Mortgage Banker Case Study

Background:

    Following the downturn of the United States real estate market in 2008 and the subsequent financial crises that followed, it became clear that mortgages and mortgage-backed securities had been widely distributed throughout the financial system and that the validity of many mortgages and documents were questionable with regards to lending standards, income verification and appraisal values.

    As delinquency, default and foreclosure rates continued to balloon countless mortgage investors including federally backed companies Fannie Mae and Freddie Mac were left with large portfolios of toxic mortgages.  Consequently mortgage security holders began demanding mortgage buybacks by mortgage originators.  Fannie Mae and Freddie Mac argued that they rely on the mortgage lender to do the complete underwriting of the files and they are accepting and funding the loans based on the representations of the mortgage lenders.

Risk:

As the real estate market stabilized, many mortgage bankers have returned to profitability.  However, the specter of buybacks looms large.  Without the deep pockets of the large publicly traded banks, a series forced buybacks could force insolvency or non-compliance with warehouse lenders.

Solution:

A captive insurance company is an insurance company that is established to insure the risks of its owner and affiliated companies.  When properly structured, premiums are tax deductible to the company and received tax free by the captive.

This structure provides an elegant and tax efficient tool for profitable mortgage bankers to reserve against the risk of being forced to buy back mortgages due to default or fraud by applicants or brokers.

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