When I ask this question, the room falls silent.  Then maybe a lone person might shout, “honesty.”  Someone else might say “The Golden Rule.”  It’s easier to talk about ethics in smaller groups rather than one large group so when the classroom is divided up into smaller working groups and I charge students to come up with a list of 10 things they learned, or to come up with a list of 10 character traits they admire in people (like honesty, courage, etc.) the task is easier because we have each other to talk with.

The SAFE Act now requires licensed LOs to take an ethics class every single year.  Along with that, course providers like NAMF have to insert additional topic categories inside our ethics class: Consumer protection, fraud, and fair housing.  So you’ll be taking an ethics class….every….single…year.  It might seem irritating that the government is mandating this every year but if you think about it, ethical dilemmas change from year to year and course providers are charged with making sure our courses are current each year.

But the mortgage lending industry doesn’t have a required, mandatory code of ethics which all members must subscribe to.  The codes that do exist are pretty lame and are only voluntary.

So we should ask the NMLS, if we are suppose to think about ethics, whose ethics are we suppose to be learning?  Without direction from NMLS, it would be pretty presumptive to assume that we’re suppose to teach/learn the NAMB, NAMPW, NAMF, MBAA codes of ethics. 

So where does an industry begin to learn how to use ethics to solve their professional ethical dilemmas? For example, if we were to sit down and write a brand new code of ethics for the industry (don’t worry, there’s not enough time to do that for the purpose of this article) we would have to start somewhere and here’s where it is: We’d look to normative moral theory.  (Read a very brief paragraph on descriptive, normative, and analytical ethics here.)  Normative moral theory can be applied to any profession such as law, medicine, and even the emerging profession of mortgage loan origination. If we were to sit down and write a code, we would create that code from elements of Aristotle’s virtue ethics, Kant’s duty-based ethics, and J.S.Mill’s Utilitarianism and apply these theories to ethical dilemmas faced by loan originators.

Someday the industry will be ready for mandatory, prescriptive code. If you’d like to take a look at an industry that’s created a prescriptive code, we can look at the Realtor Code of Ethics.  Make all the Realtor jokes you want to; their code has been around for over 100 years.  To me, this means the Realtor association is 100 years ahead of mortgage lending in terms of promoting the moral development of their profession. 

Ethical subjectivism is one of the many reasons that lead to the subprime meltdown. The industry is still in need of an objective, prescriptive code.  An argument against that position is that as long as we follow state and federal law, we don’t really need anything else to guide us.  That may be true, but then that person is arguing to keep himself/herself about as morally developed as a teenager. 

Assignment:
Consider an ethical dilemma you’ve faced during your time originating loans. If you are a new or newer LO, think about an ethical dilemma you’ve faced in another job position.

Q: What was the dilemma?
Q: How did you solve it?
Q: Do you identify more with Aristotle’s ideas, Kant’s duty-based ethics, or J.S. Mill’s Utilitarianism?  Or maybe your ethical style is a combination of each.

Remember, it’s okay to use intuition, emotion, and religion to start your thinking process but we can’t stop there. For example, our intuitions might be wrong. Emotions (example of fear-based thinking “if I can’t sleep at night I know it’s unethical) are a pretty self-serving way of solving problems, and there are literally thousands of different religions in the world so although it’s fine to reach back and think about the ideals you learn from your religion, once you become a professional, your code of ethics becomes your bible.  Since our industry doesn’t have that mandatory code of ethics just yet, we definitely CAN use normative moral theory to get us started. 

What are the possible consequences for the licensed LO, the unlicensed LO, the consumer, the mortgage broker, and the lender? 

If you were the consumer on a transaction like this, would you want to know about this sort of fee-splitting arrangement? How much would you say would be a reasonable amount to pay the unlicensed LO and the licensed LO…if YOU were the consumer? 

Solution number 1
All retail mortgage salespeople, no matter where they work: bank, broker, credit union, consumer finance company, should owe fiduciary duties to consumers, just like a doctor or a lawyer does.  The process of purchasing or refinancing a home has become more and more complex over the past 20 years. This major financial decision is no less important than a medical procedure or legal matter.

Solution number 2
Let’s stop dancing around the ambiguous behavior we call “predatory lending” and define it.  We use to call such actions “fraud.” There are now 24 states that have passed anti-predatory lending legislation.  This means multi-state brokers must deal with a patchwork of state regulations.  A federal solution is in order, but we must also make sure that funds are set aside to regulate any new federal law. An un-regulated federal law is useless.

Solution number 3
If the industry does not like paying higher costs associated with more state and federal regulations, the industry has another choice: Self-regulation.  Any industry is far better of self-regulating rather than letting the government regulate for you.  The last time the mortgage industry had to swallow government forced regulation, we ended up with RESPA and the Truth-in-Lending Act. Oh, yes, these are such fine pieces of federal legislation and so easy to understand that the industry joyfully and voluntarily steps up to the plate every day to willfully comply with these two gems.

Every time I ask mortgage brokers the following question, I get the same answer, 100% of the time: “If you accidentally messed up and violated a federal or state law, would you want one of the competitors in your marketplace to give you a call and say, for example, ‘Hey there, I think you missed the APR on that piece of advertising’ or would you rather have your competitor turn you in to your state’s regulator?”  Everyone would rather have their competitor place a direct, friendly call to them.  There’s this really cool guy named Kant who came up with one way (well he came up with many ways but we’ll just focus on one right now) to help us figure out how to act ethically. He said that if we want something for ourselves (a courtesy phone call) then we must also want it for the other person.  “But, but,” you ask, ”what if that other person is our competitor?”

Self-regulation means that the industry understands that consumer respect is only as high as it’s LOWEST player.  Self-regulation is a sign that an industry is moving forward and growing up.  Yes, it will mean requiring more pre and post education, tougher exams, and higher duties owed to consumers, but moving into the realm of professional status also means more prestige, less government oversight, and the fees emerging mortgage professionals will charge for their services and knowledge will be higher because their knowledge and duties will be worth more. If you regularly argue for less government intrusion and you are pro-business, you understand the value in self-regulation.

There are now four national professional associations where retail mortgage salespeople can voluntarily choose to act with professional status, or at least pledge a higher level of honesty than the existing industry associations.  Members of NAMB must simply look like they’re honest. 

Retail mortgage salespeople who join the Mortgage Professor’s Upfront Mortgage Brokers Association will guarantee, in writing, a fixed price for their services up front.  Members also pledge to put their client’s interests above their own.

The National Association of Mortgage Professionals has a Code of Ethics that is better than NAMB, MBAA or NAPMW.

The Certified Mortgage Planners have a more detailed Code of Ethics.  However, all a person has to do is attend a 3 day class and pass a test and I’m not sure I agree with their premise: To help consumers plan how to use their home equity.  This organization has some work to do in its intentionality.  Interestingly, a regular raincityguide.com reader sent me an entire slew of articles that catch lead Mortgage Planner instructor Barry Habib with his pants down recommending consumers choose subprime products, take their equity out of their home and invest it, and other “advice.”  Looks like CNBC hasn’t asked him for advice for a couple of months.

The National Association of Mortgage Fiduciaries Code of Ethics is prescriptive and detailed. We are the only professional organization whose code of ethics prescribes fiduciary duties and we are open to all people in the mortgage lending industry.

Ameriquest and Household Finance, two consumer loan lenders were forced by way of court settlement to cease rewarding their retail mortgage salespeople for steering trusting consumers into high cost, high rate loans. In contrast, Mike Dodge recently penned an Inman Guest Perspective in which his company, Internet Brands, voluntarily adopted a twelve point, detailed, home borrower’s Bill of Rights.

Solution Number 4
Require ratings agencies to do proper due diligence on pools of mortgage backed securities and dis-allow ratings agencies to be paid by the investment bankers; a conflict of interest that certainly should have been caught long ago.

Solution Number 5
Ban downpayment assistance programs which artificially inflate sales prices and are nothing more than seller money laundering according to Tanta. 

Solution Number 6
Require that mortgage companies that purchase leads be held accountable for the advertising used to harvest those leads.  Deceptive mortgage spam, deceptive radio ads, deceptive lead generation websites only serve to circumvent an ethical mortgage company’s attempts to advertise in accordance with state and federal laws.

Some view the mortgage industry meltdown as a threat. I see it as an opportunity to put the industry back on track ethically, to help retail mortgage salespeople transform into emerging professionals, rope predatory lending back into where it came from: the fraud corral, and open a national dialogue on self-regulation. What do you see? What solutions would you add to this list?

A Professional:

1. Has specialized knowledge in his or her field.  (Update: This body of knowledge is generally agreed-upon by those in the industry and is typically described within state and federal law.)  This person knows way more than the average random consumer about his or her area of expertise;
2. Is required to complete a minimum amount of formal, academic education;
3. Is tested for competency;
4. Is licensed;
5. Must maintain that license with mandatory continuing education;
6. Subscribes to a mandatory code of ethics in an industry that is self-regulating. This is different from state or federal government regulatory oversight. The industry itself regulates ethical conduct over and above state and federal law;
7. The self-regulating body enforces their code of ethics with sanctions for violations;
8. Owes fiduciary duties to clients. This means the professional has the highest prescribed duty of loyalty to the client, to put the client’s interests above his or her own interests.

Here is how loan originators (LOs) measure up against the above list:

1. LOs, there is a power imbalance between you and the consumer. You know way more about how the machine we call mortgage lending works than the average random consumer will ever know.
2. In many states, including WA, no education is required to begin originating loans. (However, this may be changing at the federal level.)
3. Testing LOs for competency finally began in 2007 for LOs in WA state
4. Licensing of LOs is currently not required in all states and for originators employed by all types of lending institutions.
5. Continuing education requirements are very low if they exist at all (WA state only requires LOs to take two classes per year.)
6. There is no mandatory code of ethics for mortgage lenders. What codes exist at the national trade level, are voluntary and offer insufficient guidance.
7. Currently there is no ethical oversight in mortgage lending by the industry. There may be individual company codes of ethics for employees. Were you asked to read and sign a company code of ethics before or during the hiring process?
8. Fiduciary duties are now required for mortgage brokers and loan originators as of June 12, 2008.

One of the ways we can better understand the current crisis facing the mortgage industry is that loan officers, loan originators, mortgage planners, loan consultants, or whatever their job title, had absolutely no duty to put their client’s interests above their own. The relationship between a loan originator and the consumer was (and still is in many states) a retail relationship.  During the mortgage-lenders-gone-wild days, many consumers (based on countless interviews held by regulators, consumer advocacy groups and even the mainstream media) held a false belief that a loan originator is a “professional” and owes a duty to the consumer not to harm him or her.

Loan originators are classified as an “emerging profession.”  We are living through a historic, transformational phase. On the other side of the transformation, which could come sooner than some people think, I believe LOs, no matter where they work, will owe fiduciary duties to consumers, even with LOs who work at a bank.  If you look at the narrative history of any profession you would see, over time, a steady increase in the number of continuing education classes required, more mandatory pre-licensing education, an elevation of duties owed to clients, more expansive ethical codes, and tougher licensing exams.  Loan originators, no matter where they work, will eventually transform into professionals, though some will have to be dragged kicking and screaming.

Many brokers believe fiduciary duties means higher liability.  However, if done right, this may actually have the reverse effect by lowering the mortgage broker’s liability.

20% down
10% down
5% down use to be considered very risky.
3% down buyers were directed to FHA loans
0 down use to only be available to Veterans
Then came 0 down with seller-paid closing costs
Finally we had 0 down, seller-paid closing costs combined with a variety of exotic mortgage products that were previously only offered to the most credit worthy and financially savvy borowers.

Hard money lending was re-named subprime lending and moved into the mainstream as the mortgage brokerage industry grew to originate over 50% of all mortgage loans in the U.S. Subprime started out years ago with high interest rates along with a large downpayment. As Greenspan lowered interest rates, competition heated up and we saw a relax of credit standards in the same direction. This pushed a huge amount of homebuyers into the market, and infused the industry with a tremendous amount of job growth in the lending, banking, title, escrow, appraisal, and real estate agent arena. Corporations must earn a profit (within the bounds of the law) so corporations continued to push for profit growth.  It doesn’t matter which political party holds power: Democrats or Republicans. BOTH parties push homeownership onto the American public as the dream every person in America ought to be able to achieve. Downpayment assistance homeownership programs sprung up all over the country and on a side note, it’s interesting to see FHA blasting these programs as having high default rates; high enough to possibly bring down FHA. 

With little regulatory oversight in existence for mortgage brokers and consumer loan companies, (although they argue that they are HEAVILY regulated) the mortgage brokers, consumer loan companies, and the wholesale lenders had a field day with profits during the bubble run-up years of 2002 through 2006. All the real estate agents I talk to, and I meet thousands of real estate agents every year, with regards to predatory lending considered this a problem of the mortgage lending industry, acknowledging that there “could” be effects on the real estate market, but without actually feeling any of those effects it was always someone else’s problem. It has been pointed out that real estate agents also made lots of money with the relaxation of credit standards and the resulting housing boom.

Our state regulators DO have money set aside to go after the most egregious cases of predatory lending and mortgage fraud. However, government was never intended to police every single deal written by mortgage brokers and consumer finance companies. There is just not enough government re$ources available to do this, and there never will be. 

In March of 2007, I predicted that every one of us in the industry WILL feel the effects of the subprime meltdown. Now that the subprime defaults have spilled over into Alt-A, prime ARMs, and HELOCs, we have a major national financial crisis that has resulted in an official housing recession. A full blown economic recession is underway with the FDIC preparing for bank failures and the FBI shifting its focus toward mortgage fraud. The mortgage industry will continue to see defaults rise into 2009 as more pay-option ARMs reset.  Underwriting guidelines will continue to tighten until the loans we are originating today can be proven to have lower default rates than the current vintage of Residential Mortgage Backed Securities. 

Some mortgage lenders have seen an increase in loan applications from homeowners seeking to refinance into fixed rate mortgage loans, but not all of these borrowers qualify under today’s tightening underwriting guidelines.  Mortgage companies that blatantly ripped off consumers will not see repeat business. Those customers will go elsewhere, as they should. Mortgage brokers who have ONLY done subprime will find it challenging to become approved as an FHA lender as FHA has many rules to follow including the requirement for loan originators to be W-2 employees (many brokers pay their originators as contract workers.) Consumers are sick and tired of bait and switch advertising and hopefully won’t fall for it this time around. Those companies will go down, their loan originators finding jobs scarce since their only training has been hard-core, script-memorizing, pressure-laden sales tactics. They specifically chose to be in subprime for the money and only the money. Former mortgage lending workers are reporting that they’re having trouble finding jobs in other industries and are being blackballed by recruiters.  The recruiters say employers want all candidates screened out if they were previously in the mortgage industry. 

Treating home buyers (and refinancing homeowners) only as a tool to maximize profits is one business model that is no longer growing profits at previous rates. These companies are refi machines built on marginally to blatantly deceptive direct mail, email spam, deceptive radio ads, or by purchasing leads generated off of deceptive advertising and they exist in every market in the United States. This market is now seeing a decline in profitability and in a capitalist system, profit drives morality: what’s profitable is good, what’s not profitable is bad.

Brokers, lenders, and banks that have always operated their business with a foundation of treating consumers with respect will survive and thrive. By respect, that means declining some loans because sometimes this is the most respectful thing to do.

It is way past time for a mortgage market correction and I am hopeful that the current crisis of epic proportions will lead us to a better place in the mortgage lending industry.

We should expect to see at least four more federal laws directly targeting the mortgage lending industry, similar to the wave of consumer protection legislation that swept the U.S. in the 1970s.  There have now been many laws introduced, some have passed the house but not the senate, some have passed committees, and who knows if anything at all will happen during these last few months before and after the next presidential election.  Therefore we should also expect to see many, many states jump up to enact legislation aimed at the mortgage industry. 

Watch for underwriting guidelines to continue to tighten, back to what they were like in 1985. Watch for interest rates to up, up UP! Because banks have to try and offset their foreclosure losses by…what else? Making new loans.  The industry underpriced risk for subprime borrowers, offered loan products to borrowers who did not fully understand how the product worked, and rewarded loan originators for selling the most risky products to the most credit-unworthy borrowers.  Instead of blaming everyone but themselves, the industry would do better to look within, systemically, for the solution.