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Loan Servicing Costs Expected to Rise as Foreclosure Expenses Mount

The analysts at ""Fitch Ratings"":http://www.fitchratings.com expect to see a sharp rise in the cost to service mortgage loans.

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In commentary posted on the agency's website, they describe the housing recovery in the U.S. as ""unhurried"" and as a result, they say lenders have been forced to shoulder higher foreclosure expenses.

Fitch says it believes increased foreclosure costs compounded by credit, compliance, regulatory, and other real-estate owned (OREO) expenses are beginning to have ""a profound effect on the mortgage banking industry.""

""We believe that some mortgage lenders are finding it is becoming uneconomical to remain in the business of making loans that are backed by residential real estate,"" Fitch said.

The agency explained that traditionally, fees from performing mortgages had been sufficient to cross-subsidize defaulting loans. With defaults at elevated levels for years now, however, that may no longer be the case.

Fitch points to recent sales of defaulted and nonperforming loans from ""Bank of America"":http://www.bankofamerica.com and ""Chase"":http://www.chase.com to smaller specialty servicers, which the agency says underscores the fact that the current fee structure may no longer work.

""Despite the ambiguity surrounding regulatory reform regarding mortgage practices, we believe the cost of servicing mortgage loans will increase substantially from historical levels,"" Fitch said. ""Additional compliance burden via newly created federal agency Consumer Financial Protection Bureau is also contributing to higher costs.""

Fitch estimates that the cost of servicing a performing mortgage could increase by as much as 25 percent to 50

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percent from pre-crisis levels. For nonperforming loans, the agency says servicing costs are likely to double, or more.

""We believe the spike in cost will place additional emphasis on economies of scale and are likely to drive consolidation in the industry,"" Fitch added.

The agency’s analysts say it’s also important to note that there’s been a meaningful decline in servicing release premiums. The dip has prompted lenders that historically sold servicing to seek out alternative buyers, or in some cases consider retaining the servicing associated with the new higher quality loans that they produce.

“We believe this is another indicator that the face of the mortgage banking industry is changing -- affected by an unsustainable increase in combined costs and the ongoing pressure of regulatory reform in a low interest rate environment,” Fitch said.

Officials say the strains of the housing downturn have exposed flaws in the way mortgage servicing fees are structured. With current market conditions, servicers must manage high levels of delinquencies and provide for the extra attention, time, and manpower it takes to service borrowers who have fallen behind on their payments.

The ""Federal Housing Finance Agency"":http://www.fhfa.gov (FHFA) began exploring alternative models for mortgage servicing compensation early last year that would accommodate the current market environment and improve service for distressed borrowers while reducing financial risk to servicers and investors.

The standard minimum servicing fee on Fannie Mae and Freddie Mac loans is 25 basis points, whether current or past due. FHFA initially suggested moving to a fee-for-service model for nonperforming loans and reducing or eliminating the minimum fee for performing loans.

The agency stressed that a lack of servicer incentive for bringing a nonperforming loan current again has adversely affected investors, guarantors, and the market as a whole, and necessitates a change in the way servicers are paid.

In recent weeks, FHFA has reportedly shelved its fee-for-service proposal after industry trade groups, servicing advisors and sellers, and even the servicers themselves voiced their opposition to any change to the current fee structure.

About Author: Carrie Bay

Carrie Bay is a freelance writer for DS News and its sister publication MReport. She served as online editor for DSNews.com from 2008 through 2011. Prior to joining DS News and the Five Star organization, she managed public relations, marketing, and media relations initiatives for several B2B companies in the financial services, technology, and telecommunications industries. She also wrote for retail and nonprofit organizations upon graduating from Texas A&M University with degrees in journalism and English.
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