In January 2013 the Federal Housing Finance Agency, conservator of Fannie
Mae approved a settlement between Fannie Mae and Bank of America in the amount
of $11.6 billion. The settlement
resolved Fannie Mae’s claims that Countrywide Mortgage, purchased by Bank of
America in 2008, had breached its representations and warranties in selling it
billions of dollars in residential mortgage loans between 2000 and 2008
There were three parts to the agreement.
The first was to settle representation and warranty claims for defective
loans and resulted in $10.26 billion in cash proceeds to Fannie Mae, $3.55
billion of which was a “make whole” payment, and $6.71 billion repurchased
loans. The second part was a payment of
$1.30 billion in compensatory fees for Bank of America’s failure to meet
foreclosure timelines. The third part,
with no dollar value attached, allowed Bank of American to transfer approximately
1.1 million in servicing rights (MSR) for Fannie Mae owned or guaranteed loans
to large “high touch servicers” with the capability of better
handling distressed loans.
In September 2011 the Office of Inspector General (OIG) of FHFA recommended
that FHFA issue internal guidance regarding the handling of any future repurchase
settlements and on June 27, 2012, the Agency issued the FHFA Settlement Policy and the FHFA
Settlement Procedural Guide.
The policy applied to settlements of Fannie
Mae and Freddie Mac (the GSEs) claims against counterparties related to
mortgage repurchases, mortgage insurance, or private-label mortgage back
securities (PLMBS). It calls for FHFA to
direct and approve settlements that satisfy the goals of the conservatorship
and exceed $50 million and provides the option for FHFA to review smaller
transactions. It defines the respective
roles of FHFA officials and GSE management and boards and was designed to
ensure that relevant parties within FHFA had the opportunity to provide their
views to the conservator on a proposed settlement.
At the suggestion of FHFA, the agency, Fannie Mae,
Bank of America
met in September 2011 to discuss
the possibility of
settlement relating to these legacy Bank of America
loans. As the parties
continued to meet, however,
there were substantial differences of opinion about the value of the loans in question and the possibility of litigation was raised.
By February 2012, Fannie Mae ceased purchasing Bank of America
mortgages, except those tied to the Home Affordable Refinance
Program (HARP). The two sides spent many hours
Eventually, the parties agreed to divide the representation and warranty settlement into the
two part reps and warranties settlement referenced above with “make
whole” compensation for Fannie Mae’s losses and a separate agreement to
repurchase approximately 30,000 loans at the unpaid principal balance plus
delinquent interest. This change helped
break the stalemate and the two sides reached
agreement more than a year after the first meeting. FHFA approved
the settlement, and Fannie Mae and
the bank completed the transactions in January 2013.
The January 2013 settlement with Bank of America provided the first
opportunity for OIG to review FHFA’s implementation of its new settlement
policy and OIG has now released a report on that review and, as the second and
third parts of the settlement fell outside of the FHFA policy, contrasting FHFA’s
oversight under the policy with its oversight of matters that fell outside of
The representation and warranty settlement was well above the $50 million threshold
and therefore the Settlement Policy applied. It did not,
however, apply to the resolution of compensatory fees or to the mortgage
regardless of how large they were, because those agreements did not involve
mortgage repurchases, mortgage insurance, or PLMBS.
OIG analyzed the Settlement Policy
and divided its provisions into more than 50 elements
and then reviewed whether
FHFA and Fannie Mae applied each of the 50 elements
to the resolution of the representation and warranty dispute.
Some of the main elements were:
Settlement Value and Commercial Reasonableness. Analysis by Fannie Mae and calculations of an
independent consultant led Fannie Mae and FHFA to conclude that the value of
the reps and warranty settlement exceeded the value absent a settlement and
that the settlement was commercially reasonable.
Independent Third-Party Review. For
settlements valued in excess of $500 million a knowledgeable third-party must
review and attest that the proposed settlement is a commercially reasonable
resolution. Fannie Mae obtained such a
review and the consultant attested that the settlement was commercially
reasonable in light of Fannie Mae’s claims.
A settlement must also satisfy “one or
more goals of conservatorship” and
the policy lists reasons that meet that standard including that the settlement
will reduce costs of pursuing claims though lengthier and more costly
processes; speed the timeline for restoring stability to company operations, or
bring certainty to and restore confidence in marketplace norms and
practices. FHFA stated in announcing the settlement that it was “a major step
forward in resolving issues from the past and providing greater certainty
in the marketplace, which remain critical
FHFA goals as conservator.”
A settlement must also be “properly documented.” OIG’s review of the transaction records showed that the documents required by the Settlement Policy were included
in the records.
The settlement must also be properly coordinated within
FHFA and its legal, policy, and supervision staff who can analyze and assess
the claims at issue. Supervision staff
must also ensure that the Office of Conservatorship Operations (OCO) are aware of
issues arising from its examinations that may be relative to the proposed
settlement. Legal officials were
involved from the beginning. The Office
of Housing and Regulatory Policy (OHRP), while not involved in the reps and
warranty settlement was involved in the transfer of mortgage servicing
rights. Further FHFA staff were present
at several meetings at which the settlement was discussed.
Under the Settlement Policy, OCO must-to
the extent practicable and appropriate-ensure reasonable consistency with other GSE settlements with specific counterparties across similar types of claims.
while comparisons are difficult across transactions Fannie Mae did present FHFA
with information regarding other settlements from recent years.
OIG concluded that FHFA adhered to its
own established policy in reviewing the representation and warranty settlement
between Fannie Mae and Bank of America. But,
given that they were not included in the policy, the resolution of compensatory
fees and the transfer of servicing rights
did not benefit from such an
Fannie Mae had
demanded compensatory fees from Bank of America for deficiencies in foreclosure
management, specifically for the bank’s failure to meet deadlines. The Bank had disregarding the demands and
almost all compensatory fees assessed from 2010 through September 2012 remained
outstanding until the date of the settlement – approximately $664 million.
Fannie Mae was able to bring Bank of America to the negotiating table
because of the banks interest in completing a significant MSR transfer to specialty services
and needed Fannie Mae’s approval. It
therefore agreed to negotiate resolution of the compensatory fee claims.
OIG found that the
process FHFA used to review
the compensatory fee resolution was not on par with the process
it had established for representation and warranty settlements. One deficiency was that FHFA had failed to
consider a comparable and contemporaneous situation at Freddie Mac. Fannie Mae’s approval of the MSR
sale was not formally a part of
the settlement agreements but occurred simultaneously and FHFA recognized that the negotiation of the
compensatory fee exposure
was directly linked
to the MSR transfer and was structured to provide
in the negotiation and resultant recovery
of funds owed to Fannie Mae.
Both OIG and FHFA
expressed concern about GSE servicing transfers and in September 2012 OIG
recommended that FHFA more closely monitor transfers to high touch
servicers. FHFA said it intended to
ensure that Fannie Mae was adequately managing the risk related to these
transfers and would continue to follow up through the 2013 examination cycle. Based on OIG’s and its own studies FHFA was
aware of the complexity and risk of large MSR transfers to specialty servicers
and aware of the significance of its own review of these transfers.
Although FHFA has revised and refined
its delegations of authority to the GSEs it continues to consider servicing
transfer to be within the GSEs regular business activities and corporate discretion. However, along with being actively involved
in most aspects of the Fannie Mae/Bank of America settlement FHFA’s OHRP and
its Division of Enterprise Regulation reviewed and OHRP ultimately approved the
concluded the review of the MSR transfer did not reflect the depth of analysis
that likely would have been accorded
had FHFA followed a process
comparable to that used in its newly established process for reviewing mortgage
repurchase, mortgage insurance, and PLMBS settlements.
As to the larger settlement, OIG found that FHFA had followed its
settlement review policy and procedures it had established with regard to mortgage repurchase, mortgage
insurance, and PLMBS claims.
concluded that there are several opportunities for improvement that FHFA might
consider. The most important would be to
develop procedures for settlement of compensatory fee claims and significant
MSR transactions. It might also consider
engaging staff earlier in the approval process and improving documentation
showing that applicable requirements were satisfied.