Restrictions on Gifts and Promotional Activities

QUESTION 

I am the Compliance Manager of a mortgage lender in the mid-West. Recently, we received a notice from the CFPB after their examination. One of their allegations is that we violated RESPA’s restrictions on referrals involving “gifts and promotional activities.” 

Our General Counsel has asked me not to go into the details. However, he approved my request to ask you a generic question about referrals. We need an “advanced warning” guideline to ensure this violation won’t happen. 

I want to know how to determine when a referral is a violation of RESPA. Maybe you can provide some guidance on whether an arrangement can be deemed an illegal referral. I want to be able to evaluate the arrangement based on a simple set of criteria to determine if it can lead to a referral violation. 

How can I determine if a referral is illegal under RESPA? 

COMPLIANCE SOLUTIONS 

Policies and Procedures 

Referrals Tune-up® 

Advertising & Marketing Compliance 

ANSWER 

It is possible to provide a generic guideline to act as an “advanced warning” of gifts and promotional activities that would likely trigger a violation of the Real Estate Settlement Procedures Act (RESPA). Under RESPA Section 8(a), gifts and promotions generally are “things of value” and, therefore, could, depending on the circumstances, violate RESPA Section 8(a).[i] 

If the gifts or promotions are given or accepted as part of an agreement or understanding for the referral of business incident to or part of a real estate settlement service involving a federally related mortgage loan, they are prohibited. 

Here’s an example. A settlement service provider[ii] gives professional sporting event tickets, trips, restaurant meals, or sponsorship of events (or the opportunity to win any of these items in a drawing or contest) to current or potential referral sources in exchange for referrals as part of an agreement or understanding, such conduct violates RESPA Section 8(a). By the way, the agreement or understanding need not be written or oral; a practice, pattern, or course of conduct can establish it. 

However, in certain circumstances, gifts or promotions directed to a referral source are not prohibited if they are a normal promotional or educational activity meeting the conditions in Regulation X, RESPA’s implementing regulation. 

Regulation X allows normal promotional and educational activities directed to a referral source if the activities meet two conditions: 

1.The activities are not conditioned on the referral of business.

2.The activities do not involve defraying expenses that otherwise would be incurred by the referral source. 

First Condition 

The first condition is that normal promotional and educational activities must not be conditioned on the referral of business. 

Factors that are relevant to whether the first condition is met may include the following: 

• Whether the item or activity is targeted to referral sources. If an item or activity is targeted narrowly towards prior, ongoing, or future referral sources, this could indicate that the item or activity is conditioned on referrals of business. 

Example A 

Suppose a promotional item is provided only to a limited set of settlement service providers who also happen to be current referral sources or an intentionally targeted group of future referral sources. In that case, this may suggest that the recipient is receiving the promotional item because of past or future referrals, and thus, the promotional item may be conditioned on referrals. 

Example B 

If, instead, a promotional item is provided to a broader set of recipients, such as the general public or all settlement service providers offering similar services in a given locality, then that may indicate that the promotional item is not conditioned on the referral of business. 

How often is the item or activity given to the referral source? If a referral source is routinely and frequently provided with an item or included in an activity, and particularly if that referral source is provided with the item or included in the activity more often than other persons, this could indicate that the item or activity is conditioned on referrals. 

Second Condition 

The second condition is that normal promotional and educational activities must not involve the defraying of expenses that otherwise would be incurred by persons in a position to refer settlement services or business incident to those settlement services. 

Factors that may be relevant to whether the second condition is met may include the following:

• Whether the item or activity involves a good or service that the referral source would otherwise have to pay for itself. 

Example A 

Suppose a promotional activity involves paying for mandatory continuing education expenses, certifications, licenses, or other items that the referral source would otherwise need to pay for on its own. In that case, the promotional item or activity is more likely to defray expenses. 

Example B 

Similarly, suppose the activity involves paying for the referral source’s office supplies branded with the referral source’s name, contact information, or logo. In that case, this is more likely to defray the expenses of the referral source. But suppose the activity involves providing the referral source with office supplies featuring the name, contact information, or logo of the entity providing the supplies. In that case, this is less likely to defray expenses, since it is unlikely that the referral source would otherwise use its own funds to purchase office supplies featuring the name and information of another entity. 

If the particular item or activity does not meet either of these conditions, it is not a normal promotional or educational activity meeting the conditions in Regulation X.

Jonathan Foxx, Ph.D., MBA
Chairman & Managing Director 

Lenders Compliance Group

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[i] 12 CFR § 1024.14

[ii] 12 CFR § 1024.2(b)(29)

Fee Splitting Violations

QUESTION 

We were cited for two RESPA violations. The first thing we supposedly had was an undisclosed referral arrangement. But in our view, there was no increase in our charges, so we do not believe we did something wrong. 

The other violation was about fee splitting. I became a mortgage broker a year ago. I am not a compliance person, and I don’t even know what that is, but based on the banking department’s letter, it means we had an arrangement with a company to split the fees on a mortgage loan. Now, I disagree about us even having such an arrangement, let alone splitting any fees. I now have to prove it to the banking department. 

I need to know more. I want to understand how these violations could cause such a big response from the banking department. I have other questions, but these are the two that matter most to me. I contacted your Brokers Compliance Group to discuss everything. 

Did we actually violate RESPA if there was no increase in our charges? 

Are there exemptions to the prohibitions on referral fees and fee splitting? 

COMPLIANCE SOLUTIONS 

Brokers Compliance Group 

Policies and Procedures 

ANSWER 

RESPA (Real Estate Settlement Procedures Act) refers to a “thing of value” as including, but not limited to, any payment, advance, funds, loan, service, or other consideration.[i] To broaden this concept, a “thing of value” includes, without limitation, monies, things, discounts, salaries, commissions, fees, duplicative payments of a charge, stock, dividends, distributions of partnership profits, franchise royalties, credits representing monies that may be paid at a future date, the opportunity to participate in a money-making program, retained or increased earnings, increased equity in a parent or subsidiary entity, special bank deposits or accounts, special or unusual banking terms, services of all types at special or fee rates, sales or rentals at special prices or rates, lease or rental payments based in whole or in part on the amount of business referred, trips and payment of another person’s expenses, or reduction in credit against an existing obligation. My firm has come across many types of “thing of value” arrangements at one time or another. You get the point! 

By the way, the term “payment” is effectively synonymous with the giving or receiving of any “thing of value” and does not require a transfer of money.[ii] 

If you have a particular arrangement for referrals, and you are not sure if the arrangement violates RESPA, contact a competent compliance professional to discuss your plans. 

With respect to your view that there was no increase in the charge, therefore, there should be no violation of RESPA, you are 100% wrong. The fact that the transfer of a thing of value does not result in an increase in any charge made by the entity giving the thing of value is irrelevant in determining whether the act is prohibited.[iii] 

The answer about exemptions[iv] to the referral and fee splitting prohibitions is both specifically outlined in RESPA with examples. I will provide a brief outline here; however, a compliance evaluation should be undertaken to ensure any plan based on an exemption is thoroughly vetted by a compliance professional. 

The RESPA specifically provides seven exemptions to referral and fee splitting prohibitions. 

The RESPA exemptions are: 

1.   A payment to an attorney at law for services actually rendered; 

2.   A payment by a title company to its duly appointed agent for services actually performed in the issuance of a policy of title insurance; 

3.   A payment by a lender to its duly appointed agent or contractor for services actually performed in the origination, processing, or funding of a loan; 

4.   A payment to any person of a bona fide salary or compensation or other payment for goods or facilities actually furnished or for services actually performed; 

5.   A payment pursuant to cooperative brokerage and referral arrangements or agreements between real estate agents and real estate brokers;[v] 

6.   Normal promotional and educational activities that are not conditioned on the referral of business and that do not involve the defraying of expenses that otherwise would be incurred by persons in a position to refer settlement services or business incident thereto; or 

7.  An employer’s payment to its own employees for any referral activities. 

I would argue that each of these examples requires significant explication by a compliance professional who has core competency in interpreting and applying the requirements of RESPA and Regulation X. 

There has been some confusion about different versions of exemptions for payments to employees. The exemptions from the referral fee and fee splitting prohibitions are contained in Regulation X, the implementing regulation of RESPA.[vi] The Code of Federal Regulations includes an Effective Date Note[vii] that sets forth a second version of the same version with different provisions regarding payments to employees. Congress prohibited the Department of Housing and Urban Development (HUD) from implementing the revised version until July 31, 2007, and it required HUD to provide advance public notice if it ever intended to implement the different provisions. But, HUD has never acted to implement the revised version. 

Jonathan Foxx, Ph.D., MBA
Chairman & Managing Director 

Lenders Compliance Group

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[i] 12 USC § 2602(2)
[ii] 12 CFR 3500.14(d)
[iii] 12 CFR § 3500.14(g)(2)
[iv] 12 CFR 3500.14(g)(1)
[v] The statutory exemption refers only to fee divisions within real estate brokerage arrangements when all parties are acting in a real estate brokerage capacity and has no applicability to any fee arrangements between real estate brokers and mortgage brokers or between mortgage brokers.
[vi] Regulation X § 3500.14(g)(3)
[vii] 12 CFR § 3500.14(g), Effective Date Note

Risk-Based Pricing Notice: Timing

QUESTION 

We have a question about the risk-based pricing method. Our procedures already cover the required format of the pricing notice and the types of credit covered. What we want to know is when we are required to provide the risk-based pricing notice for closed-end credit transactions. Also, a question that concerns us is if we need to provide it if we are not going to do the loan. 

When are we required to provide the risk-based pricing notice for closed-end credit? 

Do we have to provide the risk-based notice if we don’t do the loan? 

COMPLIANCE SOLUTION 

Policies & Procedures 

ANSWER 

FACTA  (Fair and Accurate Credit Transactions Act), which amended the FCRA (Fair Credit Reporting Act), added a requirement that mandates that if you use a consumer report in connection with an application for, or a grant, extension, of other provision of, credit on material terms that are materially less favorable than the most favorable terms available to a substantial proportion of consumers from or through your financial institution, based in whole or in part on a consumer report, then you must provide a notice to the consumer containing specific information. 

The purpose of the requirement is to alert the consumer as to how information in their consumer report and their credit score can affect the terms of credit they receive. It is meant to enable the consumer to assess if there are any errors in their consumer report and, further, allows them to understand better how certain factors may influence their credit standing. 

Timing is a central feature of the risk-based pricing notice (“Notice”). The timing of the Notice depends on the particular situation. However, I can summarize the general timing rules for a closed-end credit transaction.

Suppose you are granting, extending, or offering some other provision of closed-end credit. In that case, the Notice must be provided to the consumer before consummation of the transaction – but not earlier than the time the decision to approve an application for, or a grant, extension, or other provision of, credit is communicated to the consumer by the financial institution required to provide the Notice. 

In the case of a review of credit that has been extended to a consumer, the Notice must be provided to the consumer at the time the decision to increase the APR (Annual Percentage Rate) based on a consumer report is communicated to the consumer by the financial institution required to provide the Notice. 

If no Notice of the increase in the APR is provided to the consumer before the effective date of the change in the APR, the Notice must be provided no later than five days after the effective date of the change in the APR.[i] 

Now, your other question is often asked because the answer does not seem intuitive. You asked if a Notice must be provided if a financial institution does not grant, extend, or otherwise provide credit. 

The short answer is No! 

The requirement to provide a Notice applies only when, based in whole or in part on a consumer report, a financial institution grants, extends or otherwise provides credit to a consumer on material terms that are materially less favorable than the most favorable material terms available to a substantial proportion of consumers from or through that financial institution. That leads to a brief discussion of adverse action. 

There is an express exception to the Notice requirement when a consumer is provided with an adverse action notice.[ii] Potentially, a financial institution may need to provide a Notice if it grants, extends, or otherwise provides credit and the consumer does not accept the credit, because the deadline by which a Notice must be provided may be reached before the financial institution learns that the consumer will not accept the credit.

Jonathan Foxx, Ph.D., MBA
Chairman & Managing Director 

Lenders Compliance Group

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[i] 75 FR 2724, 12 CFR § 222.73(c); 16 CFR § 640.4(c)

[ii] 75 FR 2724, 2731