In the past few years, "net branches" have quickly evolved from an obscure corner of the home loan market into a powerhouse - and, for some, a problem.
The partnerships make big mortgage companies nominally in charge of smaller lenders. The parent gets a fee from every loan originated in exchange for paying the branches' overhead and taking care of employee benefits. But the branches themselves operate independently; workers are compensated on the basis of their own volume.
The idea has been around for more than a decade, but it started getting popular in the mid-'90s and has really taken off in the past two years. Now traditional lenders, the Department of Housing and Urban Development, and even net-branching executives themselves think it might be time to reassess where the sector is headed.
HUD is "concerned" with third-party loan originations like net branches, and the practice remains under review, an official with the agency said. The concern is that net branching, practically a form of franchising for mortgage bank branches, is a sort of lending Wild West that needs more oversight.
Yet those that are in net branching say it is it a legitimate way to originate mortgages and that in time the model will prove superior to traditional mortgage banking.
"If there's one thing that's become very clear in the last 10 years," it is that "the actual loan producers really own the mortgage industry," said Steve Hops, the senior vice president of business development at Guild Mortgage Co. in San Diego. "The days of many levels of management are quickly coming to an end."
Allied Home Mortgage Capital Corp., the nation's largest net banker, is adding 20 to 30 branches a month, its executives say, and now has more than 700 branches. RBC Mortgage Co., formerly Prism Mortgage, has added 50% more branches in just the last two years, bringing its total to more than 150 today.
New players include American Residential Funding, a Huntington Beach, Calif., unit of e-Net Financial.Com Corp. In September, Flagstar Bank of Troy, Mich., announced its intention to enter the business and eventually open 500 branches.
Lenders create net branches by buying or affiliating with smaller retail lenders, mortgage brokers, or even individual loan officers. Mr. Hops said the practice lets loan officers run their own businesses without interference from a huge bureaucracy.
"We don't have non-producing salaried branch managers or the regional managers," he said. "The people who are actually producing the business are able to make more money with our plan. They're able to be the master of their universe."
Ron Litt, the chief information officer at Allied, said net branching has an advantage over traditional lending because it makes a wider array of products available. More important, by letting branches focus on sales, Allied becomes much leaner and more efficient, Mr. Litt said.
"We let them be what they are born to be, which are good loan originators," Mr. Litt said. "For a person who is a born sales rep, that's a really good way to go because most good salespeople are terrible managers," he said.
Terry Rowland, president of national sales for Chicago-based RBC Mortgage, a unit of Royal Bank of Canada, said the more entrepreneurial loan officers see running a net branch as a good alternative. RBC Mortgage acquired its net branching unit, Pacific Guarantee Mortgage Corp., in 1998. Its net-branching loan volume doubled last year, to $5 billion.
RBC branch managers control everything in their branches, from the budget to marketing. "These branch operators, even though they are our employees, see themselves as running companies," Mr. Rowland said.
To those in net branching, possible regulation from HUD or legislation from the state or local level is a big anxiety.
"We are very concerned about the regulatory environment and what HUD might decide about net branching," said Mr. Rowland.
Two years ago, in an effort to add some regulatory clarity, HUD published a mortgagee letter outlining acceptable practices for FHA lenders. It said it did so in part because lenders were using HUD-prohibited strategies to originate FHA loans.
Still the department acknowledged at the time that the term "net branch" lacks a universally accepted definition, and several sources said the issue of regulation remains a problem. Meanwhile traditional lenders are grumbling that net branches are thriving under less onerous rules.
"There is some concern that the traditional lenders are trying to adhere to the strict standards of the HUD guidance, while other lenders are less compliant," said an observer asking not to be named. "Lenders just want a level playing field with clear guidance from HUD."
Mr. Rowland said that net-branching strategies vary wildly from company to company. Though RBC and Allied do not work with individuals working at home, for example, Guild does. It has 18 such relationships.
While not calling into question any one company's approach, several net-branching executives acknowledged that a few companies operating "on the edge," as Mr. Rowland put it, could cast a pall on the entire sector.
Some programs are run very well and some are not, Mr. Rowland said. "I just think we're now seeing net branching in its many different forms bumping up against FHA rules, which are very specific about how you have to do business," he said.
Mr. Litt of Allied said that he expects some pressure from the legislative or regulatory responses to predatory lending, which would push Allied to be more of a mortgage banker than a broker. Doing so would avoid some of the problems associated with predatory lending, such as yield-spread premium fees, he said.
But net branching is essentially a form of retail lending, and that means it will prosper, Mr. Rowland said.
"Retail is alive and well and probably going to be growing faster than other channels," he said. Despite the advances in technology and consumer education, consumers still like to have someone to talk to when getting a mortgage, whether for purchase or refinance, he said.
And because of increasing consolidation, more loan officers and even lenders will look to net branching. Mr. Rowland said the monster servicers - such as Washington Mutual Inc., Citigroup Inc., and Wells Fargo Home Mortgage Inc. - rely on smaller originators to keep the pipeline full.
"Net branching is going to continue to grow as larger and larger companies become more and more consolidated," he said. "We're going to see two industries within the industry, and net branching is an area where you can get onboard but still be entrepreneurial. That's the way the world is going to go."