PLAYBOOK: THREE LINES OF DEFENSE FOR MAINTAINING SERVICING LOAN QUALITY

PLAYBOOK

Three Lines of Defense for Maintaining Servicing Loan Quality

With the purchase market, the ramifications of inflation and the Fed’s rate changes all in full swing, predictions for 2024 are beginning to change shape. Fannie Mae recently updated its origination expectations for 2024 due to the changes in rates and recent macroeconomic factors resulting in volatility in the market. Its projected single-family mortgage origination volume for 2023 was downgraded from $1.60 trillion to $1.56 trillion, and for 2024 dropped from $1.92 trillion to $1.88 trillion. For comparison the total origination volume in 2022 was $2.36 trillion.

Fannie Mae also expects total home sales to be around 4.8 million in 2023, which would be the slowest annual pace since 2011, and 4.9 million in 2024. As a result, margins are expected to be lean throughout 2024 as origination activity dwindles and per-loan profitability declines.

Financial institutions should consider focusing on their defensive line by looking to their servicing revenue to carry them through the current down cycle. To confidently rely on that revenue, however, organizations must be able to assess the integrity of their servicing portfolios and ensure servicing staff strictly and consistently adhere to all relevant servicing rules, guidelines and regulations.

In this playbook, we’ll cover how Quality Assurance, Quality Control and Internal Audit form the three key lines of defense for maintaining servicing loan quality and how financial institutions can refine each to optimize asset performance, maintain compliance and deliver superior customer service.

FANNIE MAE SINGLE-FAMILY MORTGAGE ORIGINATION VOLUME PROJECTIONS FOR 2024

0.2% $1.88T Decline in home sales for 2024

Estimated 2024 volume

$1.56T Estimated 2023 volume

THREE LINES OF DEFENSE 1. QUALITY ASSURANCE

Just like a defensive coordinator, the quality assurance (QA) department’s purpose is to conduct in-line reviews and identify issues and errors early. Thus, the team resides within Operations and regularly tests granular loan samples and reviews loan populations that may be affected by policy and procedure changes.

As the first line of defense, the QA team must easily communicate exceptions, reports, test results and training analyses to all departments, including loss mitigation, foreclosure and bankruptcy.

2. QUALITY CONTROL

The quality control (QC) team ensures operational and servicing practices have been executed in compliance with all regulations and requirements, similar to the special teams coach. Typically, the QC team resides with the compliance department and tests a portion of the servicing portfolio monthly using stratified or statistical sampling. They are often called on to conduct ad hoc testing. For example, the QC team will conduct more targeted testing for loans that hit certain milestones in the loss mitigation/foreclosure process to determine if regulatory requirements were followed. Much like the QA team, communication and reporting capabilities are must-haves, as it holds primary responsibilities for reporting findings to both executive management and regulatory entities.

3. INTERNAL AUDIT

In football, it’s important to review past games and discuss how to pivot for future success. For financial institutions, the internal audit department holds a similar role, operating independently, objectively, and in a risk-based manner. As such, this team reports directly to the board of directors. An effective internal audit department needs to understand what QA and QC audit software looks like, how it works and how to pull records and reports. The internal audit department tests report findings to identify gaps.

Overall, this team has the ability to get to the root cause of findings.

Hallmarks of a risk-based internal audit department are the ability and authority to suggest and require enhancements to the QA and QC testing policies and procedures, so they must be able to communicate with and access reports and findings from the QA and QC teams while also maintaining independence.

HOW TO LEVERAGE ACES FOR ALL THREE LINES OF DEFENSE More often than not, a financial institution’s compliance department is heavily dependent on manpower hours and spreadsheets.

This method is unsustainable and inefficient. With ACES Quality Management & Control® Software, financial institutions can run more plays by leveraging a single platform to obtain a holistic view of loan quality and derive valuable insights across all three lines of defense.

ACES REPORTING

ACES SAMPLING

ACES REVIEW

ACES CONNECT®

Pre-configured and customizable reports specific to each business level

Selections generated according to business requirements

Standard & customizable Questionnaires with comparison capabilities

Secure portal for remediation collaboration with audit trail

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ACES REPORTING

ACES provides organizations with a centralized repository equipped with both pre-configured and customizable reports designed with executive-level review in mind. These reports can be mined for endless insight into servicing operations.

Using ACES’ reporting capabilities, the QC, QA and internal audit teams can quickly and easily pull reports that include high-level executive summaries while also allowing users to drill down into the data. ACES also provides the ability to complete ad hoc report requests within minutes versus days.

ACES SAMPLING

With just a few clicks, ACES will select loans for audit using statistical, straight random, stratified random or discretionary sampling, making it simple for both QA and QC teams to select populations of loans that meet each department’s unique requirements. Because ACES also provides the ability to import loans daily, QA teams can be sure that their discretionary samples include the most current sample of loans available.

Go from hours to minutes to create better, larger samples.

Replace manual input from multiple files with ACES automated criteria-based sampling

ACES REVIEW

ACES builds, manages and pre-populates standard questionnaires, which the QA and QC teams can easily reconfigure to meet each department’s needs. They can also add questions or create their own to ensure a comprehensive review process. Because ACES automatically associates questionnaires with loan type, auditors only see questions specific to their review.

ACES also filters out irrelevant questions based on answers, thus streamlining the review process even further.

All questions include links directly to source material, regulations and requirements. Questionnaires are updated monthly to ensure that the QA and QC teams are auditing to the latest requirements, while providing internal audit teams with comparison capabilities.

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ACES CONNECT®

ACES CONNECT provides a centralized location within the ACES platform for QA and QC teams to immediately notify others of critical exceptions, collaborate securely to monitor key data and metrics, review audit activity, remediate defects and manage corrective actions, including action plan building.

Because ACES automatically keeps an audit trail of all conversations and allows users to easily track outstanding responses, the QA, QC and internal audit teams have a record of when and to whom defects were reported and what steps were taken to correct the issue. In addition, ACES CONNECT enables users to securely communicate with authorized external constituents, which can be especially helpful if leveraging a third-party provider for QC, QA and/or internal audit.

CONCLUSION With declining volumes and tightening origination margins, financial institutions can ill afford to lose the revenue generated by their servicing assets. By leveraging ACES, all three lines of defense can tackle demand while controlling costs, improving audit throughput and accuracy, communicating efficiently and sharing trending results to internal departments and regulatory parties, while also improving the company’s bottom line.

Financial institutions utilizing ACES have seen double-digit increases in both productivity and loan quality. In fact, QC departments are often able to shrink in size because of the reduced need for highly-manual reviews. Continue reading to discover just one of the many ACES success stories.

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ACES CUSTOMER SUCCESS STORY FAY SERVICING

Founded in early 2008, Chicago, Illinois-based Fay Servicing is a special servicer and originator that leverages its differentiated relationshipbased platform to maximize the value of residential loan portfolios for mortgage bankers and alternative real estate investors.

CHALLENGE

Fay Servicing’s quality control team was at an impasse. The department historically relied on a combination of manual loan selection, shared file drives, email and spreadsheets to manage audits. Once the total number of monthly audits reached double digits, the team knew it was time to make a change, and adding staff was not an option. To address its current challenges and position for future growth, they needed a solution that could offer: - Automated audit workflow; - A secure communication portal; - Centralized, flexible reporting; and - Optimized loan sampling.

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RESULTS

Once ACES was in place, Fay Servicing’s QC team felt the impact immediately on its audit efficiency and productivity, which included: - Increasing productivity by over 500%; - A 200% increase in the number of audits conducted per month with room to grow; - Creating reports with a click of the button for investors, executives and regulators; - Maintaining high internal compliance scores - Expanding sampling and loan selection criteria data points from 300 to 2,000; and - Increasing audit productivity without adding staff.

“Since adopting ACES as our audit software, we’ve been able to increase productivity by about 200 percent in audits conducted, month over month, while maintaining high compliance scores.”

SAVANNAH PROUT EVP of Quality Control Fay Servicing

FLEXIBLE AUDIT TECHNOLOGY

CUSTOMERCENTRIC APPROACH

BUILT FOR THE ENTERPRISE

IMPROVE PRODUCTIVITY, EFFICIENCY AND QUALITY WHILE CONTROLLING COST

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