The $25 billion national mortgage settlement essentially allows the five largest servicers to police themselves — which has made many consumer advocates surprisingly happy.
The settlement's final terms, released this week, require the banks to create internal review groups separate from their mortgage servicing arms. Those internal groups will create specific criteria to track their banks' compliance with the settlement terms, and will report on that progress every three months to an external monitor, Joseph A. Smith, Jr.
That hybrid system of internal and external monitoring drew praise this week from consumer advocates, who called Smith and his role crucial to the settlement's success. Paul Leonard, the California director for the Center for Responsible Lending, says Smith will have one of the most aggressive oversight functions he has seen in any agreement stemming from banks' dealings with borrowers.
"The monitor has a fairly broad license to get into the servicers' businesses," says Leonard. "It's pretty clear the state attorneys general learned from previous settlements, particularly with Countrywide, to try and create a more robust enforcement mechanism."
That 2008 settlement between state officials and Bank of America was supposed to provide relief to 400,000 homeowners, who had mortgages from the former Countrywide Financial Corp. But two of the 11 state attorneys general that settled a lawsuit with B of A, which now owns Countrywide, later claimed the bank did not live up to the settlement's terms. Last year Nevada and Arizona sued B of A, claiming the bank modified only 50,000 loans, not 400,000. (B of A denied the allegations.)
Such fallout from previous experiences led officials to hold out for a more rigorous oversight process when negotiating the deal with Bank of America, Citigroup Inc., JPMorgan Chase & Co., Wells Fargo & Co., and Ally Financial Inc.
But state and federal officials also had to take practical considerations into account. Overseeing the five largest servicers would be rather difficult to do without any cooperation from the banks themselves - hence the banks' internal monitoring groups. As Leonard puts it, "How would one even think about collecting this data, apart from through the institutions that are actually administering the programs?"
Representatives from other consumer groups, including the National Consumer Law Center and the National Association of Consumer Advocates, also endorsed the new settlement's requirements for monitoring servicer compliance.
"Clearly each bank has to have an internal process to determine the metrics, and Joe Smith will have access to the information to see if the banks are telling the truth," says Ira Rheingold, the executive director of the National Association of Consumer Advocates.
"This is such a big job, and each bank has to have an internal process to determine the metrics of how they meet the goals and receive credits and how they report it," he adds. Smith "will have the ability to dig deeper into the case files and sample them to ensure they are complying with the servicing guidelines."
One former banking regulator says it would be hard to find a better way to ensure greater compliance.
"What they've put in place here is a pretty rigorous structure, through resources with independence from the business line, for ensuring the terms of the settlement are carried out," says the former regulator, who now works in consulting and would not comment publicly.
"If the self-policing isn't working well, it's going to be a busy monitor," the person adds.
That comment highlights how much responsibility Smith has agreed to shoulder. The former banking commissioner of North Carolina has been given broad access to servicers' information, including regular business reports analyzing servicing complaints and quarterly information identifying the three most common complaints received.
Smith also has broad powers if information is uncovered that shows the internal review groups are not operating independently. He will publish reports naming banks that fail to meet their responsibilities, and will be able to impose fines of up to $5 million for certain repeat violations of the settlement's terms.
Nearly everyone interviewed for this article says Smith has taken on "a huge burden," in the words of former Arizona attorney general Terry Goddard.
"We're throwing the ball way down the field to this lone receiver, who was asked to leave his job, and he's definitely receiving the Hail Mary pass," says Goddard, who is now a senior advisor at Treliant Risk Advisors and a senior counsel at the law firm SNR Denton.
One immediate problem is that Smith may be constrained in whom he can hire.
The settlement places multiple restrictions on consulting firms or other third parties that the government uses to help review the servicers. For example, the deal prohibits any firm hired by Smith from working on behalf of a servicer for at least a year after its government contract expires.
That could be problematic for the government, since most of the large accounting firms, law firms and consultants with expertise in mortgage servicing are already working for at least one of the 14 largest servicers. As part of consent orders issued last year by the Office of the Comptroller of the Currency, the regulator mandated that servicers hire third-party consultants to review their foreclosure activities.
Beyond potential conflict of interests, it is unclear how much capacity any of the firms have to help Smith in his monitoring role. One of the rationales the OCC gave for bringing on independent consultants, even those with ongoing business relationships with the banks, was that there are not enough government resources or staff who have done such work before.
"Who is Joe Smith going to hire?" says one lawyer, who is currently working with a servicers on complying with the OCC's consent orders.
Others said it is hard for third-party firms to get away from the question of independence, since they are being paid directly by servicers.
And despite some consumer advocates' blessings, not everyone is convinced that the internal monitoring system will effectively police the banks' efforts to comply with the settlement. The settlement mandates that the newly-created internal review groups be separate from banks' servicing operations — but from a practical perspective, that independence is sometimes difficult to enforce. One third party consultant, who did not want to speak publicly because the process is still ongoing and somewhat contentious, says internal politics often help compromise independence in these situations.
But consumer advocates say they are hopeful that the national settlement's mix of oversight and servicer incentives to help borrowers will produce a better result than past deals have.
"All through this crisis, hopes have been dashed repeatedly, with well-intentioned and seemingly well-designed initiatives. But this is the one they seemingly have thought through," says Leonard. "They put in financial incentives to drive quick implementation and action, so that's encouraging."