October 24, 2014Presenters: Joe Honeycutt,

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Managing Your Mortgage PortfolioUsing Leverage Strategically for

Sustainability

Habitat for Humanity of OregonAffiliate Conference 2014

Topics Covered Today

I. What is Mortgage Leveraging?

II. Why Leverage?

III. Keys to Mortgage Leveraging & Minimizing Risk

IV. Ways to Leverage

V. Valuing Your Mortgages

VI. FlexCAP

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HFH’s Strategic Plan & MPAR

Build a Sustainable OrganizationFoundational ObjectivesFund the Mission

• Compliant and performing mortgages are critical for predictable cash flow and can be leveraged/sold to provide unrestricted funds to serve other families.

Grow Skills & Leadership Capabilities• Using the MPAR resources to enhance

knowledge of lending regulations, allows for better oversight, process alignment, and organizational effectiveness. Evaluate staffing and committee roles, skills, and requirements. Build or expand relationships with financial partners.

Operate with Excellence• When you know the laws and procedures

that must be complied with, your operations become effective and efficient. Implement and enforce consistent application of policies / procedures.

4 Impact Goals

Built on a Solid FoundationScriptural BasisLuke 19: 11-27 The Parable of the Minas. Blessings and consequences that come from good stewardship, obedience to the Master, and being faithful to our calling.

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What is Mortgage Leveraging?

• Converting future mortgage cash flows into a lump sum today

• Recovering home cost sooner than mortgage term

$Lump Sum Today Future Mortgage Payments

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Why Leverage?

• Serve more partner families

• Use proceeds from leveraging to create more mortgages

• Avoid leveraging mortgages to pay for operating expenses

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‘Fund for Humanity’ Stewardship

Mortgage Payments

New Homes

• Recycle homeowner mortgage payments to build more houses

• Mortgage leveraging recovers home cost in a shorter period of time

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Inflation

• 0% interest mortgages lose value due to inflation

• Leveraging recovers some value mortgages would otherwise lose

* Assumes discount rate of 3%

$100,00030-year

mortgage$65,900*

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Growth Opportunities

Upfront

Cash

Build Infrastructure

Purchase LandLarge Scale, Multi-Year

Projects

Acquire Foreclosed or Abandoned Properties

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Fundraising Tool

• Building more houses can attract new resources

• Donors prefer to partner with growing organizations

• Retaining new donors supports higher levels of home building

Donations

Affiliate Growth

Leverage

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Bridge Financing

• Take advantage of reimbursable grants without depleting funds for operations

• Meet construction deadlines by smoothing irregular timing of donations

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Keys to Mortgage LeveragingSuccess and Minimizing Risk

Mortgage Management

and Performance

Mortgage Regulation Compliance

Reserves and Allowances

Oversight and Board

Governance

Right to Intervene

Growth in Fundraising

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Mortgage Portfolio Management

• Professional Quality Loan Servicing is critical

• RESPA compliance is mandatory for escrows

• Third party full servicing is best

• Written policies for dealing with delinquencies and collections, that complies with CFPB guidelines.

• Well organized mortgage files that use “best practices

• Minimal delinquency problems and improving trends

• Non-performing loans should have written agreements and loss mitigation plans

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Mortgage Regulation Compliance

• MPAR

• State banking compliance

• Third Party Origination/Underwriting is preferred

• CFPB compliance

• RESPA for origination is required.

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Fundraising

Leverage must not replace traditional fundraising

• Sustained growth requires increased fundraising

• Donors are important sources of volunteers and advocacy

• “The most important thing we must learn is that fundraising is the only reason we can serve very low income families. Affiliates who turn to debt and mortgage finance programs to replace their fundraising efforts are ‘eating their seed corn’.” -Millard Fuller

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Oversight and Board Governance

• HFHI strongly recommends leveraging less than 60% of performing mortgage portfolio

• Written policies for leverage percentages and appropriate uses following Mortgage Leveraging Guidelines

• Board should be reviewing monthly financial management reports per Mortgage Servicing Guidelines

• Finance and Mortgage Stewardship committees should have external members with expertise required to understand regulations and risks

• Audited financials and compliance with GAAP15

Finance CommitteeTo shift to sustainability and navigate the new mortgage regulations, this committee has more responsibilities, but those would result in more benefits to the affiliate:• Additional skillsets needed, risks, discounting, present value and

loan management (see list in resources)

• Focus on “Sustainability Planning” and forecasting

• Strong oversight, but understanding that it is insufficient

• Implementation of HFHI Policy 24, Subsidy and Sustainability Policy.

• Ensure compliance with grants

• Thorough understanding of alternate financing options

• Monitoring mortgage performance, using appropriate metrics

• Active role in fundraising

• Great source for future board members

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Mortgage Stewardship Committee

To shift towards sustainability and navigate the new regulations, most affiliates should consider establishing a new committee with these responsibilities, which also offers more benefits:• Develop policies and ongoing review of pricing, underwriting,

equity protection, origination, servicing, loss mitigation, foreclosure, and alternatives to foreclosure.

• Make sure all processes and documents related to sales transactions, mortgages, mortgage documentation, are compliant with all federal and state laws and HFHI requirements and best practices.

• Final approval for mortgage loans, forbearance agreements, foreclosure, and alternatives to foreclosure.

• Balance the interests of existing committees

• Great source for future board members

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Right to Intervene

• Complies with HFHI Policy

• No foreclosure without affiliate involvement

• Retain right to be notified of any delinquent accounts at 60 days

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Reserves and Allowances

• Written policies establishing sufficient cash reserves and mortgages to repurchase or substitute in event of delinquency

• GAAP may require your affiliate to establish reserves or allowances for loan losses, dependent upon:

1. An excessive amount of past due arrearages

2. Required by ASU 2010-20 for FY after 12/31/11a. See Controlling and Managing Delinquencies and

Board Governance 3/27/12, slides # 21 and 22

3. Other factors

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Know Your Lender

• Credible institution

• Meet with senior officials

• Understand and exceed their expectations

• Note broker example

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Ways to Leverage

Mortgage Sale

Mortgage-Backed Loan

Zero-Equivalent Mortgage

USDA 502

FlexCAP

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Mortgage Sale

• Affiliate receives large upfront cash amount – based on discounted value of remaining mortgage payments

• Affiliate foregoes remaining monthly principal payments from sold mortgages – pledged to lender

• Most affiliates retain servicing rights and must substitute or buyback delinquent mortgages (not a true sale)

• Lenders are typically local banks (that may get CRA credits), credit unions or state housing agencies

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Mortgage-Backed Loan

• Ideal for short-term funding needs

• Typically a line of credit or amortizing loan

• Increased refinancing risk because of short loan term

• Often over-collateralized because loan sizing based on discounted payment stream of mortgage collateral

• Lenders are typically local banks or credit unions

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Zero-Equivalent Mortgage (ZEM)

• Third-party lender provides mortgage to partner family

• Affiliate gets cash at closing – discounted value of mortgage

• Lender charges partner family interest BUT payments sized to equal a 0% Habitat loan (no impact to homeowner)

• Lender may require higher homeowner credit scores and affiliate buyback of delinquent mortgages

• Affiliate must retain right to intervene on homeowner behalf – require lender to provide delinquency report

24Zero Equivalent Calculator

Added Cautions for ZEMs

• Because of the required guarantees, these deals could have an unexpected effect on your audits or reviews

• You must retain rights to notifications of any delinquency

• Compliance with RESPA and other regulations

— Growing focus on mortgage originations and servicing practices

— MPAR homepage on My.Habitat

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USDA 502 Direct

• Third-party lender (USDA) provides mortgage to partner family in designated rural areas

• Affiliate receives cash at closing – up to 100% of construction cost

• Lender charges partner family interest – payments subsidized based on affordability

• Interest subsidy subject to recapture at sale

• Use of 502 Direct (and interest component) approved as part of Sustainability Policy

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FlexCAP

• Mortgage leveraging program administered by HFHI

• Affiliates receive 7 or 10 year loans by pledging specific mortgages as collateral

• Loan size based on discounted value of pledged mortgages

• Affiliate must substitute mortgages 90+ days delinquent

• After FlexCAP loan is repaid affiliate can re-leverage mortgages or resume receiving monthly payments

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Valuing Your Mortgages

For what price should an affiliate sell its mortgages?

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Price and Deal Considerations

• Value of CRA credits to bank or “community investment” benefit to other buyers

• Net proceeds after all fees – not just interest rate

• Cash flows – amount of loan payments

• Consider recourse risks

— Buyback provisions in event of delinquency

— Must have right to buyback or swap per policy

• Amount of staff time required to develop lender relationships and execute transactions

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Present Value

Present Value of $100

DiscountRate

0% 2% 4% 6% 8%

20 years $100 $82 $69 $58 $50

25 years $100 $79 $63 $52 $43

30 years $100 $75 $58 $46 $38

• Present value is a function of discount rate and time

Simple Present Value Calculator30

Pricing Benchmarks

• Compare discount rate to these:

— Expected rate of construction cost inflation

— Other borrowing opportunities (line of credit, FlexCAP, construction loan, etc.)

• HFHI currently recommends selling for at least 70 cents on the dollar of face value for mortgages with 20 years remaining

• For current market interest rate information contact flexcap@habitat.org

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Mortgage Servicing: Full ServicingAt a minimum, Full Servicing includes, but not limited to: Receipt, processing, recording and updating of account status of mortgage

payments

Establishment of, allocation to, and payment from federally insured escrow accounts

Life of loan monitoring and management of tax and Insurance (including flood)

Annual escrow analysis

Delinquency letters/phone calls, determination of delinquency; collections of past due payments including notation of actions from communications

Recommendations for resolution of delinquency problems

Loss Mitigation, including forbearance agreements, deed-in-lieu, loan modifications & foreclosure

Reporting to credit depositories

Comparing portfolio to OFAC database (follow policy frequency)

32Cost Comparison Mortgage Servicing

Why is Servicing Key?

• You are a mortgage lender that owns and/ or services its mortgages and it is your biggest assets (or might service them for an investor)

• Your homeowners success in keeping their home and maximizing the benefits of homeownership

• Cash flow, and your ability to access more capital, grants and donations

• It is a key component in sustainability, attracting and keeping effective board members, retaining staff, and allowing you to serve more families

Mortgage Servicing Why is it so IMPORTANT?

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All servicers must comply, including affiliates that service in-house,

Small Servicer Exemption

• You are a small servicer if you service 5,000 or fewer mortgage loans, and you are the creditor or assignee for all of them.

• If you service any mortgage loans you did not originate or do not own, you do not qualify as a small servicer, even if you service 5,000 or fewer loans overall.

Mortgage ServicingNew Servicing Rules

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Rule Small Servicersare Exempt

Requirements

Error Resolution &Information Request

No • Acknowledge request within 5 days• Correct error and provide written notification of

correction, or investigate and provide written notification that no error occurred within 30 – 45 days

• Provide requested information or search for the info and provide a written notification why it is not available

Forced-place Insurance With exceptions • If the cost of the force-placed insurance to the consumer is less than the amount the small servicer would need to disburse from the consumer’s escrow account to pay the consumer’s hazard insurance premium.

Loss Mitigation With exceptions • Cannot make the first notice or filing required to foreclose unless a consumer’s mortgage loan is more than 120 days delinquent

• Cannot move for foreclosure judgment or order of sale, or conduct a foreclosure sale, if a consumer is performing pursuant to the terms of a loss mitigation agreement

New Servicing Rules – Reg X (RESPA)

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Rule Small Servicersare Exempt

Requirements

Servicing policies & procedures

Yes Establish policies and procedures ensuring keyobjectives such as record retention, oversight of, and compliance by, service providers, and proper evaluation of loss mitigation applications etc..

Early Intervention with delinquent homeowners

Yes Establish or make good faith efforts to establish live contact with consumers by the 36th day of their delinquency and, if appropriate to their situation, promptly inform them of loss mitigation options that may be available.

Continuity of Contact with delinquent homeowners

Yes Maintain policies and procedures reasonably designed to provide delinquent consumers with access to personnel who can assist them with loss mitigation options where applicable.

New Servicing Rules – Reg X (RESPA)

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Rule Small ServicerExemption

Requirements

Prompt Crediting of payments & response to request for payoff

No • Promptly credited as of the day of receipt. • A payment that is less than the amount due

may be placed in a suspense account. When the amount received covers a full monthly payment, promptly credit it to the consumer’s account.

• Accurate payoff balance are to be provided no later than 7 business days after receipt of a written request.

Periodic Statements Yes Consumers must be provided with a statement each billing cycle showing payment due and the application of past payments

Interest rate adjustment notices for ARMs

Not Applicable Does not apply to HFH

New Servicing Rules – Reg Z (TILA)

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CFPB Reference

http://files.consumerfinance.gov/f/201306_cfpb_compliance-guide_2013-mortgage-servicing-rules.pdf

Rule Highly Recommended Best Practices for HFH Affiliates

Servicing policies & procedures

Establish policies and procedures ensuring key objectives such as record retention, oversight of, and compliance by, service providers, and proper evaluation of loss mitigation applications etc.

Early Intervention with delinquent homeowners

Establish or make good faith efforts to establish live contact with consumers by the 36th day of their delinquency and, if appropriate to their situation, promptly inform them of loss mitigation options that may be available.

Continuity of Contact with delinquent homeowners

Maintain policies and procedures reasonably designed to provide delinquent consumers with access to personnel who can assist them with loss mitigation options where applicable. This should start by the 45th day.

Periodic Statements* Periodic Statements seem to result in fewer delinquencies and errors. Errors are easier to resolve because they are spread out. If you use them, follow the rules for required information.

Coupon Books* If you use coupon books instead of periodic statements, follow the rules for required information and dates.• Consumer must be provided with coupons in a coupon book, both

including specific information.• Additional information must be provided annually.• If the consumer is 45 days delinquent, then the servicer must provide

additional information for each billing cycle during the delinquency

Considered Minimum Standards for Affiliates

38* See linked document “Periodic Statements and Coupon Books”

The Delinquency Problem39

Copyright Kevan J. Atteberry Used with permission

When is a mortgage payment delinquent?

If it is due the 1st of the month:• If not paid, it is delinquent the next day, which is the 1st day

of delinquency

• It is 30 days delinquent if it is not paid before the next due date.

• It is 60 days delinquent, if not paid before the following due date

• It is 90 days delinquent, if not paid before the following due date.

• In banking, all months have 30 days.

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For more information search on My.Habitat for “ASR Mortgage Reporting Defined” and “Mortgage Payment History FAQs”

Why is the first day so important?• Many policy and legal actions depend on the dates

• Early Intervention on delinquent payments is critical

• Although most affiliates are exempt the CFPB rule; best practices for mortgage servicing necessitate certain actions within a specified number of days after delinquency starts, including but not limited to: – 36th day to establish live contact with borrower*

– 45th day to provide written notice of loss mitigation options and assignment of person(s) for continuity of contact for loss mitigation.

– If delinquent, switch from coupon books to periodic statements*

• Per 12 USC 1701x(c)(5): Before the 45th day, you must provide the delinquent homeowner information about credit counseling and The HUD toll free number for finding a certified nonprofit credit counseling agency (800) 569-4287.

• If your homeowner/spouse are service members, you need to be aware of the “Servicemembers Civic Relief Act Notice Disclosure” (SCRA) dealing with collections and debt relief at: http://portal.hud.gov/hudportal/documents/huddoc?id=DOC_13065.pdf

• *highly recommended best practice 41

Guidance about delinquency ratesYour “delinquency rate” is the percentage of mortgages that are 30 days or more delinquent

• More than 20% overall or 12% for 60 days and more is a problem

• More than 20% for 60 days and more is a major problem

• For 30+ days delinquencies*: more than 18.66% is worse than the national delinquency rate for Subprime Fixed Rate mortgages; FHA (9.67%), all mortgages (6.04%); Prime Fixed Rate mortgages (3.23%)*

• “Serious Delinquency” rate* (90+ or in foreclosure): 4.8%

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*All rates derived from Mortgage Bankers Association “National Delinquency Survey” for 6/30/14

Significant Effects of delinquencies on your: • Finances: cash flow shortages (especially with unrestricted

cash), inability to get credit lines, limit on FlexCAP and other mortgage financing, risk with audits, risk of swaps and buybacks.

• Capacity: Staff reductions and loss of morale, loss of credibility with community and prospective partners, loss of board members, difficulty in recruiting skilled board members, inability to build homes, risk of negative press.

• Fundraising: Loss of sponsors, barrier to board fundraising, problems with financial information and outcomes data. It can be faster and easier to clean up delinquencies and arrearages than it might be to ramp up fundraising.

• Media Implications: Brand / Reputation risk

For more information, see the handout “Lessons Learned”

Mortgage Servicing Lessons Learned

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See the Mortgage Servicing Standards on the MPAR homepage of My Habitat.

Tips for success:

• Policy 28 - Subsidy & Sustainability - requires written policies for handling delinquencies, collections, and foreclosures. FOLLOW YOUR POLICIES.

• Clearly explain delinquency policies in homeowner education.

• Prompt corrective action and earlier notices of intent to foreclose result in fewer foreclosures.

– Send out all notices and make phone calls as early your policy states.

– All contacts with homeowners should be done by the same person.

– Keep notes from all communications.

• Collections is a finance function, not family services.

Mortgage Servicing – Collection Practices

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• Begins with family selection– Thorough review of credit history

– establish underwriting process

• Comprehensive homebuyer financial training, which should include: – Understanding importance of a good credit score

– Setting financial goals

– Importance of saving

– Developing a budget

– Repairing credit scores and the importance of paying bills on time

• Defined Servicing Practices– Consistent application of servicing practices

– Having clear policies and procedures that are consistently applied

– Trained staff, including a success plan for these roles

– Send demand notices early

• Reporting to credit depositories

Controlling Delinquencies

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Resolving Serious Delinquencies Requires:

• Acknowledge there is an issue and seek help from HFHI or other qualified experts

• Review policy and procedures to ensure it is comprehensive and covers all aspects of servicing

• Ensure that the policy is understood and followed

• Create a report that captures mortgage receivable / delinquency; produce each month

• Contact each homeowner that is delinquent to discuss options

• Outsource servicing to a professional servicer

• Use of a forbearance agreement or other temporary loss mitigation options when applicable

• Change the effect of the “homeowner grapevine”

• Foreclose when appropriate

Controlling Delinquencies cont’d

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All servicers (in-house or 3rd Party) must comply with all federal and state laws pertaining to mortgage servicing, including escrow management: Escrow accountsany account that a servicer establishes or controls on behalf of a borrower to pay taxes, insurance premiums (including flood insurance), or other charges with respect to a federally related mortgage loan, including charges that the borrower and servicer have voluntarily agreed that the servicer should collect and pay.

• The funds must be deposited in a federally insured account designated as an escrow trust account and kept separate, distinct and apart from funds belonging to the affiliate.

• The account must be properly titled and set up as a trust or escrow account

• You may not “borrow” from the escrow account • Must comply with RESPA

– Annual escrow analysis requirements, which notify homeowners of changes due to tax or insurance adjustments

– Cushion requirement

Escrow Management recording - Oct 2013 available on My.Habitat

Escrow Management

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Why consider third-party servicing?

• Third party servicers for “full servicing” have lower delinquency rates (based on limited data).

• The cost of third party servicing is often less than the cost

of an affiliate self servicing. See MPAR document Cost Comparison Mortgage Servicing

• In-house servicing requires professional servicing software and ongoing updates and support.

• Few affiliates can stay on top of the constantly changing legal and banking compliance issues, thus facing risk.

In-House vs. Third Party Servicing

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We strongly recommend that the affiliate work closely with a local creditors’ attorney that is experienced with bankruptcy law and the foreclosure law and procedures of your respective state.

• Dodd Frank has already strengthened foreclosure defenses.

• Attorney should also review your policies and procedures prior to you needing them.

• Bankruptcy attorneys have far more resources and options than previously.

• Consider alternatives to foreclosure when appropriate, but be prepared to foreclose if necessary.

Bankruptcies / Foreclosures

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An affiliate’s board and its ED/CEO have a fiduciary role in protecting its largest asset, but they may not know:

• It can be impossible to discern a delinquency issue in normal financial statements.

• The board of directors must review a monthly aging receivables report and a monthly mortgage status report showing delinquency categories and arrearage amounts with comparison to prior month and same month in the prior year.

• Not having a separate bank account for escrow funds is a policy violation and may be a illegal; and it can also cause serious problems when converting servicing systems or outsourcing to professionals.

• It may be helpful for your board to know how your affiliate compares to other affiliates in your state and of a similar size. Contact the Affiliate Support Center and ask for a “Delinquency Analysis”

Fiduciary Duty of Affiliate Boards

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Reporting Period: 12/31/13 Total Mortgages: 175

Delinquent # Mortgages

Delinquent

Arrearage % Delinquent

1-29 days 20 $8,000 11.4% (late)

30-59 days* 12 $9,600 6.9%

60-89 days* 5 $6,000 2.9%

90 plus days* 8 $12,800 4.6%

Total This Month 45 $36,400 14.4% (25.7% )

Total Last Month

(173 mortgages)

40 $30,200 23.1%

Total Same Month

Pr. Yr. (163 mortgages)

45 $31,200 27.6%

Monthly Board Report

*For comparison with national statistics , an affiliate’s “delinquency rate” is based on delinquent payments that are 30 or more days late. (14.4% above)

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HFH Twin Cities 4th Quarter Delinquency Rates

For 2103-4, 6th lowest total delinquency rate of 23 affiliates reporting from stateFor 2103-4, 18th lowest total delinquency rate of 139 US affiliates with 100 or more mortgages* Used with permission (for more details, see handout)

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0.00%

1.00%

2.00%

3.00%

4.00%

5.00%

6.00%

7.00%

8.00%

9.00%

10.00%

2009-4 2010-4 2011-4 2012-4 2013-4

30-59 %

60-89 %

90+ %

Total %

60+90 %

Questions

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