The mortgage loan securitization audit process

Learn how the Mortgage Loan Securitization Audit Process works!

Securitization is the financial practice of pooling various types of contractual debt such as residential mortgages, commercial mortgages, auto loans or credit card debt obligations and selling said debt as bonds, pass-through securities, or Collateralized mortgage obligation (CMOs), to various investors. The principal and interest on the debt, underlying the security, is paid back to the various investors regularly.

Securities backed by mortgage receivables are called mortgage-backed securities, while those backed by other types of receivables are asset-backed securities.

• Borrower can either go directly to a bank or through a mortgage broker to get a loan.
• Bank, after due diligence, originates the loan.
• The loan would be either an Agency eligible loan or a Non‐Agency Loan.
• The bank at that point has the option to either put that loan in its own portfolio or sell it.
• If the bank decides to sell the loan then the process of getting it off their books is different depending onthe type of loan originated.

For Agency eligible loans: The loans are sold to the Agencies ( Fannie Mae, Freddie Mac or Ginnie Mae).

When the Agencies buy the loans from the banks they have the option to put some loans directly intotheir portfolio (as raw loans) or securitize them and sell them. Ginnie Mae as yet cannot portfolio them.

The Securitization Process can take 3 basic shapes:

1. The Agencies group similar types of loans into large pools, put their guarantee on it, and can sellthem off (with the help of Wall Street) as Pass‐Through securities (also called TBAs).

2. They may occasionally instead also decide to break up the interest and principal payments of theselarge pools and sell the two cash flow streams as separate bonds (similar to Treasury Strips). Thisdepends on demand from investors as relayed to them via Wall Street.

3. They can also use the large pools to create bonds called CMOs (Collateralized Mortgage Obligations)with the help of Wall Street. The bonds are also referred to as “tranches” in a CMO deal and canvary in maturity, coupon and prepayment protection. Wall Street takes the 30 year stream of cashflows from a pool of mortgages and structures the type of bonds (tranches) that it knows it can sellto investors.

The securitized agency pools are direct obligations of the Agencies while the Strips and CMOs are set upas bankruptcy remote Trusts. The assets of the Trusts are the pools and the liabilities are the bonds.Whenever legal entities are set up lawyers and accountants get involved and so they are an integral partof the process. Since the Agencies have an implicit ‘AAA’ rating their securitizations do not involve therating agencies.

For Non‐Agency Loans: The Non‐Agency Loans are securitized and sold as CMOs with the help of Wall Street Broker/Dealers.

The bonds (tranches) in a non‐agency CMO deals are also structured keeping investor demand in mind.

The CMO trusts are also set up just like the Agency CMO trusts except in this case they carry the name ofthe issuer (like JPMorgan Chase) or of a Wall Street Dealer (like Goldman Sachs).

One glaring difference between Agency CMO deals and Non‐Agency CMO deals is that the bonds in aNon‐Agency CMO deal need to be rated usually by at least 2 rating agencies.

A Non‐Agency CMO deal will have bonds ranging from ‘AAA’ down to junk. The ‘AAA’ segment of thedeal is tranched out like an agency deal while the below ‘AAA’ bonds (called subordinated bonds or subsfor short) are left as pro‐rata bonds which pay down like collateral or absorb losses should there be any. So, the bank gets its money back with some profit by offloading its loans either to the Agencies or through CMO deals with Wall Street’s help.

The Agencies further follow their own securitization mechanisms to gettheir money back by selling TBAs or CMOs also with Wall Street’s help. Ultimately, it’s the end investor thatis financing the loan to the borrower and paying for the fees/profit that this whole securitization mechanismentails.

This would include paying the mortgage brokers, the Bank/Lender, the Agencies, Wall Street,lawyers, accountants, the Rating Agencies and even the Prospectus Printer and Fedex.

How did we get into trouble?

Everybody is talking about “Bad Loans” and loose lending practices. How did that come about ? First, in2003 we got down to 1% Fed Funds and so we had a really low interest rate environment. Second, in 2004,the SEC allowed Investment Banks to determine their own risk limits (i.e. leverage). The availability of cheaplevered money brought about the creation of several hedge funds and CDO managers.

The exponential risein demand for mortgage assets from that investor base drove Wall Street to create more bonds to feed thismonster. Since all good borrowers had already refinanced by 2003, the mortgage broker/originatorcommunity and banks started to look further down the credit spectrum and through 2004 and 2005 lendingstarted to relax gradually to keep the origination pipelines going. By 2006, they had to take more desperatemeasures to keep up with the demand and we saw the advent of “Affordability products” like Pay‐OptionArms, Interest‐Only Mortgages and 40 year loans. All geared towards making the monthly paymentaffordable enough for anyone to qualify and on top of that we got the NINJA loans (no income, no asset andno job verification) loans.

All of these were recipes for disaster. The business model was working well foreveryone: the brokers got paid hefty commissions, the banks sold off the loans at a profit, Lawyers andaccountants got paid, the Rating Agencies got paid, Wall Street took their cut and the levered investors gottheir bonds. All was good until home prices started to go down and the weak loans started to default. Andas the economy started to weaken and the unemployment rate ticked up the default rates on the 2006 and2007 originated mortgages have climbed at an alarming rate exposing the weaknesses in the underwriting.

Who is to blame?

Everyone along that securitization chain shares in the blame plus the Fed and the SEC. To bash Wall Streetmay be fashionable but not entirely correct. OFHEO (now FHFA), the Fannie/Freddie watchdog allowedthem to grow their portfolios without proper oversight and allowed them to relax standards on loans theycould purchase or guarantee. They were doomed. The Rating Agencies who were supposed to be thegatekeepers for the non‐agency stuff failed miserably at their job. Now, we see the same rating agenciesdowngrading bonds to CCC in one fell swoop, the same bonds that they ascribed a AAA rating not even 2years ago. People who lied on their loan applications, the greedy mortgage brokers who corralled eagerhome buyers, the banks who underwrote those loans and the Investors who bought the garbage are allequally culpable.

What is a Mortgage Securitization Audit?

What is a Mortgage Securitization Audit? A Securitization Audit is an in-depth investigation of the securitization process of a mortgage.

Securitization, in its simplest concept, means to turn something into a security. A security is either a stock or a bond which can be traded on the stock market.

There are laws that detail the legal and correct method for turning a home loan into a security. If these laws are correctly followed, then all is well. If they are not, then we end up with fraudulent securities, fraudulent foreclosures, or wrongful foreclosures, or illegal foreclosures. A Securitization audit is the resource for a homeowner to find out a) if his loan has been securitized, and b) if it was securitized, was it done correctly.

In most cases, today’s loans are securitized and when a homeowner requests a Securitization Audit to be done, it is consistently found that the securitization process was not correctly done.

One of the more common examples of a loan that has not been correctly securitized when we conduct the Securitization Audit is the fact that the note and the deed have been separated and have taken distinctly separate paths.

Typically, this means a couple of very important things: First – any foreclosure action being taken against the homeowner is a wrongful foreclosure, illegal foreclosure, or fraudulent foreclosure – whichever term you prefer. Second – There is something the homeowner can do to prevent losing his home to this wrongful foreclosure –IF he will just take action.

There are specific documents that must remain in place and together for a mortgage (which is often called “note”) to be “collateralized”.

Collateral is the item that a person puts forth as a guarantee of payment when he takes out a loan. If you want to borrow 5,000 dollars from your bank, they may ask you for collateral. This collateral will typically be something worth more than the $5,000.00. If for any reason you do not pay back the loan, then the bank will keep the collateral as payment for the money they loaned.

With home loans, the collateral is of course the home – which is represented by the deed. When a bank securitizes a loan, they must not separate the collateral in the process. Otherwise they end up with a loan that has no collateral – useless paper.

Interestingly, the banks got so sloppy, that this is exactly what they did. They took millions of loans, turned them into stocks and bonds to be traded on the stock market, but did not include the deeds. Now they cannot foreclose because they no longer have the note, and the deed is no longer with the note, wherever it may be (usually in the hands of thousands of people – each owning a small piece of it).

This massive “oversight” by the banks is actually fraud. In fact it is fraud in many forms. These are the most easily seen:

Securities Fraud: The banks securitized “collateralized loans”, and then offered these to thousands of investors on the stock market. Interestingly, many banks are being investigated today by the Securities and Exchange Commission (SEC).

Mortgage Fraud: The banks represented these loans as sound and solid investments, yet in addition to the fact that these loans had no collateral, they were also subprime loans given to lenders who would never be able to repay them, and the banks knew it when they gave the loan.

Fraud upon the Courts: The banks are now conducting wrongful foreclosures, presenting to the courts that they have the legal right to foreclose on these borrowers. In fact, they don’t because as any good securitization audit will show, the bank doesn’t have the required documents to foreclose in their possession.

This would also be fraud upon the borrower who is now at risk of losing everything that is dear to him and that he has striven so hard to achieve.

Any homeowner who has obtained a loan in the last decade, and who has had foreclosure begin would be wise to immediately request a securitization audit – no matter what stage of foreclosure he is in!

Tila Solutions is one of the leading audit companies in the industry today. They conduct forensic loan audits, securitization audits, and provide a number of negotiations services to help homeowners save their homes. Homeowners who have lost their homes already to foreclosure, can, in many cases still be helped. Tila Solutions will use the Securitization Audit to show that the bank never had the right to foreclose and often can negotiate with the bank directly to get the auction unwound. Tila Solutions can help homeowners obtain successful loan modifications as well.

If you are in foreclosure, the single most important thing that you can do is get a securitization audit.