The Federal Trade Commission has sent a blunt warning to federal housing officials about mortgage broker fee disclosures in connection with RESPA reforms: Don't confuse home buyers by requiring mortgage brokers to reveal their fees, while allowing loan officers working for banks to hide theirs.

RESPA is the Real Estate Settlement Procedures Act. The Bush administration has been advocating reforms of settlement practices nationwide for over two years, including how to help consumers understand broker fees. The final shape of those proposals -- or possibly a move to re-propose the reforms-- is expected to be known sometime this week.

In an unusual empirical investigation, the FTC said the type of up-front disclosure of broker fees proposed by HUD as part of its reforms would mislead more consumers than they would help.

Between 13 percent and 25 percent of all loan applicants would mistakenly chose a higher-cost mortgage over a lower-cost alternative if the lower-cost mortgage deal came with a broker fee disclosure, said the FTC after a seven-site national test involving over 500 mortgage customers.

Even if the "wrong" loan cost just $300 more than the "correct" or lower-cost mortgage, said the FTC, "the total impact would be approximately $400 million to $800 million in additional costs paid by consumers each year." Worse yet, by discouraging the use of mortgage brokers versus banks and other lenders, HUD's proposed fee disclosure would have an "adverse effect on competition" in the marketplace, potentially raising mortgage costs across the board.

The broker disclosures the FTC studied were first proposed in 2002 by former Secretary Mel Martinez of HUD. They would require up-front disclosures of "yield-spread premiums" (YSPs) to loan applicants, and would describe the fees as payments from the lender to the borrower. The proposals incensed mortgage brokers, who complained that banks and other lenders would not be required to disclose their own fees.

"That makes for an uneven playing field and different rules for mortgage brokers compared with lenders," said A.W. Pickel III, president of the National Association of Mortgage Brokers. "That is not acceptable."

Yield-spread premiums are paid by lenders to brokers when they deliver a loan carrying an interest rate higher than the "par" rate posted by lender. A $100,000 mortgage with a rate 1/4 of a percent higher than a lender's par rate might, for example, generate a 1 percent yield-spread premium -- $1,000. A 3/4 of a percent higher rate than par on the same loan could generate a 2 1/2 percent yield spread premium payment, or $2,500, to the broker.

Yield-spread premiums are commonplace, and often are disclosed on settlement sheets as "paid outside closing" (p.o.c.). Frequently they are associated with so-called zero-cost or limited cost transactions, where a broker uses all or a portion of the lender payment to reduce or eliminate the borrower's settlement costs. Critics say YSPs are also often connected with predatory lending, where brokers steer unsophisticated borrowers into higher-rate loans in exchange for high YSPs that are pocketed by the broker.

The FTC study, conducted last year, may have already had an impact on HUD's reform proposal. A HUD spokesman told Realty Times that "we welcome the FTC study," and that the department had taken its findings into account before sending the reform rule to the White House Office of Management and Budget (OMB) for final review.

The final outcome of the entire RESPA reform proposal -- including the broker disclosures, guaranteed mortgage packages and Good Faith Estimates -- could be known this week. HUD could issue a final rule or could announce that it plans to re-propose the entire rule or portions for additional public comment.

Published: March 15, 2004

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Kenneth R. Harney writes an award-winning, nationally-syndicated column on housing and real estate from Washington, D.C. He is also managing director of the National Real Estate Development Center, a professional education company. He is a past member of the Federal Reserve Board's Consumer Advisory Council, a committee that by federal statute reviews all Fed actions on home mortgage, consmer credit and banking industry regulation. He served as a member of the U.S. Department of Housing and Urban Development's Working Group on Computerized Loan Origination (CLO) systems, and is a member of the Editorial Board of the Fannie Mae Foundation's journal, Housing Policy Debate. He is the author of two books on mortgage finance and real estate.