On May 24, 2022, Connecticut enacted legislation that, among other things, adds financial condition and corporate governance requirements for certain licensed mortgage servicers (the “CT Standards”). In similar fashion, the Maryland Commissioner of Financial Regulation (the “Commissioner”) issued a notice of final action on March 25, 2022 adopting similar standards by regulation (the “MD Standards”). In both instances, the CT and MD Standards are intended to implement the Model State Regulatory Prudential Standards for Nonbank Mortgage Servicers (the “Model Standards”) drafted and released by the Conference of State Bank Supervisors (“CSBS”) last July.
The CSBS Model Standards
As mentioned in our prior blog post, the CSBS initially proposed standards for mortgage servicers in 2020. In July 2021, after substantial revision to the proposed standards, the CSBS adopted the Model Standards to provide states with uniform financial condition and corporate governance requirements for nonbank mortgage servicer regulation while preserving local accountability to consumers and to “provide a roadmap to uniform and consistent supervision of nonbank mortgage servicers nationwide.”
The Model Standards cover two major categories that comprise prudential standards: financial condition and corporate governance. The financial condition component consists of capital and liquidity requirements. Corporate governance components include separate categories for establishment of a board of directors (or “similar body”); internal audit; external audit; and risk management.
The Model Standards apply to nonbank mortgage servicers with portfolios of 2,000 or more 1 – 4-unit residential mortgage loans serviced or subserviced for others and operating in two or more states as of the most recent calendar year end, reported in the Nationwide Multistate Licensing System (“NMLS”) Mortgage Call Report. For purposes of determining coverage under the Model Standards, “residential mortgage loans serviced” excludes whole loans owned and loans being “interim” serviced prior to sale. Additionally, the financial condition requirements in the Model Standards do not apply to servicers solely owning and/or conducting reverse mortgage servicing or the reverse mortgage portfolio administered by forward mortgage servicers that may otherwise be covered under the standards. The capital and liquidity requirements also have limited application to entities that only perform subservicing for others. Moreover, the whole loan portion of portfolios are not included in the calculation of the capital and liquidity requirements.
While CSBS drafted the Model Standards, they are implemented only through individual state legislation or other rulemaking.
Connecticut’s and Maryland’s Implementation of the Model Standards
The CT and MD Standards both track the Model Standards in many respects, including the following:
- Covered servicers are required to satisfy the Federal Housing Finance Agency’s (“FHFA”) Eligibility Requirements for Enterprise Single-Family Seller/Servicers for minimum capital ratio, net worth and liquidity, whether or not the mortgage servicer is approved for servicing by the government sponsored enterprises (i.e., Fannie Mae and/or Freddie Mac) (the “GSEs”), as well maintain policies and procedures implementing such requirements; these requirements do not apply to servicers solely owning and/or conducting reverse mortgage loan servicing, or the reverse mortgage loan portfolio administered by covered institution that may otherwise be covered under the standards, and do not include the whole loan portion of servicers’ portfolios.
- With respect to corporate governance, covered servicers are required to establish and maintain a board of directors responsible for oversight of the servicer; however, for covered servicers that are not approved to service loans by one of the GSEs, or Ginnie Mae, or where a federal agency has granted approval for a board alternative, a covered servicer may establish a similar body constituted to exercise oversight and fulfill the board of directors’ responsibilities.
- A covered mortgage servicer’s board of directors, or approved board alternative, must (1) establish a written corporate governance framework, including appropriate internal controls designed to monitor corporate governance and assess compliance with the corporate governance framework, (2) monitor and ensure institutional compliance with certain established rules, and (3) establish internal audit requirements that are appropriate for the size, complexity and risk profile of the servicer, with appropriate independence to provide a reliable evaluation of the servicer’s internal control structure, risk management and governance.
- Covered mortgage servicers must receive an annual external audit, which must include audited financial statements and audit reports, conducted by an independent accountant, and which must include: (1) annual financial statements, (2) internal control assessments, (3) computation of tangible net worth, (4) validation of MSR valuation and reserve methodology, (5) verification of adequate fidelity and errors and omissions insurance, and (6) testing of controls related to risk management activities, including compliance and stress testing, as applicable.
- Covered mortgage servicers must establish a risk management program under the oversight of the board of directors, or the approved board alternative, that addresses the following risks: credit, liquidity, operational, market, compliance, legal, and reputation.
- Covered mortgage servicers must conduct an annual risk assessment, concluding with a formal report to the board of directors, which must include evidence of risk management activities throughout the year including findings of issues and the response to address those findings.
Notwithstanding the foregoing, the CT Standards appear to deviate from the Model Standards in a few notable ways. First, with respect to coverage, the CT Standards differ from the Model Standards, in that the CT Standards can apply to a servicer who only services Connecticut residential mortgage loans, whereas the Model Standards do not apply unless the servicer operates “in two or more states as of the most recent calendar year end, reported in the [NMLS] Mortgage Call Report.” Additionally, the capital and liquidity requirements under the Model Standards have limited application to entities that only perform subservicing for others, including limiting the definition of “servicing liquidity or liquidity” to entities who own servicing rights. The comments to the Model Standards explain that “[f]inancial condition requirements for subservicers are limited under the FHFA eligibility requirements due to the lack of owned servicing. For example, net worth add-on and liquidity requirements apply only to UPB of servicing owned, thereby limiting the financial requirements for subservicers, and servicers who own MSRs and also subservice for others. However, the base capital and operating liquidity requirements … apply to subservicers.” On the other hand, the capital and liquidity requirements under the CT Standards explicitly do not apply to an entity that solely “performs subservicing for others with no responsibility to advance moneys not yet received in connection with such subservicing activities.”
The MD Standards, on the other hand, largely adopt the Model Standards. However, with respect to internal audit requirements, the MD Standards contain additional guidance, specifying that “[u]nless impracticable given the size of the licensee, internal audit functions shall be performed by employees of the licensee who report to the licensee’s owners or board of directors and who are not otherwise supervised by the persons who directly manage the activities being reviewed.” That said, it is worth noting that in an accompanying notice to servicers and lenders, the Maryland Commissioner of Financial Regulation clarified that the purpose of the MD Standards is “aligning Maryland regulations with nationwide model standards and creating uniform standards regarding safety and soundness, financial responsibility, and corporate governance for certain mortgage service providers.”
Connecticut and Maryland are the first two states to adopt implementing laws or regulations following the CSBS’s adoption of the Model Standards. Connecticut-licensed mortgage servicers subject to the CT Standards must comply by October 1, 2022, the section’s effective date. The MD Standards took effect on June 27, 2022. Servicers subject to the CT and/or MD Standards should review the standards and ensure their business satisfies the applicable requirements. As with any model law, the Model Standards require states to adopt implementing laws or regulations. Accordingly, we expect to see additional states begin to adopt similar measures.