What the Fair Credit Reporting Act Should Teach Us About Mortgage Servicing

Abstract

The current housing crisis has revealed deep flaws in the way monthly mortgage payments by homeowners are handled by mortgage servicers – the companies that collect monthly mortgage payments from homeowners and forward the payments to investors in those mortgages. This article suggests that the structural flaws in mortgage servicing are directly analogous to the market failures that led to the creation of the Fair Credit Reporting Act of 1970 (FCRA). The FCRA thus serves as a significant model for possible reforms in mortgage servicing. The “robo-signing” scandals of 2010 drew unprecedented public policy attention to the mortgage servicing industry, and that attention has resulted in subsequent consent decrees, enforcement actions, and calls for national mortgage servicing scandals. As a historical matter, the structure of the mortgage servicing market is a recent phenomenon. Historically, most mortgage loans were made locally by thrifts or commercial banks. Where servicing was kept locally, lenders had the usual market incentives to treat borrowers well in hopes of providing other banking services to the family. By the late 1990s and early 2000s, the increased use of mortgage-backed securities and other economic factors meant that a much larger proportion of local lenders sold off the mortgage servicing rights rather than keeping them in-house. In addition, market concentration in the servicing industry skyrocketed, with the 10 largest servicers having 11% market share in 1989, and 40% a decade later. Today, the top four servicers have roughly 70% market share. The comparison between the FCRA and mortgage servicing is straightforward and previously undiscussed. The FCRA emerged in 1970 at a time of rapid concentration in the credit reporting market. Mistakes and decisions about credit can have a large impact on a family, such as whether a loan is approved and on what terms. The clients of the credit reporting agencies, however, are lenders, insurers, employers, and others, but not consumers. The market incentives for credit reporting agencies are to optimize for their corporate clients, rather than worry about how a mistake affects an individual consumer. Mortgage servicing, recently, has seen rapid concentration. Mistakes and decisions by servicers can have a large impact on a family, such as whether to modify a loan or force a foreclosure. The clients of the mortgage servicers, however, are investors rather than the homeowners. The market failures in mortgage servicing, therefore, parallel those in credit reporting. Mortgage servicers lack any legal duty to act in the interest of the homeowners. They also lack any market incentives to act in the interest of homeowners; indeed, a consumer who chooses to exit by refinancing may quite possibly be stuck with the same servicer in any subsequent loan. In light of this structural lack of protection for consumers, new national mortgage standard should address issues such as disclosure, deceptive practices, and conflicts of interest in mortgage servicing.