CFPB Clamps Down on Originator Compensation and Prepaid Cards

November 14, 2014 at 9:11 am Leave a comment

The CFPB continued its incredibly frenzied pace yesterday.  In the same day, it proposed federal regulations on prepaid cards and fined Franklin Loan Corporartion, a California-based mortgage banker for illegally compensating its loan originators.  In the pre-Dodd-Frank days, either one of these would have been among the biggest news of the year for one of our federal regulators.  But for our good friends at the Bureau that Never Sleeps, it’s all in a day’s work.

First, let’s talk about the illegal compensation settlement.  In 2010, the Federal Reserve Board imposed restrictions on the way loan originators could be compensated.  Specifically, the Federal Reserve Board promulgated regulations prohibiting compensating originators based on a term or condition of a mortgage loan.  The CFPB is now responsible for enforcing this provision and to avoid making this discussion any more complicated than it has to be, my references are to the re-codified regulation.  Before the Board’s prohibition, Franklin had a straightforward compensation system in which originators would get a percentage of each mortgage loan they closed.  The compensation would be based on the total cost of the loan, which included an originating fee, discount points and the retained cash rebate associated with the loan.  As a result, loans with higher interest rates generated higher commissions.  After the Board passed it prohibition in 2010, Franklin instituted a new system.  All loan officers were given an upfront commission for each loan they closed.  However, on a quarterly basis, they would receive the difference, if any, between the adjusted total commission, which was based in part on the interest rate of the mortgage, and the upfront commission.  In other words, the higher the interest rate the more a Franklin originator would be compensated.

The originator clearly crossed the line with its compensation structure.  But remember, the regulation isn’t as clear cut as it first appears.  Take a look at the official staff commentary accompanying 12 CFR 1026.36(d)(1)(I):

  1. Permissible methods of compensation. Compensation based on the following factors is not compensation based on a term of a transaction or a proxy for a term of a transaction:
  2. The loan originator’s overall dollar volume (i.e., total dollar amount of credit extended or total number of transactions originated), delivered to the creditor. See comment 36(d)(1)–9 discussing variations of compensation based on the amount of credit extended.
  3. The long-term performance of the originator’s loans.
  4. An hourly rate of pay to compensate the originator for the actual number of hours worked.
  5. Whether the consumer is an existing customer of the creditor or a new customer,

Whether or not the way you compensate your originators is acceptable is a fact-specific analysis.  The bottom line is this:  in trying to comply with this prohibition it is best to keep in mind what the CFPB is seeking to prevent.  It doesn’t want to create an incentive for originators to provide mortgages with higher interest rates and transaction costs than a member needs to pay in order to get an appropriate mortgage.

As for the CFPB’s proposed regulation of prepaid cards, in concept anyway, this is a proposal that is long overdue.  More than a decade ago, legislation was introduced in the NYS Assembly that placed restrictions on prepaid cards which were increasingly being used by employers.  At the time, one of the primary arguments against the proposal was that regulation of prepaid cards should be done on the federal and not the state level.  Prepaid cards are increasingly being used as de facto bank accounts, particularly for the poor and young.  It makes sense both from a competition standpoint and from a consumer protection standpoint that consumers that choose to use these cards get basic protections.  I will undoubtedly have more to say about this regulation as a I read through its specific provisions.  I know you can’t wait.

In the meantime, have a great weekend.

Entry filed under: Compliance, Mortgage Lending, New York State, Regulatory. Tags: , .

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Authored By:

Henry Meier, Esq., Senior Vice President, General Counsel, New York Credit Union Association.

The views Henry expresses are Henry’s alone and do not necessarily reflect the views of the Association. In addition, although Henry strives to give his readers useful and accurate information on a broad range of subjects, many of which involve legal disputes, his views are not a substitute for legal advise from retained counsel.

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