In what we understand to be the first state law to do so, California’s Assembly Bill 913 (AB913), which was enrolled on September 4, 2020, amends Section 850 of the Public Utilities Code to allow electrical corporations to apply for a required financing order from the California Public Utility Commission (CPUC) to use securitization to recover verified incremental undercollections in calendar year 20201 through authorized fixed recovery charges.

AB913 notes that securitization is a “proven method of stabilizing rates by smoothing rate increases over a longer period of time” and finds that, as a result of the COVID-19 pandemic, many customers have been unable to pay their electrical utility bills and, further, that electricity consumption has decreased. Consequently, the amount of revenue the electrical corporations, regulated by the CPUC, will recover is expected to be below authorized forecasts, so—in order to avoid otherwise likely rate increases in a time of economic stress and uncertainty—AB913 notes that the CPUC should be authorized to approve the securitization of these revenue shortfalls.

AB913 requires verification of either or both of the following incremental undercollection amounts for calendar year 2020:

(i) An incremental undercollection amount equal to the difference between the forecasted amount of billed revenues for that year, based on the authorized sales forecast, and the revenues actually billed by an electrical corporation with respect to all revenue balancing accounts if the incremental amount as a percentage of the forecasted amount of billed revenues for that year is at least 5 percent.

(ii) An incremental undercollection amount equal to the residential and small business customer bad debt expense recorded for that year that exceeds the bad debt expense for that year that was adopted by the CPUC in the general rate case if the incremental undercollection amount is otherwise eligible for recovery in rates.

AB913 defines a “revenue balancing account” to mean a balancing account reflecting the balance between the electrical corporation’s authorized revenue requirements relating to the volumetric sale of electricity and billed revenues associated with those sales. A revenue balancing account includes accounts reflecting the balance between the electrical corporation’s authorized distribution base revenue requirements and recorded billed revenues from authorized distribution rates, and accounts reflecting the difference between the amount of the discount provided to consumers enrolled in the California Alternative Rates for Energy (“CARE”) program and the CARE surcharge charged to non-CARE consumers, but shall not include amounts reflecting the balance between costs and expenses relating to fuel and purchased electricity by the electrical corporation.

AB913 also prohibits the recovery through any other cost recovery application, mechanism, or request by the electrical corporation of any incremental undercollection amounts subject to a CPUC-approved financing order and requires that the CPUC ensure that any costs included in incremental undercollections subject to a financing order are just and reasonable, consistent with the requirements of subdivision (a) of Section 850.1.

While, by focusing on revenue undercollections, AB913 may avoid some of the technical and other difficult issues2 in determining COVID-19 “costs,” this law may raise issues regarding the qualification of a related securitization for the preferential treatment provided by the Internal Revenue Service in its related revenue procedure 2005-62.

On 3 September 2020, two regulations were published regarding the detailed disclosure requirements under the Securitisation Regulation (the “Disclosure Technical Standards“). These consist of regulatory technical standards concerning the information and the details of a securitisation to be made available (the “Disclosure RTS“), and implementing technical standards with regard to the standardised templates (the “Disclosure ITS“).  The Disclosure Technical Standards will enter into force 20 days after publication, i.e. on 23 September 2020.

Read the Legal Update here.

On Tuesday, September 1, 2020, the US Centers for Disease Control and Prevention (the “CDC”) filed a notice of an agency order in the Federal Register titled Temporary Halt in Residential Evictions to Prevent the Further Spread of COVID-19 (the “Order”), which the CDC published on Friday, September 4, 2020. The Order prohibits landlords, residential property owners, or other persons or entities with the legal right to pursue an eviction from exercising such right with respect to any covered person for the period from publication through December 31, 2020.

The Order defines a “covered person” as any tenant, lessee, or resident of a residential property—including any property leased for residential purposes, such as a house, building, mobile home or land in a mobile home park, or similar dwelling leased for residential purposes but excluding hotels, motels, and other temporary or seasonal guest housing—who provides a declaration, under penalty of perjury, to the person holding a legal right to pursue eviction indicating that the individual:

  1. Has used best efforts to obtain all available government rental or housing assistance;
  2. (i) Expects to earn less than $99,000 per year ($198,000 for joint returns), (ii) was not required to report any income in 2019, or (iii) received an economic impact payment pursuant to the CARES Act;
  3. Is unable to pay full rent or housing payments due to substantial loss of household income, loss of work hours or wages, a layoff, or extraordinary out-of-pocket medical expenses;
  4. Is using best efforts to make timely partial payments as close to the full payment as the individual’s circumstances permit, taking into account other nondiscretionary expenses; and
  5. Would likely be rendered homeless or forced to move into and live in close quarters in a new shared living situation if evicted.

A declaration must be prepared by each adult listed on the lease, rental agreement, or housing contract. There is no requirement for the tenant, lessee, or resident to provide documentation to evidence the statements made in the declaration. Nor is there any express right of the person holding the legal right to pursue eviction to challenge the underlying statements made in the declaration.

The Order does not prohibit foreclosure on home mortgages nor does the Order relieve any tenant or resident of any contractual obligations to pay rent or housing payments; however, any eviction or other proceeding to remove a covered person from a residential property for failure to pay rent is prohibited under the Order. Notably, the Order does not prohibit evictions for other reasons, such as evictions for (i) engaging in criminal activity; (ii) threatening the health and safety of other residents; (iii) damaging, or posing a significant risk of damaging, property; (iv) violating applicable building codes or similar regulations related to health and safety; or (v) violating any other contractual obligation other than the timely payment of rent or housing payments (defined to include late fees, penalties, and interest). Nor does the Order apply in states or localities with greater eviction protections or in American Samoa (where there have been no reported cases of COVID-19).

Violations of the Order may be enforced by federal authorities as well as state and local authorities cooperating pursuant to the CDC’s statutory authority to accept state and local cooperation. Violations carry potential criminal penalties for individuals of up to one year in jail and a fine of up to $100,000, which increases to up to $250,000 if a death occurs as a result of the violation. For organizations, violations can carry a penalty of up to $200,000, which increases to up to $500,000 if a death occurs as a result of the violation.

Background and Authority

The CARES Act already provides a stay on eviction but only in connection with residential properties securing “federally-backed mortgage loans,” consisting of loans sold to Fannie Mae or Freddie Mac or insured or guaranteed by the Federal Housing Administration, US Department of Veterans Affairs or Rural Housing Service. While the statutory stay has expired, each of the federal entities has extended the stay through the end of the year. Some states and localities also have imposed stays on residential evictions. Accordingly, the Order is designed to fill the gap.

The CDC issued the Order pursuant to its authority to “take such measures to prevent such spread of the diseases as [the Director] deems reasonably necessary” when interventions by state and local health officials are, in the Director’s determination, insufficient to prevent the spread of communicable diseases.1 The Order highlights the potential for a large number of Americans to be evicted as a result of economic hardships caused by the COVID-19 pandemic and notes that a number of such evictions would result in interstate moves, moves that result in close-quarters living with friends or family, moves to homeless shelters or other congregate living situations, or unsheltered homelessness. In these scenarios, the Order notes, the rate of the spread of COVID-19 may be increased and the severity of resulting illness may be exacerbated.

As a result, the Director has determined that “[b]ased on the convergence of COVID-19, seasonal influenza, and the increased risk of individuals sheltering in close quarters in congregate settings such as homeless shelters, which may be unable to provide adequate social distancing as populations increase, all of which may be exacerbated as fall and winter approach,” a temporary halt in evictions is appropriate. Likewise, the Director has determined that any state or locality that does not implement this minimum level of eviction protection is taking insufficient measures to prevent the spread of communicable disease. Interestingly and surprisingly, the Order is not signed by the Director but instead by the Acting Chief of Staff.

The Order stems from President Trump’s August 8, 2020, Executive Order on Fighting the Spread of COVID-19 by Providing Assistance to Renters and Homeowners, which, among other things, directed the Secretary of Health and Human Services and the Director of the CDC to consider whether measures halting residential evictions of any tenants for failure to pay rent were reasonably necessary to prevent the further interstate spread of COVID-19. Consistent with other components of that executive order, the CDC Order notes that both the Department of Housing and Urban Development and the Department of the Treasury have informed the CDC of availability for funding and additional housing aid to assist with eviction-prevention programs.

The Order appears to be a novel application of the CDC’s authority. We are unaware of any past efforts by the CDC to implement such broad, nationwide restrictions on activities with seemingly attenuated connection to preventing the spread of communicable diseases. While section 361 of the Public Health Service Act grants broad authority to the CDC to regulate the entry and spread of communicable diseases, it is unclear whether a nationwide eviction moratorium falls into the types of regulations contemplated by the Act or its implementing regulations, which describe measures such as “inspection, fumigation, disinfection, sanitation, pest extermination, and destruction of animals or articles believed to be sources of infection.”2

A moratorium on evictions certainly is not of the same kind or with the same characteristics or common attributes of the listed health measures and thus may lack the necessary nexus with the underlying purpose of the law. Moreover, the public health risks on which the Order is based arguably are present in many other types of daily activities that the CDC has not sought to prohibit or limit through an order, thus raising questions about the potential unevenness of the use of the CDC’s broad authority. Time will tell if the Order is challenged in court. Regardless of whether the Order is challenged in court, many industry groups publicly have stated that federal legislation to fund direct rental assistance or other economic benefits to tenants suffering economic distress is necessary.

***

If you wish to receive regular updates on the range of the complex issues confronting businesses in the face of the novel coronavirus, please subscribe to our COVID-19 “Special Interest” mailing list.

And for any legal questions related to this pandemic, please contact the authors of this Legal Update or Mayer Brown’s COVID-19 Core Response Team at FW-SIG-COVID-19-Core-Response-Team@mayerbrown.com.


1 42 C.F.R. § 70.2; 42 U.S.C. § 264.

2 42 C.F.R. § 70.2.

Almost 12 years after the commencement of the Lehman Brothers bankruptcy case, we now know the answer to one of that case’s most interesting questions—namely, whether so-called “flip clauses” are protected settlement payments or void as ipso facto bankruptcy provisions.

On August 11, 2020, the US Court of Appeals for the Second Circuit (Court) issued a decision in the closely followed case of Lehman Brothers Special Financing Inc. v. Bank of America N.A., 18-1079, which raised this question in the context of synthetic collateralized debt obligations (SCDOs).

Continue Reading Second Circuit: Lehman Brothers “Flip Clause” Payments Are Protected Settlement Payments and Not Void as Ipso Facto Bankruptcy Provisions

Ginnie Mae’s newly imposed restriction on repooling of reperforming forborne loans yet again penalizes servicers acting as essential service providers in the continuing efforts to protect mortgagors facing financial hardship due to COVID-19. In issuing APM-20-07 on June 29, 2020, Ginnie Mae decided to further protect investors from the potential enhanced prepayment risk resulting from early pool buyouts of forborne loans. This protection, however, comes at the expense of servicers. By restricting servicers from relying on long-standing, legitimate business activity—early pool buyouts coupled with the repooling of reperforming loans—Ginnie Mae has elected to deem a routine activity as inappropriate because it is unnecessary and, gosh, may produce a profit.

This Of Special Interest provides more context on the new APM, possible reasoning behind Ginnie Mae’s change in position and what it means for issuers.

This article was first published in and is reproduced with the kind permission of HousingWire.

A recent report, entitled “A New Vision for Europe’s Capital Markets” (the “Report”), sets out some key recommendations for how the EU securitisation market can be scaled up. The Report has been published by the High Level Forum on the Capital Markets Union (the “HLF”) which was established by the European Commission (the “Commission”). The recommendations cover some key areas of interest for market participants.

Background
Capital Markets Union has been an important part of the European regulatory agenda for some time, and was the subject of an Action Plan adopted by the Commission in September 2015. The HLF is composed of experts in the European capital markets, alongside a number of observers from European supervisory bodies and institutions. The views expressed in the Report are those of its members and not the Commission. Nonetheless, the views expressed in the Report are expected to inform the future work of the Commission.

The Report makes seventeen sets of recommendations in relation to different aspects of the EU markets. In this Legal Update, we have focused solely on the recommendations relating to the EU regulatory framework which applies to securitisation.

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For more information about the topics raised in this Legal Update, please contact Merryn Craske on +44 20 3130 3029, Neil Macleod on +44 20 3130 3252, Robyn Llewellyn on +44 20 3130 3990 or Jaime Lad on +44 20 3130 3927.

Learn more about our Structured Finance practice.

Visit us at mayerbrown.com.

On June 25, 2020, five federal financial regulatory agencies published the long awaited Final Revisions to the Volcker Rule (the “Final Revisions”) which revise certain aspects of the Volcker Rule (Section 13 of the Bank Holding Company Act) with respect to the identification and treatment of covered funds.  The Final Revisions follow three years of the agencies’ consideration of changes to the Volcker Rule, originally prompted by the June 2017 Treasury Report that solicited changes to ease the compliance burden on banks.  The Final Revisions are largely consistent with the notice of proposed rulemaking (the “NPR”) published 6 months ago, but with some important, and welcome, clarifications and other adjustments.  Many of the changes from the NPR contained in the Final Revisions are in response to industry requests designed to clarify and ease the compliance burden of banking entities subject to the Volcker Rule.

 

For those entities relying on the loan securitization exclusion under the Volcker Rule (the “LSE”), the Final Revisions added to the LSE an allowance to own up to 5% of non-loan debt instruments (such as corporate bonds).   This 5% bucket is calculated based on the par value of assets at the time of each acquisition. In a shift from the NPR, the Final Revisions limit the 5% non-complying assets bucket to debt securities (other than ABS or convertible securities). Although this change from the NPR technically narrows the non-complying assets bucket, the agencies helpfully clarified in the adopting release for the Final Revisions that all leases and leased property are permissible assets under the LSE. This clarification alleviates the need for further broadening of the non-complying assets bucket for typical ABS transactions while closing any gap in the NPR that would have permitted funds relying on the LSE to acquire equity securities.

 

The Final Revisions include a safe-harbor carve-out to the definition of “ownership interest” under the Volcker Rule in substantially the same manner as proposed in the NPR. The safe harbor applies to certain senior loan or other senior debt interests that satisfy three tests. The safe harbor provides greater clarity around certain debt interests that structured finance industry participants ordinarily would not consider to be an ownership interest.  Unfortunately, the agencies declined to provide further clarity around the meaning of “senior”.

 

The need for further clarification with respect to this safe harbor, however, is largely mitigated by the helpful change and clarifications to the definition of “ownership interest” in the Final Revisions and accompanying adopting release.  Importantly, and as requested by industry participants, the Final Revisions provide that the right to remove a collateral manager or similar entity for cause generally does not convert a debt instrument into an “ownership interest”, regardless of the existence of an event of default or acceleration event.  Although the Final Revisions include a list of specific “cause” events on the basis of which holders of debt instruments may remove a manager without their instruments being rendered “ownership interests”, we believe these are generally consistent with industry standards – and moreover the list includes a catch-all for other similar “cause” events that are not solely related to the performance of the covered fund or the investment manager’s exercise of investment discretion under the covered fund’s transaction agreements.  The adopting release also helpfully clarifies that the existence of a typical cash waterfall for the allocation of collections to an interest in an issuer is not a “right to share in income, gains or profits” that would result in the interest constituting an ownership interest in a covered fund.   We anticipate that these adjustments to the definition of “ownership interest” will enable banking entities to invest in CLOs and other ABS loans and debt instruments without the need to rely on a specific covered fund exclusion.  This should ease the compliance burden for banking entities that finance the securitization of loans.

 

The Final Revisions are effective as of October 1, just three months away.   The agencies considered a longer transition period but believe the nature of the changes permit an accelerated effective date.  We agree.  We will provide a full Legal Update on the Final Revisions in the coming days.

In recent weeks, the US federal housing agencies and government-sponsored enterprises (GSEs) that insure, guarantee, or purchase “federally backed mortgage loans” covered by Section 4022 of the CARES Act (Act) have continued their intense pace of issuing temporary measures, and updates to such measures, intended to implement the Act’s provisions applicable to such loans. These actions aim to provide assistance to mortgage loan borrowers facing financial hardship in connection with the COVID-19 outbreak during and after the forbearance period set forth in the Act. The agencies and GSEs also have issued several announcements regarding flexibility for servicers and originators of “federally backed mortgage loans” to address certain of the unintended consequences of the broad forbearance relief authorized by the Act.

This Legal Update summarizes some of the significant guidance related to the Act’s broad mortgage forbearance provisions and certain of the unintended consequences. Specifically, we provide details regarding: (1) updates to the federal housing agencies’ and GSEs’ foreclosure and eviction moratoria; (2) updates to the GSEs’ COVID-19 Payment Deferral option; (3) announcements by the US Department of Housing and Urban Development’s (HUD) Federal Housing Administration (FHA) and the GSEs regarding their insurance endorsement or purchase of mortgage loans that go into forbearance post-closing and prior to endorsement or purchase, subject to certain important conditions; and (4) the GSEs’ announcement that certain borrowers in forbearance are temporarily eligible for refinancing and new home purchases.

Extension of FHFA and HUD Foreclosure and Eviction Moratoria

Most recently, on June 17, 2020, both the Federal Housing Finance Agency (FHFA) and HUD announced extensions of the moratoria on foreclosure and eviction previously announced by Fannie Mae, Freddie Mac, and FHA to assist borrowers impacted by COVID-19. Specifically, both the announcement from FHFA and HUD’s Mortgagee Letter 2020-19 extend their existing foreclosure and eviction moratoria for single family mortgage loans through August 31, 2020. As with past extensions, HUD’s extension does not apply to vacant or abandoned properties, but continues to extend both the first legal action and reasonable diligence timelines applicable to foreclosure by 90 days from the expiration date of the moratorium.

COVID-19 Payment Deferral Updates

As discussed in our April 9 and April 21 Legal Updates regarding the federal housing agencies’ implementation of the Act’s requirements, determining how to establish loss mitigation options available to borrowers at the end of the forbearance period, which could last up to 360 days, is one of the key unanswered questions raised under Section 4022 of the Act. In response, the federal housing agencies and the GSEs have introduced specific loss mitigation options and waterfall requirements for borrowers impacted by COVID-19 and receiving mortgage payment forbearance.  For regulators and legislators that want servicers to provide borrowers at the time they seek forbearance with up-front disclosures of subsequently available loss mitigation options, the complexity that follows demonstrates the difficulty of achieving this objective.

One such loss mitigation tool announced by the GSEs was the COVID-19 Payment Deferral. Since announcing the new COVID-19 Payment Deferral option in May of 2020 in Lender Letter LL-2020-07 and Bulletin 2020-15, Fannie Mae and Freddie Mac have released additional guidance to assist servicers in implementing this option for borrowers impacted by the COVID-19 national emergency. Most recently, on June 10, 2020, the GSEs issued updated guidance to implement servicer incentives for COVID-19 Payment Deferrals, as well as incentives for other workout options. Below, we provide a description of the COVID-19 Payment Deferral option, including useful resources the GSEs have recently made available to implement this option, and briefly summarize the recent updates.

Overview of the COVID-19 Payment Deferral Option

The COVID-19 Payment Deferral is a retention workout option designed to assist borrowers who missed up to twelve months of forborne payments due to COVID-19 hardships that have been resolved and return their mortgage to a current status. To accomplish this workout option, the servicer defers the following amounts as a non-interest bearing balance on the loan: (i) up to twelve months of past-due principal and interest payments, (ii) out-of-pocket escrow advances paid to third parties, and (iii) servicing advances paid to third parties in the ordinary course of business and not retained by the servicer. The deferral balance is due and payable at maturity of the mortgage loan, or earlier upon the sale or transfer of the property, refinance of the mortgage loan, or payoff of the interest-bearing unpaid principal balance. All other terms of the mortgage loan must remain unchanged.

Beginning July 1, 2020, servicers must evaluate a borrower’s eligibility for a COVID-19 Payment Deferral by achieving Quality Right Party Contact (QRPC) (for Fannie Mae loans) or Limited QRPC as specified in Bulletin 2020-10 (for Freddie Mac loans). QRPC is a defined term that generally means creating a uniform standard for communicating with the borrower or his or her representative to determine the reason for delinquency, the occupancy status of the property, whether the borrower has the willingness and ability to repay, and to discuss available workout options.1 After discussing reinstatement and repayment plan options with the borrower, the servicer must evaluate the borrower for the COVID-19 Payment Deferral by confirming that the borrower (1) has resolved the COVID-19 hardship, (2) is able to continue making the existing contractual mortgage payment, and (3) is unable to afford a repayment plan or full reinstatement of the mortgage. Any late charges must be waived upon completion of a COVID-19 Payment Deferral. Fannie Mae additionally provides that all penalties, stop payment fees, or similar charges must be waived. Servicers also must confirm that borrowers meet certain additional requirements, such as ensuring the borrower has not previously received a COVID-19 Payment Deferral, which are set forth in Fannie Mae’s Lender Letter 2020-07 and Freddie Mac’s Bulletins 2020-15 and 2020-21.

The COVID-19 Payment Deferral is a modified version of the standard Payment Deferral solutions announced by Fannie Mae (in Lender Letter LL-2020-05) and Freddie Mac (in Bulletin 2020-06) on March 25, 2020. The COVID-19 Payment Deferral includes several significant differences from the standard Payment Deferral, including, among others, that: (i) the borrower’s delinquency must have been caused by a COVID-19-related hardship and the hardship must be resolved; (ii) the borrower must have been current or less than 31 days delinquent as of the National Emergency declaration date, March 1, 2020;2 (iii) the mortgage must be 31 or more days delinquent but less than or equal to 360 days delinquent as of the date of evaluation; and (4) there is no origination seasoning requirement. On May 28, 2020, Fannie Mae published a matrix setting forth the differences between its Payment Deferral and COVID-19 Payment Deferral to assist servicers in navigating the two options.

A servicer implementing the COVID-19 Payment Deferral option must comply with GSE requirements relating to borrower eligibility, evaluation, and solicitation practices, as well as documentation, timing, and other aspects of program administration, all of which are detailed in Fannie Mae’s Lender Letter 2020-07, as updated, and Freddie Mac Bulletins 2020-15 and 2020-21. Importantly, until the servicer implements a COVID-19 Payment Deferral, it must continue to evaluate the borrower for standard loss mitigation options. Once the servicer implements the COVID-19 Payment Deferral option, the servicer must evaluate the borrower according to the following hierarchy: COVID-19 Payment Deferral, Flex Modification,3 and then standard short sale or standard deed-in-lieu of foreclosure, as appropriate.

If the servicer is unable to establish QRPC for an otherwise eligible borrower while the borrower is on a COVID-19-related forbearance plan, the servicer must proactively solicit the borrower to offer a COVID-19 Payment Deferral within 15 days after the forbearance plan’s expiration. If the borrower is ineligible for a COVID-19 Payment Deferral, the servicer must solicit the borrower, if eligible, for a streamlined (i.e., with reduced eligibility requirements) Flex Modification within 15 days after the expiration of the forbearance plan. If the borrower is eligible for a COVID-19 Payment Deferral but fails to accept the offer within the required timeframe, the servicer must evaluate the borrower for a streamlined Flex Modification within 15 days after the expiration of the COVID-19 Payment Deferral offer. Finally, if the borrower defaults (as defined in the GSE announcements) after accepting a COVID-19 Payment Deferral, the servicer must evaluate the borrower for a streamlined Flex Modification.

In addition to the Lender Letters and Bulletins describing the program requirements for the COVID-19 Payment Deferral and the loss mitigation hierarchy for borrowers impacted by COVID-19, Fannie Mae and Freddie Mac have both issued Frequently Asked Questions (FAQ) documents. The GSEs continue to update these FAQs with additional information on evaluating borrowers for, and the implementation of, relief options related to the COVID-19 national emergency.

Recently Announced Updates to the COVID-19 Payment Deferral Option

On June 10, 2020, both Fannie Mae and Freddie Mac announced the servicer incentive amounts that the GSEs will pay for COVID-19 Payment Deferrals, as well as updated incentive amounts for other workout options. In Lender Letter 2020-09 and Bulletin 2020-21, the GSEs announced the following incentive payments:

  • Repayment Plan:  $500, effective for all repayment plans with a first payment due date under the repayment plan on or after July 1, 2020;
  • Payment Deferral/COVID-19 Payment Deferral:  $500, effective immediately for all payment deferrals, payable upon completion of the payment deferral;
  • Flex Modification:  $1,000, effective for all Flex Modifications completed with a Trial Period Plan effective date on or after July 1, 2020.

Both of the GSE announcements clarify that incentive fees will be cumulatively capped at a total of $1,000 per mortgage loan, regardless of whether the workout options were the result of the same hardship, and that workout options already begun prior to June 10, 2020, will not be subject to the cumulative incentive fee cap. Fannie Mae’s announcement includes examples of how to calculate the incentive fee for retention workout options under three different scenarios. Fannie Mae’s announcement also includes certain additional conditions that must be met for each of the workout options for the servicer to collect the incentive fee. Both announcements expressly state that existing incentive fees for liquidation workout options remain unchanged at this time.

In addition to the announcement regarding incentives, Fannie Mae’s June 10 reissuance of Lender Letter 2020-02 and Freddie Mac’s Bulletin 2020-21 clarified that servicers are not required to send a payment reminder notice to the borrower during an active forbearance plan term. Both announcements stated that this guidance applies: (i) without regard to whether the borrower’s monthly payment is reduced or suspended during the forbearance plan; and (ii) to forbearance plans for borrowers with any eligible hardship type, including a COVID-19-related hardship. This announcement should be welcomed by servicers, as sending such notices during the forbearance term could result in confusion for borrowers. The GSEs’ June 10 announcements also clarified that servicers are authorized to continue proactive solicitation for a Flex Modification based on the reduced eligibility criteria set forth in Freddie Mae’s Bulletin 2020-15 and prior versions of Fannie Mae’s Lender Letter 2020-07 when a borrower has defaulted on a COVID-19 Payment Deferral, at the servicer’s discretion, unless the property has a scheduled foreclosure sale date within 60 days of the evaluation date if the property is in a judicial state, or within 30 days of the evaluation date if the property is in a non-judicial state.

Fannie Mae’s Lender Letter 2020-07 also announced a revised payment deferral agreement that it updated in reference to the Act’s provisions. In an earlier update to Lender Letter 2020-07 issued on May 27, 2020, Fannie Mae announced, among other items, that it would reimburse the servicer for allowable out-of-pocket expenses in accordance with its Servicing Guide for COVID-19 Payment Deferrals, but noted that the servicer must request reimbursement of such expenses from Fannie Mae within 60 days of the completion of the COVID-19 Payment Deferral.

Insurance and Purchase of Loans in Forbearance

The number of loans going into forbearance pursuant to the Act shortly after the loan is originated, but before the loan is purchased by the GSEs or insured by FHA is another issue that has arisen as a result of the COVID-19 national emergency and the Act’s forbearance provisions.

To address this issue and provide liquidity options for lenders of such loans, both HUD and the GSEs have issued guidance on the conditions under which they will insure or purchase such loans. Most recently, HUD issued Mortgagee Letter 2020-16 on June 4, 2020, in which it announced that FHA would temporarily endorse mortgages with active forbearance plans submitted for FHA insurance on or after June 15, 2020, and through November 30, 2020. The guidance applies to all FHA Title II single-family forward mortgage programs, except non FHA-to-FHA cash-out refinances. Unfortunately, to obtain FHA insurance endorsement for such loans, the lender must agree to sign a “partial indemnification agreement” in connection with each of these loans.

For a loan to be eligible for FHA insurance endorsement when the loan involves a borrower who has experienced a financial hardship, directly or indirectly, as a result of COVID-19, the following requirements must be met:

  • The borrower has requested forbearance, or the mortgage is subject to a forbearance agreement for one or more payments due to relief provided to borrowers impacted by COVID-19;
  • At the time the forbearance was initiated, the mortgage was current;
  • At the time of the mortgage closing, the mortgage satisfied all requirements for FHA insurance; and
  • The mortgagee executes a two-year partial indemnification agreement.

According to the terms of the partial indemnification agreement, the amount of the partial indemnification will be equal to 20 percent of the initial loan amount. The mortgagee will responsible for paying this amount of losses incurred by HUD if the borrower fails to make two or more payments when due under the terms of the FHA-insured mortgage at any point within two years from the date of endorsement and the borrower remains in default until the filing of an FHA insurance claim. If the borrower enters into forbearance and subsequently brings the loan current, either pursuant to the terms of the mortgage or a permanent loss mitigation option, through the date that is two years from the date of endorsement of the mortgage, the indemnification agreement will terminate.

Both Mortgagee Letter 2020-16 and corresponding guidance published by HUD in FHA Info 2020-36 provide instructions on how to complete the FHA Connection process for loans submitted for endorsement while in forbearance, as well as instructions on completing and submitting the partial indemnification agreement to HUD. The Mortgagee Letter states that HUD will continue to monitor the impacts of this guidance on the markets and to the FHA Insurance Fund, and may adjust the level of partial indemnification accordingly for future indemnification contracts.

For mortgages submitted for FHA insurance endorsement pursuant to Mortgagee Letter 2020-16, and for which the lender is made aware of a change in employment status due to COVID-19 after the loan closing, the Mortgagee Letter permits the mortgagee to provide a separate addendum to the Mortgagee’s Certification stating that “the executed Mortgagee’s Certification excludes certification of knowledge of the borrower’s employment status as provided in the Form HUD-92900-A, page 4, paragraph (a).”  This is a positive development for mortgagees who elect to submit mortgages in forbearance that resulted from a change in job status for insurance endorsement, as it will prevent the mortgagee’s knowledge of employment status at the time of submission for endorsement from constituting an alleged false certification of the standard mortgagee certifications required for endorsement.

HUD’s announcement in Mortgagee Letter 2020-16 came on the heels of the GSEs’ prior announcements at the end of April that they would purchase loans that went into forbearance after closing but prior to sale to the GSEs, subject to several conditions including loan-level price adjustments of 500 basis points for first-time homebuyers and 700 basis points for all other eligible loans. Similar to FHA’s announcement, the GSEs made clear that cash-out refinance transactions in forbearance prior to sale are not eligible for purchase by the GSEs and require that the loans being purchased are no more than one month delinquent, as defined in Lender Letter 2020-06 and Bulletin 2020-12. Both of the GSEs have since extended the timeframes during which they will purchase such loans, first in a May 19 announcement in which FHFA announced that it was extending the ability of Fannie Mae and Freddie Mac to purchase qualified single-family mortgages in forbearance, and most recently on June 11, 2020, when Fannie Mae and Freddie Mac announced an additional extension. This GSE purchase authority, as extended, now applies to forborne loans with note dates on or after April 1, 2020, and on or before July 31, 2020, as long as (1) they are delivered to the GSEs by September 30, 2020, and (2) only one mortgage payment has been missed.4

Our colleague recently published an article regarding the negative policy implications of transferring the risk of loans going into forbearance from FHA and the GSEs to the originating lender.

Refinance and Home Purchase Eligibility for Borrowers Impacted by COVID-19 Forbearance

One additional question that has been at the center of the Act’s implementation is whether loans that are in a forbearance plan are eligible for refinance as an alternative to the loss mitigation options provided by the GSEs and federal housing agencies. This is particularly important in this national emergency, given the low interest rates available to mortgage borrowers and the high percentage of loans that are in a forbearance plan but remain contractually current as borrowers continue to make timely mortgage payments. To date, only the GSEs have provided guidance on this topic. Specifically, days after announcing the COVID-19 Payment Deferral program, FHFA announced on May 19, 2020, that borrowers in, or recently out of, forbearance will be eligible to refinance their existing loan or purchase a new home. Fannie Mae and Freddie Mac issued guidance setting out the requirements for borrower eligibility and seller due diligence, which we discuss in detail below. These temporary policies are effective until further notice and may be applied to loans in process and must be applied to loans with application dates on or after June 2, 2020.

The GSE guidance sets forth eligibility requirements for borrowers impacted by the COVID-19 pandemic who have either reinstated their existing loan, or are resolving a delinquency through a loss mitigation solution. Specifically, if the borrower resolved any missed payments through a reinstatement, the borrower will be eligible for a new mortgage loan. In this circumstance, if the reinstatement was completed after the application date of the new transaction, the lender must document and confirm the eligibility of the source of funds used for reinstatement, and such source must meet the GSEs’ eligibility requirements for sources of funds. Both Fannie Mae and Freddie Mac expressly state that proceeds of the new transaction may not be used to reinstate any mortgage.

If outstanding payments have been or will be resolved through loss mitigation, the borrower is eligible for a new mortgage loan if they have, as of the note date, made at least three qualifying timely payments as provided below:

  • Repayment Plan. A borrower subject to a repayment plan must either have (1) completed the repayment plan or (2) have completed at least three payments.5
  • Payment Deferral. A borrower subject to a payment deferral must have made at least three consecutive payments after the deferral took effect.
  • Loan Modification Trial Period Plan. A borrower subject to a modification must have completed the trial payment period.
  • Other Loss Mitigation Solution. A borrower subject to any other loss mitigation program must either have (1) successfully completed the program, or (2) completed at least three consecutive full monthly payments.6

Sellers must continue to review the borrower’s credit report to determine the status of all of the borrower’s mortgage loans. The seller also must conduct due diligence on each of the borrower’s mortgage loans, including co-signed mortgages and mortgages unrelated to the subject transaction, to determine whether they are subject to any of the above programs and whether payments are current.7

We understand that other federal housing agencies are considering guidance regarding refinancing federally insured or guaranteed loans. Given the importance of providing borrowers impacted by COVID-19 with as much flexibility as possible to resolve their hardships and return to current mortgage payments, we hope that such guidance will be forthcoming.

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As the COVID-19 national emergency continues to disrupt the residential mortgage market, we can expect the GSEs and federal housing agencies to continue to update the programs and guidance discussed above, as well as announce new requirements designed to address the unique circumstances presented by the pandemic.

Our prior Legal Updates discussing the federal housing agencies’ ongoing response to the COVID-19 crisis can be found on our Financial Regulatory COVID-19 Portal. We will issue Legal Updates to keep you up-to-date on any significant future announcements.

If you have any questions about recent announcements regarding the federal housing agencies’ and GSEs’ response to developments related to COVID-19, please contact Krista Cooley at 202.263.3315 or kcooley@mayerbrown.com.

In addition, if you wish to receive regular updates on the range of the complex issues confronting businesses in the face of the novel coronavirus, please subscribe to our COVID-19 “Special Interest” mailing list.


1 For complete definitions of QRPC and Limited QRPC, please refer to Section D2-2-01 of the Fannie Mae Servicing Guide, Section 9102.3(b) of the Freddie Mac Seller/Servicer Guide, and Freddie Mac’s Bulletin 2020-10.

2 If a borrower had a COVID-19-related hardship, but was 31 or more days delinquent as of the effective date of the National Emergency declaration (March 1, 2020), and the servicer determines that the borrower can maintain the existing monthly contractual payment, the servicer may seek approval for COVID-19 Payment Deferral from Fannie Mae or Freddie Mac.

3 In general, a Flex Modification targets a 20 percent payment reduction while bringing the loan current by adding to the unpaid loan balance any past due amounts, including unpaid interest, real estate taxes, insurance premiums, and certain assessments paid on the borrower’s behalf to a third party, and extending the loan term and/or reducing the loan’s interest rate.

4 With regard to VA-guaranteed loans, on April 27, 2020, the VA issued Circular 26-20-10, Change 1, in which it expressly stated that “the Secretary has the authority to delegate the responsibility to an approved lender to close loans on an automatic basis. Any loan closed under this authority is considered guaranteed as of the date of loan closing.” As a result, there is no gap in time between loan closing and issuance of the guaranty for VA-guaranteed loans.

5 Freddie Mac’s guidance additionally provides that the borrower must be performing under the repayment plan (i.e., no missed payments) and that the three payments must have been consecutive.

6 Freddie Mac’s guidance additionally provides that the borrower must be performing under the loss mitigation plan (i.e., no missed payments).

7 For the purposes of this policy, Fannie Mae and Freddie Mac define “current” to mean that the borrower has made all mortgage payments due in the month prior to the note date of the new transaction no later than the last business day of that month.

As rumored, the Consumer Financial Protection Bureau (“CFPB”) is proposing to revise its general qualified mortgage definition by adopting a loan pricing test. Specifically, under the proposal, a residential mortgage loan would not constitute a qualified mortgage (“QM”) if its annual percentage rate (“APR”) exceeds the average prime offer rate (“APOR”) by 200 or more basis points. The CFPB also proposes to eliminate its QM debt-to-income (“DTI”) threshold of 43%, recognizing that the ceiling may have unduly restrained the ability of creditworthy borrowers to obtain affordable home financing. That would also mean the demise of Appendix Q, the agency’s much-maligned instructions for considering and documenting an applicant’s income and liabilities when calculating the DTI ratio.

The CFPB intends to extend the effectiveness of the temporary QM status for loans eligible for purchase by Fannie Mae or Freddie Mac (the “GSE Patch”) until the effective date of its revisions to the general QM loan definition (unless of course those entities exit conservatorship before that date). That schedule will, the CFPB hopes, allow for the “smooth and orderly transition” away from the mortgage market’s persistent reliance on government support.

Background

Last July, the CFPB started its rulemaking process to eliminate the GSE Patch (scheduled to expire in January 2021) and address other QM revisions. For the past five years, that Patch has solidified the post-financial crisis presence by Fannie Mae and Freddie Mac in the market for mortgage loans with DTIs over 43%. The GSE Patch was necessary, the CFPB determined, to cover that portion of the mortgage market until private capital could return. The agency estimates that if the Patch were to expire without revisions to the general QM definition, many loans either would not be made or would be made at a higher price. The CFPB expects that the amendments in its current proposal to the general QM criteria will capture some portion of loans currently covered by the GSE Patch, and will help ensure that responsible, affordable mortgage credit remains available to those consumers.

Adopting a QM Pricing Threshold

Although several factors may influence a loan’s APR, the CFPB has determined that the APR remains a “strong indicator of a consumer’s ability to repay,” including across a “range of datasets, time periods, loan types, measures of rate spread, and measures of delinquency.” The concept of a pricing threshold has been on the CFPB’s white board for some time, although it was unclear where the agency would set it. Many had guessed the threshold would be 150 basis points, while some suggested it should be as high as 250 basis points. While the CFPB is proposing to set the threshold at 200 basis points for most first-lien transactions, the agency proposes higher thresholds for loans with smaller loan amounts and for subordinate-lien transactions.

In addition, the CFPB proposes a special APR calculation for short-reset adjustable-rate mortgage loans (“ARMs”). Since those ARMs have enhanced potential to become unaffordable following consummation, for a loan for which the interest rate may change within the first five years after the date on which the first regular periodic payment will be due, the creditor would have to determine the loan’s APR, for QM rate spread purposes, by considering the maximum interest rate that may apply during that five-year period (as opposed to using the fully indexed rate).

Eliminating the 43% DTI Ceiling

Presently, for conventional loans, a QM may be based on the GSE Patch or, for non-conforming loans, it must not exceed a 43% DTI calculated in accordance with Appendix Q. Many commenters on the CFPB’s advanced notice of proposed rulemaking urged the agency to eliminate a DTI threshold, providing evidence that the metric is not predictive of default. In addition, the difficulty of determining what constitutes income available for mortgage payments is fraught with questions (particularly for borrowers who are self-employed or otherwise have nonstandard income streams). While the CFPB intended that Appendix Q would provide standards for considering and calculating income in a manner that provided compliance certainty both to originators and investors, the agency learned from “extensive stakeholder feedback and its own experience” that Appendix Q often is unworkable. Continue Reading

In a new era of double-digit unemployment resulting from the COVID-19 pandemic, it may be tough for a mortgage lender to predict the amount and stability of someone’s income in order to determine qualification for a home loan. Neither past nor even present levels of income may be reliable indicators of income levels going forward, at least in the short run or until the economic dislocations are substantially behind us. That is why Fannie Mae and Freddie Mac (the “government-sponsored enterprises,” or “GSEs”) recently issued enhanced documentation requirements and considerations for verifying and predicting the income of a self-employed applicant for a mortgage loan. While the GSEs’ documentation requirements apply via contract to approved lenders/sellers, whether those requirements will morph into legal requirements under the Dodd-Frank Act’s “ability to repay” requirements is something to watch in the coming months.

Revised GSE Underwriting Requirements for Eligible Loan Purchases

A determination of whether an applicant has the ability to repay a loan from his or her income or assets is a basic component of loan underwriting – as required both by federal (and sometimes state) law, and by a lender’s investors or insurers. In addition, federal regulations prohibit a lender of closed-end residential mortgage loans from relying on any income that is not verified by reliable documentation. Predicting whether that income will continue into the future takes skill when lending to self-employed borrowers under any circumstances, and is particularly tricky during this unique coronavirus economy. The now-waning government stay-at-home orders and other quarantining efforts may or may not have affected a particular borrower’s business operations, and the scale and duration of those effects going forward are difficult to predict.

In response to that uncertainty, on May 28, 2010 Fannie Mae and Freddie Mac issued guidance requiring that self-employed borrowers must submit a year-to-date (“YTD”) profit and loss statement (“P&L”) that reports business revenue, expenses and net income. Continue Reading