Lender Liability Waivers Key to Mortgage Refinance Deal

By Margaret Chadbourn | November 15, 2011

The reach of a government effort to help distressed homeowners refinance their mortgages could be largely determined by details on lender liability that will be announced Tuesday.

The regulator for government-controlled mortgage finance firms Fannie Mae and Freddie Mac said last month that it was widening a program to help borrowers with little or no equity in their homes refinance.

The initiative, known as the Home Affordable Refinance Program, or HARP, hinges on lenders voluntarily writing new loans for borrowers hard-hit by declining home prices.

But many lenders have been worried that they could be forced to buy back refinanced loans if defects with the initial mortgage are found, a concern that has undercut the program’s effectiveness.

The regulator, the Federal Housing Finance Agency, said it would relax the representations and warranties participating lenders have to abide by as part of its revamp of the program.

Lenders will learn on Tuesday to what extent those contracts, which determine their liability for bad loans, will be waived.

“For those originating the new loans, they will look at how these waivers are going to structured,” said Bose George, an analyst with Keefe, Bruyette & Woods Inc in New York. “If they provide enough of a comfort zone, these changes to the representations and warranties could bring meaningful participation.”

The HARP program is open to borrowers who have little or no equity in the homes as long as they are making timely payments and their loans are guaranteed by Fannie Mae and Freddie Mac, which currently back about half of all U.S. residential loans.


As part of the revamp announced in October, FHFA said it would scrap a cap that prevented borrowers whose mortgages exceed 125 percent of the value of their homes from participating in the program.

Analysts at Barclays Capital estimate up to 3.1 million loans are eligible for the program.

So far, about 894,000 borrowers have used HARP to refinance. FHFA said the changes could double that number, although that would still fall far short of the 5 million homeowners the Obama administration had hoped to reach when the program was unveiled in 2009.

While borrowers may move through the refinancing process at a faster rate under the re-tooled initiative, the breadth of the waivers on representations and warranties will largely determine the degree to which lenders and mortgage servicers are willing to make these riskier loans.

Those originating the loans have been skittish about refinancing higher-risk borrowers with the possibility a loan’s government guarantees could be stripped if it sours or it is deemed defective.

Edward DeMarco, acting director of the FHFA, said during a conference call with reporters last month that the plan would wind up producing “substantial relief” from the representations and warranties.

But George cautioned that Fannie Mae and Freddie Mac might try to offset the waivers with an additional fee to cover the potential costs of being stuck with bad loans. The firms have been successful at getting lenders to buy back defective loans, which has helped them bring in revenue.

Other fees, known as loan-level price adjustments, or LLPAs, that are designed to reflect the increased default risk associated with higher loan-to-value ratios, are set to be lowered under the reworked program. Details on these fees will also be revealed on Tuesday.

As part of its announcement last month, FHFA said it was eliminating some of these risk-based fees if borrrowers refinance into a shorter-duration loan.

While the changes might help responsible borrowers take advantage of interest rates currently at historic lows, they could also diminish the appetite of investors who buy mortgage-backed securities packaged by Fannie Mae and Freddie Mac. If investors balk at buying MBS backed by HARP-refinance loans, borrowers in the program would face higher costs than otherwise.

Investors Tuesday will be looking for any details on how the new mortgages with the loan-to-value ratios of 125 percent or higher are pooled by Fannie Mae and Freddie Mac and then securitized.

(Reporting by Margaret Chadbourn; Editing by Jan Paschal)

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