Practices That may Result in Potential Violations of Section 8 of the Real Estate Settlement Procedures Act
In many industries, firms commonly pay commissions to third parties for business referrals. Congress sought to eliminate these types of payments for residential loans so that "the costs to the American home buying public will not be unreasonably or unnecessarily inflated." 1 As a result, payments related to settlement services for federally related mortgage loans must be reasonable compensation for the goods, services, or facilities actually provided.
Section 8 of the Real Estate Settlement Procedures Act (RESPA) generally prohibits:
The payment and receipt of a fee or thing of value in return for the referral of settlement service business for a federally related mortgage loan, and
Receipt or payment of any portion or splits of charges (including unearned fees) except for settlement services actually performed.
RESPA applies only to "federally related mortgage loans." 2 These are generally home loans to consumers that are also covered by the Truth in Lending Act. Mortgage loans made for business purposes are not covered by RESPA.
To know which practices can be violations of Section 8 of RESPA, the terms contained in RESPA and the Housing and Urban Development's (HUD) Regulation X, which implements RESPA, must be understood. Some important terms follow:
"Settlement service" is broadly defined in Regulation X. The term includes "any service provided in conjunction with a prospective or actual settlement."3 A comprehensive list of examples of settlement services is contained in Section 3500.2 of Regulation X.
"Thing of value," also broadly defined, includes all types of compensation such as monies, discounts, salaries, commissions, fees, and preferential bank rates. 4 HUD has described the opportunity to win a prize as a thing of value. For example, a bank cannot enter real estate agents in a pool to win a trip to Hawaii if a certain number of customers are referred to the bank for a mortgage loan. 5
"Referral" includes "any oral or written action directed to a person which has the effect of affirmatively influencing the selection by any person of a provider of a settlement service or part of a settlement service when such person will pay for such settlement service or business incident thereto or pay a charge attributable in whole or in part to such settlement service or business." 6 It also includes "any instance in which a person paying for a settlement service or business incident thereto is required to use a particular provider of settlement service or business incident thereto." 7
"Agreement or understanding" is not specifically defined in Regulation X. However, the regulation does state that "[a]n agreement or understanding for the referral of business incident to or part of a settlement service need not be written or verbalized but may be established by a practice, pattern, or course of conduct. When a thing of value is received repeatedly and is connected in any way with the volume or value of the business referred, the receipt of the thing of value is evidence that it is made pursuant to an agreement or understanding for the referral of business."8
Repeated conduct is not an essential element that is required to demonstrate a violation of Section 8. A violation may be established by showing either that a payment was made as compensation for referrals of past business or for the purpose of securing referrals in the future.
In an informal opinion, HUD noted that where there is proof of repeated payments connected in any way with the volume or value of business, an administrative presumption is created that the payments were made "pursuant to an agreement or understanding." 9
Situations in Which Lenders May Violate Section 8
Fee Splitting and Payments for Services Not Performed - Examiners have noted recent incidents in which the fee collected by a financial institution for a third-party service exceeded the amount the institution actually paid to that third party. For example, a financial institution charged customers $25 for a flood hazard determination, yet the flood hazard determination firm that provided the service was only paid $20. In another example, customers were charged $40 for a credit report, but the financial institution only paid $15 to the consumer-reporting agency for the consumer report. Examiners also discovered an incident in which an institution charged customers an appraisal evaluation fee. The fee was passed on to a committee comprised of several members of the institution's board of directors, which did not actually review the appraisals. HUD has opined that these arrangements constitute fee splitting or receipt of unearned fees and therefore violate Section 8(b) of RESPA. 10
Contracts with Third-Party Settlement Service Providers - Some financial institutions have contracted with third-party settlement service providers for such services as flood hazard determinations, and real estate tax and hazard insurance services. In exchange for performing these services for all loans originated by the institution during the term of the contract, some firms have agreed to perform the services for loans that were on the institution's books before entering into the contract for no additional fee or a substantially reduced fee. HUD has determined that these types of agreements are in violation of Section 8 because they provide a thing of value for the referral of future settlement services. 11
Referral Fees from Other Financial Institutions or Mortgage Companies - Some financial institutions that would like to offer a variety of residential loan products to some of their customers do not have the necessary expertise to offer them. As a result, the institutions sometimes make arrangements to refer their customers to other financial institutions or mortgage companies. Payments made pursuant to these referral arrangements must be for goods and services actually performed and reasonable in an amount comparable to transactions within the same market. HUD issued a policy statement on March 1, 1999, addressing a list of the services that should be performed by the referring party for originating RESPA-related loans in order to receive compensation. This policy statement was published in the FDIC's FIL-21-99, dated March 12, 1999.
Referral Fees From Mortgage Companies to Affiliated Banks' Employees - Some financial institutions refer residential mortgage loan customers to affiliated mortgage companies. An affiliated mortgage company is often a separate subsidiary of the financial institution's holding company or a subsidiary of another financial institution owned by the parent holding company. In order to encourage the financial institution's employees to refer customers to the affiliated mortgage company, some mortgage companies have offered to pay a small fee to the employee whenever the referral results in a loan origination. This practice is specifically prohibited by Section 3500.14(b), which states: "A company may not pay any other company or the employees of any other company for the referral of settlement service business."
Builder Loans - Residential homebuilders can often be a source of residential loan referrals for a financial institution. In many instances, the same lender who finances the builder's construction costs is also trying to originate loans to the builder's home purchasing customers. In such cases, the financial institution needs to be careful not to provide anything of value to the builder in exchange for the referral of these customers. For example, a financial institution cannot reduce lien release fees or other of the builder's borrowing costs in exchange for the referral of residential loan customers to the financial institution. 12
1 S. Rep. 93-866, at 6548. 2 Section 3500.5(a) of Regulation X. 3 Section 3500.2 of Regulation X. 4 Section 3500.14(d) of Regulation X. 5 HUD Informal Opinion April 14, 1987 (Mitchell). 6 Section 3500.14(f)(1) of Regulation X. 7 Section 3500.14(f)(2) of Regulation X. 8 Section 3500.14(e) of Regulation X. 9 HUD Informal Opinion November 9, 1979 (Sauerbrunn). 10 See Questions 23, 24 and 25 of Frequently Asked Questions on HUD's RESPA website at http://www.hud.gov/offices/hsg/sfh/res/resindus.cfm 11 See Question 15 of Frequently Asked Questions on HUD's RESPA website at http://www.hud.gov/offices/hsg/sfh/res/resindus.cfm 12 HUD Informal Opinion March 5, 1987 (Carter).