I continue to see concerns in the market about the fate of “affiliate relationships” in a QM world, especially in regard to builder/lenders (remember that Debra Still, the chairman of the MBA, comes from PulteGroup). Recently I received this e-mail filled with questions:
“Would not the ‘builder concession’ be considered a borrower paid cost because the price of the home they pay creates the funds for the concessions? Shouldn’t there be an anti-steering form that accurately reflects what the rate would be if the borrower obtained financing elsewhere and another form reflecting the cost of the home without concessions? Wouldn’t it be in the borrower’s best interest to require full consumer disclosure and awareness of the true cost with new construction? I have done lending for a ‘production builder’ I do understand and know how builder concessions work. Is there legislation in process that will address this practice?”
I sent this along to a friend in the builder/lender sector, who replied:
“I assume the question relates to when the builder agrees to pay closing costs or provide some other incentive (like granite counters) in exchange for the borrower using the affiliated mortgage company. I’m not sure that I would term it a ‘concession’ – it’s more of a homebuyer option. If the borrower wants to use the mortgage, title, or other affiliated services, they receive the incentive. If they choose not to use them, they don’t receive the incentives. Presently, about 70% of the homebuyers that buy a home from our affiliated homebuilder (and whom aren’t cash buyers) choose the incentive, 30% do not. I assume that both the 70% and the 30% have run the numbers and are making rational economic decisions – but that may not be the case. I believe that Realtors, friends in the business, the builder’s commitment to the affiliate model and other factors beyond the pure economics of the transaction influence homebuyer behavior in ways that are at times inconsistent with the borrower’s best economic outlook.
I only have my experiences here to draw on, but I believe that the notion that we somehow ‘gross up’ the price of the home to pay for the concession/incentive is flawed. We have specific internal and external policies that prevent us from charging more for a home that is being financed by the affiliate than a home not being financed by the affiliate. Therefore, I’m unconvinced that ‘the price of the home… creates the funds for the concession.’
The notion of a comparison is interesting – although I think the industry already has such a form called the GFE – but I think the challenge would be that there is no way to compare a scenario where a borrower received a certain APR on a loan as opposed to another scenario where they received a different APR and granite countertops or $2,000 towards closing costs. For 2012, it seemed like we were priced better than most other mortgage enterprises since capacity wasn’t an issue for us since we don’t do refinance loans. In many markets our rate surveys showed us among the price leaders because we had ample capacity and didn’t change our profit margin requirements in the face of increased industry volume. I say that because I reject the notion that our rates are consistently materially higher than the rest of the industry. I qualify that by stating that applies to my employer only, and not the builder affiliated mortgage companies as a whole since I don’t do surveys on their pricing. Also, if 2013 becomes more competitive as refinance volume drops and excess capacity starts cropping up in the industry it may well be that my company, for the period of time until the industry rationalizes capacity. May be materially more expensive that other mortgage providers.
“Let’s pull the lens back and think about why the homebuilder has an affiliated lender. Basically, the homebuilder sells homes, in various states of construction, with the expectation that the borrower will qualify and perform. If we consider that the homebuilder makes a $200,000 or $300,000 investment to build a home for a buyer – I’m thinking of a dirt start here – and the buyer can’t ultimately perform then the builder is faced with stranded capital and having to re-sell the Chrisman dream home (model, options, exterior appearance) to some other party that will probably pay less for the home. Margins on finished homes are usually lower than margins on homes built from dirt. So, the single most important thing we do at the mortgage enterprise is really, really, really rigorously underwrite the borrower’s credit before we start building a home so that there are no surprises down the line. Our pre-qualification, because of our affiliation with the homebuilder, is more rigorous and usually more durable because we understand that if the home has to be re-sold at a lower margin that might mean $5,000, $10,000 or even $20,000 in reduced profit for the home builder. Contrast those motivations with the pre-qualifications the homebuilder (sometimes) receives from non-affiliated lenders, who seem to view prequalification as a marketing tool. In the end, it’s not about the modest profits earned at the affiliated mortgage company, it’s about closing the home with the original buyer, on time and with the gross profit margin that the builder expected when the sales contract was initially written.
As to legislation, QM has some interesting restrictions about affiliate relationships that could potentially cripple the captive model. Right now, many builders don’t seek out spot business, but if QM comes about as written, I fully expect builders will reposition themselves and aggressively pursue spot business. I respect any LO’s desire to make inroads into the affiliated business world, and I hope if the regulations ultimately neuter the affiliate model the LO will respect my desire to make inroads in their world.”
Thank you very much for the note.
UPDATE: Got more comments on this issue, so adding them here also…
Debra Still, chairman of the MBA and the president & CEO of Pulte Mortgage wrote:
Thank you for your very balanced comments in regards to builder affiliate relationships. It will be interesting to see if the CFPB will ultimately use their authority to address this disparate treatment within the QM rule or leave it to affiliated mortgage and title providers to seek legislative solutions. We believe this rule impacts about 26% of the marketplace, well beyond just the builder affiliated community. MBA believes that loans with the same interest rate, points and fees should be treated the same under the rule, regardless of organizational structure or business model. Of course, the real issue is about optimum consumer choice and transparency.
But I also received several notes from independent mortgage lenders with a slightly different perspective:
I read with great interest the comments your friend in the builder-affiliated mortgage company shared (below). While he/she makes valid points as to the prequalification and underwriting perspective the builder’s mortgage company takes towards the prospective buyer, I cannot in good conscience agree with his/her statements regarding the ‘incentives’ to use said company for financing. As he/she indicated, I too have only my experience to draw upon. That experience includes over 5 years of managing a builder-affiliated mortgage company. The cold, hard reality is that the price of the home (base price……excluding any options) has already been calculated to include the financing incentives (concessions if you will) for the buyer using the builder’s mortgage company. While each builder has their own method of offering this ‘lump sum’ (usually a percentage of the purchase price), e.g., paying for title policy, origination fee, $ to use for closing costs, etc. the practice has morphed over the years. These days, many builders offer the incentive (lump sum) towards upgrades (the granite counter tops referred to below), rather than as financing assistance. At the end of the day, it’s merely a basket of money that the buyer can use towards various options IF they utilize the builders mortgage company. And frankly, the buyer is actually hurting themselves by choosing to use those dollars towards ‘upgrades’ (those granite counter tops for example) because the upgrades have a profit margin to the builder already built in when the buyer selects said upgrade. Thus, the buyer is getting less ‘bang for the buck’ than if he/she opted to apply the dollars towards closing costs, origination fees, etc. Ask any builder friend of yours (not their mortgage company) what their margin is on ‘upgrades’ versus the margin on the base price of the house itself. I believe you’ll find I am spot on in this statement.
The writer continues…
Your friend at the builder-affiliated mortgage company – while eloquent – is simply not responding with reality and has chosen to obfuscate the question you posed to him/her. By responding that the concessions are ‘options’ for the homebuyer, rather than concessions, alters the reality. As to your original questioner that asked about the separate forms that a builder should offer (with & without concessions). Seriously? I believe there is a very simple answer for him/her which is, ‘Are you familiar with the initials NAHB? Have you ever heard a little thing called BUILD-PAC? If not, please Google and learn of same. Once you’re familiar with these entities, I think you will choose to withdraw your question of the separate forms disclosures – it is not going to happen in your – or my – lifetime.
And from another note from an independent originator:
My experience has been somewhat contradictory to the reply you received. Now yes, anyone can charge anything. I’m all for free markets, and I disagree with the QM 3% restriction, non-variable compensation, and the Merkley Amendment, as I believe they will develop a disparate impact on lower economic zones and rural areas. But if the theory is presentation is that the ‘affiliate’ saves the borrower money by having it all in-house, the affiliate should save the borrower money not increase the profit margin. Affiliates flourish because of a captive audience and the diminishment of competition.