FM Commentary

FM Commentary

Weighing the Decision to Retain Mortgage Servicing

Stephen PawlowskiAs mortgage lenders seek to expand their business in today’s market environment, we are hearing from many lenders who are considering retaining mortgage servicing. Being a servicer entails significant responsibility. Fannie Mae servicers need to adhere to our policies and procedures as well as industry standards for servicing performing and delinquent loans owned or guaranteed by Fannie Mae, as mandated by the Servicing Alignment Initiative.

We advise lenders to evaluate their own business strategy, both economic and financial, and consider the operational issues involved in servicing in order to make an informed decision on whether to retain mortgage servicing, sell their mortgage loans servicing released, or implement a combination of those options. This business decision requires the lender to conduct a complex evaluation that can be influenced by mortgage quality and performance, expected prepayment speeds, positive carry, and other considerations.

Advice from industry experts, including Fannie Mae’s customer account teams, can be useful to mortgage lenders as they consider the business decision to retain servicing. This advice can help lenders evaluate their own strategic objectives, consider the use of a sub-servicer, model operating results and cash flows under various scenarios, and evaluate pro forma earnings. Fannie Mae has prepared a toolkit to help mortgage lenders evaluate how to approach servicing that is available here.

The benefits to mortgage lenders of retaining servicing can be significant. Lenders can maintain a relationship with the borrower, create potential franchise value for the company, and receive the benefit of the servicing cash flow income stream. 

However, mortgage lenders also should evaluate the potential disadvantages of retained servicing in the context of their business plan. Retained servicing requires a cash investment as well as a capital reserve. The lender must be able to advance principal and interest, cover the cost of sub-servicing or invest in the technology necessary to service loans, and be able to hedge interest rate risk. There also are important accounting and compliance responsibilities to consider.   

Lenders seeking to build their own servicing portfolio will need to analyze each potential mortgage loan to determine whether servicing that mortgage loan makes financial sense for the lender. Using this information, the lender can determine whether the economic and ancillary value of retaining servicing exceeds the value received from selling the servicing as part of a secondary market transaction. 

As part of the analysis of the economic and ancillary value of servicing, the mortgage lender should consider prepayment speed forecasts, the discount rate for the mortgage loan, the anticipated cost of servicing, the projected ancillary income, the ability to cross-sell various products to customers, and other relevant information. The lender can then compare the overall economics of retaining servicing (including value of retained servicing, price for the loans, value of carry, etc.) to the overall economics of a servicing released execution. 

Lenders must also determine how much of the income generated from the sale of mortgages they would need to operate their business and generate profits and how much could be invested to acquire servicing.

Whether servicing can be advantageously sold depends on liquidity in the market. Beyond that, the decision on whether or not a mortgage lender should retain or sell servicing will depend on the business plan of the mortgage lender and other factors such as personnel, liquidity, and capital. Fannie Mae customer account teams are available as an experienced voice to provide input as lenders make the servicing choice that is best for them.

Stephen Pawlowski
Vice President for Business Initiative Management

December 15, 2011

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