Time for Lenders to Adopt a Reasonableness Standard

Some regulatory actions and decisions taken by the federal government last year indicate that lenders will have to adopt industry standards if they want to comply with the guidelines and avoid hefty fines.

Recently an appeals court found that the origination process followed by countrywide was flawed. The jury went to the extent of saying that it amounted to fraud. The verdict landed Bank of America in trouble. The lender bought Countrywide in July 2008 just as the country was falling into a financial recession. Now Bank of America is being held liable for fraud over the deceptive mortgages sold by its countrywide unit during the housing boom. In fact, the US Department of Justice has already started pursuing claims against Bank of America and some of its top executives for the rapid mortgage approval process followed by the bank.

Bank of America has already resolved a large number of outstanding litigations with investors and the now the lender is focusing on settling the issues it has with enforcement agencies like the US Department of Justice.

What this means for lenders?

In recent times, mortgage regulators have taken action against lenders experiencing fast growth with the objective of ensuring that they have adequate infrastructure to support the growth. In particular, the regulators are interested in finding out whether the existing infrastructure is good enough to handle the volume of business the lender does. This is usually done by comparing one lender to another lender of similar business volume and size.

These actions seem to suggest that the regulators are trying to develop a generalized standard as against specific standards that need to be met.

Until now, lenders only had to fulfill specific requirements. This allowed them to compare their specific actions to certain specific standards and determine whether they were fair or not.

But now we are seeing the creation of a generalized 'reasonableness' standard that requires lenders to evaluate their performance on the basis of the procedures and processes adopted by their competition. This creates extra pressure on lenders to build adequate compliance infrastructures because just meeting the minimum statutory requirements will probably not be enough in the future.

In addition, when more and more lenders implement such practices to protect their customers and avoid defaults, it will put extra pressure on companies that lag behind their competition.

What this means is that lenders can no longer afford to be content with meeting the minimum regulatory requirements. Instead, they have to measure their performance against their competition and ensure that their compliance performance is satisfactory. They also need to review their conduct and business practices from a generalized 'reasonableness' perspective.

In other words, a lender's compliance will always be viewed in retrospective. This means that the lender should be able to predict and review possible outcomes and conclude that their practices are reasonable and that they are not engaging in fraudulent activities. This will not be possible if lenders do not keep themselves abreast of the happenings in their industry. They need to watch the developments in the marketplace and ensure that their actions are justifiable and mainstream.

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