To the Point With Bob: FSOC’s Bid to Regulate Non-Bank Firms Will Harm Consumers, Mortgage Sector

(To the Point with Bob is a periodic blog by MBA President & CEO Bob Broeksmit, CMB. You can view this and past blogs here. This edition was originally published before FSOC’s latest action on Nov. 3. For more on that, see this week’s MBA Advocacy Update.)

This spring, the Financial Stability Oversight Council (FSOC) issued a proposal that would remove procedural requirements and allow it to fast-track the designation of non-bank financial companies as systemically important financial institutions (“SIFI”) subject to enhanced supervision by the Federal Reserve. FSOC’s plans are unnecessary and, should regulators use their authority to designate independent mortgage bank servicers as SIFIs, would negatively affect the mortgage market and consumers.

In the 15 years since the financial crisis, banks’ share of mortgage origination and servicing volume has steadily declined. This is largely due to mounting bank capital and liquidity requirements and, in particular, the punitive risk-based capital treatment of mortgage servicing assets. Non-bank servicers have filled this void, substantially increasing their share of the servicing market. As this share has grown, so has attention from FSOC members.

However, FSOC–or at least some members of FSOC–seems to be on a quest to impose a solution where no problem exists. Among the Mortgage Bankers Association’s 2,200 member companies are hundreds of non-bank mortgage servicers and sub-servicers that engage in a core banking activity that is widely understood, easily transferrable, and decentralized. Today, no individual company comprises more than a small fraction–less than 7%–of the market for servicing outstanding single family mortgage debt. The concern that one of these companies could pose a systemic risk to the entire U.S. financial system is unfounded.

A core banking activity, such as residential servicing, is not an esoteric realm that is hard for regulators to grasp. The non-bank mortgage servicing sector is already heavily regulated. Federal regulators, under existing statutes and programmatic authorities, have ample ability to understand, closely monitor, and make programmatic adjustments to ensure the mortgage servicing business remains healthy.

The Government National Mortgage Association (Ginnie Mae) and the Federal Housing Finance Agency (FHFA) can already mitigate the perceived risks of mortgage servicers to the broader financial marketplace by tweaking capital and liquidity standards, modifying mortgage servicing advance obligations, making programmatic changes, and taking steps to encourage new, smaller issuers to enter the market. As we saw during the COVID pandemic, Fannie Mae and Freddie Mac acted at FHFA’s direction to modify servicer agreements using the authority that already exists. Before proceeding with any designation, FSOC should first look at the tools of existing regulatory entities.

In addition, standards and requirements related to capital, net worth, and liquidity have increased sharply over the past 15 years at the direction of the FHFA and the government-sponsored enterprises (Fannie Mae and Freddie Mac), Ginnie Mae, and the Federal Housing Administration (FHA).

Like banks and credit unions, non-bank mortgage entities must abide by risk management requirements from warehouse lenders and consumer protection enforced by the Consumer Financial Protection Bureau (CFPB) and state attorneys general. On top of that, non-bank mortgage servicers of all sizes must comply with unique state regulations wherever they do business.

In addition to the inappropriateness of FSOC designation in the context of mortgage servicing, MBA is concerned about the way FSOC members are approaching the process. FSOC’s new proposed framework guts the previous requirement to conduct a cost-benefit analysis and any obligation to consider the likelihood that an entity might fail. These considerations seem central to the entire purpose of FSOC designation, and FSOC’s decision to jettison them squarely conflicts with recent case law. 

CFPB Director Rohit Chopra, a voting member of FSOC, has made repeated public statements that he considers non-bank mortgage servicers to be systemically important and in need of designation. This suggests he is putting the cart before the horse and potentially compromising the integrity of the entire designation process – one that requires legitimate fact-finding.

When Congress established FSOC, it established a clear process. This process includes formal, written notification to non-bank financial companies facing possible designation, opportunities for hearings, and a requirement for FSOC to consult with the primary regulatory agency in this process. These considerations are not perfunctory, superfluous mechanisms. They are stipulated in law and codify due process and accountability. MBA believes there should also be a vote by all FSOC principals to initiate any first-level review of a particular entity for potential designation.

Moreover, if FSOC is concerned with core banking activities taking place outside of the established regulatory “perimeter” of prudential bank regulation, it would make more sense for FSOC to rethink the regulatory environment that has discouraged traditional depository institutions from competing in this space in recent years. In fact, at the April 2023 FSOC meeting, the report from the Council’s own Nonbank Mortgage Servicing Task Force cited the banking agencies’ high risk-based capital treatment as a major factor in banks’ reluctance to return to the mortgage market. Instead, FSOC appears to be prepared to expand the same burdensome regulatory framework that has pushed banks out of mortgage servicing into the segment of the mortgage market that has picked up the slack and is already subject to significant government and counterparty oversight.

MBA’s diverse membership recognizes that a sound and transparent regulatory system benefits consumers and helps create stability in the marketplace more broadly. From large lenders to independent mortgage bankers to servicers, we have a stake in a rational and predictable set of rules and regulations.

Ultimately, the real estate finance system is healthiest, and consumers win, when multiple actors utilizing a range of business models and strategies compete on a level playing field. If FSOC elects to impose higher costs across the system, it will only burden prospective homeowners with higher prices and less choice at a time of constrained housing affordability. When I pressed Director Chopra on this issue at MBA’s Annual Convention and Expo, he offered some assurance that FSOC’s expanded SIFI designation is not aimed at the many non-bank entities in our industry. Nonetheless, MBA will remain vigilant in engaging FSOC to prevent this ill-advised and unjustified regulatory encroachment. The revised FSOC designation guidance is expected to be released by the end of the year.  Actual designations of any nonbanks – whether hedge funds, money market funds, crypto players, or IMBs — would not be expected until late 2024 at the earliest.