When investors move from the rental world into lending or seller finance, it’s common to assume that the rules applying to rental application fees also apply to mortgage-related underwriting and origination fees. But mortgage-related fees on owner-occupied loans can work very differently.
With rentals, application fees are typically non-refundable. Tenant applies, screening happens, fee is kept. It’s simple and widely accepted. Residential lending is different because fees are regulated at the federal level.
Under TILA / Regulation Z (12 CFR §1026.19(e)(2)(i)), before a lender issues a Loan Estimate, the only fee that can generally be collected from a borrower is a credit report fee. Most other upfront charges are restricted.
That’s why Call The Underwriter is legally required to invoice lenders, the lender then pays us, and then the lender gets reimbursed by the borrower when they close the sale / loan. So you don’t need to ultimately pay the underwriting fee, but do need to float it for a while until the loan closes.
Here is a common scenario that can create risk for the lender:
- Lender submits a term sheet to Call The Underwriter and receives the initial invoice
- Lender forwards the initial invoice to the borrower who pays the upfront $199 underwriting fee (which is ok to do)
- The borrower later does not qualify for a Dodd Frank compliant loan, or the lender declines the loan
- No credit is extended, the deal doesn’t close
In that situation, the underwriting fee cannot be treated like a rental application fee, and the lender needs to refund the borrower the $199 directly.
Why?
Because Regulation Z and RESPA / Regulation X fee frameworks are built around preventing consumers from being charged for loans that never happen. (in the conventional mortgage world loan origination fees can be $10,000+ depending on the size of the loan, so the lenders can afford to do this)
If no loan is made, not refunding the fee can open up the lender to a UDAAP complaint (Unfair, Deceptive, or Abusive Acts or Practices regulation). UDAAP authority comes from the Dodd-Frank Act (12 U.S.C. §§ 5531, 5536), and is enforced by the CFPB. Fortunately I’ve never had to deal with a UDAAP complaint personally, but I’m sure its not fun.
So how do you protect yourself from eating $199 fees when a borrower doesn’t work out? The answer is properly pre-screening your borrower before starting the underwriting process, which I’ll talk about in my next email.