[Editor’s Note: The following post is authored by Arnold & Porter LLP]
I. BACKGROUND
On January 20, 2013, the Consumer Financial Protection Bureau (CFPB) issued its final rule (the Final Rule) regarding mortgage loan originator compensation and qualification requirements1 under the Truth in Lending Act (TILA), as amended by the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act). The Final Rule modifies existing compensation and qualification requirements under Regulation Z. It prohibits a creditor from compensating a loan originator based on a term of a transaction or a “proxy” for a term of a transaction. It also codifies the existing ban on “dual compensation,” in which a loan originator receives compensation from the consumer and an additional party other than the originator’s organization, but creates an exception allowing a loan originator organization to pay its employees or contractors a commission provided that the commission is not based on a term of a loan. The Final Rule provides a complete exemption from the statutory ban on the consumer payment of upfront points and fees. The Final Rule also includes requirements regarding loan originator qualifications, licensing, and recordkeeping, and implements statutory provisions regarding mandatory dispute resolution and the financing of credit insurance in connection with a residential mortgage loan.
The Final Rule is designed to protect consumers, who generally rely on the services of mortgage brokers or loan officers to secure a mortgage loan, from being “steered” to loans with unnecessarily high interest rates or other “unfavorable” terms. Individual loan originators are most commonly compensated by commission, which is correlated to the amount of the loan. Prior to 2010, and particularly during the rapid expansion of the mortgage market in the early-to-mid 2000s, commissions paid to loan originators varied considerably and were often higher in the case of high-interest loans. Accordingly, due to the presence of financial incentives, concerns were raised about the practice of steering consumers to loans with high interests rates and/or significant upfront fees and charges. The Final Rule is the latest in a series of actions taken by lawmakers and regulators to address this practice and further regulate the qualifications of loan originators and the services they provide to consumers.
II. STATUTORY FRAMEWORK AND PRIOR RULEMAKING ACTIVITY
The Dodd-Frank Act granted the CFPB jurisdiction over the “consumer financial protection functions” previously vested in other federal agencies, including the authority to issue regulations under TILA. Prior to the transfer of TILA jurisdiction to the CFPB, the Board of Governors of the Federal Reserve System (the Board) issued a number of regulations pertaining to loan originator compensation practices under its then-existing TILA authority. The CFPB’s Final Rule was necessary to implement a number of TILA amendments enacted through the Dodd-Frank Act and to provide additional official interpretations of these regulations. The Final Rule contains select modifications to the rule as originally proposed by the CFPB8 and provides additional analysis in response to comments submitted by the public.
The majority of the Final Rule becomes effective January 10, 2014. However, the rule’s prohibition on mandatory arbitration clauses and waivers of certain consumer rights became effective on June 1, 2013. The rule’s ban on the financing of single-premium credit insurance in connection with a consumer credit transaction secured by a dwelling was originally intended to also take effect on June 1, 2013, but recent CFPB amendments have delayed its effective date until January 10, 2014.
III. ANALYSIS OF THE FINAL RULE
A. Definitions and Scope
The Final Rule clarifies or redefines a number of important terms that serve to establish the Final Rule’s reach. Most notably, the Final Rule adopts a broad definition of “loan originator” in order to establish consistency with the definition of “mortgage originator” under TILA, as amended by the Dodd-Frank Act. The CFPB’s stated objective in aligning the meaning of these terms is to ensure consistent regulation of any person who, early in the loan origination process, may have financial incentives to steer consumers to loans with particular terms. Accordingly, the Final Rule defines a “loan originator” as a “person who takes an application, offers, arranges, assists a consumer in obtaining or applying to obtain, negotiates, or otherwise obtains or makes an extension of consumer credit for another person.” Therefore, under the Final Rule, “loan originators” include not only individual loan originators, loan originator organizations, mortgage brokers, and many creditors, but also those engaging in certain referral actions, certain seller financers, and those assisting with several aspects of a credit transaction. The definition of a “loan originator,” however, expressly excludes certain persons and functions, including those who perform purely administrative or clerical tasks or real estate brokerage activities.
The CFPB’s approach to establishing the scope of covered transactions mirrored its approach to determining covered persons and entities. Rather than exclude specific credit products from the rule, the CFPB adopted a broad definition of covered transactions, which includes any “closed-end consumer credit transaction secured by a consumer’s principal dwelling.” The Final Rule noted that no underlying statute provided for different treatment based on transaction type, and therefore the CFPB declined to do so in its rulemaking.
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