[Federal Register Volume 61, Number 111 (Friday, June 7, 1996)]
[Rules and Regulations]
[Pages 29238-29255]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-14329]
[[Page 29237]]
_______________________________________________________________________
Part IV
Department of Housing and Urban Development
_______________________________________________________________________
24 CFR Part 3500
Real Estate Settlement Procedures Act; Statements of Policy, Withdrawal
of Employer-Employee and Computer Loan Origination Systems Exemptions;
Final Rules
Federal Register / Vol. 61, No. 111 / Friday, June 7, 1996 / Rules
and Regulations
[[Page 29238]]
DEPARTMENT OF HOUSING AND URBAN DEVELOPMENT
24 CFR Part 3500
[Docket No. FR-3638-F-06]
RIN 2502-AG26
Office of the Assistant Secretary for Housing--Federal Housing
Commissioner; Amendments to Regulation X, the Real Estate Settlement
Procedures Act: Withdrawal of Employer-Employee and Computer Loan
Origination Systems (CLOs) Exemptions
AGENCY: Office of the Assistant Secretary for Housing-Federal Housing
Commissioner, HUD.
ACTION: Final rule.
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SUMMARY: In this final rule, the Department of Housing and Urban
Development is revising Regulation X, which implements the Real Estate
Settlement Procedures Act of 1974 (RESPA). This rule completes a
process that started with a public hearing and comment period on August
6, 1993, followed by a proposed rule published on July 21, 1994.
In the interest of protecting consumers from practices prohibited
by RESPA, while making available to consumers the potential benefits of
innovative business arrangements, this rule withdraws an exemption for
employer-employee payments, introduces two more-limited exemptions for
payments that would otherwise be prohibited by the statute--employer
payments to managerial employees and employees who do not perform
settlement services in any transaction. In addition, to relieve any
uncertainty, the rule adds an additional exemption to clarify that
payments made to an employer's own bona fide employee for generating
business for that employer are permissible. The rule also revises
certain controlled business disclosure requirements. HUD has chosen to
use its exemption authority under Section 8(c)(5) of RESPA, having
consulted with other Federal agencies as required by that provision, as
well as the authority under Section 19(a) of RESPA, to permit these
payments.
The rule also withdraws an exemption for payments made by borrowers
for computer loan origination (CLO) services, because the exemption was
found to be of little benefit to consumers or the loan origination
industry. However, in order to assure that consumers in the mortgage
lending marketplace continue to benefit from technological innovation,
simultaneously with the publication of this rule, the Department is
issuing a Statement of Policy analyzing payments for CLOs under the
RESPA regulations. In addition, the Department is simultaneously
publishing two other Statements of Policy on issues raised by comments
on the proposed rule, although not directly related to the proposed
rule, and which involve interpretation rather than new rulemaking.
EFFECTIVE DATE: This rule is effective on October 7, 1996.
FOR FURTHER INFORMATION CONTACT: David Williamson, Director, Office of
Consumer and Regulatory Affairs, Room 5241, telephone (202) 708-4560;
or, for legal questions, Kenneth Markison, Assistant General Counsel
for GSE/RESPA, or Grant E. Mitchell, Senior Attorney for RESPA, Room
9262, telephone (202) 708-1550. (The telephone numbers are not toll-
free.) For hearing- and speech-impaired persons, this number may be
accessed via TTY (text telephone) by calling the Federal Information
Relay Service at 1-800-877-8339. The address for the above-listed
persons is: Department of Housing and Urban Development, 451 Seventh
Street, SW, Washington, DC 20410.
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act Statement
The information collection requirements regarding controlled
business disclosures (Appendix D of this rule) have been approved by
the Office of Management and Budget, under the Paperwork Reduction Act
of 1995 (44 U.S.C. 3501-3520), and assigned OMB control number 2502-
0265. An agency may not conduct or sponsor, and a person is not
required to respond to, a collection of information unless the
collection displays a valid control number.
The Department has eliminated the CLO disclosure statement which
previously was contained in Appendix E to the RESPA rule. Based on
prior cost estimates, the Department estimates the annual savings to
business from eliminating this paperwork requirement to be $3,247,100.
I. Events Leading to Today's Final Rule
A. History of CBAs and CLOs
1. Controlled Business Arrangements
In 1983, Congress enacted the ``controlled business arrangement''
amendment to RESPA. This amendment, codified under section 461 of the
Housing and Urban-Rural Recovery Act of 1983 (HURRA) (Pub. L. 98-181,
97 Stat. 1230) established that controlled business arrangements do not
violate RESPA, provided that:
(a.) The relationship between the person performing settlement
services and the person making the referral is disclosed, along with
the estimated charges of the provider;
(b.) Consumers are not required to use an affiliated settlement
service provider, except under certain specified exemptions under
Section 8 of RESPA; and
(c.) Nothing of value is received by the referring party, beyond a
return on ownership interest or franchise relationship or payments
otherwise permissible under Section 8(c) of RESPA.
Following the enactment of these amendments, HUD issued several
informal legal opinions concerning the extent to which employers could
pay referral fees to employees. The opinions stated that bona fide
full-time employees could be compensated for generating business for
their own employers, as this would be within the scope of their
employment. These opinions also made clear that uncompensated referrals
to affiliated companies were not prohibited. HUD did not, however,
broadly approve compensation to employees for referrals to affiliated
companies.
2. Computer Loan Origination Systems (CLOs)
During the 1980's, a number of private companies and trade
organizations began to develop systems where some or most of the usual
mortgage origination services could be performed by computers. These
computer services frequently linked real estate brokerage offices to
lenders or other settlement service providers. Concerns were raised to
HUD regarding the interplay of these systems with Section 8 of RESPA,
particularly whether the existence of such systems could result in
illegal steering or compensation for referrals of business, or whether
the use of the systems would allow the operators to impose charges for
activities which represented little or no actual services. Several
developers of such systems and potential competitors asked HUD for its
views on payments made in connection with these systems under RESPA.
In the mid-1980's, HUD issued several informal interpretations
generally concluding that payments for CLO systems did not violate
Section 8 of RESPA. The opinions stated that, so long as payments by
the lenders (or real estate brokerage offices) went to cover
``operational fixed costs'' of the CLO services, no referral fees
existed. Moreover, the opinions stated that
[[Page 29239]]
borrower payments to CLOs were analogous to arrangements whereby
borrowers voluntarily pay mortgage brokers for locating lenders.
Accordingly, the Department concluded that such payments were not
pursuant to a prohibited ``agreement or understanding'' under Section
8(a) of RESPA and thus, were not proscribed by Section 8(a) of RESPA.
On two subsequent occasions, the Department revisited RESPA's role
in payments for CLO services through informal opinions. Both cases
involved payments to CLO operators from either lenders or real estate
brokers. In these two opinions, the Department concluded that such fees
did not violate Section 8(b) of RESPA so long as the fees were
reasonably related to services actually rendered. Controversy continued
to surround the use of CLO systems, with many mortgage bankers
opposing, and realtors supporting, HUD's position. All opinions were
withdrawn pursuant to a final rule published on November 2, 1992 (57 FR
49600) under RESPA (hereinafter ``final rule'' or ``1992 final rule'').
In May 16, 1988, HUD opened up this matter for review and
discussion without specifically mentioning CLOS, by proposing a rule
(53 FR 17428, 17438) that would have added an exception under
Sec. 3500.14, to allow the following:
Voluntary payment by a borrower to a person who has acted as a
mortgage broker or has otherwise assisted in bringing the lender and
borrower together, provided that such voluntary payment is disclosed
on both the good faith estimate of settlement costs and the HUD-1
settlement statement and is not a condition of the loan or other
settlement service.
The 1992 final rule did not adopt the so-called ``mortgage broker
exception'', but did adopt a CLO exemption.
B. The 1992 Rule
On November 2, 1992, HUD published the 1992 final rule, which
became effective on December 2, 1992. The 1992 final rule contained
provisions implementing congressional amendments to RESPA regarding
controlled businesses and created an exemption for payments by
borrowers to computer loan origination systems. The final rule also
updated the original RESPA regulations, which had not been amended
since 1976.
1. Employer-Employee Exemption
The 1992 final rule went beyond HUD's previous positions, as
articulated through informal legal opinions that were withdrawn by the
1992 final rule, and created an exemption for payments by an employer
to its own employees for any referrals of settlement service business.
Employees were thus allowed to receive compensation from their
employers for generating business for their own employer or for any
other business entity (including affiliates). The final rule contained
a stricture, in Sec. 3500.14(b), that the business entity receiving the
referrals of settlement business could not directly or indirectly
compensate anyone for such business. The rule did not limit this
exemption to controlled business arrangements. The exemption, however,
had little utility for entities outside an affiliate business setting,
since it was unlikely that an employer would pay its own employees for
making referrals to unaffiliated individuals or companies. As noted,
while the rule permitted an employer to compensate its own employees
for referrals, it also indicated that if the business entity receiving
the referral reimbursed the employer of the employees making the
referrals, Section 8 of RESPA would be violated.\1\
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\1\ The 1992 final rule was a marked departure from HUD
interpretations in recent years. After the issuance of the May 1988
proposed rule, which led to the 1992 final rule, HUD's position,
expressed in a number of General Counsel's opinions, was that an
employer could not compensate its employee for referrals to other
business entities (including affiliates). These opinions only
indicated that an employer could compensate its employees for
generating business for that employer (not to affiliates).
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Following the 1992 final rule's issuance, two lawsuits were filed
objecting to provisions of the revised regulations as inconsistent with
the statute and claiming failure by the Department to comply with the
Administrative Procedure Act in the rule's promulgation.\2\ In
addition, upon assuming office, HUD officials in the new Administration
were inundated with comments about the final rule.
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\2\ Plaintiffs in Mortgage Bankers Association of America v.
United States of America, No. 92-2699 (D.D.C.), and Coalition to
Retain Independent Services in Settlements (CRISIS) v. Cisneros, No.
92-2700 (D.D.C.), filed separate actions seeking a declaration that
the ``employee exception'' provision was invalid and injunctive
relief enjoining implementation of this provision. The MBA suit also
alleged that the CLO provision was invalid. These suits were
dismissed without prejudice, that is, subject to reinstatement. A
hearing regarding the Department's progress in issuing revised
regulations is scheduled for October 1996.
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The Department received allegations that the final rule created
uncertainty about whether referral fees were in fact prohibited by
RESPA. Some entities critical of the 1992 final rule characterized the
provision permitting employers' payments to their own employees for
referrals as broadly sanctioning referral payments. The trade and
business press frequently restated this position without examination.
Also, some commenters claimed that the creation of an employer-employee
exemption from the prohibition on referral fees prompted some persons
to set up sham employer-employee relationships to shield prohibited
referral fees, and it prompted others to ``extort'' referral fees from
other settlement service providers on the premise that HUD now allowed
such compensation. While the final rule was not intended to permit sham
arrangements, neither did it clarify the extent of the employer-
employee exemption. Commenters argued that the final rule failed to
establish a bright line, comprehensible to industry participants,
between permissible and impermissible activities.
2. CLO Exemption
The 1992 final rule also introduced a CLO exemption, which provided
that borrower payments to CLO systems were exempt from Section 8 so
long as a specified disclosure was made. The 1992 final rule did not
adopt the mortgage broker exception proposed in the May 1988 proposed
rule. The Department reasoned that well-informed choices by consumers
did not require special protection under RESPA. Moreover, this
exemption was intended to prevent RESPA's restrictions against unearned
fees from unduly inhibiting the development of technology which could
permit consumers to shop, apply for and/or obtain mortgage loans
electronically. CLO systems were not specifically defined in the 1992
rule.
C. A Public Dialogue
Given the controversy over the 1992 final rule, the Secretary
determined that a review of the previous policy--primarily concerning
the exemptions for employer payments to employees and borrower payments
to CLOs--was needed. The review would particularly focus on the final
rule's impact on consumers. The Secretary articulated three principles
to guide that review:
1. HUD's responsibility is to protect the consumer--not to mediate
among industry interests.
2. HUD should regulate multimillion dollar industries responsibly--
principally by acting quickly to end uncertainty.
3. Technological and business arrangement innovations have the
potential to provide significant consumer benefits, and HUD does not
serve consumers well if its regulations unduly stifle such
advancements.
On July 6, 1993, in an effort to ensure that the views of all
interested parties
[[Page 29240]]
were heard, the Department published a ``notice of written comment
period and informal public hearing'' (58 FR 38176), inviting testimony
and written comments on the following four provisions of the final
rule:
Issue 1--The ``employer-employee'' exemption. Section
3500.14(g)(2)(ii) of the 1992 final rule, which provided that Section 8
of RESPA does not prohibit ``an employer's payment to its own employees
for any referral activities * * *.''
Issue 2--The ``computer loan origination'' (CLO)
exemption. Section 3500.14(g)(2)(iii) of the 1992 final rule, which
provided that Section 8 of RESPA does not prohibit ``any payment by a
borrower for computer loan origination services, as long as the
disclosure set forth in appendix E is provided the borrower.''
Issue 3--Preemption policy. Section 3500.13(b)(2) of the
1992 final rule, which provided that ``in determining whether
provisions of State law or regulations concerning controlled business
arrangements are inconsistent with RESPA * * * the Secretary may not
construe those provisions that impose more stringent limitations on
controlled business arrangements as inconsistent with RESPA, as long as
they give more protection to consumers and/or competition.'' \3\
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\3\ As discussed, infra, HUD announced in a July 21, 1994,
proposed rule that it would not propose new rules on this issue and
would consider preemption questions on a case-by-case basis. Since
HUD has not changed its position on this issue, this final rule does
not address the issue further.
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Issue 4--Controlled business disclosure policy. Section
3500.15(b)(1) of the 1992 final rule, which provided for a written
disclosure in controlled business situations regarding the ownership
and financial relationships between referring and referred-to parties,
and for certain timing and other methods for disclosure.
On August 6, 1993, HUD conducted a public hearing, which produced
testimony and documents from 36 interested parties. The request for
written comment generated 1,526 public comments on these four issues.
D. The 1994 Proposed Rule
Following a detailed examination of the testimony and comments, HUD
published a proposed rule (59 FR 37360, July 21, 1994) \4\ containing
substantial revisions to the RESPA regulation. The proposed rule
discussed the views expressed in response to the pre-rule solicitation
of public comment and took positions on each of the earlier-presented
four major issues, inviting further public comment in light of the
additional revisions to the RESPA regulation that HUD was proposing.
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\4\ A more comprehensive discussion of the issues presented, the
Secretary's initial position on further amendment of the RESPA
regulations, and a summary of the hearing testimony and the comments
received are contained in the preamble of the proposed rule.
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The proposed rule reflected the Secretary's conclusion that the
1992 final rule's employer-employee exemption was too broad. In the
proposed rule, HUD proposed to withdraw this exemption because it
compromised the statute's purpose of protecting the consumer from being
referred to settlement service providers because of financial gain to
the referrer, rather than because of the quality and price of the
services. The proposed rule would have removed an exemption that
permitted an employer to pay employees referral fees for referrals to
an affiliate business entity.\5\ The proposed rule rejected the view
that all employer payments to its employees for referrals to third-
party settlement service providers should be exempt. When HUD viewed
the payments from the perspective of the consumer, it was clear that
payments by the employer to an employee, who performs settlement
services, for third-party referrals were indistinguishable from
payments directly from the third-party settlement service provider.
While HUD has the authority to exempt all employer payments for third-
party referrals under its Sections 8(c)(5) \6\ or 19(a) authority, the
Secretary concluded in the proposed rule, as a policy matter, that such
a broad exemption was inconsistent with the purposes of RESPA. In this
final rule, the Secretary is exercising this authority under Sections
8(c)(5) and 19(a) to exempt employer payments to their employees in
those circumstances where adequate consumer protection exists.
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\5\ This proposal was consistent with congressional admonitions.
See H.R. Rep. No. 123, 98th Cong., 1st Sess. 76 (1983) (controlled
business provisions are not intended to change current prohibitions
against unearned fees, kickbacks, or other things of value in return
for referrals of settlement service business).
\6\ In accordance with section 8(c)(5) of RESPA, HUD consulted
with the other agencies listed before exercising its authority under
section 8(c)(5).
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In adopting the proposed rule, the Department also recognized that
Congress had clearly established that controlled business arrangements
were permissible under certain conditions. In the interest of avoiding
undue interference with the internal operations of controlled
businesses, expressly permitted under the 1983 amendments to RESPA, the
proposed rule would not have prohibited the payment of bonuses and
compensation to managerial employees in controlled businesses for such
purposes as the generation of business among affiliates provided,
however, that:
1. No employee or agent could receive compensation from his or her
employer or any other source when the compensation is tied on a one-to-
one basis to, or is calculated as a multiple of the number or value of,
referrals of business to an affiliate business entity; and
2. The compensation of agents or employees who routinely are in
direct contact with the public could not be based, in whole or in part,
on the value or number of referrals made to affiliated entities.
These clarifications were designed to minimize any incentive that a
person in a position to make or influence a referral might have to make
a referral based on his or her own, or his or her employer's, financial
interests, without requiring HUD to interfere unduly with the internal
operations of controlled business arrangements.
As it relates to the regulation of payments to CLO systems, the
proposed rule reflected a determination that it was desirable to amend
the final rule to establish minimum standards for qualified systems,
payments to which would be exempt from Section 8. Under
Sec. 3500.14(g)(3) of the proposed rule, ``qualified'' systems would
have had to meet a number of specific regulatory requirements.\7\ The
proposed rule also asked for advice as to whether to create a similar
exemption for payments by lenders to operators of ``qualified'' CLOs.
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\7\ These requirements are described in Part II, Section C, of
this preamble.
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To assist in the promulgation of a final rule, the Secretary
requested comments and invited information on the effect of all of the
above proposals on the settlement services industry and consumers. As
an additional vehicle for obtaining public input, on September 30,
1994, as part of the rulemaking process, the Department conducted an
open house for operators of CLO systems to demonstrate their systems to
HUD and to the public.8
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\8\ Twenty-one CLO operators accepted the Department's
invitation and demonstrated their systems to officials of the
Department and to the public during an all-day session on September
30, 1994.
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Later in the rulemaking process, in August and September 1995, the
Department convened two working group meetings of interested industry,
government, and public officials, to obtain their individual input and
to
[[Page 29241]]
further explore the development and use of CLOs.
E. Today's Final Rule
Today's final rule addresses the comments received in response to
the proposed rule and considering the comments, promulgates rules
relating to Issues 1 (the employer-employee exemption), Issue 2
(payments to CLOs), and Issue 4 (controlled business disclosure
format). With respect to Issue 1, the rule withdraws the employer-
employee exemption and introduces three more-limited exemptions
designed to recognize the variety of business organizations without
doing damage to RESPA's core objective of consumer protection. On Issue
2, the rule withdraws the CLO exemption and issues a related Statement
of Policy that illustrates how CLO payments and activities are analyzed
under the existing and new RESPA regulations. As discussed, supra,
respecting Issue 3, the proposed rule did not propose any changes to
the preemption provisions, for the reasons explained in the proposed
rule, and, therefore, requested no comments. On Issue 4, the rule
revises the Controlled Business Arrangement Disclosure Statement.
In reading this preamble, the reader should be aware that HUD's
RESPA rule was recently streamlined through a separate rulemaking (61
FR 13232, March 26, 1996). This streamlining caused several provisions
of the RESPA rule to be renumbered. Except as is otherwise indicated in
the context of the preamble, this rulemaking refers to provisions by
their current section number, incorporating all revisions to date as a
result of the streamlining and today's rulemaking.
II. Analysis of Issues in Final Rule
A. Overview of the Public Comments
The Department received 354 \9\ comments on the July 21, 1994,
proposed rule. Of these, 100 were from attorneys, most of whom stated
that they were, or previously had been, actively engaged as settlement
lawyers. Only 2 comments from attorneys were identified by the writers
as written on behalf of clients; the remaining 98 appeared to be
individually originated comments by the attorneys or law firms on their
own behalf.\10\ An additional 73 comments came from bank holding
companies, banks, or other mortgage lenders; comments were received
from 46 real estate brokers; 34 comments were from mortgage brokers; 19
were identifiable as multi-service real estate service organizations;
\11\ 14 comments were from title company executives, 9 comments came
from credit unions; 8 from CLO service providers; and 6 commenters
identified themselves as consultants. One comment was received from a
journalist, one from a mortgage insurance firm, one from a credit
reporting service, and one from a student, and three comments were
received from persons whose professional interest in the rule could not
be determined.
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\9\ Three-hundred fifty-seven comments were received, but three
were found to be duplicate copies of other comments.
\10\ Not included as ``attorney comments'' were comment letters
written by house counsel for banks, lenders, or other organizations
communicating, through counsel, on their own behalf.
\11\ It was not always clear from a commenter's remarks, or from
the commenter's business letterhead, whether the commenter spoke for
a multiple-service entity. Accordingly, some commenters classified
here as lenders, mortgage brokers, real estate brokers, or other
categories may also, in fact, be multiple-service business entities.
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Twenty-two State, local, or regional organizations representing
portions of the real estate brokerage, lending, and settlement
industries provided comments, as did 16 organizations classified as
national advocacy organizations.
Attitudes toward the proposed rule varied greatly, not only
according to the professional background of the commenters, but also
according to whether a commenter was engaged in a controlled business
arrangement. For this reason, lenders and other settlement service
providers expressed a wide variety of views concerning the rule. The
majority (but by no means all) of the comments received from real
estate brokers and agents favored the existing regulatory structure
(the 1992 final rule) and sought to discourage changes in the rule
which, they argued, would impede their ability to provide benefits to
consumers.
Issue 1 (the employer-employee exemption) attracted the greatest
attention among commenters. Virtually all commenters, on both sides of
the issue, were at least moderately dissatisfied with the proposed
rule's revisions. Commenters who opposed any authorization of referral
payments frequently thanked the Department for the effort made in the
proposed rule to limit the practice, but virtually all of these
commenters were displeased that the Department was proposing to exclude
from RESPA coverage certain compensation to managerial employees in
controlled businesses.
On the other hand, commenters who wanted referral payments to
employees to continue to be allowable expressed strong opposition to
the proposed rule's limitation on such payments. Additionally, many of
these commenters asked for clarifications concerning the scope of the
``managerial'' exemption.
Issue 2 (the CLO exemption) was the second-most-frequently
addressed subject. A significant minority of the commenters who
addressed the issue credited the Department with a good effort at
better defining ``CLO services'' in the proposed rule, and there was
some positive support for the HUD definition. However, most commenters
who addressed the CLO question found fault with HUD's proposed
disposition of the issue, with the proposed CLO definition, or both. A
wide variety of suggestions for further refinement of the definition
was provided.
Issue 3 (the preemption issue) drew a few comments, even though the
Department had not requested any comments on it and had determined in
the July 21, 1994 proposed rule not to propose new rules on this issue.
The Department stated in the proposed rule that ``setting out
comprehensive and informative preemption standards present[ed] an
almost insurmountable task, in the absence of a wide array of specific
fact situations that are raising preemption issues.'' The Department
determined to consider preemption questions on a case-by-case basis.
Accordingly, the final rule does not address this issue.
Issue 4 (the controlled business arrangement disclosure statement)
attracted a significant amount of comment. In general, commenters on
both sides of the other issues were undisturbed by what they perceived
as the somewhat minor changes in the controlled business disclosure
statement that HUD proposed to adopt. There were, however, a number of
technical suggestions, and significant criticism of what was regarded
as the unduly negative tone of language proposed to be employed in the
Appendix D format to suggest that consumers shop for services.
Additionally, commenters continued to identify unresolved questions
about the disclosure form and to suggest modifications of both its
language and its applicability.
What follows is a more comprehensive discussion of the views
expressed by the commenters on Issues 1, 2, and 4, together with the
Department's rule-making decisions.
B. Issue 1: Withdrawal of Employer-Employee Exemption
1. In General
In the proposed rule, the Department proposed the withdrawal of the
existing regulatory exemption that permits
[[Page 29242]]
employers to pay referral fees to their own employees for referring
settlement service business to business entities, including those
within an affiliate relationship. This exemption applied whether or not
employers were in an affiliate or ``controlled business'' relationship,
but practically only benefited affiliate arrangements, as an employer
was unlikely to compensate its employees for referrals to unaffiliated
providers. The proposal included a limited exemption for payment of
bonuses for managerial employees who did not deal with the public,
provided such bonuses were not correlated on a one-to-one basis or
calculated as a multiple of the number or value of any referral of
settlement service business by the employee or the employee's
organizational unit to an entity affiliated with the employer or
principal.
2. The Public Comments
Virtually all of the comments from attorneys approved of the
proposal to eliminate the employer-employee exemption. (About 30
percent of all the comments received on the proposed rule were from law
firms providing settlement services, and the overwhelming majority of
attorney comments were focused upon the employer-employee exemption.)
The combined comments of the Attorneys General of 11 States commended
the Department for focusing the rule's impact on consumers and for
articulating, as the first of HUD's guiding principles, the protection
of the consumer, rather than the mediation of industry interests. They
called the proposed rule a ``vast improvement'' over the November 2,
1992, rule.
Some major industry organizations expressed support for the
withdrawal of the exemption. For example, the Mortgage Bankers
Association expressed its ``substantially favorable reaction'' to the
changes HUD was proposing. MBA called employer-paid referral fees
``fundamentally inconsistent with the purposes of RESPA,'' and approved
the proposed rule's elimination of the exemption for fees paid to
employees with direct contact with consumers.
The basic premise of these commenters, who wanted a total
withdrawal of the employer-employee exemption, was that Section 8(a) of
RESPA should be construed to prohibit all ``compensated referrals,''
and any standard less than this bright line test opened up this civil
and criminal statute to unnecessary ambiguity and uncertainty. These
commenters generally maintained that no exceptions or exemptions should
be made.
In contrast, comments favoring the retention of the employer-
employee exemption argued that the 1992 formulation of the regulations
had not yet had time to work and be measured, much less to be found
insufficient. One diversified real estate, finance, management, and
insurance company from Illinois argued that ``controlled business
arrangements'' was an unfortunate misnomer that left the impression
that great control was being exercised over consumers. The commenter's
own company, it was claimed, had a ``capture rate'' of only around 14
percent of its real estate customers choosing to use its mortgage
services:
This means that at least 86 percent of those customers still
seek a different mortgage provider. This hardly represents a
coercive customer problem that's needing more regulation * * *. The
real danger in attempting to further regulate companies such as ours
[is that it] will result in reduced customer choice which we clearly
provide, and retarding competition * * *
An Illinois local office of a nationwide finance organization
argued strenuously that the elimination of employer-employee referral
fees would change little.
* * * [I]n the absence of any referral compensation, employees
will not discontinue referring consumers to affiliate settlement
service providers. This is because, when dealing with the consumer,
the employee is an agent of the employer and, as such, acts in
accordance with [his] employer's direction. * * * [A]rguments that
not paying a referral fee to an employee will result in an employee
acting independently of the employer's interests [are] simply not
based on reality.
The Real Estate Services Providers Council (RESPRO), an advocate of
the 1992 final RESPA rule, stated its continuing support of a
regulatory environment that would permit unfettered ``one-stop
shopping'' for real estate services. RESPRO favored both management
compensation and front-line employee compensation based upon profits or
on the amount of referred business the manager/employee was responsible
for producing. HUD's proposed rule suggesting the withdrawal of the
exemption in the 1992 final rule has, RESPRO commented, stifled
companies from developing one-stop shopping programs in the most cost-
efficient manner. The new proposed rule ``would significantly decrease
cost efficiencies within diversified companies by preventing them from
utilizing their own management to carry out the company's one-stop
shopping goals.''
HUD's apparent objective in regulating referrals, RESPRO argued,
was to eliminate the possibility of adverse steering. However, HUD's
principal concern appears to be focused on perceived abuses in the real
estate sales industry, and the examples of abuses cited by HUD (and by
commenters responding to the earlier request for comments) involved
real estate brokers and salespersons. RESPRO argued that the 1994
proposed rule's prohibition on employer-employee referral payments goes
far beyond any rule necessary to reduce adverse steering, and that the
rule deprives diversified companies of the efficiencies they need to
lower costs to consumers and would place diversified companies at a
competitive disadvantage, relative to independent competitor companies.
Comments from the National Association of Federal Credit Unions
(NAFCU) also opposed the elimination of the RESPA exemption for
employer-employee referral fees.
Another commenter who opposed the elimination of the exemption and
stated its support for the 1992 RESPA regulation was the National
Association of Neighborhoods (NAN). NAN's comments expressed concern
that the proposed rule's changes would reduce competition and consumer
choice by limiting the ability of one class of providers--diversified
companies--to offer homebuyers services on a cost-efficient basis. NAN
also expressed concern about the effect of the revisions on the
Community Reinvestment Act, noting the Federal Reserve Board's earlier
comments that restrictions on employee referral-based compensation
might be ``detrimental to future innovations and developments in
community lending.''
A mortgage finance consultant from Virginia cited recent
legislative proposals in Pennsylvania that would restrict the
percentage of business referrals permitted in a realtor-mortgage banker
controlled business arrangement. The commenter noted that Congress had
rejected similar proposals in the 1983 amendments to RESPA:
In my experience, all of the attempts to limit CBAs have been
motivated by industry, not to protect consumers or to provide lower
fees or better service, but to keep another industry from entering
the business. I would urge HUD to ensure that congressional intent
is followed by allowing CBAs to exist in the states unfettered by
the kinds of restrictions that were rejected in the 1983 CBA
amendments to RESPA.
Many supporters of controlled business arrangements reiterated
their earlier contentions that ``one-stop
[[Page 29243]]
shopping'' leads to greater efficiency in the settlement process and to
cost-savings for borrowers. Several of these commenters objected
strongly to the proposed withdrawal of the employer-employee exemption,
and urged that the Department reconsider and retain the existing
employer-employee exemption.
The National Association of Realtors (NAR) supported HUD's
clarification of the meaning of the November 2, 1992 rule, as set forth
in the preamble of the July 21, 1994 proposed rule, which indicated
that real estate agents were normally ``independent contractors'' and
therefore not employees within the meaning of the rule. Such agents,
therefore, could not receive referral-based compensation. NAR counsel,
however, requested clarification that an employer may legitimately
compensate its own employees ``for the generation of its own
business.'' Another commenter (Commercial Credit Corporation) wanted a
clarification in the final rule that RESPA did not apply to the
compensation arrangements for the generation of settlement service
business by either an employee or an agent of a settlement service
provider, in a particular multi-layered business structure, who
originated settlement services business exclusively for that settlement
service provider.12
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\12\ The commenter described a circumstance in which a mortgage
broker entered into an exclusive agency agreement with a lender to
deliver mortgage loan applications to the lender. The mortgage
broker used its exclusive agents (who were not otherwise engaged in
performing settlement services) to generate these loans. The
commenter represented that the consumer was at all times aware of
the exclusive relationship between the agent and the mortgage broker
and lender principals.
Payments by a mortgage lender to its exclusive agents reasonably
related to services actually performed, in the circumstances
described, fall under the exemption in Section 8(c)(1)(C) and 24 CFR
3500.14(g)(1)(iii). Thus, HUD concluded that the requested
clarification to address the issue raised by the commenter was not
necessary.
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3. The Final Rule's Approach--Overview
After a complete review of all comments and points of view, the
Department withdraws the broad employer-employee exemption. HUD has
determined that a broad exemption, as contained in the 1992 rule,
unnecessarily allows persons who serve consumers and gain their trust
to receive referral fees, in contravention of the express intent of
Congress in enacting Section 8(a). However, to allow controlled
business arrangements to operate and provide beneficial services and
packages of services to consumers, the rule establishes three
exemptions for permissible payments by employers to bona fide
employees. Specifically, the exemptions permit employer payments to
their own bona fide employees for referrals of business if:
(a.) The employee is a managerial employee, and the payment is not
calculated as a multiple of the number or value of referrals.
(b.) The employee does not perform settlement services in any
transaction; prior to the referral the employee provides the person
being referred a written disclosure in the format of the Controlled
Business Arrangement Disclosure Statement, set forth in Appendix D to
this part; and the referral is to a settlement service provider which
has an affiliate relationship with the employer or in which the
employer has a direct or beneficial ownership interest of more than one
percent. For purposes of this exemption, the marketing of a settlement
service or product of an affiliated entity, including the collection
and conveyance of information or the taking of an application or order
for the services of an affiliated entity, does not constitute the
performance of a settlement service. Under the exemption, marketing of
a settlement service or product also may include incidental
communications with the consumer after the application or order, such
as providing the consumer with information about the status of an
application or order; marketing may not include serving as the ongoing
point of contact for coordinating the delivery and provision of
settlement services.
(c.) The payment is to that employer's own employees for generating
business for the employer itself--but not its affiliates. The
Department believes that it was clear that such payments were
permissible payments under RESPA. However, because some commenters
indicated uncertainty regarding this position, and it is HUD's intent
that such payments continue to be permissible, the rule clarifies the
issue with a new exemption providing that payments made to bona fide
employees for generating business for their employer are permissible
under Sec. 3500.14(g)(1)(vii). This exemption means that an employee
may accept payments for referrals to its own employer. In an affiliated
relationship, the employer is only the business entity for whom the
employee directly works.13
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\13\ In addition, pursuant to 24 CFR 3500.14(g)(3), any person
who is in a position to refer settlement service business, such as
an attorney, mortgage lender, real estate broker or agent, or
developer or builder, may continue to receive payments for providing
additional settlement services as part of a real estate transaction,
if such payments are for services that are actual, necessary, and
distinct from the primary services provided by that person.
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These new exemptions provide that payments must be to a bona fide
employee. Individuals may not be hired on a part-time basis to make
referrals because of their access to consumers as settlement service
providers. Sham employment arrangements, such as a title company paying
a one hour ``salary'' to a real estate agent who provides a referral,
and issuing a W-2 for ``services'' rendered to justify compensating a
referral, are, and will continue to be, violations of RESPA.
The Secretary has authority to create exemptions under Section
19(a) of RESPA for classes of transactions as may be necessary to
achieve the purposes of the Act. 12 U.S.C. 2617(a). In addition, under
Section 8(c)(5) of RESPA, the Secretary may create regulatory
exemptions for ``such other payments or classes of payments,'' after
consulting with various Federal agencies. 12 U.S.C. 2607(c)(5). The
three exemptions created under this final rule are issued pursuant to
the Secretary's clear authority to create reasonable exemptions to
further the purposes of the Act.
In creating these new exemptions, HUD is not directly regulating
wages to bona fide employees. Rather, HUD is creating an exemption for
certain payments within an employment context that otherwise would be
prohibited by Section 8(a). The Secretary believes that such payments
to bona fide employees are not designed as a subterfuge to facilitate
kickbacks among affiliated companies.
The exemptions for managerial employees and employees who do not
perform settlement services in any transaction are explored in detail
below.
4. Managerial Employees
a. The Public Comments. Several commenters supported allowing
compensation to managerial employees based on referrals and criticized
the formulation regarding managerial compensation in HUD's proposed
rule. NAR supported the idea of compensation for managerial employees
or others who are not sales agents or otherwise involved in the direct
provision of settlement services. At the same time, NAR asked that the
proposed definition of ``managerial employee'' clarify that mere
possession of a broker's license or a salesperson's license to sell
real estate would not affect an individual's status as a managerial
employee. Many States, NAR indicated, require managers in the real
estate
[[Page 29244]]
business to hold licenses as brokers or sellers.
NAR counsel, responding separately to the proposed rule on behalf
of the organization, further elaborated on the national organization's
position regarding referral payments. He distinguished ``primary
services'' from ``secondary services,'' and argued:
NAR recognizes that the historic and legitimate thrust of
Section 8(a) of RESPA has been to prohibit compensation for
referrals by persons who are ``in a position to refer settlement
business,'' understood as referring to real estate professionals
providing settlement services (``primary services'') to whom
consumers may look for advice regarding sources of other required
settlement services (``secondary services'') with the expectation
that such advice will be based on professional knowledge and
experience and not tainted by additional compensation payable by the
highest bidder for the referral.
He suggested that HUD prohibit referral-based payments for any
individual who has significant contact with consumers regarding the
provision of a settlement service, where a principal part of the
individual's income consists of compensation based on settlement
services performed for the person's employer or an affiliate. The
prohibition against sharing of compensation related to a ``secondary
service,'' NAR counsel argued, could apply to all services performed by
the secondary service provider and not just to specific referrals. He
asserted that HUD could more easily enforce his suggestion than HUD's
proposal, since HUD's rule evidently required proof of an actual
``referral'' by the initial service provider.
* * * [A] regulation based on identification of actual referrals
will likely prove unworkable, leading either to no enforcement or to
adoption of presumptions that might exceed HUD's authority.
Additionally, NAR counsel argued that the proposed rule's
``managerial exemption'' would unduly complicate the ability of a
diversified company to devise workable incentive compensation schemes
for managers. NAR counsel further suggested a change to the definition
of ``managerial employee'' to exclude situations wherein a managerial
employee may, from time to time, act as a direct service provider. (In
such circumstances, the NAR-suggested definition would not permit
referral-based compensation in addition to the sometime-manager's
commission.) NAR counsel added, in comments varying somewhat from the
stated NAR position:
In general, we do not believe that the permissibility of
compensation should turn on status as an ``employee'' vs.
``independent contractor,'' provided that the independent contractor
is one whose services are provided exclusively for a single
principal and who is, therefore, in the eyes of the consumer,
indistinguishable from an employee.
MBA stated its concern about the lack of clarity in the
``managerial employees'' exemption in the proposed rule, seeking to
narrow the category of persons eligible for payments for referrals:
We believe it is imperative to have more detail in the
definition, so that the lending and real estate broker industries
will know exactly where the line is between `managerial employees'
and those that have `routine contact with the public.' For example,
if a person manages a branch office and consequently has supervisory
control over all of the staff that deal directly with the public, in
which category does that person fall? We strongly urge that such a
person [not be] eligible for the exemption because of his or her
involvement with the public implicit in the supervisory role * * *.
* * * [U]sing real estate offices as examples, office managers
and real estate brokers can exercise considerable influence over the
activities of the independent agents through manipulation of the
terms and conditions of their work * * *.
MBA asked that the term ``managerial'' be further defined to
include only individuals working at ``higher corporate levels'' where
there would be no opportunity to steer consumers. It was urged that the
definition be amended to clarify that only employees who do not work in
offices where consumers regularly visit could qualify for the
managerial exemption. The National Association of Mortgage Brokers
(NAMB) also asked that HUD revise the rule to elaborate on the
definition of ``employees'' to make clear that the term excludes
independent contractors and real estate agents.
RESPRO favored both management compensation and front line employee
compensation based upon profits or on the amount of referred business
the manager/employee was responsible for producing. RESPRO claimed that
the proposed rule's restrictions on compensation for managerial
personnel were so vague that they would, effectively, prohibit all
management compensation in one-stop shopping programs. One of HUD's
Fact/Comment Illustrations in the proposed rule indicated that
``Nothing in the RESPA rule prohibits bonuses or other compensation
based, in part, on the generation of business by A (a lender) to B and
C (a title company and escrow company) being paid to managerial
employees who are not routinely in contact with customers.'' However,
RESPRO claimed, the text of the proposed rule is not consistent with
the statement in the quoted Fact/Comment illustration.
The American Bankers Association (ABA) objected to the managers'
compensation provision of the proposed rule as ``too narrow,'' and
advocated that all employees of banking institutions should be able to
receive compensation or bonuses based on their referral of business
within the bank or to affiliates. Even if HUD were to retain only the
managerial exemption, the rule needs modification, ABA said, to clarify
the circumstances under which an employer could legitimately compensate
a manager.
In contrast, many of the attorneys commenting on the rule
(virtually all of whom supported the withdrawal of the employer-
employee exemption) were highly critical of the proposal to allow the
payment of referral-related bonuses and compensation to managerial
employees in controlled businesses, under conditions set out in the
proposed rule. The managerial exemption was regarded as an ``enormous
loophole'' in the new rule that would substantially overwhelm the
benefits these commenters expected from the proposed elimination of the
exemption for fees to line employees. Typical of attorney comments
received was one from an Alabama practitioner who said he ``applauded''
HUD's partial change of position ``to eliminate the objectionable
`employee bonus/kickback scheme'.'' However, the commenter said, ``by
creating the manager bonus loophole, you have simply encouraged and
promoted indirect schemes to circumvent basic consumer protection.''
The attorney ``implored'' HUD to ``stop playing politics with the basic
rights of consumers that the Real Estate Settlement Procedures Act was
designed to safeguard.'' Similar views were expressed by a Memphis
attorney:
If HUD allows bonuses to be paid to real estate managers even
though the bonuses are not strictly calculated on the basis of the
referral business, but merely takes it into account as a factor, the
managers and the agents will find a way to tie the bonuses directly
to the amount of business generated. HUD will have ``opened the
door'' to the abusive practices of kickbacks, tie-ins, fee
splittings, controlled business practices, and conflicts of interest
that existed prior to RESPA and which RESPA has largely eliminated.
Once the door is opened, everyone will stampede through it.
The American Bar Association's General Practice Section and
Standing Committee on Lawyers' Title Guaranty Funds echoed the
``loophole'' complaint of other practitioners:
[[Page 29245]]
Prohibiting ``one-to-one'' Basis Referral Fees will not
eliminate the payment of referral fees* * *. Allowing [managerial]
payments* * * would be a dramatic departure from the Act's
congressional intent and basically would render the previously
mentioned withdrawal of the employer-employee exemption impotent.
The combined comments of the Attorneys General of eleven States
opposed the proposed new ``managerial'' exemption.
HUD cannot allow compensation systems, even for managerial
employees, which depend, even in part, on the level of employee
referrals to affiliated companies* * *. [Managerial referral
compensation] will still create strong incentives within the company
to make as many referrals to affiliated companies as possible,
regardless of whether those referrals are in the consumers' best
interest or not.
A large number of other real estate professionals also submitted
objections to the proposed modified managerial exemption. These
commenters, along with most of the lawyer-commenters, believed that
controlled business arrangements constituted unfair competition, or
that they invariably would lead to increased costs for consumers.
Whether the payment is to an employee who is in contact with the
consumer for a business referral generated by that employee to the
employer or to an affiliate business entity, or whether the referral-
related payment is to a managerial employee, the objectors believed
that the effect would be the same: A determination would be made to
refer business based on the dollar benefit of the referral, rather than
on considerations of what would be most advantageous to the consumer.
Similar views were expressed by a New Jersey real estate broker who
said that he was ``strongly in favor of any changes in RESPA which
would ban payments for referrals from mortgage lenders, title insurers,
escrow agents and other real estate settlement service providers.''
``[I]t would seem very obvious,'' the realtor wrote, ``that payment of
referral fees would result in the agent selecting the service
provider.''
The Coalition to Retain Independent Services in Settlements
(CRISIS), an organization of independent settlement service providers,
responded to the proposed rule's referral provisions arguing for a
total ban on referral fees and referral-based compensation factors to
employees and managers. Consumer Federation of America also called for
a total ban on referral-based compensation involving affiliate
entities, as did the National Association of Mortgage Brokers (NAMB).
b. The Final Rule's Approach. The rule revises the proposed rule's
formulation and defines a ``managerial employee'' as one of a limited
class of employees who do not routinely deal with the public, but who
function in a management or executive capacity. It makes permissible
certain bonuses and payments to these managerial employees. Active real
estate agents, who are independent contractors, cannot be managerial
employees, although a managerial employee can hold a real estate
brokerage or agency license. HUD agrees with NAR counsel that managers'
``mere status as licensed brokers or salespersons should not exclude
them from being `managerial employees' if their principal functions''
are the types of managerial functions indicated in the definition,
rather than face-to-face dealings with consumers.
The rule provides that managerial employees in controlled business
arrangements may be paid bonuses based on performance criteria,
including profitability, capture rate or other thresholds, but the
bonus may not be directly calculated as a multiple of the number or
value of settlement transactions referred to a business entity in an
affiliate relationship. Thus, for example, the final rule does not
prohibit a managerial employee from receiving an annual bonus based on
an affiliate business entity capturing a percentage of the business
from the managerial employee's unit (e.g., a $1,000 bonus for an
affiliated lender's 10% capture rate of real estate brokerage customers
and a $2,500 bonus for a 20% capture rate). Managerial employees may
not, however, receive a bonus or other compensation calculated as a
multiple of the number or value of referrals of settlement service
business to a business entity in an affiliate relationship. Thus, a
compensation system that awarded a managerial employee $20 for every
referral continues to be prohibited, as would a compensation system
that awarded a managerial employee $100 for every 5 referrals.
In the rule, the phrase ``does not routinely'' is used to establish
a ``de minimis'' standard for consumer contact. HUD intends the phrase
``does not routinely'' to mean that managerial employees who
occasionally deal with consumers, which is almost inevitable in small
offices, are not precluded from receiving year-end bonuses because of
this minimal contact. Similarly, HUD intends this phrase to allow a
managerial employee who performs and is compensated for occasional
settlement services (not more than three transactions a year) to be
eligible for this exemption. This standard will effectively limit the
class of managerial employees who may receive these types of bonuses to
those ``whose contacts with consumers are only casual or peripheral, at
most, and who do not occupy the special positions of trust, arising
from their relationship to consumers as well as the arcane nature of
certain of the services required, that are developed by real estate
agents or the comparable providers of other services,'' as suggested by
NAR.
HUD has chosen to use its exemption authority under Section
8(c)(5), having consulted with other Federal agencies as required by
that provision, as well as the authority under Section 19(a) of RESPA
to permit these payments which would otherwise be prohibited by the
statute. As noted in the proposed rule (59 FR at 37365), Congress has
clearly determined that RESPA does not prohibit controlled business
arrangements, with certain conditions. The final rule's exemption
permitting managerial employees to receive payments of a bonus based on
criteria relating to performance conforms with Congress's intent to
permit controlled business arrangements to operate.
This exemption is appropriate because managers do not routinely
deal directly with consumers. Therefore, the manager is not in a
position of trust with the consumer to directly influence the
consumer's choice of settlement service providers. By providing this
exemption, the regulation will not require HUD to interfere unduly with
the internal operations of controlled business arrangements. The
exemption reflects the Department's acknowledgement that it would be
difficult to enforce RESPA in circumstances which would require
detailed scrutiny of complex compensation arrangements for management
in affiliated settings.
The exemption draws a line, however, for payments to managers that
are transaction based. This regulation does not allow payments to
managerial employees which mimic referral fees. Thus, where a payment
of a bonus to a managerial employee is calculated as a multiple of the
number or value of referrals of settlement service business to an
entity in the controlled business arrangement, it would appear to be a
payment in violation of the Act and contrary to the intent of Section
8(a).
The foregoing provisions have been amplified by a revised
Illustration 12 that is being added to Appendix B.
[[Page 29246]]
5. Employees Who Do Not Perform Settlement Services in Any Transaction
a. The Public Comments. Several commenters advocated, either
directly or indirectly, that the rule allow businesses to pay bonuses
for referrals to business entities in affiliate relationships to those
employees who do not perform settlement services. Many of these
comments focused on the way in which a host of Federal and State
regulations affect the way particular industries do business and are
structured. These comments urged HUD to allow compensation systems
which are sensitive to these structures.
ABA criticized HUD's proposed rule as insensitive to the structure
of banks, noting that, under the proposed rule, if the loan were made
by the bank itself, employees could be compensated for generating that
business, but if the loan were made by a subsidiary mortgage company,
such compensation would be a prohibited referral fee.
Individuals seeking a residential mortgage loan who enter a bank
and inquire as to the availability of such a loan do so voluntarily
with the goal of receiving information and possibly applying for and
obtaining such a loan. Whether or not the bank is structured * * *
to process such loans within the bank, the bank holding company or a
subsidiary or affiliate of each makes absolutely no difference to
the consumer and in no way affects his or her decision * * * whether
or not to do business with the bank * * *. Providing information in
order to expedite the customer's objective is appropriate and
beneficial to all parties. The structure of the mortgage lending
operation within the bank, its affiliate, or within the bank holding
company is inconsequential and shouldn't trigger any RESPA activity.
Other banker-commenters echoed the ABA's concern that the proposed
rule's referral-related modification was a poor fit for the varied
structures of banks and their integrated or affiliated real estate
service entities. A Minnesota bank holding company was among several
banking organizations arguing that there was a fundamental difference
between a referral by a bank employee to the bank's mortgage lending
affiliate, and the type of referral that might involve another party to
a real estate transaction, e.g., from a real estate agent to a mortgage
lender:
If an individual contacts a bank to inquire about a mortgage
loan * * * it is because the individual perceives the bank as a
lender that would offer that type of loan. The customer is not going
to the bank because he or she is seeking an objective, unbiased
referral to another lender. The customer * * * expects that whatever
bank they talk to will promote its own products. If that bank does
offer [mortgage loans] they would simply proceed to give information
to the potential customer * * * If, however, a bank holding company
[has formed] a separate subsidiary to handle * * * mortgage
lending[,] the proposed rules add additional burdens to that bank by
limiting its ability to design a compensation system for managers
that promotes the affiliate relationship and by requiring an
additional layer of disclosure.
* * * [E]xcessive requirements place the bank with a separate
mortgage lending subsidiary at a disadvantage compared to banks that
* * * offer such products within the bank itself.
ABA also asked that HUD reconsider this aspect of the rule in light
of the strong framework of existing bank regulation, State and Federal:
Unless appropriately modified, this proposed regulation
penalizes banks, their affiliates, bank holding companies * * *
solely because of their corporate structures. These structures have
been specifically authorized by statute, implemented by state or
federal bank regulatory authorities and constantly monitored and
examined for safety and soundness and compliance purposes.
ABA asserted that the HUD regulation effectively applies only to
banks and other banking institutions:
It is only these institutions which will be examined on a
periodic basis by bank examiners for compliance with this
regulation. HUD does not maintain its own compliance examiners for
non-bank settlement service providers. Other settlement service
providers do not and will not face this intensive examination
process.
ABA recommended that bank examiners not be required to examine for
this aspect of RESPA compliance--unless HUD intends to provide similar
supervision and enforcement for settlement service providers other than
banks.
Finally, ABA's comments indicated that banks are encouraging
employees to focus attention on compliance with the Community
Reinvestment Act (which encourages residential lending activity in the
banks' immediate service areas and neighborhoods). Many banks, ABA
claimed, find it advantageous to structure lending programs to provide
financial incentives to their employees to promote Community
Reinvestment Act objectives. The proposed rule would eliminate these
incentives arbitrarily, ABA stated.
A comment from the Securities Industry Association (SIA) similarly
objected to the proposed change in the referral fee rule. Some SIA
members, the comment said, are part of diversified services firms, with
mortgage lending affiliates. SIA believed that referrals made by
securities firms' representatives should be distinguished from those
made by employees of entities whose business is to perform settlement
services. The commenter argued that the potential harm to consumers
that HUD is attempting to deal with as ``inherent'' in referrals made
by persons performing settlement services is not present when the
referring individual is a registered securities representative. SIA
requested reconsideration, or an express exemption from the rule
applicable to employees of securities firms.
Virtually all commenters who objected strongly to the proposed
withdrawal of the existing employer-employee exemption, also approved
of the proposed rule's retention of an exemption, albeit in a modified
form. For example, RESPRO recommended that the (old) employee
compensation exemption be retained, but modified to exclude any real
estate agent, sales associate, or other person who assists consumers
with the listing or purchase of a home, and who has regular and
meaningful contact with consumers. This, RESPRO argued, would achieve
the HUD policy objective of discouraging adverse steering by real
estate agents, without interfering with the cost efficiencies of
diversified companies.
Several commenters also specifically advocated that the rule allow
businesses to pay bonuses for referrals to business entities in
affiliate relationships, to those employees who are financial service
representatives (FSRs), i.e., persons employed in affiliate businesses
to cross-market products. RESPRO argued that HUD's proposed rule would
place diversified companies at a competitive disadvantage to their
independent competitors by preventing them from compensating
salespersons who offer more than one of the company's products or
services, in the same manner as their independent competitors. Whereas
independent mortgage, title, and homeowners insurance companies follow
the traditional practice of encouraging a salesperson's productivity by
paying him or her on a commission basis, HUD's proposed rule would
result in diversified companies either having to hire less productive
salespersons (persons who could not be compensated based on commissions
which encourage productivity), or to pay three separate employees
(instead of one) to offer three separate services (so they can properly
motivate the FSR). RESPRO urged that HUD's final rule allow a broad
array of compensation to management and employees for developing and
implementing one-stop shopping, including: (1) the hiring and
compensating of a financial services manager, i.e., a branch manager
who is
[[Page 29247]]
responsible for supervising the performance of the real estate agent,
title agent, mortgage loan officer, and other persons performing
settlement services; and (2) the hiring and compensating on a
commission basis of a ``customer services representative'' or
``financial services representative'' who is not a real estate agent,
but ``who markets more than one settlement service (not real estate
brokerage)'' either in or outside of a real estate office.
NAR counsel urged that HUD place no restrictions on the
compensation of employees whose function is to promote sales of
``secondary services'' (i.e., other settlement services) provided by
affiliates at the point of sale of ``primary services.'' NAR counsel
commented, ``Notwithstanding that these individuals have direct contact
with consumers, we do not believe that they are in positions to develop
the special relationships of trust and expectation that are developed
by the `primary service' providers.''
b. The Final Rule's Approach. In response to these comments, the
final rule allows a limited exemption for an employer's payment to bona
fide employees who do not perform any settlement services,14 so
long as prior to the referral, the consumer is provided with a written
disclosure in the format of Appendix D. This exemption will cover at
least two situations frequently mentioned in the comments. First, this
exemption will allow employers to pay their own bona fide employees who
are not involved in the provision of settlement services, such as
securities sales persons or bank tellers, for referrals of settlement
service business to business entities in affiliate relationships. This
approach achieves substantially the same result recommended by counsel
to the NAR.
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\14\ Section 3(3) of RESPA (12 U.S.C. 2602(3)) and 24 CFR
Sec. 3500.2 define the term ``settlement services''. However, for
purposes of this exemption, the marketing of a settlement service or
product of an affiliated entity, including the collection and
conveyance of information or the taking of an application or order
for the services of an affiliated entity, does not constitute the
performance of a settlement service. Under the exemption, marketing
of a settlement service or product also may include incidental
communications with the consumer after the application or order,
such as providing the consumer with information about the status of
an application or order; marketing may not include serving as the
ongoing point of contact for coordinating the delivery and provision
of settlement services.
---------------------------------------------------------------------------
Second, this exemption will allow employers to pay their own bona
fide employees, whose primary function is to market the services of the
affiliates of the employer. Employees who perform settlement services
remain subject to Section 8's prohibitions. However, as with a
managerial employee who holds a real estate license, a securities sales
person or bank teller who holds a mortgage broker license would not be
precluded from qualifying for the exemption, if the securities sales
person or bank teller is not actually involved in the provision of
settlement services.
The exemption created here establishes a test: if an employer's
payment is to an employee who does not perform settlement services in
any transaction, the exemption applies and payments are not subject to
Section 8 scrutiny so long as the disclosure is made.
A primary purpose of RESPA is to prevent consumers from being
unwittingly steered (in exchange for referral payments) by one
settlement service provider to other particular settlement service
providers. Although the statute, on its face, covers all referrals of
settlement service business, regardless of who makes the referral,
Congress did not express as high a level of concern about the referral
activities of those who do not perform settlement services. The
Department believes that the structure of affiliated businesses,
particularly in the financial services industry, wherein services are
often divided among different affiliates, is frequently a response to
State and Federal laws, such as the Bank Holding Company Act, rather
than an attempt to circumvent RESPA. The Department believes that the
industry should not be unnecessarily disadvantaged in competition by
its mandated or chosen business structure. Thus, HUD has chosen to use
its exemption authority under Section 8(c)(5) and Section 19(a) of
RESPA to permit these payments otherwise prohibited by the statute.
This exemption only covers payments made by the employer, not by
the party to whom the settlement service business is referred. It also
only applies to payments for referrals to affiliate business entities.
Further consideration should be given to a broader exemption for
payments to those who do not perform settlement services received
directly from either: (1) An affiliated party receiving the referral;
or (2) an unaffiliated party receiving the referral. However, these
issues were not raised by this rulemaking and the record is
insufficient to determine the impact of such changes.
A similar proposal is included in legislation currently under
consideration in the United States Senate. This legislation would allow
anyone who does not receive another fee in the particular transaction
to receive a referral fee from any source. The stated purpose of the
proposal is to exempt from RESPA coverage ``co-branding'' and
``affinity marketing,'' as such payments are known in the industry. The
Department believes that this proposal also could be accomplished by
regulation, using HUD's exemption authority under Section 8(c)(5) and
Section 19(a) of RESPA. However, both approaches--an exemption for all
payments to those not performing settlement services or an exemption
for all payments for those not receiving another fee in the
transaction--require further scrutiny. While it is desirable to
facilitate business generation where there is little danger of the
adverse steering that RESPA was designed to prevent, it is important to
ensure that loopholes are not created through which such adverse
steering can slip. HUD intends to undertake further rulemaking on this
subject and to seek public comments.
The Department also recognizes the market trend, described
particularly in RESPRO's comments, that many companies are choosing to
hire one or more individuals whose primary function is to generate
business for his or her employer and affiliated companies. Such
individuals are sometimes referred to as marketers or customer or
financial service representatives.
In response to these realities, the Department has created an
exemption sufficiently broad to allow an employer's payments to its
bona fide employees whose primary function is to generate business for
entities within an affiliated relationship with that employer. The
Department has restricted this exemption to payments to those who do
not perform settlement services in any transaction including, for
example, those settlement services of a real estate agent, loan
processor, settlement agent, attorney, or mortgage broker. For purposes
of this exemption, the marketing of a settlement service or product,
including the collection and conveyance of information or the taking of
an application or order for the services of an affiliate does not
constitute the performance of a settlement service. Under the
exemption, marketing of a settlement service or product also may
include incidental communications with the consumer after the
application or order, such as providing the consumer with information
about the status of an application or order; marketing may not include
serving as the ongoing point of contact for coordinating the delivery
and provision of settlement services.
As discussed above, the Department's review of the legislative
history revealed that steering of unsophisticated consumers from one
settlement service
[[Page 29248]]
provider to other settlement service providers was a substantial
congressional concern. A settlement service provider frequently is
trusted by the consumer and appears to the consumer to be an expert in
the settlement process and to have the consumer's interests in mind. If
a person performing settlement services is also receiving compensation
for referring business to another settlement service provider, there is
a potential conflict of interest. The consumer's trust in the person
performing settlement services may cause the consumer to lose any
natural wariness he or she might otherwise have of following the advice
of a salesperson who derives income from sales performance. The
consumer might ignore the conflict of interest because of trust that
has accrued from the provision of another settlement service. A person
who is not performing a settlement service, but is merely marketing the
affiliated companies, is less likely to attain trusted-advisor status
concerning the transaction. The consumer is more likely to be aware of
and weigh carefully the incentives of a person who is not performing a
settlement service but is generating business for that person's own
employer and its affiliates. The application of the rule's prohibition
to all settlement service providers, whether involved in the specific
settlement or not, prevents two providers from swapping referrals.
The Department is also requiring that disclosure of the affiliate
relationship be provided to the consumer when the referral is made, so
that the consumer will be alerted to the affiliate relationship, be
informed of the potential business interest of the employee making the
referral, and be able to make an educated decision about whether to use
the recommended provider or another. Finally, the Department is
requiring that, for the exemption to apply, the referral of settlement
service business be to a settlement service provider that has an
affiliate relationship with the employer or in which the employer has a
direct or beneficial ownership interest of more than one percent. This
requirement is consistent with congressional intent to allow controlled
business arrangements and is responsive to comments indicating that the
circumstances described in the exemption are those in which an
exemption would be most beneficial. Where these requirements are met,
the Department believes the consumer is adequately protected. The
Department, therefore, has used its exemption authority under Section
8(c)(5) and Section 19(a) of RESPA to permit these payments otherwise
prohibited by the statute.
The foregoing provisions have been amplified by revised
Illustrations 11 and 12 which are being added by this rule to Appendix
B.
C. Issue 2: Computer Loan Origination Systems (CLOS)
1. Background
The 1992 final rule specifically exempted from RESPA's coverage any
borrower payment for computer loan origination systems or CLOs. The
exemption was intended to prevent RESPA's restrictions against unearned
fees from unduly inhibiting the development of technology which could
permit consumers to shop, apply for or obtain mortgage loans
electronically. A CLO system was not defined in the 1992 rule.
2. The Proposed Rule, CLO Demonstration and CLO Working Groups
In response to the earlier comments, the proposed rule undertook to
establish minimum standards for a system falling within the exemption.
HUD proposed to designate such CLO systems as ``qualified CLOs.''
Payments by consumers to such systems would not then be ``scrutinized
under RESPA.'' A ``qualified'' system would:
(a.) Provide openings for 20 or more lenders offering various loan
products;
(b.) Utilize selection factors for lenders that are fair and
impartial and are designed to contribute to the efficiency and quality
of the system;
(c.) Provide borrowers information in a lender-neutral manner;
(d.) Provide borrowers a CLO disclosure form before CLO services
are performed;
(e.) Charge all borrowers using the system the same CLO access
fee(s) for the same service or the same components of service; and
(f.) Be allowed to charge lenders for access only if charges are
set forth in a written schedule of charges, charges for the same
services and components of services are the same for all lenders on the
system, and charges for the same services are reasonably related to the
costs of maintenance and operation of the qualified CLO system.
The proposed rule asked for advice on whether to create a similar
exemption for payments by lenders to ``qualified lender'' CLOs, or
whether to leave such systems to be governed by the general rules of
RESPA regarding kickbacks, unearned fees and referral fees.
As an additional vehicle for obtaining public input, on September
30, 1994, as part of the rulemaking process, the Department conducted
an open house for operators of CLO systems to demonstrate their systems
to HUD and to the public. Twenty-one CLO operators accepted the
invitation and participated in this all-day demonstration in
Washington, D.C. At the demonstration, the capabilities of the systems,
the number of lenders displayed, the arrangements for payment, among
other characteristics, differed widely.
3. The Public Comments
The public comments received on the proposed rule reflected a wide
array of criticisms that suggested continuing problems with the rule's
approach, or that indicated that the CLO definition HUD had arrived at
would not work under particular circumstances. Additionally, a few
commenters (including RESPRO, NAR, and separate comments by NAR
counsel) not only questioned the particulars of HUD's CLO proposal, but
also suggested that the Department lacked adequate authority under
Section 8(b) of RESPA to establish ``qualified'' or ``non-qualified''
CLO systems by regulation, as proposed.
NAR and several individual commenters advocated that the rule
should distinguish computer systems that merely provided basic
information about prospective lenders (e.g., a comparison of current
interest rate quotations for particular mortgages) and those systems
that actually may be said to ``originate'' loans by means of
qualification (or at least, pre-qualification) of borrowers.15
---------------------------------------------------------------------------
\15\ See further discussion later in this Issue 2 section, under
heading (g), ``Other CLO Issues Raised by Commenters''.
---------------------------------------------------------------------------
Many commenters objected to the proposed rule's requirement that a
borrower's payment for CLO services be made ``outside of and before
closing,'' arguing that this requirement would dampen or completely
destroy the market for CLO services, and that determining the
appropriate timing of the borrower's payment would create ambiguities
and resulting compliance difficulties. The combined comments of the
State attorneys general objected to the proposed rule's concept of
``qualified'' and ``non-qualified'' CLOs and suggested, instead, that
HUD permit only qualified CLOs to operate at all.
The several most-frequently raised CLO issues are summarized below.
a. The Legal Issue. RESPRO, NAR, and others raised the issue of
HUD's authority to establish minimum standards (i.e., a ``safe harbor''
[[Page 29249]]
exemption) and to subject non-qualifying CLO systems to scrutiny.
Noting that the proposed rule cited Section 8(b) of RESPA as a basis of
HUD's authority to regulate in this area and to prohibit a CLO operator
from accepting a payment from a borrower for a sham or duplicative
charge, these commenters argued that Section 8(b) of RESPA was
inoperative as authority for regulating CLO payments unless the CLO
operator shared fees with a third party.
According to the commenters, Section 8(b) governs only a ``portion,
split, or percentage'' of any charge made or received. If the CLO
operator is the only party charging or receiving a fee for CLO-related
services, the commenters argued, then Section 8(b) cannot be the
authority for the proposed borrower payment exemption ``safe harbor''
or for regulating non-qualifying CLOs. The commenters cited as
authority for this position certain judicial precedents.
HUD is aware of these cases, which never involved HUD as a party,
but finds their reasoning not to be persuasive or their holdings not to
be determinative of the issue. HUD believes that Section 8(b) of the
statute and the legislative history make it clear that no person is
allowed to receive ``any portion'' of charges for settlement services,
except for services actually performed. The provisions of Section 8(b)
could apply in a number of situations: (1) where one settlement service
provider receives an unearned fee from another provider; (2) where one
settlement service provider charges the consumer for third-party
services and retains an unearned fee from the payment received; or (3)
where one settlement service provider accepts a portion of a charge
(including 100% of the charge) for other than services actually
performed.
The interpretation urged, that a single settlement service provider
can charge unearned or excessive fees so long as the fees are not
shared with another, is an unnecessarily restrictive interpretation of
a statute designed to reduce unnecessary costs to consumers. The
Secretary, charged by statute with interpreting RESPA, interprets
Section 8(b) to mean that two persons are not required for the
provision to be violated. HUD, therefore, had adequate authority to
promulgate the rule it proposed, although it has chosen not to do so.
b. Impact on Mortgage Brokers. On the merits of the CLO proposal,
the Mortgage Bankers Association and many other commenters were alarmed
about possibly unintended effects of the CLO provisions on mortgage
brokers. First, MBA feared that merely by using a computer in its
activities, a mortgage broker could be deemed a CLO operator, since
mortgage brokers typically perform many or all of the functions set out
in the ``CLO system'' definition contained in Sec. 3500.2 of the
proposed rule. MBA anticipated that mortgage brokers might therefore
find themselves faced with a new disclosure requirement (relating to
CLO systems) that HUD probably did not intend. Revision of the
definition was urged to clarify this point.
c. Time of Payment for CLO Services. RESPRO, NAR, and many other
commenters strenuously objected to the requirement in the proposed rule
that for a system to qualify, payment for CLO services be ``outside of
and before'' loan closing.
d. Twenty-Lender Requirement. RESPRO and a large number of
individual commenters objected to the proposed rule's requirement that
CLO systems provide access to at least 20 lenders. RESPRO asserted that
its members, as well as CLO operators, uniformly believed that 20
lenders would constitute ``information overload'' and would
discriminate against small and local CLO operators. Other commenters
reflected that 20 lenders, each offering, perhaps, multiple variations
of mortgage loan packages, would overtax a CLO system and increase its
operating costs, to no useful purpose. Consumer Federation of America
was among the very few commenters who suggested that access by 20
lenders would be inadequate.
e. Lender-Pay Systems. The Attorneys' General comment objected to
the fact that the rule did not prohibit lenders from paying for CLO
services, viewing lender-paid services as ``harboring the same
potential for consumer abuse as direct kickbacks.'' MBA also opposed
permitting lender-paid fees, arguing that they constitute hidden costs
to the consumer. Consumer Federation of America strongly objected to
lender payments, saying that they would place consumers at ``great risk
of being steered into noncompetitive products.'' Conversely, comments
from the National Association of Federal Credit Unions (NAFCU) urged
HUD not only to create a parallel exemption for payments by lenders for
qualified CLO systems, but suggested that HUD not intervene in setting
lender-CLO operator fee schedules. NAFCU believed that negotiated fees
for CLO services to lenders would promote competition.
f. ``Information'' vs. ``Origination''. NAR and numerous other
commenters urged that a sharp distinction be made in the rule between
computer loan information systems (dubbed by NAR and others as
``CLIs'') and computer loan origination systems (``true'' CLOs), with
which a computer link-up can be made with lenders and a genuine loan-
application-approval process originated. Another commenter similarly
explained that vast differences existed in the functions and
sophistication of ``loan origination technology,'' ranging from
relatively simple information transmittal systems to ``electronic
decision makers'' that utilize artificial intelligence. These latter
systems, the commenter claimed, were essentially computer underwriting
systems. The commenter went on to recommend that HUD narrow its CLO
definition to require that qualified systems not only collect data, but
evaluate it.
g. Other CLO Issues Raised by Commenters. A nationwide finance
organization believed that the CLO system definition should not require
the transmission of information concerning a prospective property. CLO
systems offer the same benefits to consumers in the pre-qualification
stage, the commenter asserted.
Comments on the issue of CLO-related disclosures varied greatly.
Commenters sympathetic to the regulatory scheme proposed for CLOs were
also supportive of the form of disclosure, although some additional
disclosures were occasionally suggested. Commenters otherwise critical
of HUD's definition, the proposed CLO regulatory scheme, or other
aspects of the proposal tended to object as well to the form of
disclosure proposed. Generally, objections to the CLO disclosure format
were mild, except the American Bankers Association and a few other
commenters specifically objected to the ``acknowledgement box''
requirement for the same reasons that consumer-acknowledgement
procedures were objected to in connection with the controlled business
arrangement disclosure statement.16
---------------------------------------------------------------------------
\16\ See discussion of CBA disclosure statement format under the
heading ``Issue 4'' elsewhere in this preamble.
---------------------------------------------------------------------------
4. Working Group Meetings
After review of all of the comments and the information gleaned
from the technology demonstration, HUD believed that it did not have
sufficient information on CLOs and how they were actually functioning
in the provision of services to consumers. Accordingly, HUD convened
the first of two CLO working group meetings on August 11, 1995, in
Washington, D.C. Participants included CLO vendors, related industry
associations, State regulators, consumer groups, and
[[Page 29250]]
individual advocates. The purpose was to get their individual input on
CLO issues.
The working group examined a number of CLO trends and CLO systems
and identified the types and characteristics of CLOs currently
operating. Presentations were made regarding several operating systems,
as well as the Federal National Mortgage Association's (Fannie Mae's)
Desktop Underwriter and the Federal Home Loan Mortgage Corporation's
(Freddie Mac's) Loan Prospector. Views expressed by one or more members
of the group included:
CLOs are merely a technology for automating the loan
process and not necessarily an independent settlement service.
There should not be a special exemption for CLO services.
A separate set of disclosures for CLOs and CLIs should not
be created, but consumers should be given understandable and meaningful
disclosures.
HUD should not attempt to set rates.
HUD should define the level of service that must be
performed in the origination process in order to receive compensation.
Many participants argued that HUD should not attempt to regulate,
define, or set standards for an evolving technology. Many argued that
greater clarity about how the RESPA regulations applied to loan
originations would be preferable to a separate exemption or ``safe
harbor,'' for which HUD set required characteristics by regulation. At
the conclusion of the first meeting, the group agreed to meet again and
discuss further the development of CLO technology.
HUD held a second working group meeting on September 26, 1995. At
this meeting, many also argued again that the RESPA regulations should
apply equally to all participants in the market, regardless of their
use of technology, and that the applicable test should be whether the
fees paid were for services actually performed. Many in the group
believed that HUD should provide additional guidance about how this
basic RESPA test applies in the CLO context. Some participants
criticized a distinction between services paid for by lenders and
services paid for by borrowers, arguing that the borrower was the final
source of funds for all services. State regulators also discussed the
licensing and other requirements applicable to CLOs in many
jurisdictions.
5. The Final Rule's Approach
After further internal review and discussion, the Department
determined to abandon the approach taken in the proposed rule, withdraw
the CLO exemption that had been contained in 24 CFR
3500.14(g)(1)(viii),17 and replace it with guidance analyzing the
application of RESPA and the RESPA regulations to common CLO issues.
The final rule also withdraws Appendix E, the CLO disclosure.
---------------------------------------------------------------------------
\17\ Prior to HUD's regulatory streamlining, this provision was
codified at 24 CFR Sec. 3500.14(g)(2)(iii).
---------------------------------------------------------------------------
Simultaneously with the publication of this final rule, the
Department is issuing a Statement of Policy. That Statement of Policy,
issued under Sec. 3500.4(a)(1)(ii), is being published in today's
Federal Register and constitutes a ``rule, regulation, or
interpretation'' within the meaning of Section 8.
D. Issue 4: CBA Disclosure Form
1. The Public Comments
Proposed changes in the controlled business disclosure form also
attracted significant attention from commenters. Eleven Attorneys
General commended the Department for accepting most of the suggestions
made by State Attorneys General in the earlier round of public comment
on RESPA regulations. However, the Attorneys General questioned whether
the addition of a borrower acknowledgement box on the form is helpful
and suggested it may actually prove harmful:
* * * While it may appear that such a box induces the consumer
to read the disclosures, in fact, it may be just one more document
in a blizzard of such forms which the consumer signs. It is likely
that lenders will find this acknowledgement more useful than
consumers and will attempt to use the acknowledgement in defending
any suits by consumers who feel they have been misled.
A few commenters affirmatively supported the revised disclosure
statement requirement as appropriate and useful.
Other commenters, however, were more critical of the content of the
revised disclosure statement. Especially singled out for criticism was
the required statement ``YOU MAY BE ABLE TO GET THESE SERVICES AT A
LOWER RATE BY SHOPPING WITH OTHER SETTLEMENT SERVICE PROVIDERS, AND
THIS IS SOMETHING YOU SHOULD CONSIDER DOING.''
A multi-service company in Massachusetts called the quoted sentence
a ``negative statement'' that would discourage consumers from using an
affiliated service. ``If HUD is serious about allowing diversified
service providers to compete, this statement should be eliminated.''
(Emphasis in original.) Another commenter, a Missouri attorney,
objected in particular to the last phrase, ``* * * and this is
something you should consider doing.''
* * * This phrase clearly denotes that there are better services
available, and that the service which will be provided by the
referred settlement service would be inadequate * * *. To suggest *
* * that buyers would be better off looking elsewhere, is far beyond
protection of the consumer and actually is hinting to the consumer
that there is something inherently wrong with the controlled
business arrangement * * *. (Emphasis in original.)
An Iowa realty company urged that the statement be made more
``provider neutral,'' and that all mortgage service providers be called
upon to provide similarly worded disclosures regarding the value of
comparison shopping.
A Kansas lender complained that ``No other industry in this country
is required to urge its customers to seek services elsewhere* * *.''
A Chicago title guaranty company expressed sympathy for the
objectives of the disclosure statement, but agreed that the proposed
rule's version implied that substandard service was being provided. The
following alternative statement was offered:
There are many providers of settlement services providing
quality products at competitive rates. You are encouraged to shop
around to ensure that you are receiving the best quality product at
the best rate available for the same or similar services.
NAR's comments echoed the concerns of the above-quoted individual
commenters by asking for a ``provider neutral'' statement and that all
mortgage settlement service providers be called upon to provide
similarly worded statements, ``thus preventing multiple service * * *
firms from being placed at a relative disadvantage vis-a-vis other
mortgage service providers.''
Several banker-commenters again pressed the point that the required
disclosure statement was inappropriate for the circumstances of banks
and bank holding companies. Because these organizations commonly
conduct their residential mortgage lending activities through mortgage
company affiliates, ``* * * the consumer that contacts the bank * * *
expects to be referred to the bank's mortgage lending operations,
whether that consists of a department of the bank or an affiliate.''
The American Bankers Association objected to the elaborate
disclosure statement in the context of the kind of incidental and
uncompensated referrals
[[Page 29251]]
involved in the bank/affiliate mortgage company operation. ``It is
sufficient consumer protection,'' ABA argued, ``for banks to indicate
that there might be services provided at a lower rate and not to add a
statement that such shopping is recommended.''
ABA and a few individual commenters also protested the requirement
that the disclosure be acknowledged in writing. A title guaranty firm
made the point that documents are frequently mailed to consumers to be
signed and returned, and that it is difficult to secure the return of
such documents, possibly raising unnecessary doubts concerning the
validity of the disclosure actually given. ABA raised several
questions:
* * * [W]hat is the status of a bank's compliance with the
acknowledgment and signature requirement if only the applicant and
not the co-applicant signs the acknowledgment?
What efforts does the bank have to expend in order to obtain the
co-applicant's signature?
Should not the applicant's acknowledgement be sufficient for
compliance purposes?
The process of obtaining these signatures, ABA concluded, ``creates
compliance burdens for banks while providing negligible benefits to
consumers.''
2. The Final Rule's Approach
After review of all comments, the Department retains the
requirement of the applicants' acknowledgement. In addition to focusing
the attention of the applicant on the document, the acknowledgement
also protects the lender from charges that it had failed to inform the
prospective borrower of the controlled business arrangement. In
response to comments, only one signature is now required.
The Department has not adopted the NAR's suggestion that HUD
require all settlement service providers to provide a statement
encouraging consumers to shop around. The statute requires such a
statement in the context of controlled businesses, but has no such
requirement for any other situation. This rule only requires the
disclosure in the context of controlled business arrangements.
Also, the Department reformulates the discussion of the
desirability of borrowers shopping for settlement services. In response
to criticism that the proposed language intimated that the services
offered by the disclosing servicer might be substandard or overpriced,
the Department adopts more neutral wording that continues to inform
consumers of their freedom to seek the most advantageous rates or
services in a competitive market. The Department remains committed to
the policy that ample disclosure, a preeminent principle of the RESPA
statute, is a valuable means of informing consumers and promoting
competition in the settlement services industry.
The new formulation for the CBA disclosure is set forth in Appendix
D. It now reads:
You are NOT required to use [provider] as a condition for
[settlement of your loan on] [or] [purchase, sale, or refinance of]
the subject property. THERE ARE FREQUENTLY OTHER SETTLEMENT SERVICE
PROVIDERS AVAILABLE WITH SIMILAR SERVICES. YOU ARE FREE TO SHOP
AROUND TO DETERMINE THAT YOU ARE RECEIVING THE BEST SERVICES AND THE
BEST RATE FOR THESE SERVICES.
E. Other Matters Raised by Commenters
1. The Public Comments
In addition to the specific comments received in response to the
Department's request, some commenters raised concerns that some
employers were engaging in practices of retaliation or discrimination
against employees and agents for not referring business to affiliate
entities. Other commenters complained that settlement service providers
were being excluded from, or locked-out of, places of business where
they might find potential customers. They also alleged that high-priced
real estate office space arrangements with particular lenders,
frequently coupled with lock-out arrangements, raised RESPA concerns.
2. The Final Rule's Approach
The Department determined that these issues were distinct from
those raised by the proposed rule. Moreover, they do not require
rulemaking, but rather an interpretation, applied to specific
circumstances, of the statute and the implementing regulations.
Therefore, HUD is issuing a separate Statement of Policy on the issues
of retaliation, lock-outs, and appropriate office rents to provide the
guidance sought by so many commenters. That Statement of Policy is
being published in today's Federal Register, simultaneously with the
publication of this final rule.
Other Matters
Environmental Impact
A finding of no significant impact with respect to the environment
has been made in accordance with HUD regulations in 24 CFR part 50 that
implement section 102(2)(C) of the National Environmental Policy Act of
1969 (42 U.S.C. 4332). The finding is available for public inspection
during regular business hours in the Office of General Counsel, the
Rules Docket Clerk, room 10276, 451 Seventh Street, SW, Washington, DC
20410.
Executive Order 12866
This final rule was reviewed by the Office of Management and Budget
under Executive Order 12866, Regulatory Planning and Review. Any
changes made to the rule as a result of that review are clearly
identified in the docket file, which is available for public inspection
at the Office of the Rules Docket Clerk, Office of General Counsel,
Room 10276, Department of Housing and Urban Development, 451 Seventh
Street, SW, Washington, D.C. 20410-0500. An Economic Analysis (EA)
performed on this proposed rule is also available for review at the
same address.
Regulatory Flexibility Act
The Secretary, in accordance with the Regulatory Flexibility Act (5
U.S.C. 605(b)), has reviewed this rule before publication and by
approving it certifies that this rule does not have a significant
economic impact on a substantial number of small entities, other than
those impacts specifically required to be applied universally by the
RESPA statute. An Economic Analysis prepared in connection with this
rule considers the impact on small entities.
Executive Order 12612, Federalism
The General Counsel, as the Designated Official under section 6(a)
of Executive Order 12612, Federalism, has determined that the policies
contained in this final rule will not have substantial direct effects
on States or their political subdivisions, or the relationship between
the Federal government and the States, or on the distribution of power
and responsibilities among the various levels of government. As a
result, the rule is not subject to review under the Order. Promulgation
of this rule expands coverage of the applicable regulatory requirements
pursuant to statutory direction.
Executive Order 12606, the Family
The General Counsel, as the Designated Official under Executive
Order 12606, The Family, has determined that this final rule does not
have potential for significant impact on family formation, maintenance,
and general well-being, and, thus, is not subject to review under the
order. No significant change in existing HUD policies or programs will
result from promulgation of this rule, as those policies and programs
relate to family concerns.
[[Page 29252]]
List of Subjects in 24 CFR Part 3500
Consumer protection, Condominiums, Housing, Mortgages, Mortgage
servicing, Reporting and recordkeeping requirements.
Accordingly, for the reasons set out in the preamble, part 3500 of
title 24 of the Code of Federal Regulations is amended as follows.
PART 3500--REAL ESTATE SETTLEMENT PROCEDURES ACT
1. The authority citation for shall continue to read as follows:
Authority: 12 U.S.C. 2601 et seq.
2. Section 3500.2(b) is amended by adding, in alphabetical order, a
definition of ``managerial employee'', to read as follows:
Sec. 3500.2 Definitions.
* * * * *
(b) * * *
Managerial employee means an employee of a settlement service
provider who does not routinely deal directly with consumers, and who
either hires, directs, assigns, promotes, or rewards other employees or
independent contractors, or is in a position to formulate, determine,
or influence the policies of the employer. Neither the term
``managerial employee'' nor the term ``employee'' includes independent
contractors, but a managerial employee may hold a real estate brokerage
or agency license.
* * * * *
3. Section 3500.8(c)(2) is amended in the fourth sentence by
removing the reference ``Appendix F'' and adding in its place the
reference ``Appendix E''.
4. Section 3500.14 is amended by revising the last sentence of
paragraph (b), the heading of paragraph (g), and paragraph (g)(1), to
read as follows:
Sec. 3500.14 Prohibition against kickbacks and unearned fees.
* * * * *
(b) * * * A business entity (whether or not in an affiliate
relationship) may not pay any other business entity or the employees of
any other business entity for the referral of settlement service
business.
* * * * *
(g) Exemptions for fees, salaries, compensation, or other payments.
(1) The following are permissible:
(i) A payment to an attorney at law for services actually rendered;
(ii) A payment by a title company to its duly appointed agent for
services actually performed in the issuance of a policy of title
insurance;
(iii) A payment by a lender to its duly appointed agent or
contractor for services actually performed in the origination,
processing, or funding of a loan;
(iv) A payment to any person of a bona fide salary or compensation
or other payment for goods or facilities actually furnished or for
services actually performed;
(v) A payment pursuant to cooperative brokerage and referral
arrangements or agreements between real estate agents and real estate
brokers. (The statutory exemption restated in this paragraph refers
only to fee divisions within real estate brokerage arrangements when
all parties are acting in a real estate brokerage capacity, and has no
applicability to any fee arrangements between real estate brokers and
mortgage brokers or between mortgage brokers.)
(vi) Normal promotional and educational activities that are not
conditioned on the referral of business and do not involve the
defraying of expenses that otherwise would be incurred by persons in a
position to refer settlement services or business incident thereto;
(vii) A payment by an employer to its own bona fide employee for
generating business for that employer;
(viii) In a controlled business arrangement, a payment by an
employer of a bonus to a managerial employee based on criteria relating
to performance (such as profitability, capture rate, or other
thresholds) of a business entity in the controlled business
arrangement. However, the amount of such bonus may not be calculated as
a multiple of the number or value of referrals of settlement service
business to a business entity in a controlled business arrangement; and
(ix)(A) A payment by an employer to its bona fide employee for the
referral of settlement service business to a settlement service
provider that has an affiliate relationship with the employer or in
which the employer has a direct or beneficial ownership interest of
more than 1 percent, if the following conditions are met:
(1) The employee does not perform settlement services in any
transaction; and
(2) Before the referral, the employee provides to the person being
referred a written disclosure in the format of the Controlled Business
Arrangement Disclosure Statement, set forth in Appendix D to this part.
(B) For purposes of this paragraph (g)(1)(ix), the marketing of a
settlement service or product of an affiliated entity, including the
collection and conveyance of information or the taking of an
application or order for an affiliated entity, does not constitute the
performance of a settlement service. Under this paragraph (g)(1)(ix),
marketing of a settlement service or product may include incidental
communications with the consumer after the application or order, such
as providing the consumer with information about the status of an
application or order; marketing shall not include serving as the
ongoing point of contact for coordinating the delivery and provision of
settlement services.
* * * * *
5. Section 3500.15 is amended by revising the introductory text of
paragraph (b)(1), to read as follows:
Sec. 3500.15 Controlled business arrangements.
* * * * *
(b) * * *
(1) Prior to the referral, the person making a referral has
provided to each person whose business is referred a written
disclosure, in the format of the Controlled Business Arrangement
Disclosure Statement set forth in Appendix D of this part. This
disclosure shall specify the nature of the relationship (explaining the
ownership and financial interest) between the person performing
settlement services (or business incident thereto) and the person
making the referral, and shall describe the estimated charge or range
of charges (using the same terminology, as far as practical, as Section
L of the HUD-1 or HUD-1A settlement statement) generally made by the
provider of settlement services. The disclosure must be provided on a
separate piece of paper no later than the time of each referral or, if
the lender requires the use of a particular provider, the time of loan
application, except that:
* * * * *
Sec. 350017 [Amended]
6. Section 3500.17 is amended as follows:
a. In paragraph (b), in the definitions of ``Aggregate (or)
composite analysis'' and ``Single-item analysis'', by removing the
reference ``Appendix F'' in the last sentence of each definition and
adding in its place the reference ``Appendix E''.
b. In paragraph (c)(1)(i), in the second sentence, by removing the
reference ``Appendix F'' and adding in its place the reference
``Appendix E''.
c. In paragraph (d)(1)(ii), in the last sentence, by removing the
reference ``Appendix F'' and adding in its place the reference
``Appendix E''.
7. Appendix B is amended by revising Illustration 11, redesignating
Illustrations 12 and 13 as Illustrations
[[Page 29253]]
13 and 14 respectively, and adding a new Illustration 12, to read as
follows:
Appendix B to Part 3500--Illustrations of Requirements of RESPA
* * * * *
11. Facts: A, a mortgage lender, is affiliated with B, a title
company, and C, an escrow company, and offers consumers a package of
mortgage, title, and escrow services at a discount from the prices
at which such services would be sold if purchased separately. A, B,
and C are subsidiaries of H, a holding company, which also controls
a retail stock brokerage firm, D. None of A, B, or C requires
consumers to purchase the services of its sister companies, and each
company sells such services separately and as part of the package. A
also pays an employee T, a full-time bank teller who does not
perform settlement services, a bonus for each loan, title insurance
binder, or closing that T generates for A, B, or C. A pays T these
bonuses out of A's own funds and receives no reimbursements for
these bonuses from B, C, or H. At the time that T refers customers
to B and C, T provides the customers with a disclosure using the
controlled business arrangement disclosure format. Also, Z, a
stockbroker employee of D, occasionally refers her customers to A,
B, or C; gives a statement in the controlled business disclosure
format; and receives a payment from D for each referral.
Comments: Selling a package of settlement services at a discount
is not prohibited by RESPA, consistent with the definition of
``required use'' in 24 CFR 3500.2. Also, A is always allowed to
compensate its own employees for business generated for A's company.
Here, A may also compensate T, an employee who does not perform
settlement services in this or any transaction, for referring
business to a business entity in an affiliate relationship with A.
Z, who does not perform settlement services in this or any
transaction, can also be compensated by D, but not by anyone else.
Employees who perform settlement services cannot be compensated for
referrals to other settlement service providers. None of the
entities in an affiliated relationship with each other may pay for
referrals received from an affiliate's employees. Sections
3500.15(b)(3)(i)(A) and (B) set forth the permissible exchanges of
funds between controlled business entities. In all circumstances
described a statement in the controlled business disclosure format
must be provided to a potential consumer at or before the time that
the referral is made.
12. Facts: A, a real estate broker, is affiliated with B, a
mortgage lender, and C, a title agency. A employs F to advise and
assist any customers of A who have executed sales contracts
regarding mortgage loans and title insurance. F collects and
transmits (by computer, fax, mail, or other means) loan applications
or other information to B and C for processing. A pays F a small
salary and a bonus for every loan closed with B or title insurance
issued with C. F furnishes the controlled business disclosure to
consumers at the time of each referral. F receives no other
compensation from the real estate or mortgage transaction and
performs no settlement services in any transaction. At the end of
each of A's fiscal years, M, a managerial employee of A, receives a
$1,000 bonus if 20% of the consumers who purchase a home through A
close a loan on the home with B and have the title issued by C.
During the year, M acted as a real estate agent for his neighbor and
received a real estate sales commission for selling his neighbor's
home.
Comments: Under Sec. 3500.14(g)(1), employers may pay their own
bona fide employees for generating business for their employer
(Sec. 3500.14(g)(1)(vii)). Employers may also pay their own bona
fide employees for generating business for their affiliate business
entities (Sec. 3500.14(g)(1)(ix)), as long as the employees do not
perform settlement services in any transaction and disclosure is
made. This permits a company to employ a person whose primary
function is to market the employer's or its affiliate's settlement
services (frequently referred to as a Financial Services
Representative, or ``FSR''). An FSR may not perform any settlement
services including, for example, those services of a real estate
agent, loan processor, settlement agent, attorney, or mortgage
broker. In accordance with the terms of the exemption at
Sec. 3500.14(g)(1)(ix), the marketing of a settlement service or
product of an affiliated entity, including the collection and
conveyance of information or the taking of an application or order
for the services of an affiliated entity, does not constitute the
performance of a settlement service. Under the exemption, marketing
of a settlement service or product also may include incidental
communications with the consumer after the application or order,
such as providing the consumer with information about the status of
an application or order; marketing may not include serving as the
ongoing point of contact for coordinating the delivery and provision
of settlement services.
Thus, in the circumstances described, F and M may receive the
additional compensation without violating RESPA.
Also, employers may pay managerial employees compensation in the
form of bonuses based on a percentage of transactions completed by
an affiliated company (frequently called a ``capture rate''), as
long as the payment is not directly calculated as a multiple of the
number or value of the referrals. 24 CFR 3500.14(g)(1)(viii). A
managerial employee who receives compensation for performing
settlement services in three or fewer transactions in any calendar
year ``does not routinely'' deal directly with the consumer and is
not precluded from receiving managerial compensation.
* * * * *
8. Appendix D is revised to read as follows:
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[GRAPHIC] [TIFF OMITTED] TR07JN96.001
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9. Appendix E is removed and Appendix F is redesignated as Appendix
E.
Dated: May 31, 1996.
Nicolas P. Retsinas,
Assistant Secretary for Housing-Federal Housing Commissioner.
[FR Doc. 96-14329 Filed 6-6-96; 8:45 am]
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