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Justin Fitzhugh

Guidance for Home Equity Lines of Credit Nearing their End of Draw Period (Part 1)

Thursday, July 10, 2014 - Article by: Justin Fitzhugh - Nations Lending Corporation - Message

Major Federal Financial Institutions issued joint guidance regarding Home Equity Lines of Credit (HELOCs) that near the end-of-draw period.[1] The guidance is intended to help us, lenders, manage our exposure, and teaches us how to respond whenever borrowers are unable to repay. The guidance lists the risk management principles we are required to use as we draft and implement our HELOCs end-of-draw period policies, and a guidance on the expectations from which we may draft and implement end-of-draw period procedures. The repetition of the end-of-draw period for this, and end-of-draw period for that may tune you off; however, I have simplified and divided the content of this guide to ease our familiarization with the requirements of the agencies that regulate us.

This, the first installment of my summary, covers the risk management principles the agencies require us to use are we draft, develop, and implement our HELOC risk management programs. The second installment, covers acceptable expectations we may use as we draft, develop, and implement our HELOCs end-of-draw period policies and procedures.

Although many borrowers are able to meet their contractual obligations when their HELOCs reset, some may face difficulties making payments or refinancing their existing loans. The Agencies recognize that under difficult circumstances, it is better for creditors and borrowers to work together and avoid default.

Our end of draw risk management program must embody the following five risk management principles:[2]

  1. Prudent underwriting for renewals, extensions, and rewrites
    • if we are considering an extension the drawing period, we should re-evaluate the borrowers willingness and ability to repay
  2. Compliance with pertinent existing guidance, including but not limited to the Credit Risk Management Guidance for Home Equity Lending and the Interagency Guidelines for Real Estate Lending Policies, including:
    • establishment of processes for the review and approval of policy exceptions
    • require ongoing timely and accurate performance and composition reporting of our portfolios
  3. Use of well-structured and sustainable modification terms
    • the Agencies urge us to cooperate with borrowers who face financial difficulties by establishing modification or workout programs
    • restructuring an interest only or balloon loan is inappropriate for high risk borrowers
    • if modifications dont meet the lenders underwriting criteria, the creditor should establish a payment schedule that leads to compliance in a structured, orderly way, keeping a sustainable payment structure
  4. Appropriate accounting, reporting, and disclosure of troubled debt restructurings, TDR
    • management is required to review end-of-draw modifications to identify TDRs and accrual status
    • TDRs are appropriate when the creditor gives a concession to borrowers facing financial difficulties like:
      • inability to repay a balloon payment at maturity
      • payment shock due to higher monthly payment triggers
  5. Appropriate segmentation and analysis of end-of-draw exposure in allowance for loan and lease losses (ALLL) estimation processes
    • when volumes warrant, HELOCs approaching their end-of-draw period should be in a separate portfolio segment for the ALLL estimation process
    • before these reach their end-of-draw period, management should monitor and analyze the potential impact of default and/or restructure

I imagine most lenders are familiar with the risk management principles listed in the Interagency Guidance for HELOCs nearing their end-of-draw period. We are reminded of these principles through the various regulations and rules that govern the equity based lending, like the the recent ability to repay rule. I think the difference lies in the timing of the use of these principles which at the end of the day boil down to common sense lending and common sense management of financial hardship. History tells us there have been times when we shot ourselves in the foot by jailing debtors and/or provided financing to people who was unable to repay. I think it good practice that Federal agencies in charge of our financial systems remind us and help us develop good thinking as we issue equity based lending.

Here I have summarized the first part of the guidance; however, the guidance is loaded with important details and additional references to other official guidelines and rules that we should consider. You can access the guideline here: http://www.fdic.gov/news/news/press/2014/pr14052a.pdf

1) http://content.govdelivery.com/accounts/USFDIC/bulletins/c14aec

2) http://www.fdic.gov/news/news/press/2014/pr14052a.pdf#page=2

At Nations Lending Corporation, we help our branch partners grow their referral business. To help loan officers communicate with realtors and manage borrowers expectations, we are committed to keeping partners in the loop through all stages of the approval process with our cutting edge technology. This is only one of the benefits we offer through our mortgage branch opportunities. Although we are not a net branch company, and offer no mortgage net branch opportunities, our partners benefit from bundled solutions that help them build sustainable businesses. Please visit our website to learn more.

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