As financial institutions seek to take advantage of the mortgage market in 2021, one fundamental adjustment is critical: institutions need branches and loan officers. As refinance opportunities wane, banks and credit unions should pursue purchase loans to keep loan volumes growing. Loan officers in local markets are well suited to attract purchase loans.
In a rate-driven refi market, call centers thrive. Borrowers literally just call the institution and ask to refinance their already-great home loan, based on their excellent credit and financials. But in a home purchase market, borrowers attempting to qualify for that next bigger home, or a first home, often need loan advice and counseling from a person they trust. That trust comes from introductions and personal meetings, which means “boots on the ground.” Institutions need loan officers that network amongst local realtors, that understand referral networks and are willing to meet in person with borrowers. These types of loan officers are inside credit union and bank branches, or in lending offices, working the local market.
Most loan officers and mortgage managers seek volume above all else. As salespeople the concept of “more volume cures all” is deeply engrained in their culture. However, volume can’t come at too high of a price. A loan officer and a branch manager are both managing three competing factors as they affect their pricing: margin, volume and expenses. Because of Dodd-Frank, they cannot manage these factors at the individual loan level. These factors must be balanced on a quarterly, or longer, basis.
For example, a loan officer that has a good pipeline of higher-income borrowers may ask a higher commission rate for the coming quarter, knowing that they must offer a higher interest rate, relatively speaking, to their customers to compensate. Alternatively, a loan officer in a lower housing price market may seek volume, in which case lower margins and commissions per unit are OK. In either case, the loan officer negotiates with the financial institution for personal income growth.
Financial institutions may be willing to adjust compensation and corresponding pricing quarterly, but certainly not at the loan level. Firms must continually answer the questions, “is this loan officer or branch worth keeping in our company at this price, or are they priced too high? Do we think they can perform based on these margins? On the other side, do they need more stringent management oversight, or perhaps termination?”
Evaluating loan officers alone is not enough. Firms should also evaluate the profitability of each loan done by each loan officer. If a given loan officer is weighted too heavily on refi loans, although those loans are profitable, the loan officer is not resistant to rate shock. They have fixed expenses that the institution must cover. The math for these evaluations simple, but the data collection is challenging. Put simply, if banks and credit unions get it right at the loan level, the rest it is easy.
Proper accounting software, with real-time, online reporting, can solve the problem. Collecting data at the minute line item, at the loan level, is challenging without proper imports from the institution’s loan origination system. The first step is collecting the loan numbers, borrower names, associated loan officer name, loan type and more from the loan origination system. This non-financial data creates a loan in the database, somewhat like a mini cost center. The loan number then becomes a unique data point to which the accounting system can attach debits and credits, payables receipts and journal entries.
Within the accounting system, the individual loan should have an automatic general ledger reconciliation that cannot be broken. In the best software, the general ledger for all loans must be the sum of the individual loan allocations. Each loan must balance to zero, every time. In order to maintain this integrity, the software cannot allow the imports, or the users, to record an out of balance loan transaction in the first place. The best systems handle this seamlessly.
Most loan departments use a single vendor for certain reports needed during the loan processing phase. For example, an institution probably has just one vendor for flood certifications, for document preparation and perhaps a couple vendors for credit reporting. These vendors submit large, multi-lined invoices once per month, where each row is a loan with a corresponding fee. No human being is going to break down a 300-row flood cert bill for $6.00 per loan. But, great loan accounting software does it easily through imports.
An institution’s loan origination system uses a database, which can be queried to derive the loan closing data per loan. In essence, the numbers on the ‘Closing Disclosure’ become a data set that is then imported into the accounting software at the loan level, based on the date of the closing. Real time systems allow an institution to bring in data as of any date (in an open accounting period) at the loan level. Commonly known as the ‘Funding Transaction,’ the transaction creates the loan asset, starts the loan interest calculation and records the origination income. Modern, innovative software does the same thing with the loan sale, known as the purchase advice, and these systems also bring in data for an institution’s loan servicing activity. Not to mention, great systems also calculate the commissions and overrides and apply those expenses seamlessly to the loan accounting and general ledger.
So, the true P&L in BPS per loan is based on the loan expense data from vendors, the loan closing income; the servicing income; and the purchasing income; as well as commissions and overrides to the loan officer, loan processor, loan officer assistant and more. In fact, the trend today is to pay almost 10 people per loan. All of this must be accounted for to fully evaluate the loans, and thus the loan officers and branches. A smart software system does this through automation – providing real time BPS calculations to managers all along the way. For a financial institution, getting the accounting right per loan is the baseline.
Once the loan data done, it’s important to focus attention on the loan officer’s and branch’s non-loan and fixed costs. If a loan officer pays for a marketing project today, it may not pay off for months. Generally, firms take the marketing costs today as an expense against the loan revenue of today, to get a monthly P&L by LO. Also, consider the head count in a branch vs. the fixed costs like rent, computers, coffee machines, IT infrastructure and more. At this point, the data is much simpler:
(Loan Profit by loan officer or branch) – (non-loan and fixed cost per headcount or per branch) = the profitability of the loan officer or branch, in BPS and total.
This data should be at an institution’s fingertips all the time. Waiting 15 days after the month end close means that some of the loan activity is 45 days old. And, that’s way too late to react in the mortgage business. The good news is there’s already great software available, without customization, to do all this today. By leveraging better technology, an institution can let the computers and the software deal with the tedium of the loan detail. That way, banks and credit unions can use their valuable staff to evaluate the results.
Every company – from banks and credit unions to brokerages and lenders – involved in the creation and sale of mortgages had a great year in 2020. The per-loan profits were substantial because low interest rates and the uncertainty of the pandemic enabled those with income to refinance. And they did. Lots of them did. Those same loan origination companies face a different set of challenges as the industry moves through 2021. Interest rates will ultimately rise, shutting off the refinance boom. That’s why, it’s critical for financial institutions to prepare in advance – by accessing today’s great mortgage accounting technology.
Joe Ludlow is the Vice President for Irvine, Calif-based Advantage Systems, a provider of accounting and financial management tools for the mortgage industry. More information on the company can be found at www.mortgageaccounting.com.