What Is a Correspondent Lender?
September 4, 2006, Revised June 29, 2009
"Please explain the difference between a mortgage lender, mortgage broker, and correspondent lender."
Lenders and brokers both perform a variety of loan origination tasks, which include finding, counseling and qualifying borrowers, taking applications, checking credit, and verifying employment and assets. But the lender is the one who must approve the deal and disburse the money to the borrower. Mortgage brokers usually are not authorized to provide final loan approval, nor do they disburse money.
But lets muddy this up is a little. Suppose that at closing, the lender lends the broker enough money for the broker to fund the loan in his own name, then 10 minutes later when the transaction is completed, the broker sells the loan to the lender. Would this convert the broker into a lender? If we define "lender" as the entity who disburses funds to the borrower and receives back a note and mortgage, then the answer has to be "yes".
In fact, the practice I just described is fairly common, it is called "table-funding". Most authorities, however, including HUD and bank regulators, do not view table-funding as converting a broker into a lender. Implicitly, therefore, there must be something else that a lender does besides disburse the funds at closing and receive the note. But before looking at what that is, let’s consider why it matters.
Disclosure rules differ for brokers and lenders. Suppose the wholesale lender quotes a price of zero points on a 6% loan to a loan provider (LP) – this is the term I use to cover both brokers and lenders. If the LP wants to make 2 points on the deal (2% of the loan amount), he quotes a price of 6% and 2 points to the borrower. As a broker, the 2 points appears on the Good Faith Estimate (GFE) as a "Broker Fee", and as a lender, it appears as "Points". Not much difference there.
But the wholesale lender also offers, in addition to 6% and zero points, 6.25% with a 2 point rebate. Still looking to make 2 points, the LP’s price to the borrower would now be 6.25% with zero points. As a broker, the 2 points has to be disclosed. It isn’t disclosed very well, and borrowers frequently overlook it or don’t understand it, but it is there.
As a lender, in contrast, the 2 point rebate is not disclosed at all. The lender made a 6.25% loan at zero points, then sold the loan in the secondary market for a 2 point profit, but that profit is nobody’s business but his. Of course, brokers view this as extremely unfair.
Now lets go back to the question of what makes a lender a lender? I think most economists would say that a lender puts his money at risk – something a broker doesn’t do under a table funding arrangement. This brings me to correspondent lenders, many of whom began life as brokers.
Consider a broker who develops significant business volume, has earned the confidence of wholesale lenders who will authorize him to approve their loans, and has accumulated some capital. He can now obtain a credit line from a bank that can be drawn against to fund loans, repaying the loans when they are sold to wholesale lenders. Under the law, the broker has morphed into a "lender" – the type called "correspondent lender".
Correspondent lenders operate in the same way as brokers in avoiding market risk. The prices they deliver to borrowers are those of the wholesale lenders, plus a markup. When they lock a price for the borrower they simultaneously lock it with the wholesale lender, which locks in their markup. By my definition of "lender", therefore, correspondents don’t make it, they are just large brokers.
Correspondents do have a risk that brokers don’t, which is that the investor can force a correspondent to buy back a loan if it doesn’t meet the investor’s guidelines. In my opinion that risk is not great enough to warrant their being classified as lenders.
The law views the matter differently, however. Correspondents are lenders under the law, and therefore avoid having to disclose rebates. This has created a different set of disclosure rules for brokers and correspondent lenders, who are competitors, and much more alike than they are different. It has also created a wholly artificial incentive to pull brokers into larger entities, called "net branches", which are lenders and therefore don’t have to disclose rebates.
To a borrower who knows the score, it should not matter whether the LP they deal with is a broker or a correspondent lender. In either case, they should require as a condition for doing business that the LP agree in writing to a fee for service, and pass through the wholesale price to the borrower. Unfortunately, borrowers who don’t know the score assume erroneously that the law protects them.
Under legislation proposed by the Obama administration in mid-2009, all lenders would be required to retain 5% ownership of any loan they sell. If enacted, this would justify viewing correspondent lenders as "lenders".
"Please explain the difference between a mortgage lender, mortgage broker, and correspondent lender."
The Difference Between Lenders and Brokers
Lenders and brokers both perform a variety of loan origination tasks, which include finding, counseling and qualifying borrowers, taking applications, checking credit, and verifying employment and assets. But the lender is the one who must approve the deal and disburse the money to the borrower. Mortgage brokers usually are not authorized to provide final loan approval, nor do they disburse money.
But lets muddy this up is a little. Suppose that at closing, the lender lends the broker enough money for the broker to fund the loan in his own name, then 10 minutes later when the transaction is completed, the broker sells the loan to the lender. Would this convert the broker into a lender? If we define "lender" as the entity who disburses funds to the borrower and receives back a note and mortgage, then the answer has to be "yes".
In fact, the practice I just described is fairly common, it is called "table-funding". Most authorities, however, including HUD and bank regulators, do not view table-funding as converting a broker into a lender. Implicitly, therefore, there must be something else that a lender does besides disburse the funds at closing and receive the note. But before looking at what that is, let’s consider why it matters.
Classification Affects Disclosure Requirements
Disclosure rules differ for brokers and lenders. Suppose the wholesale lender quotes a price of zero points on a 6% loan to a loan provider (LP) – this is the term I use to cover both brokers and lenders. If the LP wants to make 2 points on the deal (2% of the loan amount), he quotes a price of 6% and 2 points to the borrower. As a broker, the 2 points appears on the Good Faith Estimate (GFE) as a "Broker Fee", and as a lender, it appears as "Points". Not much difference there.
But the wholesale lender also offers, in addition to 6% and zero points, 6.25% with a 2 point rebate. Still looking to make 2 points, the LP’s price to the borrower would now be 6.25% with zero points. As a broker, the 2 points has to be disclosed. It isn’t disclosed very well, and borrowers frequently overlook it or don’t understand it, but it is there.
As a lender, in contrast, the 2 point rebate is not disclosed at all. The lender made a 6.25% loan at zero points, then sold the loan in the secondary market for a 2 point profit, but that profit is nobody’s business but his. Of course, brokers view this as extremely unfair.
Lenders Assume Risk
Now lets go back to the question of what makes a lender a lender? I think most economists would say that a lender puts his money at risk – something a broker doesn’t do under a table funding arrangement. This brings me to correspondent lenders, many of whom began life as brokers.
Consider a broker who develops significant business volume, has earned the confidence of wholesale lenders who will authorize him to approve their loans, and has accumulated some capital. He can now obtain a credit line from a bank that can be drawn against to fund loans, repaying the loans when they are sold to wholesale lenders. Under the law, the broker has morphed into a "lender" – the type called "correspondent lender".
Are Correspondent Lenders Truly Lenders?
Correspondent lenders operate in the same way as brokers in avoiding market risk. The prices they deliver to borrowers are those of the wholesale lenders, plus a markup. When they lock a price for the borrower they simultaneously lock it with the wholesale lender, which locks in their markup. By my definition of "lender", therefore, correspondents don’t make it, they are just large brokers.
Correspondents do have a risk that brokers don’t, which is that the investor can force a correspondent to buy back a loan if it doesn’t meet the investor’s guidelines. In my opinion that risk is not great enough to warrant their being classified as lenders.
The law views the matter differently, however. Correspondents are lenders under the law, and therefore avoid having to disclose rebates. This has created a different set of disclosure rules for brokers and correspondent lenders, who are competitors, and much more alike than they are different. It has also created a wholly artificial incentive to pull brokers into larger entities, called "net branches", which are lenders and therefore don’t have to disclose rebates.
To a borrower who knows the score, it should not matter whether the LP they deal with is a broker or a correspondent lender. In either case, they should require as a condition for doing business that the LP agree in writing to a fee for service, and pass through the wholesale price to the borrower. Unfortunately, borrowers who don’t know the score assume erroneously that the law protects them.
Changes in Store For Correspondent Lenders?
Under legislation proposed by the Obama administration in mid-2009, all lenders would be required to retain 5% ownership of any loan they sell. If enacted, this would justify viewing correspondent lenders as "lenders".