The paths to and benefits of real estate secure loans

Offering a variety of 1^st mortgage products is something every credit union's members need and expect—offering few or no mortgage products essentially drives members to your competitors, where their marketing team aggressively markets them with one goal in mind: obtaining their full banking relationship. One of the top three reasons for the loss of a core checking account is a member's mortgage lender offering them a discounted rate if they open a checking account and have the payment automatically deducted from it. Residential mortgage loans are a must-have product if you want to meet all your members’ financial needs and retain that relationship. The product, however, is not only a critical need for an institution’s customer base but also critical to a credit union future success and viability, as they provide a long-term and consistent income stream. In today’s banking environment long term survival is very hard for any credit union that does not offer 1^st mortgages and takes full advantage of their many benefits and uses.

While the above may be true, it is not easy to originate residential mortgages profitably and compliantly, two things that are not negotiable if you choose to originate them. There are many factors that can hinder or prevent a credit unions’ ability to originate 1^st mortgages and hold them in their portfolio, including but not limited to: staffing, technology, cash balances, and liquidity. That said, hurdles can be overcome, and you can work around hard stops. The goal of this article is to provide a high-level overview of the various avenues available to credit unions to both offer a variety of mortgage programs to their members and to benefit from the income the asset activity can provide.

Having held the position of senior lender at multiple institutions one of my primary directives was to meet the residential mortgage needs of the bank’s customers and communities, while also meeting or exceeding the income and budgetary expectations of my board of directors. Loans secured by 1-4 family residential properties was the primary tool I used to achieve both goals and to earn a reputation as a hero to both the banks customers and the bank’s board of directors. But it wasn't easy getting there as there were hurdles and hard stops all along the way.

Originating one hundred million dollars in mortgages and placing them in the bank portfolio certainly would have met both mandates but working at very small institutions, that wasn’t an option. With small lending staffs, limited cash, and limited space in the portfolio, I had to use alternative strategies to meet my goals and mandates. Those alternative methods I used, included choosing the following options, with my choosing the one that best fit the immediate need.

Over the past 10 years the residential mortgage industry has seen rates breaking 25-year lows and 25-year highs. These rate fluctuations and the volume or lack thereof that comes with them can made for a very challenging environment for lenders. Balancing staffing and profitability while still offering a variety of 1^st mortgages to your member base can sometimes conflict with each other.

In today’s banking environment—at minimum—every institution must find a way to invest their deposits in real estate secure loans. The days when a credit union can remain viable relying on consumer loans, if not already over, are coming to an end. The profitability required to sustain future growth and success is not there for a limited product offering of just personal and auto loans.

Originating residential mortgages does require a credit union to invest in an experienced origination and processing team and take on hundreds of thousands of dollars in payroll expense that comes with one. Depending on the chosen business model a credit union could employee as little as one or two employees and meet their mortgage goals.

During the past 15 years I was the senior lender at two small institutions, both in the 125 million dollars range. At one I had a staff of 14 consisting of 8 loan officers and 6 operations staff members. Together, we originated 10 million dollars a month. At the other, with myself acting as the sole MLO and an underwriter we originated 14 million in a 12 month period. In each case I met my loan volume and interest income goals.

For very small credit unions, which have limited resources—and payroll expense limitations—it is possible to originate 1^st mortgages using a retail loan origination platform with minimal staff. That is possible because there are third party vendors who will do the following:

These companies will do any one or all the above. This strategy will allow you to offer mortgages for placement in your portfolio or sold on the secondary market. With third party vendors offering processing services a lender can keep a limited loan staff but still offer mortgages to their members and generate income producing assets for the credit union.

There are multiple benefits to creating a correspondent loan channel.

Working at a small bank that preferred to only place 5/1 ARMs in its portfolio, setting up a correspondent outlet allowed my credit union to offer fixed rate products to our borrowers who preferred that product over the 5/1 ARM. These loans generated significant fee income as well as some daily interest income while they were being held for sale. These loans could be sold service-released or with the service retained, in which case they provided recurring servicing fee income.

In addition to providing fee income a correspondent relationship provided it—it also allowed the bank to offer a wider range of products, ensuring I had the product my customers needed. The ability to offer a loan to meet customers’ needs also played a large role with the banks ability to hire and retain experienced loan officers.

A correspondent channel can be made up of just one investor, or dozens if that aligned more with the business model chosen.

Setting up and using a wholesale lending channel provides two main benefits and can be used by credit unions of all sizes, including those with less than 100 million in assets.

Like with the correspondent channel the most important benefit of setting up a wholesale relationship is to expand the number of programs you can offer to your members, thereby ensuring you have the loan product to meet all their needs.

The difference between a correspondent channel and a wholesale channel is that with a correspondent channel your team approves and funds the loan in your name while with a wholesale channel another lender approves and closes the loan in their name.

When application is originated via wholesale product, the bank's loan officer would originate the loan and the credit union and the loan officer both remain the contact point for the borrower, there is no handoff.

In another deviation from a correspondent loan, the wholesale lenders staff discloses, approves, funds, and closes the loan in their name. Using this type of channel the originating bank has virtually no risk associated with the loan as they didn’t disclose or fund it.

This channel can provide a vehicle for an institution that currently does not offer 1^st mortgage to begin doing so in a short time and with minimal staff and risk—thereby allowing it to offer mortgages to its members while also generating fees.

There are number of different scenarios that might lead a credit union to use these this path to “originate” real estate secured loans. Loan participations or loan purchase are a vehicle to place residential 1^st mortgages on their books.

In the past years when loan originations were below the budgeted number buying part of a piece of a large 1^st mortgage pool via participation, buying 50% of a 1^st mortgage via a participation, or buying a loan outright were all actions I took to ensure I met my goals. If my target was fifty million dollars in loan originations then that was the number I needed to put on the books in any way I could. Missing those targets meant also missing future years' interest income targets and participations or purchases where the tool I had in my toolbox to ensure I met my goals. For example: purchasing a 2-million-dollar participation in Q1 would provide $8,333 in interest income every month or $100,000 per year at a net rate of 5%.

These vehicles would also enable a small credit union—who has chosen not to originate 1^st mortgage loans or has cash issues—to have real estate secured loans on the books, along with their long-term income streams. By using its own cash or a credit line, a credit union can purchase a participation thereby benefiting from the spread of the cost of the funds and the interest rate on the participation or purchase.

During my many years managing lending areas I have used all the above strategies to meet my origination and income goals thereby helping my bank or credit union to remain profitable, as well as having the ability to offer a mortgage to meet the needs of all its members.