Insights

On June 3, 2010, the U.S. Department of Housing and Urban Development published in the Federal Register (75 FR 31334) an advance notice of proposed rulemaking (ANPR) on the Real Estate Settlement Procedures Act’s prohibition on the “required use” of affiliated settlement service providers in residential mortgage transactions. HUD has received a number of consumer complaints and comments regarding certain affiliated business practices, including incentives offered by builders to homebuyers who agree to use the builder’s affiliated mortgage lender. The ANPR solicits information that can be used to inform any future revision or clarification of the regulatory definition of “required use.” While the “required use” prohibition applies to virtually all affiliate referrals, the ANPR focuses on referrals between builders and their affiliated mortgage lenders.

One of the purposes of RESPA is to protect consumers from unnecessarily high settlement charges caused by abusive practices, including referrals of settlement business that result in “kickbacks” by settlement service providers to those persons who referred business to the settlement service provider. RESPA prohibits the payment or acceptance of any fee, kickback, or thing of value in connection with the referral of settlement service business. Referrals to an affiliated settlement service provider are permitted under RESPA, provided certain conditions are met, including a prohibition against requiring the use of the affiliate.

The current regulatory definition of “required use” reads as follows:

Required use means a situation in which a person must use a particular provider of a settlement service in order to have access to some distinct service or property, and the person will pay for the settlement service of the particular provider or will pay a charge attributable, in whole or in part, to the settlement service. However, the offering of a package (or combination of settlement services) or the offering of discounts or rebates to consumers for the purchase of multiple settlement services does not constitute a required use. Any package or discount must be optional to the purchaser. The discount must be a true discount below the prices that are otherwise generally available, and must not be made up by higher costs elsewhere in the settlement process.

HUD revised the definition of “required use” in connection with HUD’s final RESPA rule published on November 17, 2008 (73 FR 68204). However, as a result of litigation initiated by the National Association of Home Builders challenging the revised definition, HUD twice delayed the effective date of the revised definition and ultimately withdrew the revision by final rule published on May 15, 2009 (74 FR 22822). The revised definition of “required use” in the November 17, 2008, final rule provided as follows:

Required use means a situation in which a person’s access to some distinct service, property, discount, rebate, or other economic incentive, or the person’s ability to avoid an economic disincentive or penalty, is contingent upon the person using or failing to use a referred provider of settlement services. In order to qualify for the affiliated business exemption under § 3500.15, a settlement service provider may offer a combination of bona fide settlement services at a total price (net of the value of the associated discount, rebate, or other economic incentive) lower than the sum of the market prices of the individual settlement services and will not be found to have required the use of the settlement service providers as long as: (1) the use of any such combination is optional to the purchaser; and (2) the lower price for the combination is not made up by higher costs elsewhere in the settlement process.

The revision reflected HUD’s view that economic disincentives that are used to improperly influence a consumer’s choice of settlement service providers are as problematic under RESPA as are incentives that are not true discounts. The revision did not impact the ability to offer legitimate consumer discounts, as HUD does not interpret RESPA as preventing a settlement service provider or anyone else from offering a discount or other thing of value directly to the consumer. In withdrawing the revised definition, HUD stated its intention to pursue new rulemaking on the issue of “required use” of affiliated settlement service providers.

The consumer complaints and comments received by HUD include concerns about the practice of builders who offer incentives (such as free construction upgrades, discounted home prices, and closing cost allowances) only to homebuyers who agree to use the builder’s affiliated mortgage lender. Homebuyers expressed concerns that, because the timing of the contract with the builder precludes the buyer from comparison shopping, the affiliated lender is able to charge settlement costs or interest rates that are not competitive with those of nonaffiliated lenders.

Through the ANPR, HUD seeks comments on referral arrangements from a number of sources, including individual consumers, consumer advocacy organizations, housing counseling agencies, the real estate and mortgage industry, and federal, state, and local consumer protection and enforcement agencies. In particular, HUD requests information on the following:

• Tailoring “required use” to reach abusive incentive schemes, but not beneficial discounts or packages. HUD notes that some commenters have suggested that builders’ incentive programs discourage homebuyers from shopping for the best loan terms because the value of some of the incentives are difficult to quantify when comparing loan terms and settlement costs of the affiliated lender with those of a nonaffiliate and because the homebuyer is often required to commit to use the affiliate early in the process before the typical consumer would begin shopping for a lender. HUD seeks information on the types of discounts and incentives that are tied to the use of an affiliated settlement service provider, the point in time such incentives are discussed with a potential homebuyer, as well as the point in time a homebuyer is expected to decide whether to use the affiliate. HUD also asks whether there is evidence that demonstrates (i) that homebuyers who are offered such incentives are as likely or less likely to engage in comparison shopping; (ii) that homebuyers using affiliated lenders pay higher rates of interest or higher closing costs than those who use unaffiliated lenders; and (iii) that homebuyers benefit from some types of incentives and not from others or by incentives offered by some types of business but not others.
• Forward Loan Commitments. To better understand forward loan commitments and their use in mortgage loan transactions, HUD seeks comments on how forward loan commitments are purchased and used by builders, the prevalence of such commitments, and whether there are alternative types, terms, or uses for such commitments. In addition, HUD asks about the benefits to homebuyers of forward loan commitments from affiliated and nonaffiliated lenders.
• Other Issues. Some commenters raised concerns that certain incentives are built into the cost of the home and are therefore not true discounts. In addition, some commenters believe that an affiliated lender has a special, potentially improper, interest in financing a house at any price set by a seller. To address these concerns, HUD asks several questions regarding the relationship between the price of the home and the incentives given to buyers who use an affiliated settlement service provider, the impact of such incentives on the appraised value of the property, and the performance of mortgages originated by affiliates, among other issues.
• State and Local Experience. HUD directs certain questions to state and local consumer and enforcement agencies. Specifically, HUD asks about the impact of regulatory enforcement in this area, what rules and forms of enforcement have proven most effective, whether there is evidence available as to specific anticompetitive or anticonsumer practices that can be provided by state law enforcement, and whether state laws regulating builder-affiliated business arrangements provide an approach for evaluating options.
• One-Stop Shopping. HUD asks whether it is possible to quantify the benefit to homebuyers of one-stop shopping and whether there is any evidence that homebuyers derive greater benefit from one-stop shopping than from comparison shopping for the best loan terms and settlement costs.
• Incentives vs. Disincentives or Penalties. HUD requests comments on the relationship between incentives to use an affiliate and disincentives or penalties for using a nonaffiliate and how such incentives and disincentives might be treated in the new regulation.

In addition to the above items, HUD invites comments on other aspects of referral arrangements that will help inform HUD’s views on this issue. Comments must be submitted to HUD by September 1, 2010.

Sharon Bangert is a partner in the Washington, D.C., office of Hudson Cook, LLP. Basis Points readers can reach Sharon at 202-327-9703 or by email at sjbangert@hudco.com.