Vol. 8 No. 3 - Article I - Published: February 1996 - Foot Notes
Reps and Warranties
by Penelope Moreland-Gunn, Pete J. Elmer and Timothy J. Curry
Penelope Moreland-Gunn is national claims administrator at the Resolution Trust Corporation.
Peter J. Elmer and Timothy J. Curry are senior economist and financial economist, respectively, in
the Division of Research and Statistics, Federal Deposit Insurance Corporation. The authors
would like to thank Leslie Bowie, Cheryl Hatch, James Wagner and Jack Reidhill for their
extensive comments, suggestions and assistance.
For purposes of this discussion, securitization will be treated as a type of loan sale because
securitization causes the sale of loans to a trust that is not owned or operated by the RTC.
Table 2 contains the R&W claims for only a sample of sales because such an approach provides a
flavor for the variation in claims at the sale level while illustrating a number of common
relationships. Aggregate claims statistics are shown in Table 3.
The UPB of a loan is also referred to as the "par" value. Table 2b contains a comparison of
approved claims versus denied and other types of claims.
While Table 2b shows more repurchases in multi-family mortgages than in single-family
mortgages, many factors cause repurchases for both types of assets. For example, repurchases
may be required because a loan was prepaid shortly before sale, a loan was accidentally
substituted for another loan during servicing transfer, or the delinquency status was not correctly
transmitted to a buyer.
Claims not approved include those withdrawn, denied, or pending as of December 31, 1994.
In most loan sales the originating institution retains the right to service the loans in return for a
servicing fee, for example, 0.25 percent of the monthly cash flows collected. %-2 Servicers
normally give R&Ws on the entire UPB %0 of loans sold and later serviced. If the servicing
rights are sold to a new servicer, the R&W liabilities typically travel to the new servicer. Firms
that buy servicing may limit their risk by requiring backup R&Ws from the sellers.
A thumbnail estimate of costs for single-family mortgages may be made from the cure cost shown
in column 2 of Table 2b. Given an average cure cost of $2,000 per claim, and an average UPB of
$60,000 for the three sales shown (see Sketchbook of RTC Securities, December 1994), the
average cure cost for the three sales shown is three percent of the UPB, which is only one-fifth of
the 15 percent upper bound cost assumption. The 25 percent multi/commercial/other
securitization upper bound is justified by the notion that related claims costs in column 3 of Table
3 (20 basis points) are about 67 percent higher than the single-family securitization costs (12 basis
points). Increasing the 15 percent upper bound used for single-family securitizations by 67 percent
approximately yields 25 percent as an estimate of the upper bound of multi/commercial/other
securitization repurchase costs.
R&W costs are more likely to occur in the first several years following a sale than in later years.
Because the majority of the RTC's sales occurred prior to 1994, the R&W claims began declining
in late 1994. Therefore, a doubling of the claims costs as of December 31, 1994, provides an ad
hoc, but nevertheless reasonable, estimate of total claims costs anticipated over the life of the
The 200-to-300 basis point estimate of the benefits of granting R&Ws for single-family mortgages
does not apply to servicing rights. In fact, the total sales price for mortgage servicing rights is
typically on the order of 100 to 200 basis points of the UPB serviced.