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December 19, 1962. [TITLE 12, Banks and Banking; Chapter V, Federal Home Loan Bank Board;
Subchapter D, Federal Savings and Loan Insurance Corporation; Part 563,
Operations] PROPOSED AMENDMENTS RELATING TO MANAGEMENT, FINANCIAL POLICIES, EXAMI
NATIONS, AUDITS, APPRAISALS, AND RECORDS OF INSURED INSTITUTIONS RESOLVED, That, pursuant to Part 508 of the General Regulations of the Federal Home Loan Bank Board (12 CFR Part 508) and section 567.1 of the Rules and Regulations for Insurance of Accounts (12 CFR 567.1), it is hereby proposed that Part 563 of the Rules and Regulations for Insurance of Accounts (12 CFR Part 563) be amended by amendments the substance of which is as follows:
“1. Section 563.17 of said Part 563 is hereby amended to read as follows: “8 563.17 Management and financial policies.
“For the protection of its insured members and other insured institutions, each insured institution shall maintain safe and sound management and shall pursue financial policies that are safe and consistent with economical home financing and the purposes of insurance of accounts.
“2. Said Part 563 is hereby amended by adding thereto, immediately after section 563.17, the following new section : "8 563.17–1 Examinations and audits; appraisals; establishment and mainte
nance of records. “(a) Examinations and audits. Each insured institution shall be examined periodically by the Corporation, with appraisals when deemed advisable, in accordance with general policies from time to time established by resolution of the Board; and shall be audited periodically by auditors and in a manner satisfactory to the Corporation, and may be audited at any time by the Corporation. If an insured institution has neither been so audited by independent auditors within the 12-month period immediately preceding the date of any examination of such institution made pursuant to the provisions of this paragraph (a) or within the period that has elapsed since the examination of such institution next preceding such date, whichever period is greater, nor adopted and maintained an internal audit program acceptable to the Corporation, the examination of such institution by the Corporation shall include an audit. An insured institution shall promptly file with the Corporation, through the Chief Examiner of the Federal Home Loan Bank District in which the institution is located, a copy of the report of each audit other than audits made by the Corporation. The cost, as computed by the Corporation, of any examination or audit, or both, made by the Corporation, including office analysis thereof, overhead, per diem, and travel expense, shall be paid by the institution examined or audited.
*(b) Appraisals. Unless otherwise ordered by the Board, the appraiser or appraisers who make appraisal of real estate in connection with any examination of an insured institution made pursuant to paragraph (a) of this section shall be selected by the Board's Chief Examiner of the Federal Home Loan Bank District in which such institution is located, and the cost of such appraisal shall promptly be paid by such insured institution direct to such appraiser or appraisers upon receipt by the institution of a statement of such cost as approved by such Chief Examiner. Copies of appraisals made pursuant to the provisions of the first sentence of this paragraph (b) shall be furnished to the insured institution within a reasonable time, not to exceed 90 days, following the completion of such appraisals and the filing of a report thereof by the appraiser or appraisers with such Chief Examiner. The Corporation may obtain at any time, at its expense, such appraisals of any of the assets, including the security therefor, of an insured institution as the Corporation deems appropriate.
"(c) Establishment and maintenance of records. To enable the Corporation to examine and audit insured institutions pursuant to the provisions of paragraph (a) of this section, each insured institution shall establish and maintain such accounting and other records as will provide an accurate and complete record of all business transacted by it, and the documents, files and other material or property comprising said records shall at all times be available for such examination and audit, wherever any of said records, documents, files, material or property may be. Without any limitation on the generality of the foregoing sentence and without modification of any other requirement with respect to the establishment and maintenance of records to which such institution is subject, each insured institution shall establish and maintain the following records :
“(1) Records with respect to loans on the security of real estate. The records of an insured institution with respect to each loan which such institution makes on the security of real estate shall include
“(i) An application for the loan, signed by the applicant borrower or his agent, in such form and containing such information as will disclose the purpose for which the loan is sought and the identity of the security property;
“(ii) If any such loan is made for the purpose of financing the purchase of the real estate security for the loan, a signed statement by the borrower or his agent, as a part of or as an attachment to the application for the loan disclosing the price at which such real estate security is being purchased by the borrower;
“(iii) One or more written appraisal reports, prepared and signed, prior to the approval of such application, by a person or persons duly appointe a and qualified as appraiser or appraisers by the board of directors of such institution, disclosing the fair market value of the security offered by the applicant and containing sufficient information and data concerning the appraised property to substantiate the fair market value of the security described in such report;
“(iv) A financial statement of the applicant signed by such applicant or a written credit report prepared by such institution, or by others at the special instance and request of such institution, disclosing the financial ability of the applicant;
“(v) Documentation showing when and by whom such loan was approved and the terms and conditions of such approval;
“(vi) Documentation showing the date, amount, purpose, and recipient of every disbursement of the proceeds of such loan, whether such disbursements are made directly by such institution or through escrows or other persons or concerns;
“(vii) An opinion signed by such institution's attorney-at-law, a title insurance policy, or other documentary evidence customarily used in the jurisdiction in which such real estate security is located, affirming the quality and validity of such institution's lien on the real estate security for such loan;
“(viii) Documentation showing that such institution, upon the closing of the loan, furnished to the borrower a loan settlement statement setting forth in detail the charges or fees such borrower has paid or obligated himself to pay, which documentation shall include a copy of such loan settlement statement;
“(ix) A record showing the status of taxes, assessments, insurance premiums, and other charges on the security for such loan;
“(x) Documentation covering all modifications of the original mortgage contract, showing appropriate approval of each such modification; and
“(xi) Documentation covering all releases of any portion of the collateral supporting the loan, showing the part of the premises involved, the considera
tion, if any, and a record of appropriate approval of each such release. “(2) Records with respect to property purchased subject to, or with assumption by a third party of, an institution's loan. When a property on which an insured institution has a lien securing an unpaid loan is sold to a third party and a release of the original borrower from such indebtedness is given by an insured institution, the records of such institution shall contain such documentation and records, with respect to such third party and such transaction, as are required by subdivisions (ii), (iv), (v), (x) and (xi) of subparagraph (1) of this paragraph (c).
“(3) Records with respect to loans sold. The records of an insured institution with respect to each sale of loans by it, whether such loans are sold in whole or in part, shall include a signed opinion by such institution's attorney-at-law stating whether or not such sale is without recourse.
“(4) Records with respect to the acquisition of mortgaged security. Each insured institution shall maintain a record which discloses every instance where such institution commences action to acquire the real estate security for a loan, by foreclosure or otherwise, and the ultimate disposition of such action; such
record shall include identification of such real estate security and loan, shall itemize all fees and charges incurred in such action, shall name the recipient or recipients to whom any such fees and charges were paid, and shall show who acquired title to such real estate as a result of such action.
“(5) Records with respect to insured accounts. The records of an insured institution with respect to each withdrawable or repurchasable share, investment certificate, deposit, or savings account issued by such institution shall include the signature of the owner of such account or his duly authorized representative, together with a record reflecting the balance in such account.
“(6) Other records. Each insured institution shall establish and maintain such other records as are required by statute or by any other regulation to which such institution is subject. (Secs. 402, 403, 48 Stat. 1256, 1257 as amended : 12 U.S.C. 1725, 1726. Reorg. Plan No. 3 of 1947, 12 F.R. 4981, 3 CFR, 1947 Supp.)”
Resolved further, That all interested persons are hereby given the opportunity to submit written data, views, or arguments on the following subjects and issues : (1) Whether said proposed amendments should be adopted as proposed; (2) whether said proposed amendments should be modified and adopted as modified ; (3) whether said proposed amendments should be rejected. All such written data, views, or arguments must be received through the mail or otherwise at the office of the Secretary, Federal Home Loan Bank Board, Federal Home Loan Bank Board Building, 101 Indiana Avenue NW., Washington 25, D.C., not later than January 28, 1963, to be entitled to be considered, but any received later may be considered in the discretion of the Federal Home Loan Bank Board. By the Federal Home Loan Bank Board :
HARRY W. CAULSEN, Secretary.
FEDERAL HOME LOAN BANK BOARD,
Washington, D.C., December 28, 1962. To the Board of Directors of the Insured Institution Addressed:
The Board for some time has had under study its policies and procedures in connection with the provision of section 563.17 of the insurance regulations that the periodic examinations of insured institutions shall include appraisals when deemed advisable.
This study has included extended review of past experience and consultation with members of the Board's staff, the presidents of the Federal home loan banks, the Federal Savings and Loan Advisory Council, the Board's task force, and other representative managing officers of insured institutions. The Board has determined that its program for test appraisals of real estate security for mortgage loans by insured institutions should be affirmed, clarified, and formalized by a written statement is enclosed. Although the statement was approved by the Federal Home Loan Bank Board on December 28, 1962, the "modified procedure” set out in the first paragraph of section II thereof will become effective February 15, 1963.
Both in terms of the duties and responsibilities of officers and directors, and of the public interest which the Board serves, no aspect of an institution's operations is more fundamental than the pursuit of "financial policies that are safe and consistent with economical home financing and the purposes of insurance of accounts." While this statement outlines the Board's appraisal policy and procedure, one of the Board's major objectives is to move forward by such further delineation as is practicable of the areas of unsafe and unsound practice by identifying criteria which influence the Board in its evaluation of an institution's mortgage lending policies and practices.
It is the Board's view that this statement will serve not merely to acquaint you with certain procedural aspects of the Board's operations, but, more importantly, that it will be useful both to you and to the Board in evaluating the safety and soundness of your institution's lending policies and practices and thus help further to compress the area of opinion without express standards. The Board recognizes, of course, that the vast majority of insured institutions conduct their mortgage lending operations in such manner as to give no discernible cause for test appraisals; and believes that objective attention by management to the criteria identified in this statement will further assure safe and sound mortgage lending practice and minimize occasion for test appraisals.
Should you have any questions with respect to this statement I suggest that you discuss them with our Supervisory Agent for your district, who is fully conversant with this matter.
JOSEPH P. MCMURRAY, Chairman.
FEDERAL HOME LOAN BANK BOARD
PROGRAM FOR TEST APPRAISALS OF REAL ESTATE SECURITY FOR MORTGAGE LOANS BY
I. PRESENT PROGRAM
Virtually from the inception of examination and supervision by the Board, it has been, and it now is, the policy to have test appraisals made of a representative cross section of properties securing real estate loans in connection with examinations of insured institutions where specific facts or information with respect to mortgage loans or lending, or with respect to operations in general, give substantial evidence that the institution's appraisals may be excessive or that its lending may be of a marginal nature. Such appraisals have been made pursuant to section 563.17 of the rules and regulations for insurance of accounts which provides, among other things, that the examination of each insured institution shall include appraisals "when deemed advisable."
Such test appraisals have been made by local fee appraisers pursuant to request by the Director of the Division of Supervision, the selection of appraisers and the properties to be appraised being made by the Division of Examinations; the institution pays the cost of such appraisals. This procedure has included consultation and close cooperation between the Division of Examinations, the Division of Supervision, and the supervisory agents.
II. MODIFIED PROCEDURE
The present procedure, as described in subdivision I hereof, is hereby modified so that when there are substantive indications of operating policies and practices of a type which, by the test of experience, ordinarily exert pressure toward mortgage lending which is marginal or excessive in relation to the value of the security or to the capacity of the borrower to undertake and to pay off the loan obligation, test appraisals of real estate security shall also be made upon request by the supervisory agent for the Federal home loan bank district in which the insured institution has its principal office; if such a request by a supervisory agent is made because of disclosures by an examination then in process, such request shall be made after consultation with, and written recommendation by, the Chief Examiner on the basis of facts and information furnished to the Chief Examiner by the examiner in charge of the examination.
Notwithstanding any other provision hereof, the authority now vested in the Director of the Division of Supervision to request, at any time, examination of any insured institution, with such test appraisals as he deems advisable, shall not be modified or limited hereby.
III. PRINCIPAL DETERMINATIVE FACTORS
It is not feasible to identify, or to state in statistical terms or inflexibly, all of the criteria or considerations by which the supervisory agent or anyone else could or would in all instances determine to have or not to have test appraisals made. Many factors must be considered, separately and in context, and in the light of the operations of each individual institution. However, the following broad areas of operation by an insured institution should be of paramount concern to the examiner in charge and to the supervisory agent; and essential facts and information with respect to such matters should in large measure constitute the basis for determining whether or not test appraisals should be made: A. Increase in funds for mortgage lending
In this connection, the extent to which the institution's expense ratio and dividend rate necessitate or have produced volume lending or lending at interest rates, or at interest rates plus fees, which materially exceed rates charged by responsible lenders in the area on prime real estate security-in order to provide sufficient revenue to pay expenses and dividends—are matters of much importance.
In evaluating this aspect or area of an institution's operations consideration should be given not only to the dividend rate and expense ratio as compared to other comparable institutions in the same business area, but also to such matters as bonus (on top of a competitive dividend rate); inflow of savings from through brokers, particularly where the broker is paid, not by the institution, but by builders to whom the institution lends such funds in which latter event test appraisals must be made; advertising of rate or rate increases in a manner or by means which indicate pressure solicitation of savings; extensive rate advertising in media outside the institution's normal business area; use of giveaways, direct or through brokers, and any solicitation practices generally recognized as being inconsistent with accepted standards in the conduct of responsible financial institutions. In order to evaluate the extent of any mortgage lending pressures to which the institution is subjecting itself, consideration may also need to be given to the use of borrowed money and to sales of loans for relending purposes. B. Increase in mortgage lending
A material increase in the amount of loans made, as compared to an approximate equal period next preceding that covered by an examination, might or might not be indicative of lending policies and practices which would call for test appraisals. A determination to have such appraisals made in connection with an examination would probably be well based if any of the following conditions or practices are found, particularly when such conditions or practices are coupled to mortgage lending pressures described in III-A above:
(1) A significant amount of loans made at interest and/or fee charges which are higher than charges generally being made by other comparable institutions in the area.
(2) Loans made to borrowers with whom the institution has previously had material difficulty.
(3) A series of loans or advances within a short period of time, on the same security property, particularly if these transactions are accompanied by increased appraisals without commensurate improvement of or addition to the security.
(4) Material concentration of loans on real estate in declining areas; or to a few speculative or operative builders.
(5) Appraisal of real estate security at amounts which substantially exceed sales prices, particularly in the case of new construction which is sold on a competitive, free market and not subject to temporary adverse economic conditions in the community or to other considerations which in certain limited circumstances might justify an appraisal in excess of purchase price.
(6) Disbursement of construction loan proceeds in advance of the progress of construction or of value at the time disbursement is made.
(7) Inadequate loan applications, credit information, or documentation of the disbursement of proceeds of loans.
(8) Granting or extension of mortgage credit to speculative builders when the borrower is already indebted to the institution on loans secured by properties which have remained unsold for a substantial period of time following completion.
(9) A relatively significant amount of lending on the security of real estate the titled ownership of which has changed two or more times in comparatively rapid succession within a short period, particularly if there has been a material upping of purchase price with such changes in ownership-in
which latter event test appraisals must be made. C. Delinquent loans
Evaluation of this matter should of course take into account the general economic conditions of the area and the effect of adverse conditions upon the ability of borrowers to meet their mortgage obligations. In any event, however, the following conditions should be considered in determining whether or not test appraisals should be made in connection with an examination of an insured institution :
(1) A ratio of loan delinquency substantially in excess of the average for the area, particularly if such delinquency is of a chronic nature.
(2) A significant increase in the number, amount, or ratio of delinquent loans during the period covered by an examination, particularly if the num