New government aid programs for troubled homeowners are forcing cost-cutting banks into a tricky balancing act.

The largest mortgage servicers, including Bank of America Corp. (BAC), Wells Fargo & Co. (WFC), and Citigroup Inc. (C), are trying to compensate for weak revenue growth by slashing expenses this year. But their belt-tightening efforts are being complicated by a wave of new mortgage refinance applications, due in part to a revised Home Affordable Refinance Program, known as Harp 2.0.

At the same time, the largest banks have also agreed to revamp some of their mortgage servicing operations, as a result of a national settlement with federal and state officials. The $25 billion settlement requires the banks to more closely evaluate foreclosures, improve their paperwork processes, and ensure that they are adequately staffed so that borrowers have a "single point of contact."

Mortgage servicers often lay off and rehire employees as needed. But the wave of new demands on banks' mortgage operations, coming at the same time that they are trying to fulfill company-wide mandates to cut expenses, has set up an internal battle at banks for their already-stretched resources.

"You're going to see a temporary spike in mortgage employment over the next two to three years," says Tony Plath, a finance professor at the University of North Carolina at Charlotte. "This creates a new operating expense the industry wasn't expecting."

Harp 2.0 is already flooding the banks with refinance requests. The program allows borrowers to refinance regardless of their loan-to-value ratio, and is expected to generate thousands of requests from borrowers.

Frank Bisignano, chief administrative officer at JPMorgan Chase & Co. (JPM), told investors and analysts on Feb. 28 that the bank expects Harp to generate significant volume through the summer.

"I think Harp 2.0 is bigger than we ever thought at the start," he said.

Paul Miller, an analyst with FBR Capital Markets (FBRC), says some bankers have told him that their companies are receiving as many as 1,000 applications per day under the new program.

That surge in refi demand "has been way better than anybody anticipated," says Miller.

Banks have scrambled to keep up, even as they are trying to cut back on overall expenses. Bank of America, for example, in September announced its plans to cut 30,000 jobs over the next few years under a cost control program known as "New BAC," a play on the company's ticker symbol.

But most of those cuts will have to pass over B of A's mortgage operations, at least for the time being, as customer demand swells. The Charlotte, N.C., bank in February started telling some prospective customers that it would not be able to consider their refi request for 60 to 90 days.

B of A has scrambled to staff up or reassign other employees, and is retraining 500 employees at a Maryland facility to handle refinance requests instead of credit card collections, a spokesman told American Banker in February.

Spokesman Terry Francisco added in March that the bank has hired 300 more employees to process refinance applications. Since first accepting applications in January, the bank has received 20,000 requests for modified mortgages, Francisco said.

Wells Fargo, which is attempting to trim $1.5 billion in quarterly expenses by the end of 2012, has hired 10,600 employees dedicated to home preservation since 2009, according to spokeswoman Veronica Clemons. That hiring spree increased Wells Fargo's mortgage-related staff by 140 percent.

Clemons said in March that it was too soon to estimate the staffing impact of Harp 2.0 and other government programs. Wells Fargo is constantly evaluating its staffing levels and making adjustments accordingly, she added.

Citigroup, which is attempting to trim $3 billion from its annual expenses, is "seeing a great deal of interest in Harp 2.0 from homeowners, and applications have been strong," spokesman Mark Rodgers said in an email.

A spokesman for JPMorgan Chase did not respond to a request for a comment.

While the biggest banks staff up some mortgage units, they are cutting back across a broad swath of other services, including their revenue-challenged investment banking operations. Some banks are trying to meet the demands on their mortgage units by transferring employees from other divisions, as a way to save on expenses while still bulking up their servicing or origination operations.

"They are maintaining their hiring levels, and shifting existing pools of employees around," says Mike Jackman, president of Jackman Financial Group, a Plano, Texas, mortgage industry recruiting firm.

Jim Cameron, a managing director at mortgage consulting firm Stratmor Group, says that any bank with a significant servicing portfolio in the "sand states" of California, Florida, Arizona and Nevada will be hiring employees to handle mortgage refinancing.

Cameron also says lenders in the upper Midwest, including Indiana and Illinois, would be quick to hire staff to handle refinance applications.

The number of U.S. workers who work in credit mediation, defined as loan servicing and other related credit support services, rose from 88,000 in 2010 to a projected 92,000 in 2011, according to preliminary figures from the Bureau of Labor Statistics. That figure is expected to increase again in 2012.

Banks are also relying on temporary and outsourced workers to help them meet the demands on their mortgage businesses. Scott Slifer, president of sales and market for ISGN, a Melbourne, Fla., mortgage and technology provider, says his phone has "been ringing off the hook" with calls from mortgage servicers that want to outsource the back-office fulfillment and processing of Harp refinance applications.

Doug Lebda, the chief executive of lead generator LendingTree LLC (TREE), says that while the Harp 2.0 refinance program was designed primarily for large banks, mortgage lenders of all sizes face "undercapacity issues."

He adds that "there is tremendous consumer interest, but not a lot of capacity from the standpoint of the large lenders."

Plath says banks will also need to bring on additional staff to handle refinancing requests because third-party originators, once a key outlet for overflow business, have all but disappeared.

The number of the mortgage brokers in the country has dropped from a peak of 144,000 in 2006 to a projected 56,000 in 2011, according to the Bureau of Labor Statistics. These outside salespeople, along with correspondent lenders, helped banks meet high demand for refis without having to hire large numbers of mortgage staff in past booms.

But the biggest banks have been dismantling their correspondent and wholesale lending businesses in recent years, after third-party originators saddled banks with bad loans. The retrenchment has left banks with little alternative now to handle the excess demand.

In the short term, banks might find a silver lining in programs like Harp 2.0. Refinance applications actually bring in revenue, unlike the business of servicing delinquent loans, which has been a leech on overall bank profits.

"The banks aren't shying away from the added expense, if it means more revenue and profit," says Marty Mosby, bank analyst with Guggenheim Securities.

Cameron says Harp loans are now making up as much as 60 percent of some banks' lending pipelines.

"Its certainly true that Harp 2.0 is an immediate opportunity to refinance a bank's portfolio," he says.

But not all parts of banks' mortgage operations seem worth the investment of adding staff. Over the last two years, large banks have written down the value of mortgage servicing rights on their books, as it has become less profitable to service mortgages for outside investors.

Miller says the spike in foreclosures in recent years has increased the cost of servicing a typical loan from $40 to between $60 and $70. That money, he says, comes straight from the banks' bottom lines.

Garth Graham, president of consultancy Financial Literacy Solutions, says the broader mortgage industry is beginning to move back towards focusing on originations, after spending the last few years dedicated solely to servicing troubled loans.

"The pendulum is swinging back," says Graham. "The banks were spending a lot of time and energy on people not making their payments on time, and most of the origination side has been staffed very lean."

But all that staffing up could leave the revenue-strapped banks with a longer-term problem, especially if the economic recovery remains sluggish. Once the latest refi boom ends, analysts say the banks will need to quickly shed employees.

"The big concern is that mortgage banking revenue is going to drop off and you'll be left with higher expenses," Miller says. "I don't know if anyone knows the answer to that right now."

Subscribe Now

Access to authoritative analysis and perspective and our data-driven report series.

14-Day Free Trial

No credit card required. Complete access to articles, breaking news and industry data.