate. While the increase is still significant – reflecting the increased risk – the difference between a 600% rate increase and a 300% to 400% rate increase is still impressive, especially when that savings remains in effect as long as the homeowner owns the home and maintains his or her flood insurance coverage without interruption. Both Orman and Cramer would consider this a deal.

In a second scenario, the Grandfather Rule can also benefit homeowners who constructed their homes in compliance with all known building codes as required by the prevailing flood plain map rating at the time. These homeowners are rewarded for their prior compliance to known flood plain construction requirements, and they, too, are now eligible for a standard flood policy rate, based on the zone and BFE at the time of construction, rather than on the higher risk policy rate mandated on newly purchased/constructed properties.

Loan servicing personnel must be diligent in their efforts to recognize and protect these savings available based on the Grandfather Rule. There was a change to the Standard Flood Insurance Policy application in the Oct. 1, 2009, Flood Insurance Manual, requiring the agent to provide proof of grandfathering to the Write Your Own (WYO) company and for the company to then indicate “Grandfathered Y” on the declarations page on new policies issued after that date. This should reduce confusion and highlight the acceptance of the applicable discounted rate.

However, despite great effort on FEMA’s part, a universal notation does not exist across all renewal policy declarations pages. Because loan servicing personnel may not see the same Grandfather Rule notation on renewal policy declaration pages, they should be prepared to contact the homeowner or agent who sold the policy for written confirmation of the Grandfather Rule’s applicability if there is any doubt.

Community officials or insurance agents of WYO companies will normally provide supporting documentation needed to confirm the accuracy of the discounted rate. Best practices suggest that loan files should then be sufficiently notated for future servicing renewals that the loan does indeed comply with the Grandfather Rule discounts. This can be accomplished by the NFIP participating company choosing to endorse an existing policy declarations page to show eligibility in order to avoid having to provide a current or future letter to lenders.

Customer experience
Sometimes, the grandfathered discounted rates lead to erroneous coverage deficiency notices being sent out to customers. This occurs when the originating or servicing personnel have not carefully examined both the flood rating and the coverage rates. What happens next can be at minimum a nuisance, and at worst, create lasting customer ill will. Upon receiving a flood deficiency notice, some homeowners may feel they need to purchase an additional flood policy from the NFIP. Later, FEMA gets involved with homeowner disputes and escalations.

In an environment marked with ever-increasing defaults due to the inability to afford home loans, declining property values and the landmine of strategic defaults, the savvy servicer can ensure goodwill and continued savings to the homeowners they service through adherence to the Grandfather Rule.

Traditionally, the issue of flood coverage for servicers has been one of adherence to regulatory flood requirements. The servicer usually has outsourced flood mapping and determination requirements to a flood vendor, thereby leaving the servicer with the obligation of enforcement only when map changes require coverage. Communication of pending changes to borrowers prior to mapping changes is usually left to the communities, which do so via town-hall meetings or other local communication vehicles. This arrangement has made sense, in light of the frequency of loan acquisitions and rapid updates to flood requirements.

Servicers may do well to re-evaluate how they can use the Grandfather Rule to their advantage. More than ever, home affordability is becoming the charge of the servicer. The climbing default and strategic default rates certainly beg the question of whether servicers may have a more substantive role in ensuring homeowners can afford the total expenses of homeownership. The availability of certain technologies may make it a bit more practical for servicers to help point homeowners to discounted grandfathered rates.

One possibility may lie with new Geographical Information System technology. With inputs from FEMA map update projections (available via the FEMA Web site six months prior to an anticipated change), servicers may be able to overlay a map of their portfolio properties with this data to help them issue proactive and targeted Grandfather Rule notices. Keep in mind that as long as homeowners purchase their coverage prior to the day it becomes required, the Grandfather Rule can be applied.

Servicers who choose to deploy advanced technology or simply adopt diligent processes regarding Grandfather Rule verification, would go far in building goodwill with homeowners by saving them from significant flood insurance rate increases and in preventing the frustration that occurs when multiple flood policies are issued and are then followed by incorrect policy cancellations.

Robert Shekell is senior vice president of account management and industry relations for Atlanta-based Sterling National Corp. He can be reached at robert.shekell@sterlingnationalcorp.com. This article was facilitated by conversations and input from Tuula Young and Jana Critchfield, lender compliance officer and regional flood insurance specialist, respectively, with FEMA and the Department of Homeland Security.

This article originally appeared in the May 2010 edition of Servicing Management.