With the current housing sales volume down and refinances up, many sales agents licensed by the Department of Real Estate (DRE) are gearing up to take the leap and become brokers. At the same time, many existing brokers who normally provide listing and selling services face a dearth of clients and are looking to expand into the mortgage loan market with activities such as negotiating loan modifications, brokering loan originations, or making loans from their own private funds.
As a broker, it’s important to know exactly what activities your broker’s license allows you to perform for a fee, and which activities require you, as a lender, to be a licensed broker or an agent employed and acting on behalf of a real estate broker.
A current scenario for perspective
A homeowner with a negative equity in his property and struggling with his loan payments sees a TV advertisement about loan modification services offered by an attorney. The homeowner calls the phone number of the attorney provided in the advertisement and is referred to an individual who claims to be an employee on the attorney’s staff. On questioning the individual’s license status, the homeowner is advised the individual is a sales agent licensed under the DRE, but will be handling the homeowner’s case as an employee of the attorney.
After briefly discussing the homeowner’s negative equity situation, the sales agent informs the homeowner he must first pay a retainer fee to the attorney before they will proceed to act on the homeowner’s case. The homeowner agrees and arranges for payment of the retainer fee. Several weeks pass and no progress is made in negotiations with the homeowner’s lender to modify the loan payment or principal amount.
Made wary by news reports about loan modification scams, the homeowner calls the attorney’s office and asks to speak directly to the attorney. The homeowner is told the attorney is unavailable. Despite making several attempts, the homeowner is never able to reach the attorney. The homeowner attempts to file a complaint with the DRE, but is advised to contact the state bar as the attorney does not hold a broker’s license.
The homeowner contacts the sales agent and threatens legal action against the attorney, claiming the attorney is misleading clients by requiring them to pay a retainer fee and providing loan modification services without a broker’s license. The sales agent claims the attorney is exempt from the DRE licensing requirement since he is an attorney.
Does the absentee lawyer need to be licensed as a broker before he may offer loan modification services?
Yes! The absentee lawyer is not providing any legal services for the homeowner in the ordinary course of his practice of law. His absence from dealings with the homeowner suggests he is merely “renting out” his lawyer status so the sales agent can collect an advance fee. Thus, the attorney is not providing loan modification services to the homeowner as part of his practice of law. Additionally, the attorney must hold a DRE broker license to employ a sales agent to act as his agent in a loan modification.
Editor’s note — The sales agent in this scenario is unlawfully practicing real estate brokerage activities since he is not acting on behalf of a DRE-licensed broker. For more information on the attorney exemption “loophole” currently interfering with the practice of DRE-licensed brokers, please see “Loan Modification Negotiations are the Domain of Real Estate Licensees” from our March 2009 Issue.
Any individual licensed as a real estate broker by the DRE may provide any of the following mortgage loan brokerage (MLB) activities:
- make, arrange, or modify loans secured by real estate;
- buy, sell, or exchange trust deeds secured by real estate;
- service real estate loans; and
- collect advance fees for any of the above-mentioned activities, provided he has submitted an advance fee agreement to the DRE and DRE has issued a “no-objection” letter permitting use of that advance fee agreement by the broker. [Calif. Business & Professions Code §§10131(d)-(e), 10026, 10085]
Any individual who acts on behalf of a principal must be a DRE-licensed real estate broker (or a sales agent employed by a licensed broker) when he:
- solicits borrowers or lenders to arrange loans, collect payments, or perform services in connection with a loan secured by real estate, including:
- loans collaterally secured by existing trust deed loans;
- loan modifications;
- loan discounts;
- pre-foreclosure workouts;
- loans made by individuals in volume; and
- the resale of individual loans; or
- charges an advance fee in connection with promoting the sale, lease, exchange, or encumbering of real estate. [Bus & P C §§10131, 10131.2]
Collecting advance fees
It is best for a mortgage loan broker to avoid collecting advance fees from clients. Instead, the broker should enter into a written employment calling for a contingency fee to be paid only upon completion of the services he has agreed to perform. This fee arrangement is straightforward and helps avoid misunderstandings and accusations of misrepresentation. In contrast, the process of collecting an advance fee requires entering into an advance fee agreement with the client on a form which must first be submitted to the DRE and acquiring a “no-objection” designation. Not only does this suggest the coming of a DRE audit of the trust account for handling of the advance fees received, documentation of services rendered, and the final accounting to the owner for the charges made for services rendered, but all advertisements soliciting prospective clients for advance fees must be submitted to the DRE Commissioner at least ten days prior to being used.
Failing to comply with these regulations subjects the broker to revocation of his license and/or criminal fines and penalties. [Bus & P C §10026 & 10085]
The fines and punishments are increased for an individual who collects advance fees or otherwise holds himself out to be a DRE-licensed broker without actually holding a DRE-issued broker license. [Bus & P C §10085.5]
Additionally, no broker may accept payment for any fees after a Notice of Default (NOD) has been recorded on the property until all promised services have been rendered. [Calif. Civil Code §2945.1(b)(3)]
The licensing of private lenders as brokers
A principal engaging in any of the following transactions must hold a broker license:
- acquiring eight or more trust deeds for the purpose of resale to the public during one calendar year;
- selling to or exchanging with the public eight or more land sales contracts and notes secured by real property during one calendar year;
- selling, arranging the sale of, or exchanging fractionalized interests in trust deed notes packaged as real estate securities; or
- making eight or more loans secured by one-to-four unit residential real estate from his own funds to the public. [Bus & P C §10131.1(a)-(b)]
If a real estate broker meets all the following requirements, he is a residential mortgage lender and must provide an annual Residential Mortgage Lender Notification Report to the DRE:
- is an approved lender with the:
- Federal Housing Administration (FHA);
- Veterans Administration (VA);
- Farmers Home Administration;
- Government National Mortgage Association (GNMA);
- Federal National Mortgage Administration (FNMA); or
- Federal Home Mortgage Corporation (FHLMC);
- will be making loans by using or advancing his own funds;
- makes decisions on credit transactions; and
- maintains a minimum tangible net worth of $250,000. [Bus & P C §10131.8, DRE Form 859]
Editor’s note — Most brokers lending their own money will not fall under the residential mortgage lender category. These larger lenders will generally opt to be licensed under the Department of Corporation’s Mortgage Banker License.
If a mortgage loan broker does not meet the requirements of a residential mortgage lender, he may still be considered a “threshold” broker, also known as a hard-money lender, subject to specific reporting requirements. A mortgage loan broker is considered a threshold broker if he performs one or more of the following services within any successive 12-month period:
- negotiates ten or more loans totaling $1,000,000 or more which are:
- secured by real property while acting as an agent for others; or
- sales or exchanges of land sales contracts or promissory notes secured by real estate as an agent for others, or as owner of the paper; or
- collects payments for promissory note holders secured by real property totaling $250,000 or more.
Once the mortgage loan broker is aware he meets the threshold reporting requirements, he must submit notification to the DRE with the Threshold Notification Form. [See first tuesday Form 542 (DRE Form RE 853)]
The following reports are required of threshold brokers if they handle trust funds:
- a Quarterly Trust Fund Status Report [See first tuesday Form 544 (DRE Form RE 855)];
- a Trust Fund Bank Account Reconciliation Form [See first tuesday Form 544-1 (DRE Form RE 856)];
- the Mortgage Loan/Trust Deed Annual Report [See first tuesday Form 547 (DRE Form RE 881)]; and
- an Annual Report of a Review of Trust Fund Financial Statements to be prepared by a CPA. [See first tuesday Forms 548 (DRE Trust Fund Review Sample 1) and 548-1 (DRE Trust Fund Review Sample 2)]
When a mortgage loan broker does NOT handle trust funds, he is required to send the DRE a Trust Fund Non-Accountability Report, both quarterly and annually. [See first tuesday Form 543(DRE Form RE 854)]
Activities normally requiring a real estate broker license do not require a license if the person performing the activities is:
- an officer or general partner of a partnership or corporation and is not paidspecial compensationbased on the sale or lease of property;
- performing under a power of attorney;
- an attorney performing services within the practice of law [See “Loan Modification Negotiations are the Domain of Real Estate Licensees” from our March 2009 Issue];
- a receiver acting under orders from a court; or
- a trustee for the beneficiary of a trust deed when conducting a trustee’s foreclosure sale. [Bus & P C §10133]
Consider a corporation which owns a shopping mall managed by an officer of the corporation. The officer’s duties include maintaining the premises, locating tenants, executing rental and lease agreements, and collecting rents.
As a manager, the corporate officer is paid an annual salary as a base pay. Whenever a vacancy occurs in the mall, the manager locates a new tenant and negotiates the lease for the corporation. For each new tenant, the manager receives an incentive fee or contingency fee over and above this corporate salary, a bonus for his leasing efforts.
Does the manager need to be licensed as a real estate broker?
Yes! The manager must be licensed as a broker even though he is an officer and employee of the corporation that is the owner of the property since his earnings include special compensation, a fee based on his performance of real estate management activities requiring a license.
Additionally, any employees transacting real estate business on behalf of the following entities are exempt from DRE licensing:
- licensed and chartered banks, savings and loans, credit unions, or insurance companies;
- co-ops, corporations, or partnerships loaning money for agricultural purposes;
- finance lenders licensed under the authority of the Department of Corporations;
- cemetery authorities;
- licensed and chartered savings banks;
- securities brokers and dealers; or
- residential mortgage lenders licensed under the authority of the Department of Corporations. [Bus & P C §10133.1]
Clerical and administrative employees working for a licensed broker need not be licensed, provided they do not perform any duties which require a real estate license. The employing broker is responsible for supervising the activities of any unlicensed employees to make sure they adhere to these rules.
Clerical and administrative employees include:
- receptionists; and
- telephone operators. [Bus & P C §10133.1(c)(2)]
This list is not exhaustive, and indeed non-licensed individuals can perform extensive duties which do not involve direct contact with lenders or clients. These individuals, known in mortgage loan brokerages as loan processors, are able to gather data upon which their broker-licensed employers may act.
Loan servicing exemptions
Consider a private investor who makes three or four loans a year to borrowers who need funds for their purchase of real estate. In addition to providing the loans, the private investor also employs staff to service the loans.
Does the investor need to hold a real estate broker’s license?
No! The investor is neither making more than eight loans nor servicing more than ten loans during a calendar year, thus he is exempt from holding a DRE broker license.
However, should the private investor continue to make and service three or four loans a year, after several years he will have a servicing portfolio of more than ten loans. As soon as he is making collections on more than ten loans during a calendar year, he is required to hold a real estate broker’s license. [Bus & PC §101331.1(b)(1)]
An individual is exempt from being licensed when performing loan servicing activities if he:
- makes collections on ten or fewer loans in any calendar year;
- makes collections on loans totaling less than $40,000 in any calendar year;
- is an escrow agent; or
- is an employee of a real estate broker who is the agent of:
- a government entity;
- banks or lenders licensed to do business in any state;
- pension trustees;
- a public company; or
- any combination of the above. [Bus & P C §10133.1(b)]
Pending legislation of note
As of the writing of this article, several bills which affect the conduct of mortgage loan brokers and licensing are before the California Legislature. These bills have been introduced largely as a result of the recent housing and mortgage crises, both of which painfully highlighted the need for more regulation in these industries. The most notable pending regulations follow.
Proposed DRE Regulation 2903 would require any real estate broker who both arranges financing and acts as an agent for a client to make written disclosure of his dual role rendering services and receiving fees both for services rendered in the sales transaction and the loan transaction connected to that sale, and further require that this disclosure be signed by all parties involved.
Proposed DRE Regulation 2971 would establish a standardized DRE advance fee agreement form.
Senate Bill 36 would require any DRE licensee who wishes to do business as a mortgage loan originator to apply for and receive from the DRE Commissioner a license endorsement to do business as a mortgage loan originator. Failure to obtain such an endorsement could result in penalties to the offending licensee.
Senate Bill 94 would require any DRE licensee who, for compensation, solicits customers for mortgage loan modifications to provide a statement regarding loan modification fees. This bill would also prohibit the DRE licensee from collecting advance fees prior to providing loan modification services.
Senate Bill 491 would require DRE licensees who engage in loan origination activities to be registered in the National Mortgage Licensing System and Registry under federal law. Licensees under this registry are subject to certain examination, education, and continuing education requirements.
Assembly Bill 33 would abolish and transfer the powers of the Department of Corporations, the Department of Real Estate, and the Office of Real Estate Appraisers to a newly-created Department of Financial Services which would oversee broker and agent licensing.
Keep your eye on the current pending legislation by visiting our Sacramento Gossip page!
For more information on this topic, see “Why You Should, Or Shouldn’t Use a Mortgage Broker” from the NY Times.