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Modernizing Loan Origination Climax - eClosing

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An exploratory look at the role of technology to empower mortgage consumers at closing. In this white paper, current process of closing is compared with technology enabled closing process.

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Modernizing Loan Origination Climax - eClosing

  1. 1. eClosing – Modernizing Loan Origination Climax Abstract- An exploratory look at the role of technology to empower mortgage consumers at closing Author- Mahesh R Pawal pawal.mahesh@gmail.com
  2. 2. Executive Summary- As an extension to the ‘Know Before You Owe’ project, the Consumer Finance Protection Bureau (CFPB) started to look into the critical pain points of the mortgage industry closing process. The CFPB analyzed feedback from customers and industry stakeholders related to the process in order to understand the key challenges resulting in frustrations. It was observed that during the closing process, customers face an overwhelming package of closing documents that are large and too legally worded making it difficult for a lay man to comprehend. The significant reasons being -the number & complexity of documents, errors in documents, and scarcity of resources to raise awareness of the terminology used in the mortgage industry. Besides customers, others stakeholders also reported their challenges with the process itself like, lack of standardization in paperwork resulting in redundant and repetitive documentation, etc. The latest initiative by the CFPB - technology enabled eClosing process has been tested through a pilot program. The Pilot program is in line with the CFPB’s mission to make a mortgage process more efficient and consumer-friendly. The core modules of the eClosing process are eDocumentation, eDelivery, eSignature, eClosing platform, eNotarization and eStorage. On the customer front, pilot program resulted into increase in perceived understanding, empowerment, and convenience. This was an outcome of early delivery of documentation along with mortgage related awareness material. Overall, the remedial actions included digitizing the closing process, altering the documents presentation and storage, etc. This, however, also led to concerns like technology adaptation risk, Information Technology capital investment, and coordination issues in regulatory authorities.
  3. 3. 1. Introduction: Lending industry driven by technology based innovations has been evolving in line with information technology sector during the last few years. This includes the latest development on borrower front like websites for comparison of lending rates from plethora of lenders to online tools for equated monthly installment (EMI) analysis, rent vs buy decision, refinance break even analysis, etc. On lender front, the stage is moving from a paper based manual process to information technology driven automation. This involves potential client segmentation, progress from spreadsheet based loan origination process to developing a completely dedicated software application for loan origination and servicing. However, technology has yet to make a significant impact on the documentation mortgage process. The first electronically closed mortgage received by Fannie Mae was in the year 2000; but recession and slowdown in the housing market followed by the sub-prime crisis apparently killed a growing interest in technology based closing process as lenders had to focus available resources and energy on survival. As economy is back on the track, the industry influencers, stakeholders, and regulators want to test the waters again. As a part of this initiative, Consumer Financial Protection Bureau (CFPB) announced electronic loan closing pilot program to make the process more transparent, effective, and efficient. 2. Background: The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act)1 required that the CFPB should combine necessary documents involved under the Truth in Lending Act (TILA)2 and the Real Estate Settlement Procedures Act (RESPA)3 to publish a single, integrated disclosure for mortgage loan transactions. Accordingly the CFPB launched new project called ‘Know Before You Owe’ to design the prototype of integrated disclosures. Existing mortgage closing process is one of the major pain points for borrower, lender, and other stakeholders included in the process because of complexity involved in the documentation process. During regulatory implementation efforts, the CFPB decided to extend scope and include the mortgage closing process also. 1:http://www.cftc.gov/ucm/groups/public/@swaps/docu ments/file/hr4173_enrolledbill.pdf 2:http://files.consumerfinance.gov/f/201503_cfpb_truth- in-lending-act.pdf 3:http://files.consumerfinance.gov/f/201503_cfpb_regul ation-x-real-estate-settlement-procedures-act.pdf
  4. 4. 3. Existing Process and Current Issues: Buying a home is one of the biggest financial decisions that most people make in their lifetimes. Potential borrower generally identifies a property as per budget constraint and approaches to lender for additional financial aid. After the initial analysis of income, liabilities, and other financial parameters – a customer formally applies for a mortgage loan. Once application has been received by a lender, it triggers back- end driven processes like information processing, credit report check, black listing check, valuation, and underwriting. These processes does not require direct interaction with a customer. During process, lender sends few documents as required by the regulatory authority driven by various parameters like mortgage type, amount and so on. E.g. - Good Faith Estimate (GFE) document, one of the document mandated by authority, gives an estimate of settlement charges and loan terms. The direct interaction with customer is required for the loan closing process, which is the last step in a customer’s largest and most complex financial transaction. The closing documents package is presented to a customer at the last moment and contains language that is too difficult to comprehend. Moreover, the list of documents varies from place to place and include federally mandated documents, state/local mandated documents, contractual, and lender specific risk mitigation documents. The clauses, terms, and structure of documents put significant pressure on a customer who is required to sign the documents within the given time-frame. 3.1 Overview of major pain points of ‘AS-IS’ mortgage closing process: One of the key motives behind establishment of the CFPB was to increase transparency in consumer financial market and provide tools, opportunities to customers to make better decisions. In line with this mission, the CFPB directed its efforts to understand the challenges in the closing process (Exhibit 1). Following three channels were used to capture pain-points & challenges from customers and industry stakeholders. 1. Review of complaints related to the closing process. 2. Interviews with customers and industry stakeholders (e.g., settlement agents, housing finance professionals, housing attorneys, etc.) 3. Responses received via electronically/mail/through other means to the CFPB’s request for information (RFI). The research was focused on the negative experiences of the mortgage closing process. In general, Bureau has identified five outcomes of the negative experiences from the process as follows: a. Confusion b. Time pressure c. Cost d. Delay e. Stress.
  5. 5. Exhibit 1 The common issues cited by customers and industry stakeholders during the closing process are as follows: 3.1.1. Documents package delivery timing – The timing of document delivery was the most common challenge in the RFI responses, appearing in 43 percent of comments. Specifically, 31 percent of customers, 51 percent of notaries, and 58 percent of settlement agents that responded to the RFI. Before closing, each document passes through multiple stakeholders. A common concern reported by stakeholders was that, sometimes document delivered behind schedule by processing stakeholder due to reasons like mistakes, processing lag, etc. Delayed document delivery can create a ripple effect through the process that can push back each subsequent relevant processes. Furthermore, forcing each party to rush through the documents to send them to the next party in line can lead to additional errors and stress – a typical case of ‘domino effect’. Many documents do not reach the customer until the closing meeting. With close to 100 pages to review and sign during a meeting that is typically no longer than an hour, customer finds it difficult to read and digest all of the documents. For this obvious reason every customer during the targeted interviews, confirmed that he/she would prefer to receive the documents at least two days prior to closing.
  6. 6. 3.1.2. Errors in documents – Stakeholders also noted the existence of errors in the closing documentation, which can lead to additional delays. RFI response cited by 24 percent of customers, 31 percent of settlement agents, and 42 percent of notaries. Even a small error in the paperwork can result in long delays. One document generation provider explained that the most common errors, such as a misspelled name or missing spouse name, require closing agents to send back and correct the entire closing package. Customers and industry stakeholders were particularly frustrated since these errors occurred at the closing table when all parties had reserved the meeting time and expect to complete the transaction. 3.1.3. Large number of documents – As mentioned in previous section, list of documents varies and is driven by different parameters related to mortgage and often contain redundant information. Each customer needs to sign all documents related to federal, state, contractual, and lender specific mortgage documents. Customer-specific challenges: In addition to the common challenges, there are a few set of challenges uniquely linked to customers. 3.1.4. Language comprehension – Customers find closing documents language too much legal and full of jargons related to mortgage industry which is difficult to comprehend. This issue came up in a majority of the interviews with customers, and 38 percent of customer RFI responses mentioned confusing documents. Customers stated that many documents seem to be designed for lawyers and not for the average borrower. 3.1.5. Resources availability and awareness- Customers find fee variation in closing documents with respect to Good Faith Estimate (GFE) document. Lender has complex fee structure which considers different parameters. The GFE quote is designed with ideal range for minimum borrowing cost, but actual calculations vary and adds additional fees. The existing material explaining all details, is not available to the customer readily. Apart from that, sometimes mortgage based terminology is not supported with few examples that adds difficulty in understanding the meaning of the specific terms. 27 percent of all RFI respondents mentioned that no one was available to explain the process or content to them, and 18 percent noted that key participants (e.g., loan officers) were difficult to reach throughout the process. Industry stakeholder-specific challenges: Similar to customers, each set of industry stakeholder faces particular challenges. 3.1.6. Absence of standardization- Industry stakeholders need to deal with various regulations and need to be familiar with a large set of documents. As standardization has been not up-to the mark in closing package, documents list is driven by mortgage based parameters which contains redundant information collected by various regulatory authorities. 3.1.7. Risk Mitigation documents- The legal risk is perceived with different sensitivity among stakeholders. This forces additional documentation.
  7. 7. 4. Pilot Program Overview: Based on a preliminary review of the current closing process challenges, the CFPB believes that the opportunities exist to improve the current process to address the obstacles faced by both consumers and industry stakeholders. The CFPB has identified seven potential actions to address key obstacles in the closing process. The potential actions include: 1. Simplify and streamline documents 2. Reduce number of documents 3. Standardize forms 4. Digitize the process 5. Alter order/presentation of documents 6. Improve process and timing 7. Add educational tools The Bureau grouped these actions under two broad solutions. The first solution is ‘Reduction/Simplification of Closing Package’ which deals with first three action items. Under this solution, the Bureau is involved in studying existing closing packages along with other relevant regulatory authorities in order to remove redundancy without touching customer’s right or protection. The remaining four action items come under second solution – ‘Leveraging technology-driven eClosing solutions’. Electronic solutions are an important building block toward the Bureau's vision for a process that empowers consumers via education and transparency. Additionally, eClosing provides new opportunities to embed educational tools into the closing process in order to increase understanding and further enable the customer to play a more active role. The use of technology could also reduce time and burden for industry as customers will be aware of most of the things in closing process. 4.1 eClosing Pilot Program: The term ‘eClosing’ or electronic closing, refers to a mortgage closing that relies on technology for stakeholders involved to view and/or sign documents electronically. It has six technology components as follows (Exhibit 2). 4.1.1. eDocuments- Electronic documents can be as simple as a scanned PDF version of the traditional paper documents or as sophisticated as a SMART Doc. SMART Doc® is a registered trademark of MISMO, the Mortgage Standards Maintenance Organization. SMART Doc is a standards-based document view like PDF, HTML or TIFF that is complemented with specific document level meta-data, tamper-evident seals, audit trails, electronic signature attributes, and easily accessible data. 4.1.2. eDelivery- In the eClosing process, documents can be electronically delivered to customers by email or accessing an online portal within a vendor platform. eDelivery impacts two stages of the closing process. First stage involves electronic delivery of documents to a customer prior to closing for review and acknowledgement of a receipt. Second stage involves delivery of documents after the closing process by the settlement agent to downstream stakeholders, including the lender, investor, and county recorder. This process gives ample time to customer for review purpose before signing it. 4.1.3. eSignature- This is a critical component of the process. eSignature can be collected in multiple ways, such as using a digital signature pad or by clicking to add a computer-generated graphic
  8. 8. signature. The legal framework governing electronic signatures is the Electronic Signatures in Global and National Commerce Act (ESIGN) and the Uniform Electronic Transaction Act (UETA). Additionally, a group of industry leaders created the Standards and Procedures for Electronic Records and Signatures (SPeRS) to articulate guidelines for following ESIGN and UETA. Exhibit 2 4.1.4. eClosing Platform- Here, each and every page is electronically reviewed and signature is attached as per preferred method. A customer can preview closing package beforehand and can point out any spelling mistake, missing names, etc. A customer asks any additional questions to closing agent, if any. 4.1.5. eNotarization- Few sets of closing documents require notarization as per regulatory authority. In a traditional mortgage, a notary will apply his or her seal directly to the paper documents. However, notaries can also apply these seals electronically in certain jurisdictions. Regulations and requirements for eNotarization of electronic documents vary by state. Areas of variability include requirements to earn eNotary certification, the physical location of the notary
  9. 9. during the transaction, and how an eNotary affixes the tamper-proof seal to the eDocument. 4.1.6. eStorage- All the mortgage related documents are saved in eStorage. These documents can be accessed by relevant stakeholder as and when required secured by access based control. Each document has meta-data which stores the changes made or accessed information. This information is used in audit purpose and to track changes. 4.2 Minimum Required Capability for Participants The CFPB has laid out minimum required technical capability and functionality to participate in the eClosing pilot program. Few critical criteria have been listed below. 4.2.1. Document management and transfer standards- A pilot participant should have the ability to store and transfer documents and data securely between different parties involved in the real estate transaction, including the lender, consumer, settlement agent, and downstream or secondary investors. 4.2.2. Central platform with collaborative workflow- A pilot participant should provide central platform either online or through dedicated application where other stakeholders can view and edit the closing document package controlled by access based control mechanism. The mechanism will help to avoid privacy issues and unauthorized edit by stakeholders. 4.2.3. Electronic signature facilitation- A pilot participant must offer the ability to accept electronic signatures from the stakeholders on the closing documentation. The process to accept e-signature must be consistent with the legal framework outlined in ESIGN and UETA. 4.2.4. Ability to audit and controlled access- A pilot participant should be able to handle documents with audit trail for all the transactions including view only. Stakeholders should be given role based access to closing documents. 4.2.5. Ability to sanitize data- A pilot participant should be able to mask, strip and remove sensitive information from documents when it is sending for analysis purpose. 4.2.6. Educational and awareness material- A pilot participant must have portal with terms/jargons and terminology used in mortgage industry. It should also provide direct links, if possible, in document itself. 4.3 Participant List 4.3.1. Technology Vendors- Accenture Mortgage Cadence DocMagic, Inc. eLynx Pavaso, Inc. PeirsonPatterson, LLP 4.3.2. Lenders- Blanco National Bank Boeing Employees Credit Union Franklin First Financial, Ltd. Flagstar Bank Mountain America Credit Union Sierra Pacific Mortgage Universal American Mortgage Company
  10. 10. 5. Pilot Program Outcomes: The CFPB believes that eClosing solutions contributed toward the long-term vision of improving the closing process and providing specific benefits to customers. 5.1 Benefits: Pilot program’s benefits include the following: 5.1.1. Perceived understanding- Customers understanding level increased as education and awareness materials were available beforehand. The change in fees, technical terms, and jargons were understood by customers relatively easier compared to traditional approach. 5.1.2. Increased Empowerment- Customers felt empowered as closing documents package was available for review purpose much earlier than traditional method. Customers were able to mark points which can be questioned at closing platform. 5.1.3. Increased Convenience- All relevant closing documents package were delivered via eDelivery model online which added convenience factor for the customers. The documents were reviewed by customer at their own time and schedule. 5.1.4. Decreased delay and cost- Customers review helped to find miscellaneous errors from closing package and changes were rectified faster, thus reduced delay in closing and cost associated with delaying process. 5.1.5. Reduced consumer anxiety- Another advantage of eClosing is that it could transform the closing experience in ways that may lead to less anxiety for consumers. The large stack of complex documents is clearly a source of stress for many people, who indicated that they often do not read part or all of the documents. A less anxiety-inducing closing process could lead to increased understanding and a more positive consumer experience. 5.2 Risks: Potential risks involved in eClosing process are as follow- 5.2.1. Ignorant review- Although many customers indicated that they do not read part or all of the documents that are presented to them in a traditional closing, there is a risk that switching to an electronic process could reduce the amount of time customers spend reading and understanding the closing documents. 5.2.2. Technology adaption risk- Close to 16 percent of the US population still does not have a computer at home and does not have access to Internet elsewhere. In addition, while mobile options are narrowing the digital divide, the small screen format of mobile devices may present particular challenges for eClosings. Some customers are concerned that if they cannot access their documents and do not otherwise have the terms of their transaction readily available, there could be increased opportunities for unscrupulous lenders to commit fraud. 5.2.3. Infrastructure capital investment- Although eClosing process has advantage in long term, currently the CFPB can’t force small scale lenders to invest into technology components. The capital investment might prove bigger liability compared with portfolio and earnings of small scale lenders.
  11. 11. 5.2.4. Resistance from secondary investors- There is still some confusion and perceived risks among secondary investors. In absence of concrete rules and regulation from government body, few secondary investors are reluctant to changes. 5.2.5. Coordination challenges- The number of stakeholders involved in process depends on mortgage parameters. Ideally all parties should provide consent and work towards achieving benefits. The resistance from any stakeholder will affect mortgage eClosing ecosystem. Also, there are various regulatory institutions involved in closing documents which needs to compromise on authority. 5.3 Key Factors: The key factors required in mortgage industry to achieve benefits of pilot program and change the industry, are as follows: 5.3.1. Clear expectations and consistent communication- All stakeholders should be made aware of results of pilot program and communicated the benefits of pilot program. It will help to establish common set of expectations from homogeneous group of stakeholders in the process. 5.3.2. Technology investment commitment/Third party service- Mortgage industry players, particularly involved in closing process should make the technology investment and upgrades in order to get fit into process. Small players, which are unable to make such changes, should seek service from third parties with necessary infrastructure. 5.3.3. Timeframe for rollout and hybrid solution- The CFPB should announce the timeframe for rollout of eClosing after getting required approvals from government. The option to use hybrid solution with relevant interface and integration options should be carefully designed in order to provide flexibility. 6. Conclusion: The results of eClosing pilot program, as per the CFPB, were encouraging for mortgage industry participants that are currently using eClosing, working towards it, or in early discussion of the process. The borrowers, who participated in eClosing pilot program, experienced benefits while using eClosing process partially or completely as compared to traditional paper-based process. This implied the proposition that eClosing can be valuable option. The supporting pillars for proposition were increase in perceptions of empowerment, understanding and efficiency from customers’ point of view. Industry participants will be benefitted in the long term on parameters like cost, time, quality, and automation. However the pilot project should not be treated as final verdict on potential eClosing process as the data samples, technological, financial and methodological constraints put restrictions on the number of participants including customers, technology providers, and lenders. The risks or challenges involved in the process should be handled via risk mitigation or prevention methods after vigilant thorough study. The CFPB has been committed to improving the mortgage process for customers, empowering
  12. 12. them and fostering more efficient process. The ‘Know Before You Owe’ mortgage disclosure rule implementation results will provide additional boost for the detailed level regulatory changes for the eClosing process that will acts as one critical milestone in the mortgage industry history. 7. Footnotes: 7.1 References: 7.1.1. The CFPB guidelines: http://files.consumerfinance.gov/f/201404_cfpb_ guidelines_eclosing-pilot.pdf 7.1.2. Closing process: http://files.consumerfinance.gov/f/201404_cfpb_ report_mortgage-closings-today.pdf 7.1.3. US population and technology penetration report http://www.census.gov/prod/2013pubs/p20- 569.pdf. This white paper is for information purpose only and views expressed are subjected to author’s understanding of references mentioned.

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