How Dodd Frank Mortgage Laws Apply to Seller Financing

Save the date! New Dodd Frank laws for seller financing and mortgage loan originators take effect January 1, 2014 (*see date revision information below). While it’s not a match made in heaven it’s also not the end of the note buying world as we know it.

How Seller Financing Met Dodd Frank

In reaction to the mortgage crisis lawmakers passed the Dodd Frank in 2010. This act placed new requirements on loan originators. It also built upon earlier initiatives of the Safe Act of 2008.

Lumped into the Dodd Frank Act was language that included some (not all) seller-financed transactions. Many in the note industry rallied together to help lawmakers see the benefits of sellers providing financing to buyers who might not be able to purchase a home without owner financing.

The result? It wasn’t as bad as it could have been but it didn’t go away.

The rules apply to consumer financing on residential property with two important exclusions from the law. One is for individual sellers that sell only one property in a 12-month period and the other for seller financing entities that sell 3 or fewer properties in a 12-month period.

Of course that is an over simplification so please read on for the fine print.

Announcing The Loan Originator Compliance Guide

The Consumer Financial Protection Bureau (CFPB) was charged with officiating. In January 2013 CFPB issued regulations to implement the Dodd Frank Act with amendments to the Truth in Lending Act or Regulation Z.

(Editor’s Note: There is no relation to this author so please don’t set fire to a bag of dog droppings on my front porch).

The majority of the rules provision go into effect on January 1, 2014, and to assist small loan originators and creditors a guide was issued to summarize and highlight important factors. *Important Update: This guide was originally issued on June 7, 2013 and later updated to Version 2.0 on November 8, 2013. One of the revisions was to change the effective date to January 1st (rather than January 10th) for most of the rule’s provisions.

Here is an excerpt of some important information on how the Dodd Frank Act applies to seller financing. To download the most recent guide from Nov 8, 2013 in PDF Click Here.

Excerpt from the 2013 Loan Originator Rule Small Entity Compliance Guide issued by the Consumer Financial Protection Bureau (pages 22-23)

When is a seller financer a loan originator? (§1026.36(a)(4) and (5))

Seller financers that engage in a minimum number of transactions are considered creditors under the Truth in Lending Act (TILA) and Regulation Z. Specifically, seller financers would be considered creditors under Regulation Z if they extend credit secured by a dwelling (other than high cost mortgages subject to § 1026.32) six or more times in the preceding calendar year, or extend more than one high cost mortgage in any 12 month period. Accordingly, such seller financers are excluded from the definition of loan originators for purposes of the compensation provisions unless they use table funding. In addition, the rule contains two additional special exclusions from the compensation, steering, qualification, and identification provisions for certain seller financers. These exceptions are:

1. You are a natural person, estate, or trust and you provide seller financing for only one property in any 12 month period.

2. You are any type of seller financing entity and you finance the sales of three or fewer properties in any 12 month period.

Specifically, under the first special exclusion, if you are a seller financer that is a natural person, estate, or trust, you are not a loan originator if:

• You provide seller financing for only one property in any 12 month period.
• You owned the property securing the financing.
• You did not construct, or act as a contractor for the construction of, a residence on the property in your ordinary course of business.
• The financing meets the requirements below.

The financing must:

• Have a repayment schedule that does not result in negative amortization.
• Have a fixed rate or an adjustable rate that resets after five or more years. These rate adjustments may be subject to reasonable annual and lifetime limits.

Implementation Tip: An annual rate increase of 2 percentage points or less is reasonable. A lifetime limitation of an increase of 6 percentage points or less is reasonable. You may choose a minimum floor. The maximum ceiling may not exceed the usury limit applicable to the transaction. (Comments 36(a)(4)2 and 36(a)(5)-1)

If the financing agreement has an adjustable rate, you must determine the rate by adding a margin to an index rate. The index you use must be widely available, such as the U.S. Treasury securities indices or LIBOR.

Under the second special exclusion, if you are a seller financer (regardless of whether you are a natural person, estate, or trust), you are not a loan originator if:

• You provide seller financing for three or fewer properties in any 12 month period.
• You owned the properties securing the financings.
• You did not construct, or act as a contractor for the construction of, a residence on the property in your ordinary course of business.
• The financing meets the requirements below.

The financing must:

• Be fully amortizing.
• Have a fixed rate or an adjustable rate that resets after five or more years. These rate adjustments may be subject to reasonable annual and lifetime limits.

Further, you must determine in good faith that the consumer has a reasonable ability to repay the loan. If the financing agreement has an adjustable rate, you must determine the rate by adding a margin to an index rate. The index you use must be widely available, such as the U.S. Treasury securities indices or LIBOR.

Implementation Tip: You may use the criteria set forth in §1026.43(c) or comment 36(a)(4)-1 to comply with the ability to repay standard. (Comment 36(a)(4)-1).

Helpful Link, Thank You, and a Disclaimer

A big thank you to Ric Thom of Security Escrow for staying on top of these issues and sharing his keen insights. When I thanked Ric for sending this latest guide he replied back, “Thanks for all your help. The new Rule could and would have been a lot worse without your help.”

Well the same can certainly be said for Ric and everyone else that spent time contacting lawmakers and spreading the news. So thanks to all of you that took action.

If you are looking for help making sense of this we found this article over at the law firm of Barnes Walker on Seller Financing Restrictions Under the Dodd Frank Act.  They do a good job of putting it all into plain English and provide a helpful decision tree and flowchart.

Now the disclaimer. This author is not an attorney nor do I play one on TV. Nothing in this article is intended as legal advice. Take responsibility, don’t over react, and go about your business of ethically making money buying and selling notes.

For more information on the rule, please contact the Bureau’s Office of Regulations at 202-435-7700, or email questions to CFPB_reginquiries@cfpb.gov.