Part3Beall_PaulBasicZ-05 - American Association of residential

Basic Real Estate
Regulation Z
Purchase & Non-Purchase Rules
Learning Objectives
• Learn about the regulatory requirements of
Regulation Z by reviewing the:
– Basic rules for Purchase-money real estate
transactions and
– Basic rescission rules for Non-purchase money real
estate transactions
• Review the risks when errors occur
– Legal
– Reputation
– Regulatory
• Lifecycle of a Real Estate Loan
– Pre-Closing Disclosures
– Closing Disclosures
– Post-Closing Disclosures
• Application procedures are discussed in the Basic
B Lecture
Pre-Closing - Regulation Z
Providing Early Disclosures
• When are TIL disclosures
required to be provided to
Providing Early Disclosures
• Section 226.17(b)
– Before Consummation
• This is a general rule that requires the creditor to provide
disclosures to the consumer before consummation of the
• Staff Commentary #3
– It is not sufficient for the creditor merely to show the
consumer the document containing the disclosures before the
consumer signs and becomes obligated. The consumer must
be free to take possession of and review the document in its
entirety before signing.
• Section 226.19(a)
– Within 3 days of Application
• A “residential mortgage transaction” has a special timing
rule that requires a good faith estimates of the disclosures
required by section 226.18 to be provided within three
business days of written application or consummation,
whichever is earlier
– Exception if denied within the three-day period
Residential Mortgage Transaction
• What is a “residential mortgage
– A transaction to finance the purchase or
construction of the consumer’s principal
• Are early disclosures different from
the final disclosure?
– Not really, the early disclosure is not
based on the legal obligation but is a
good faith estimate of the transaction
Early Disclosures
• Special Rule
– Early disclosures can be the final
disclosure if the APR at closing does not
change by more than tolerance (1/8 of 1
percent regular)
– However, most banks automatically
provide the final disclosure regardless of
this rule
Early Disclosure
• Which disclosure do you check
when two are provided? (early
& final)
– Both, Maybe
• What happens when the early
disclosure is incorrect and the
final is correct?
– The courts would probably rule
against the bank if the early is
Early Disclosure
• While the early disclosure is not based on the
legal obligation, lenders can use the GFE could
serve as a proxy for the legal obligation when
calculating the early disclosure as the regulation
only requires a good faith estimate.
• ****Make sure the math is correct.
Closing Disclosures - Regulation Z
• Basis for Disclosures
– What the TIL Disclosure should Disclose
• Calculations
– Make sure the numbers right
– Learn how to check a disclosure calculation
• Preventing Legal, Reputation & Regulatory Risks
Civil Liability
Communication of Errors
Regulatory Enforcement
Internal Reviews
• Rescission Rules
– Non-Purchase Money Transactions
Basis for Disclosures
Basis for Disclosures
• Legal Obligation
– The TIL disclosure shall reflect the terms of the
legal obligation (other than the early disclosure)
• Unknown Information
– If any information is unknown, disclosures shall be
based on the best information reasonably
available at the time of the disclosure
• clearly state the disclosure is an estimate
• ARM loans based on today’s rates (do not use estimates)
• Construction loans using Appendix D will use estimates
Basis for Disclosures
• Special Rule – Per Diem Interest
– Section 226.17(c)(2)(ii) allows creditors to disclose
per diem interest based on information known to the
creditor at the time that the disclosure documents are
prepared for consummation of the transaction.
– In other words, if the loan closing is postponed by a
day or two, the pre diem interest on the final
disclosure, prepared in advance, would be correct
even if the actual charge differs by the time
disclosures are provided to the borrower.
• The Board notes that creditors should exercise diligence in
ascertaining the correct information when preparing
Basis for Disclosures
• The Staff Commentary for Regulation Z
includes rules for preparing disclosures
with unusual terms
– Examples include:
consumer buydowns
wraparound financing
graduated payment mortgages
reverse mortgages
• Any lenders making unusual loans??
Disclosure Calculations
The Note
The Payment Schedule
The Amount Financed
The Finance Charge
• Once the basis for the TIL disclosure is
determine, it is time to calculate required
• Compliance Officers should understand
this method even if other staff members or
outside consultants perform the periodic
The Note
The Note
• Start with the Legal Obligation
– Identify the loan amount
• The loan amount in the note is used to verify the amount financed on the TIL
– Review the contract terms
• Note rate
• Terms
• Payment amounts
• If an ARM note, the specific rate change terms
Index value
Rate caps
Rate margins
– Are the note terms correct?
• Errors are legal issues that must be resolved before a correct TIL
disclosure can be developed
The Payment Schedule
The Payment Schedule
• Determine the Payment Schedule
– Number of payments
– Timing of payments
• Use the amounts and time period listed in the note (legal
– Verify the payment calculation
Note Example link
• Is the math correct?
Does the loan amount
@ the interest rate
@ the # of payments
= the payment amount
• If not, you may have a legal problem first
The Amount Financed
The Amount Financed
• Verify the Amount Financed
• Principal loan amount (not always the note amt)
• Plus any other amounts financed
• Minus any prepaid finance charge
– This in a independent calculation. You
should not rely on the TIL disclosure for
this amount.
– Again, look at the note it is your starting
The Amount Financed
• What documents do you need
to calculate the amount
• Two Documents
– The Note-To verify the loan
– The HUD-1- To determine the
prepaid finance charges
The Amount Financed
• What is a prepaid finance
• Defined in Regulation Z
Section - 226.2(a)(23)
– It is a finance charge paid
separately in cash or by check
before or at consummation of a
transaction, or withheld from the
proceeds of the credit at any time.
The Amount Financed
• You must know what charges are
finance charges before can identify
what charges are prepaid when
determining the amount financed
– HUD 1 is the document to review
The Finance Charge
What is it?
The Finance Charge
• A Finance Charge is a specific charge
listed in Section 226.4
– Includes exemptions
– Special rules
• Don’t be fooled
– This section does not list every charge
– This is the Regulation Z conundrum
The Finance Charge
• Third Party Charges - 226.4(a)(1)
– Paid to someone other than creditor
– Creditor requires use of third party, or
– Retains a portion of charge
• Example - PMI
The Finance Charge
• Closing Agent Charges - 226.4(a)(2)
– Fees charged by third parties to conduct loan
– Creditor requires service or
– Retains a portion of the charge
• Can be exempt if part of a lump-sum closing fee
and represents only a small portion of the total
The Finance Charge
• Mortgage Brokers Fees - 226.4(a)(3)
– Always considered a finance charge
– Even if creditor does not require use of the
broker or retain a portion of the charge
The Finance Charge
• Listed Charges - 226.4(b)
origination fees
credit report
• Regulation Z does not list all possible
charges or have the same name for each
The Finance Charge
• Excluded Amounts - 226.4(c)
– Application fee
• if charged to all applicants
– Sellers points
• Charges not paid by the borrower
– Real estate related fees -4(c)(7)
• Most important section
The Finance Charge
• Excluded Amounts - 226.4(c)
– Real estate related fees -4(c)(7)
• (i) Fees for title examination, abstract of title, title
insurance, property survey, and similar purposes.
• (ii) Fees for preparing loan-related documents, such as
deeds, mortgages, and reconveyance or settlement
• (iii) Notary and credit-report fees.
• (iv) Property appraisal fees or fees for inspections to
assess the value or condition of the property if the service
is performed prior to closing, including fees related to
pest-infestation or flood-hazard determinations.
• (v) Amounts required to be paid into escrow or trustee
accounts if the amounts would not otherwise be included
in the finance charge.
Verify the Amount Financed
• Review a copy of the HUD-1
• Know which amounts paid by the
borrower are finance charges
• Those that are paid at or before
closing are “prepaid finance
• Note Amount
– should include all
amounts financed
along with proceeds
• Subtract HUD-1
Prepaid finance
• $100,000 Note Amount
-1,500 PPFC
98,500 Amount Financed
– Make sure you add the
PPFC back in the finance
Verify the APR
Verify the APR
• Independent Calculations
– Amount Financed
– Payment Schedule
• Once the amounts are independently
verified, you are ready to verify the
disclosed APR using an independent
calculation method
Verify the APR
• The OCC’s APR windows program is
currently used by most examiners to verify
TIL disclosure calculations
– Excellent tool for bank compliance officers for
internal review checks
APR Rules
Special rules for real estate loans
APR Calculation Rules
• Section 226.22 of Regulation Z contains rules
for APR calculations along with the specific
mathematical calculation in Appendix J
• Special Mortgage Rules
– The $100 rule
• Found in section 226.22(a)(4)
– The Additional Tolerance Rule
• Found in Section 226.22(a)(5)
APR Calculation Rules
• The $100 Rule
– If the annual percentage rate disclosed in a transaction
secured by real property or a dwelling varies from the actual
rate determined in accordance with Appendix J of Regulation
Z, in addition to the tolerances applicable under paragraphs
(a)(2) – [1/8%] and (3)- [1/4%] of this section, the disclosed
annual percentage rate shall also be considered accurate
– (i) the rate results from the disclosed finance charge; and
– (ii)
• (A) the disclosed finance charge would be considered
accurate under section 226.18(d)(1) [is understated by no
more than $100]; or
• (B) for purposes of rescission, if the disclosed finance charge
would be considered accurate under section 226.23(g) or (h),
whichever applies.
APR Calculation Rules
• The Additional Tolerance Rule
– In a transaction secured by real property or a dwelling, in
addition to the tolerances applicable under paragraphs (a)(2)
and (3) of this section, if the disclosed finance charge is
calculated incorrectly but is considered accurate under
section 226.18(d)(1) or section 226.23(g) or (h), the
disclosed annual percentage rate shall be considered
• (i) if the disclosed finance charge is understated, and the
disclosed annual percentage rate is also understated but it is
closer to the actual annual percentage rate than the rate that
would be considered accurate under paragraph (a)(4) of this
• (ii) if the disclosed finance charge is overstated, and the
disclosed annual percentage rate is also overstated but it is
closer to the actual annual percentage rate than the rate that
would be considered accurate under paragraph (a)(4) of this
APR Calculation Rules
• Example:
$75.00 understatement
– $100
• ____________________________
• 8.40 8.50 8.65 8.875 9.00 9.125
• Assume:
– $75 understatement
– .125% Tolerance
– 9.00% Correct APR
The TIL Disclosure Review
Regulation Z
• Disclosure Review
– In addition to verifying the calculations for the
APR and finance charge, you should review
the TIL disclosure form for compliance with
other required disclosure information outlined
in Section 226.18
• Review key terms that have special real
estate significance
Regulation Z
• Disclosure Review - 226.18
– Amount financed
• Know what a prepaid finance charge is
– Itemization of amount financed
• footnote 40 – Good faith estimate can be a
– Finance Charge
• Know how the $100 rule applies
Regulation Z
• Disclosure Review - 226.18
– Variable Rate
• If the annual percentage rate may increase
after consummation in a transaction secured by
the consumer's principal dwelling with a term
greater than one year, the following
• (i) The fact that the transaction contains a
variable-rate feature.
• (ii) A statement that variable-rate disclosures
have been provided earlier.
Regulation Z
• Disclosure Review - 226.18
– Security Interest
• Spreader clause & Rescission
– Security Interest Charges
• “filing fees and taxes,” and all funds disbursed
for such purposes may be aggregated in a
single disclosure.
• This disclosure may appear, at the creditor's
option, apart from the other required
– The inclusion of this information on a statement
required under the Real Estate Settlement
Procedures Act is sufficient disclosure for purposes of
Truth in Lending.
Regulation Z
• Disclosure Review - 226.18
– Assumption policy.
• In a residential mortgage transaction, a
statement whether or not a subsequent
purchaser of the dwelling from the consumer
may be permitted to assume the remaining
obligation on its original terms.
Regulation Z
• Another Disclosure
– Rate Limitation 226.30
• While not a calculation, when looking at the
note, check for this disclosure
• Special Rule relating to the Note
• Lenders must include in a consumer credit
contract (Note) secured by a dwelling the
maximum interest rate that may be imposed
during the loan term
Legal, Reputation, Regulatory Risks
Understated Disclosures
Disclosure Risks
• What is the highest risk
violation when making a
consumer loan?
– APR & Finance Charge
Understatement violations on
real estate loans
• What should your bank do
to reduce legal and
reputation risk?
– Know the legal liability limits
– Implement internal reviews
Legal Risks
• Civil Liability - TILA - Section 130(a)
• ….any creditor who fails to comply with any
requirement imposed under this chapter…with respect
to any person is liable to such person in an amount
equal to the sum of—
– any actual damage sustained by such person as a result of the
• in the case of an individual action twice the amount of any finance
charge…. not be less than $100 nor greater than $1,000,
• in the case of a closed-end credit plan that is secured by real
property or a dwelling, not less than $200 or greater than $2,000;
• in the case of a class action, such amount as the court may allow,
except that…shall not be more than the lesser of $500,000 or 1
per centum of the net worth of the creditor;
Legal Risks
• Civil Liability - TILA - Section 130(b)
– Correcting Errors
– No liability…, if within sixty days after discovering an
error, and prior to the institution of an action under
this section or the receipt of written notice of the error
from the obligor,
• the creditor or assignee notifies the person concerned of the
error and makes whatever adjustments in the appropriate
account are necessary to assure that the person will not be
required to pay an amount in excess of the charge actually
disclosed, or the dollar equivalent of the annual percentage
rate actually disclosed, whichever is lower.
Legal Risks
• Bottom Line
– Original Disclosure Stands
• Must ensure consumer does not
pay any more than the APR
• Banks have 60 days to fix it to
avoid law suits, once an error is
– Sending a new disclosure will
not fix the problem or reduce
legal liability!!!!
Reputation Risks
• Notifying customers
– Contacting customer about disclosure errors will
spread the word creating a reputation risk for the
• Regulator Enforcement
– If the regulators find the errors, they can order the
banks to make customer reimbursements
• This can lower the compliance rating and may require public
disclosure of the errors when a formal “written agreement” is
issued by the regulators
Regulatory Risk
• Section 108(e) of the TIL gives the regulators
authority to require banks to make customer
reimbursements for certain violations of the Act.
• Agencies adopted:
– The “Joint Policy Statement on Administrative
Enforcement of the Truth in Lending Act—Restitution”
(The Policy Guide) to carry out the provisions of the TILA
Regulatory Risk
• The Policy Guide authorizes the federal Truth
in Lending enforcement agencies to order
creditors to make monetary and other
adjustments to the accounts of consumers in
cases where disclosures were inaccurate for
– Annual Percentage Rate
– Finance Charge
Bottom Line
• Either the Bank makes the reimbursement or the
Regulator may order it
• Generally reimbursement will be required for
errors resulting from a clear and consistent pattern
or practice of violations, gross negligence, or a
willful violations
– The act does not preclude the agencies from ordering
restitution for isolated disclosure errors.
Internal Review
Internal Review
• Who should conduct the Review?
• What special tools are required?
• What is the bank’s reimbursement policy?
Internal Review
• Who should conduct the Review?
– Line Management
– Compliance Staff
– Audit Staff
• Line Management
– Most internal compliance reviews should be conducted by the
line management area where the compliance function is
– For example:
• Consumer Lending should review TIL disclosures for
compliance if the disclosures require line input
Internal Review
• Who should conduct the Review?
– Compliance Staff
• They could review software programs before
implementation in the Line area
– Audit
• They could review the internal review programs of the
line and compliance functions
Internal Review
• What special tools are required?
– Disclosure Reviews
• Line and compliance staff should have independent
calculation tools to verify key TIL disclosure calculations
• OCC- APR Software program
– Do not use the disclosure generation program to
check disclosures!!!!
Internal Review
• What is the bank’s reimbursement policy?
– Business, Legal, Regulatory Decisions
• Business Decision
– Low risk, do nothing (still has legal risk)
• Legal Decision
– High risk action must be taken to prevent law suits
• Regulatory Decision
– No choice, It’s an order
Rescission Rules
Non-Purchase Money
Rescission Rules
• What is the right of rescission?
– A consumer credit transaction
– Secured by a consumer's principal dwelling
– Each owner shall have the right to rescind the
transaction (Cancel the deal)
• When more than one consumer in a transaction has the right
to rescind, the exercise of the right by one consumer shall be
effective as to all consumers.
Rescission Rules
• Origins of Rescission
– Contractor Credit Transactions
• Lightening Rod Sales
• Aluminum Siding Sales
Rescission Rules
• Does it apply to all Real estate
– No
• Credit extensions not subject to the regulation
are not covered
– For example, rescission does not apply to a
business-purpose loan, even though the loan is
secured by the customer's principal dwelling.
• Other exemptions
– Generally not applicable to transactions involving the
purchase or construction of the principal dwelling
Rescission Rules
• Specific Exemptions
– Residential Mortgage Transaction
• a transaction in which a security interest is created or
retained in the consumer's principal dwelling to finance
the purchase or initial construction of that dwelling.
– Combination purchase/improvement loan
– Refinancing same creditor (no new money)
– A series of advances (other than an initial
advance) or a series of single-payment obligations
that is treated as a single transaction, if the
rescission notice and all material disclosures have
been given to the consumer at consummation.
Rescission Rules
• Timing
– Consumer can exercise the right of
rescission until the last event occurs
• Midnight of the third business day following
• Delivery of the rescission notice
• Delivery of all material TIL disclosures
– If all three events have not occurred,
rescission period extends for three years
after consummation
Rescission Rules
• Notice shall disclose the following:
– Lender has retained a security interest in the
consumer’s principal dwelling
– Consumer has right to rescind the transaction
– How to exercise right to rescind, a written form for
that purpose, creditors address, effects of
– Date the rescission period expires
Rescission Rules
• Model Forms
– Appendix H of Regulation Z contains
model forms for rescission
– H-9 is for refinancing
Rescission Rules
• Disbursing Funds
– Rescission rules prohibit the creditor from
disbursing any money to the consumer
other than for escrow until rescission
period expires
– Violations are common for this provision
• Understanding the Waiver rules can reduce
Rescission Rules
• Waiver
– Consumers can waive the rescission
period if:
• There is a “bona fide personal financial
• The consumer has signed and dated a written
statement of the emergency
– Can not be on a preprinted form
Rescission Rules
• Waiver Form
Bank of Anywhere, Anywhere, USA
I/We would like to waive the rescission period on my/our
mortgage loan due to the following financial emergency:
Customer Name_____________________
• *******Can not use a preprinted form
Rescission Rules
• Waiver
– What is an example of a
good or bad waiver?
• Loan to repair the dwelling’s
heating system during the
cold winter
• Loan to take a winter
vacation to Sunny Florida
Rescission Rules
• When Rescission Occurs:
• The Security Interest becomes void
• Creditor shall return all money collected
including any finance charges to the consumer
within 20 days of notice to rescind and
terminate the security interest
• Consumer shall return any money or property
received from the creditor after the creditor
returns the consumer’s funds
– If the creditor does not take possession of the money
or property within 20 calendar days after the
consumer's tender, the consumer may keep it without
further obligation.
Rescission Rules
• Rescission Tolerances
– One-half of one percent
• Finance charge is considered accurate if it is
understated by no more that 1/2 of 1 percent of
the face amount of the note or $100 whichever
is greater on a “regular” rescission transaction
– One percent
• Finance charge is considered accurate if it is
understated by no more than1 percent of the
face amount of the note or $100 whichever is
greater on a “refinancing”rescission transaction
with a new creditor
Rescission Rules
• Rescission Tolerances Foreclosures
– After initiation of foreclosure the consumer
shall have the right to rescind if
• a mortgage broker fee was not disclosed in the
finance charge
• creditor did not provide a proper rescission
• finance charge is understated by more then
Post Closing - Regulation Z
Subsequent Disclosure Requirements
• Assumptions - 226.20(b)
– In Writing
• An assumption occurs when a creditor
expressly agrees in writing with a subsequent
consumer to accept that consumer as a primary
obligor on an existing residential mortgage
– New Disclosures
• Before the assumption occurs, the creditor shall
make new disclosures to the subsequent
consumer, based on the remaining obligation.