Last year witnessed historic negotiations with regard to world trouble spots and the federal budget. While admittedly of a lesser magnitude, negotiations initiated by the Department of Housing and Urban Development could have a huge impact on the mortgage industry.
On Dec. 13, HUD began a procedure known as "negotiated rulemaking" to attempt to resolve various issues related to the Federal Real Estate Settlement Procedures Act of 1974. The process involves a committee formed of representatives from interested groups that will hold informal public meetings on these issues.
The give-and-take of the meetings is expected to foster constructive, creative, and acceptable solutions.
The committee convened by HUD has agreed to protocols and scheduled monthly meetings through April 1996. (See table for a listing of members.) The committee's aim is to make a recommendation that HUD can review and submit for public comment by fall 1996.
Why does the real estate settlement act need negotiated rulemaking? Like other federal rulemakings for the consumer finance industry, the problems with the act are threefold:
First, federal regulators do not have clear direction on what Congress wants the law to achieve. The absence of a clear test or statement of purpose puts a considerable burden on the regulators.
Second, regulators usually are not experts on the various ways that the consumer credit industry conducts mortgage lending. Consequently, they do not always meet the industry's needs for clear rules and prompt solutions.
Third, and most important, the industry is so highly competitive and innovative that regulators cannot keep up with the changes.
There's been considerable controversy over the real estate settlement act's exact purpose since it was enacted in 1974. Today, HUD still is far from resolving some of the act's more difficult issues. Two areas in particular bedevil both HUD and the mortgage loan industry:
*Disclosure. There appears to be no clear congressional intent regarding disclosure of indirect fees. But HUD - unlike the Federal Reserve Board with Truth-in-Lending - has interpreted Reg X to require disclosure of both "front-end" and "back-end" fees (payments that arise during the transaction, but are not paid directly by the borrower).
The agency's failure to set a clear test has made it very difficult for creditors to know if they're in compliance with the settlement act's disclosure requirements.
*A ban on referral fees. Section eight of the real estate act provides for both civil and criminal penalties. Also, section eight has no provisions, as with the Truth-in-Lending Act, that limit the liability of a mortgage loan's purchaser if there is a violation. This exposes the secondary market to considerable risk.
The Truth-in-Lending Act has a mechanism that permits creditors to correct errors and avoid penalties. The real estate settlement act needs such a procedure as well.
There are a number of possible outcomes. If negotiated rulemaking fails to result in clear and workable rules, two major problems will result:
*Litigation. Lack of clarity will produce class actions, forcing many creditors to enter into settlements rather than risk adverse results. If creditors decide to litigate, the results are likely to vary among courts.
*Industry changes. Litigation also could generate an adverse chain reaction on the mortgage industry's structure and operations. Small businesses within the industry's retailing side may not survive the cost of major litigation.
On the industry's wholesale, secondary market side, companies may have already priced for further litigation - but the real estate act's uncertainties may force them to increase their operating costs as well, so that the retailing side is adequately policed through due diligence.
We cannot predict all the possible consequences if the act's problems remain unresolved. Obviously, HUD needs to adopt clear rules that foster product diversity and industry growth. At the same time, consumers should receive meaningful disclosures and only pay charges that are competitively set.
Perhaps the HUD committee will be deemed successful if all sides see the need to send the real estate settlement act back to Congress. But it will be a major milestone if negotiated rulemaking resolves the issues.
To have found a way for federal agencies, industry representatives, and consumer groups to reach a workable consensus would create a precedent that could be used to resolve current and potential problems under federal consumer credit regulations.
Mr. Jones is a partner with Jones, Day, Reavis & Pogue in Washington. Mr. McKew is general counsel of the American Financial Services Association, also in Washington.
