Yield Spread What?

A look at the history of mortgage brokers and RESPA
By SAM GARCIA
11/28/2001

So you were relaxing after your Thanksgiving day meal and you started wondering, how in the heck did mortgage broker yield spread premiums (YSP's) become such a controversial issue? Anticipating your thirst for a drink from the well of knowledge, the Mortgage Bankers Association of America was kind enough to gather some YSP experts, YSP supporters and YSP opponents to discuss -- guess what?

YSP's occur when a mortgage banker or lender pays an originator a fee for convincing a borrower to pay an interest rate higher than the market rate. For instance, consider a situation where an originator is charging a 1% origination fee on a $100,000 loan, or $1000. Let's say that XYZ Mortgage Wholesaler requires a par rate of 7% on that particular day. With a par rate, the borrower would pay closing costs, a $1,000 origination fee and no discount points at closing. If the originator convinces the borrower to accept a rate of 7.25 percent, then XYZ Mortgage Wholesaler will pay the originator an additional 1%, or $1,000. That $1,000 fee is a YSP. At the higher rate, the loan originator earned $2,000 including the YSP.

Some originators use YSP's to reduce the amount of cash required by the borrower at closing, and others use it to increase their revenues on the transaction.

Howard Glaser, who is MBA's Senior Vice President for Government Affairs, pointed out that when the Real Estate Settlement Procedures Act (RESPA) was passed in 1974, mortgage brokers as they currently exist were not defined in the law. However, Glaser said mortgage brokers increased their market share significantly in the 1980's, "and by the early 1990's mortgage brokers were initiating a large proportion of the mortgage loans that were made in this country."

Glaser, who previously served as Counselor to the Secretary for the Department of Housing and Urban Development (HUD), said that it wasn't until 1992 that the term 'mortgage broker' was specifically defined under RESPA. Later that year, HUD established rules requiring that brokers disclose all the fees paid to brokers, and Glaser said "you then began to see some controversies regarding disclosure of mortgage broker compensation."

Glaser went on to say that HUD engaged in several rulemaking efforts to address the issue, and "did a fairly scant number of interpretive pronouncements regarding the legality of mortgage broker fees under Section 8 of RESPA during that period."

While HUD issued informal statements indicating that yield spread premiums were not per se illegal, it failed to provide official guidance on how to determine the lawfulness of these payments under RESPA. In the absence of a definitive official pronouncement from HUD, hundreds of class action lawsuits were filed.

One of the highest profile YSP cases is Culpepper vs. Irwin Mortgage Corp. In that case, the Culpeppers claim that the $1,263 yield spread premium their mortgage company paid their broker represented an illegal kickback under federal law. The case is still unsettled.

As a result of mounting litigation, Congress ordered HUD in 1998 to clarify its position on lender payments to mortgage brokers. Congress said "that it never intended payments by lenders to mortgage brokers for goods or facilities actually furnished or services actually performed to be violations of Section 8A or B of RESPA."

Glaser said HUD struggled with this for some time and went through an extensive process of meetings with concerned parties and consultants, issuing its YSP statement of policy in the federal register during March 1999. He indicated that "the policy statement reiterated that yield spread premiums are not per se unlawful," and HUD created a two-part test for assessing the validity of the fee arrangement between brokers and lenders. In the first part of the test, it must be found that mortgage brokers furnished valuable goods or services or performed actual services in the transaction. The second part of the test requires that "the sum of all the payments to the mortgage broker, regardless of the source, must be reasonably related to the value of the goods or facilities that were actually furnished or services that were actually performed."

Mr. Glaser said, "in our view I think in the general understanding of that test it required that there be a case by case analysis of the facts and circumstances surrounding the loan transaction to determine whether or not payment was in fact reasonable". He went to say, "we think that was consistent with Congress' view that yield spread premiums are not per se unlawful."

While some litigation persisted, Glaser indicated that the policy statement and the two-part test largely resolved the legal uncertainties and ended most of the class action challenges in a way that was favorable to the industry position.

Until last June. Stay tuned for part two.

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