Escrow Final Rule as of 1/21/98
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[Federal Register: January 21, 1998 (Volume 63, Number 13)]

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Part III

Department of Housing and Urban Development

24 CFR Part 3500

Amendments to Real Estate Settlement Procedures Act Regulation

(Regulation X)--Escrow Accounting Procedures; Final Rule

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DEPARTMENT OF HOUSING AND URBAN DEVELOPMENT

24 CFR Part 3500

[Docket No. FR-4079-F-02]

RIN 2502-AG75

Amendments to Real Estate Settlement Procedures Act Regulation

(Regulation X)--Escrow Accounting Procedures

AGENCY: Office of the Assistant Secretary for Housing-Federal Housing Commissioner, HUD.

ACTION: Final rule.

SUMMARY: In this final rule, the Department of Housing and Urban Development is revising Regulation X, which implements the Real Estate Settlement Procedures Act of 1974 (RESPA). This rule addresses problems that were raised in applying escrow accounting requirements under Regulation X. The first problem, designated as ``Annual vs. Installment Disbursements,'' involves whether disbursements from mortgage escrow accounts must be made on an annual or installment basis when the payee offers a choice. To address this problem, this rule maintains the current requirements under Regulation X, but clarifies them.

The second problem, designated as ``Payment Shock,'' involves the proper accounting method to calculate escrow payments where the servicer anticipates that disbursements for items such as property taxes will increase substantially in the second year of the escrow account and where ``payment shock''--the consumer's experiencing of a substantial rise in escrow payments--will result. The Department has chosen to address this matter by recommending (but not mandating) a best practice for servicers: a voluntary agreement to accept overpayments. A consumer disclosure format has been provided to disclose this information. This rule contains a new provision covering procedures for voluntary overpayments.

The Department has determined not to adopt two other changes that were proposed. The Department will continue to require the single-item listing of escrow deposits on the HUD-1 or HUD-1A. Also, the Department is not revising the requirements for listing a lead-based paint inspection or risk assessment on the Good Faith Estimate (GFE) format and HUD-1 and HUD-1A, but is clarifying the instructions for these formats.

EFFECTIVE DATE: February 20, 1998.

FOR FURTHER INFORMATION CONTACT: David R. Williamson, Director, Office of Consumer and Regulatory Affairs, Room 9146, or Rebecca J. Holtz, Director, RESPA/ILS Division, telephone (202) 708-4560; or, for legal questions, Kenneth A. Markison, Assistant General Counsel for GSE/ RESPA, Room 9262, telephone (202) 708-1550, or Grant Mitchell, Senior Attorney for RESPA, telephone (202) 708-1552 (these are not toll-free telephone numbers). For hearing-and speech-impaired persons, these telephone numbers may be accessed via TTY (text telephone) by calling the Federal Information Relay Service at (800) 877-8339 (toll-free). The address for these persons is: Department of Housing and Urban Development, 451 Seventh Street, SW, Washington, DC 20410-0500.

SUPPLEMENTARY INFORMATION:

I. Background

The Department's 1994-1995 escrow accounting rules <SUP>1</SUP> included significant new requirements for servicers maintaining an estimated 35 million mortgage escrow accounts for American homeowners. These rules, promulgated under the Real Estate Settlement Procedures Act (RESPA) (12 U.S.C. 2601-2617), as amendments to Regulation X (24 CFR part 3500), limited the amounts that servicers may hold in escrow accounts by establishing new uniform accounting and disbursement requirements and by requiring meaningful disclosure to each homeowner at the account's inception and annually thereafter.

\1\ The Department issued several escrow rules during 1994-1995. On October 26, 1994 (59 FR 53890), the Department published a final rule implementing sections 6(g) and 10 of RESPA and changes to RESPA made in section 942 of the Cranston-Gonzalez National Affordable Housing Act (Pub. L. 101-625, approved November 28, 1990). Because of the magnitude of the change brought about by this rule, soon after its publication it became evident that further clarification of the rule was needed. The Department issued a February 15, 1995 rule (60 FR 8812) that modified and clarified the October 1994 rule and delayed its effective date until May 24, 1995. The Department issued further rules to clarify and correct the October 1994 rule on December 19, 1994 (50 FR 65442); March 1, 1995 (60 FR 11194); and May 9, 1995 (60 FR 24734), and published a notice of software availability on April 4, 1995 (60 FR 16985). These rules are referred to in this preamble collectively as the 1994-1995 escrow rules.

The Department's RESPA regulations were streamlined on March 26, 1996 (61 FR 13232) to comply with the President's regulatory reform initiatives. On September 3, 1996 (61 FR 46510), the Department published a correction to 24 CFR 3500.17. The Department published further revisions to Regulation X on September 24, 1996 (61 FR 50208) and November 15, 1996 (61 FR 58472).

The 1994-1995 escrow rules represented a notable achievement. As a result of the escrow rules, the amounts in homeowners' escrow accounts have been reduced substantially. At the time the rules were promulgated, the Department estimated that homeowners would save as much as $1.5 billion by virtue of the new rules. This savings is now being used by homeowners for down payments, to keep and maintain homes, or to fill other needs.

Because the 1994-1995 escrow rules implemented new accounting requirements, they required major changes by mortgage servicers. As the rule's requirements were applied to individual accounts, members of Congress, local government officials, industry representatives, and homeowners brought to the Department's attention certain problems concerning the 1994-1995 rules. In this final rule, the Department is clarifying the rules and identifying ``best practices'' <SUP>2</SUP> of mortgage servicers in an effort to resolve two of these problems.

\2\ Generally, the Department has characterized ``best practices'' in other programs as those practices that are in accordance with a law's purposes, that are widely replicable, that show creativity in addressing a problem or problems, and that have a significant positive impact on those whom they are intended to serve. The Department identifies best practices operating successfully in the marketplace that support the regulatory principles involved in order to encourage their use. For example, the Department has identified best practices in furtherance of its responsibilities under the Fair Housing Act (42 U.S.C. 3601 et seq.).

As detailed below, the first problem, designated as ``Annual vs. Installment Disbursements,'' is whether disbursements from mortgage escrow accounts should be made on an annual or installment basis if the payee offers a choice. In some cases, a switch from installment to annual disbursements, required under certain circumstances under the rule, resulted in servicers requiring greater payments to escrow accounts for some borrowers and adverse tax consequences for some borrowers. The second problem, designated as ``Payment Shock,'' was asserted to occur when borrowers were required to make significantly increased payments into their escrow accounts when disbursements for items such as property taxes would increase substantially in the second year of the escrow account and the rule did not allow servicers to require escrowing for the next year's payments. The Department also became aware of two additional concerns involving the disclosure of amounts required for escrow using single-item accounting and involving the possible need for a new disclosure of lead-based paint inspection fees.

All of these matters led the Department to issue a proposed rule on September 3, 1996 (61 FR 46511) to seek public comment on these issues. In the

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proposed rule, the Department offered a variety of approaches to address these matters in the most economical and efficient way. The Department recognized that the rules were new and industry and consumer adjustments were underway. Consequently, the choices included keeping the requirements the same, but clarifying them, or doing nothing.

In the Department's proposal, the Secretary pointed out that any amendments to the rule must further the following three principles:

(1) Reduce the cost of homeownership by ensuring that funds are not held in escrow accounts in excess of the amounts that are necessary to pay expenses for the mortgaged property and allowed by law;

(2) Establish reasonable, uniform practices for escrow accounting; and

(3) Provide servicers with clear, specific guidance on the requirements of section 10 of the Real Estate Settlement Procedures Act of 1974 (RESPA), which governs escrow accounting procedures.

Following receipt of comments under the proposed rule, as detailed below, the Department determined that many of the initial problems in implementing the escrow rules were being resolved as the industry and the public adjusted to the new requirements. Specifically with respect to the choice of annual vs. installment disbursements, consumers' accounts that had been changed as a result of the implementation of the rule had stabilized and had not been changed again. However, there remains a need for the Department to clarify and elucidate current requirements in this final rule.

With regard to the ``payment shock'' problem, the Department determined, based on the comments, that extensive additional regulatory changes are not required and could prove detrimental to consumers. Instead, the Department determined that this problem would be better resolved by identifying and sharing best practices of servicers. In this context, servicers should, as a best practice, provide a simple notice to consumers to allow them voluntarily to increase their payments to their accounts. A new provision in 24 CFR 3500.17(f)(2)(iii) sets forth procedures if voluntary overpayment agreements are obtained.

The Department also determined not to adopt other changes to the Good Faith Estimate (GFE), HUD-1, and HUD-1A that were proposed to address the other matters raised in the proposed rule. Based on the comments received, the Department determined that new requirements on these subjects were not necessary. Current disclosure requirements are generally useful and sufficient; more significant changes at this time could serve to confuse matters while the market is still adjusting to the relatively new rules. Moreover, the Department has recently issued a new settlement booklet for consumers entitled ``Buying Your Home, Settlement Costs and Helpful Information,'' published on June 11, 1997 (62 FR 31982), which includes guidance on lead inspections during the homebuying process. To complement these new materials, the Department is making one minor clarification to the instructions for the HUD-1 regarding lead-based paint disclosures.

In sum, the regulatory record, described in detail below, makes very clear that this subject involves complex matters that in many cases are better resolved by allowing time for accounting systems and consumers alike to adjust. In this final rule, the Department continues to protect homeowners by maintaining escrow accounting requirements and limits without change. At the same time, in the interest of reducing homeownership costs, establishing uniform practices, and providing clear specific guidance, the rule makes modest clarifications to ensure that servicers do not unnecessarily incur additional costs that would ultimately be passed on to American homeowners.

In applying the significant protections under RESPA--including the limits on the amounts in mortgage escrow accounts--the Department is mindful that it must carry out RESPA's important requirements in a manner that is true to RESPA's consumer protection purposes. These purposes include ensuring that consumers are protected from unnecessarily high costs that may come from abusive practices by servicers.

This preamble continues with a background discussion of the legal requirements under section 10 of RESPA and the Department's prior rulemakings. Following the background discussion, the preamble discusses the issues addressed in the proposed rule and details the many comments received on the proposed rule. These comments informed the Department and shaped today's rule. Finally, the preamble discusses this final rule.

II. Legal Context

Section 10 of RESPA (12 U.S.C. 2609) establishes the statutory limits on the amounts that mortgage servicers or lenders may require a borrower to deposit into an escrow account if the mortgage documents require one or the servicer chooses to establish one.<SUP>3</SUP> RESPA does not require the use of escrow accounts. Section 10(a)(1) of RESPA does prohibit a servicer, at the time the escrow account is created, from requiring the borrower to make a payment to the escrow account in excess of the maximum amounts calculated in accordance with the statute. These maximum amounts are calculated by analyzing how much money will be needed to cover expected disbursements, such as taxes and insurance, ``beginning on the last date on which each such charge would have been paid under the normal lending practice of the lender and local custom, provided that the selection of each such date constitutes prudent lending practice, and ending on the due date of the first full installment payment under the mortgage'' relating to the mortgaged property, plus a cushion no greater than one-sixth of the estimated total annual disbursements from the account (one-sixth cushion). Section 10(a)(2) prohibits the lender, over the rest of the life of the escrow account, from requiring the borrower to make payments to the escrow account that exceed one-twelfth of the total annual escrow disbursements that the lender reasonably anticipates paying from the escrow account during the year, plus the amount necessary to maintain a one-sixth cushion. Section 10 does not require that the servicer collect the maximums allowed under the statute; the servicer may always collect less and is not required to collect any cushion at all.

\3\ As stated in footnote 1 to the preamble to the Department's September 3, 1996 proposed rule on escrow accounting (61 FR 46511, 46511 n.1), at times RESPA uses the term ``lender'' and at other times it uses the term ``servicer.'' A lender creates a loan obligation, but may or may not service the loan. As in the proposed rule, within this final rule the Department uses the term ``servicer'' to include the lender when the lender performs the servicing function.

Section 10 and section 6(g) of RESPA (12 U.S.C. 2605(g)) govern the timing of disbursements from escrow accounts. In choosing a disbursement date, section 10 requires that the servicer follow ``normal lending practices of the lender and local custom, provided that the selection of each such date constitutes prudent lending practice.'' Section 6(g) requires servicers to ``make payments from the escrow account for such taxes, insurance premiums, and other charges in a timely manner as such payments become due.''

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III. Explanation of Problems Addressed in September 3, 1996 Proposed Rule and Proposed Solutions

On September 3, 1996 (61 FR 46511), the Department published a proposed rule, primarily to address three problems in implementing the 1994-1995 escrow rules. These problems, explained below, were designated as:

<bullet> Annual vs. Installment Disbursements;

<bullet> Payment Shock; and

<bullet> Single-item Analysis with Aggregate Adjustment.

In addition, the Department proposed revising the GFE format and HUD-1 and HUD-1A to refer specifically to a lead-based paint inspection or risk assessment.

A. Annual vs. Installment Disbursements Problem

1. Explanation of the Annual vs. Installment Disbursements Problem

The first problem that the proposed rule addressed involved the servicers' disbursements from mortgage escrow accounts if the payee (i.e., the entity to which escrow disbursements are paid, such as a taxing jurisdiction) offers a choice of disbursements on an annual or installment basis. Sometimes payees offer a discount to the borrower if disbursements are made on an annual basis. These discounts are commonly offered by taxing jurisdictions, which may offer a discount for annual payments of property taxes.

The Department's regulation at 24 CFR 3500.17(k)(1) has provided, ``In calculating the disbursement date, the servicer shall use a date on or before the earlier of the deadline to take advantage of discounts, if available, or the deadline to avoid a penalty.'' See also Secs. 3500.17(b) (definition of ``disbursement date''); 3500.17(c)(2) and (c)(3); and 3500.17(d)(1)(i)(A) and (2)(i)(A). The preamble to the October 1994 final rule explained, ``Unless there is a discount to the borrower for early payments, the regulation does not allow servicers to pay installment payments on an annual or other prepayment basis.'' 59 FR 53893. The preamble explained that this approach is consistent with the Department's intention that the regulations generally favor installment disbursements, because in many cases they result in lower up-front payments (closing costs). The Department also sought for servicers to take advantage of discounts that would benefit borrowers.

In response to further questions on this issue, however, the Department indicated in its February 1995 final rule clarifying the escrow rules that the October 1994 rule's focus had been to address ``a practice, previously engaged in by some servicers, of collecting and paying a full-year's taxes in advance, although they were billed on an installment basis.'' 59 FR 8813. In the preamble to a May 1995 further clarification to the rules, the Department stated that ``servicers were permitted (but not required) to make disbursements on an annual basis if a discount were available.'' The preamble to the May 1995 rule explained:

[T]he Department received a number of questions regarding circumstances in which the payee offered an option of either installment payments or a one-time payment with a discount. The preamble to the October 26, 1994, and February 15, 1995, rules indicated that when a choice was available, servicers should make disbursements on an installment basis, rather than an annual basis; however, servicers were permitted (but not required) to make disbursements on an annual basis if a discount were available. Once the choice of payment basis is made, the disbursement date chosen for that basis depends on discount and penalty dates. Section 3500.17(k) states that ``[i]n calculating the disbursement date, the servicer shall use a date on or before the earlier of the deadline to take advantage of discounts, if available, or the deadline to avoid a penalty.'' This provision is consistent with the rule, which is designed to avoid excessive upfront payments and balances in escrow accounts and, therefore, favors installment payments, unless there are penalties or discounts that make annual payments advantageous for the consumer. Also, after settlement a servicer and borrower are not prevented by this rule from mutually agreeing, on an individual case basis, to a different payment basis (installment or annual) or disbursement date.

60 FR 24734.

In the preamble to the September 3, 1996 proposed rule, the Department indicated that the rule text and the preamble language may have created confusion. As explained in the preamble to the proposed rule, some mortgage servicers have interpreted the rule to require that a servicer, when offered an option of making a disbursement from the escrow account in installments or in an annual disbursement with a discount, must choose the lump sum annual disbursement with a discount, no matter how small the discount is, even if the borrower and the servicer would otherwise agree to forego the discount and have the escrow account computed for disbursements on an installment basis. On the other hand, other servicers have interpreted the Department's rule, in light of preamble language, to require installments when available and allow, but not require, annual disbursement at the servicer's discretion when a discount is offered for annual disbursement.

As indicated in the preamble to the proposed rule, some borrowers were affected by the changes brought about by the 1994-1995 escrow rules. Concerns raised to the Department regarding the annual vs. installment disbursements problem came from borrowers and members of Congress who were concerned about the effect of the 1994-1995 escrow rules on their constituents.

As explained in the preamble to the proposed rule, the choice of disbursement methods has consequences for borrowers, including increasing or decreasing the amounts required to be deposited into the escrow account at closing. In general, disbursements from an escrow account in installments work to the borrower's benefit, because, on average, they result in lower up-front payments to establish the account (i.e., lower closing costs). Footnote 2 of the proposed rule (61 FR 46512) explained:

The choice of installment, rather than annual, disbursements often results in substantial reductions in up-front cash requirements for the buyer. For example, if two equal installments could be paid 6 months apart instead of paying the entire bill on one of the installment dates, then homebuyers who close on their loans less than 6 months before the date on which the entire bill would otherwise have been due could come to settlement with 6 months less in tax deposits to the escrow account. This results from the accrued taxes being a half-year's taxes less for those homebuyers. Assuming closings are evenly distributed throughout the year, households with the option of two equal installment payments 6 months apart, will, on average, be able to reduce the average up- front cash required at settlement by 3-months' worth of taxes. In general, as the number of installments grows, so does the average up-front savings.

The disbursement method may also have income tax ramifications for the consumer, depending on the timing of disbursements for deductible items.

The preamble to the proposed rule explained that after publication of the 1994-1995 escrow rules, many servicers that had been disbursing in installments switched to annual disbursements if discounts were available. There were many consequences of the switch that have been described to the Department, mostly affecting borrowers, and other consequences that the Department speculates may have resulted. After the Department issued the escrow rule, some borrowers may have been required by their servicers to make up substantial shortages in their escrow accounts (generally in increased monthly payments over a year), which arose

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when taxes were switched from installment disbursements to one annual lump sum disbursement.

The preamble to the proposed rule also noted other adverse consequences that might have arisen from the 1994-1995 escrow rules. For example, some borrowers whose servicers switched from annual to installment disbursements may have lost a significant portion of their income tax deductions for property taxes in the year in which the switch was made and may have been unhappy with that consequence. Some taxing jurisdictions may have faced an unexpected temporary shortfall in receipts of property taxes as a result of servicers changing from annual to installment disbursements.

The preamble to the proposed rule also noted that although some borrowers may have been adversely affected by a change in disbursement method, many others likely benefited, perhaps unknowingly, from such a change. For example, a change from installment to annual disbursements to take advantage of a discount lowered the total tax burden for many homeowners. Similarly, a change from annual to installment disbursements resulted in lower escrow payments and, possibly, refunds or credits for many homeowners. Finally, for many borrowers, the Department's rules apparently have not resulted in any change to the disbursement method for their escrow accounts.

2. Alternatives Proposed to Address Annual vs. Installment Disbursements Problem

In response to the Annual vs. Installment Disbursements problem, the Department proposed alternative ways of revising the escrow rules, including requiring that disclosures be given to borrowers so that they could make informed choices as to how their accounts were to be set up and maintained and require servicers to follow those preferences. At the same time, the Department recognized that providing borrowers choices may impose additional burdens and costs on servicers, which are frequently passed on to borrowers. Thus, the proposed rule also highlighted approaches that had been proposed by industry representatives. The Department sought comments on all approaches and also asked a number of questions that were designed to help the Department make decisions among alternatives for the final rule.

a. Consumer Choice. The first alternative contained in the proposed rule, Consumer Choice, distinguished between new loans and existing loans. Under this alternative, for new loans (loans that settled on or after the effective date of a final rule), servicers would be required to give borrowers the choice of making disbursements of property taxes on an installment or on an annual basis, when those options are offered by the taxing jurisdiction. The Department's proposal did not address the choice between installments and annual disbursements for other escrow items, because the question has only been raised to the Department in the context of property taxes. The preamble indicated that the Department would consider addressing other escrow items, depending on comments received.<SUP>4</SUP>

\4\ The preamble to the proposed rule noted that if the servicer is given a choice between installment or annual disbursements for other escrow items (such as property or hazard insurance), the Department's rule would require the servicer to make disbursements by a date that avoids a penalty, but the servicer would otherwise be free to make disbursements on such date as complies with normal lending practice of the lender and local custom, provided that the selection of each such date constitutes prudent lending practice.

This alternative would have required servicers, at some time before settlement, to provide a disclosure, in the format of Appendix F in the proposed rule, to borrowers whose property taxes will be paid from an escrow account and whose taxing jurisdictions offer the choice between disbursements on an installment or an annual basis. The proposed format indicated some of the advantages and disadvantages to the borrower of installment and annual disbursements and asked the borrower to make a choice between the methods. The preamble explained that if the borrower did not make a choice, the servicer would be required to make installment disbursements of property taxes. As discussed below, this alternative also would have provided that once the consumer had made a choice (or installments were required because the consumer did not make a choice), the servicer and subsequent servicers would be prohibited from changing the method of disbursement for property taxes without the borrower's prior written consent, as long as the taxing jurisdiction continued to offer a choice.

For existing loans (loans that were settled prior to the effective date of a final rule), this alternative would have prohibited the servicer and subsequent servicers from changing the method of disbursement for property taxes without the borrower's prior written consent where the taxing jurisdiction offers a choice between installments and annual disbursements. In addition, no later than the first escrow analysis for such escrow accounts performed after the effective date of a final rule, servicers would be required to offer borrowers, in writing, an opportunity to switch from one method of disbursement for property taxes to another.

b. Servicer Flexibility. Under the second alternative presented in the proposed rule, the Department would have revised the rule to provide that a servicer must make disbursements by a date that avoids a penalty, but the servicer is otherwise free to make disbursements on such date as complies with normal lending practice of the lender and local custom, provided that the selection of each such date constitutes prudent lending practice. As discussed below, under this alternative, once the servicer had made a choice of the disbursement method, the servicer and subsequent servicers would have been prohibited from changing the method of disbursement without the borrower's prior written consent, as long as the payee continued to offer a choice.

c. Keep, But Clarify, Current Requirements. The third alternative offered in the proposed rule was that the Department would revise the rule to keep, but clarify the current requirements. Under this alternative, the regulations would have been revised to provide that servicers must make disbursements from escrow accounts on an installment basis, if payees offer that option as an alternative to annual disbursements. If a payee offers the option of installment disbursements or a discount for annual disbursements, however, the servicer may, at the servicer's discretion (but is not required by RESPA to), make annual disbursements, in order to take advantage of the discount for the borrower; the Department encourages (but does not require) servicers to follow the preference of the borrower. If the payee offers the option of installment disbursements or annual disbursements with no discount, the servicer must make installment disbursements.

d. Prohibition Against Switching Disbursement Methods Without Borrower's Consent. Each of the alternatives proposed--Consumer Choice; Servicer Flexibility; and Keep, But Clarify, Current Requirements-- provided that once a disbursement method has been selected in accordance with the requirements of the alternative, servicers would be prohibited from switching disbursement methods without the borrower's consent. This would mean that even if one servicer acquires servicing from another servicer, the second servicer would be required to apply the same disbursement method as the first servicer, as long as that

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option is offered by the payee, unless the borrower consents to changing disbursement methods.

The preamble to the proposed rule explained that the reason for this approach was that many loans shifted disbursement dates as a result of the 1994-1995 escrow rules. The Department was seeking to develop an approach with the minimum negative impact for borrowers, servicers, and third parties, such as taxing jurisdictions.

The preamble to the proposed rule explained the adverse consequences, discussed above, that can occur when borrowers' disbursement methods are switched. The preamble to the proposed rule explained that the approach of prohibiting a servicer from switching disbursement methods without the borrower's consent, including requiring a servicer to use the disbursement method used by the former servicer when there is a transfer of servicing, would not mean that the borrower would have to consent to a transfer of servicing or would have veto authority over such a transfer. However, this approach would mean that a borrower would have to consent to a change in the disbursement method, including a change proposed by a subsequent servicer. The Department sought comments on whether this policy would adversely affect the value, and the efficiency of the transfer, of servicing rights.

B. Payment Shock Problem

1. Explanation of Payment Shock Problem

The second problem that the proposed rule addressed involved cases in which the originator or servicer <SUP>5</SUP> anticipates that disbursements for escrow items such as property taxes will increase substantially in the second year of the escrow account. A substantial increase in property taxes in the second year often occurs in cases of new construction. In many jurisdictions, the taxes the locality charges for the first year are based on the assessed value of the unimproved property, while for the second year the taxes are based on the improved value. A substantial increase in payments may also occur when a tax disbursement that would normally appear on the projection for the coming year is paid prior to the borrower's first regular payment, i.e., these regularly occurring taxes do not appear in the projection. Reassessments after a property is sold may also cause a substantial second year increase.

\5\ Three originators/servicers criticized the Department's proposed rule because it identified the ``servicer'' as the person who would be in a position to determine whether the bills paid out of the escrow account will increase substantially after the first year. These commenters indicated that it is the originator (loan officer, processor, settlement agent) who communicates with borrowers prior to closing, not the servicer, and that it should be the originators who would be in the position of determining at closing whether payments will substantially increase, not the servicer. The Department intended to use the terms interchangeably and explained in footnote 1 of the proposed rule (61 FR 46511) that the term ``servicer'' included the lender when the lender performs the servicing functions. The Department intended that the term ``servicer'' also would include the originator in this context.

The preamble to the proposed rule explained that, consistent with section 10 of RESPA, the Department's regulations have specified the maximum amount that a servicer may legally require borrowers to deposit in escrow accounts at the creation of the escrow account and during the life of the escrow account. The Department's regulations prescribe that in conducting an escrow account analysis, the servicer considers only the disbursements that are expected to come due during the next 12- month period. See Secs. 3500.17(b) (definition of ``escrow account computation year'') and 3500.17(c) (limits on payments to escrow accounts). While the servicer can take into account expected changes to disbursements over the 12-month period,<SUP>6</SUP> even if the servicer knows that disbursements from an escrow account will substantially increase at a time more than 12 months in the future, the servicer cannot, when preparing the initial escrow account statement, calculate the borrower's payments to cover the expected increases beyond that 12-month period.

\6\ The preamble to the proposed rule (61 FR 46511, 46516 n.7) explained that the Department's current regulations address the issue of estimating disbursement amounts for the 12-month computation year:

To conduct an escrow account analysis, the servicer shall estimate the amount of escrow account items to be disbursed. If the servicer knows the charge for an escrow item in the next computation year, then the servicer shall use that amount in estimating disbursement amounts. If the charge is unknown to the servicer, the servicer may base the estimate on the preceding year's charge as modified by an amount not exceeding the most recent year's change in the national Consumer Price Index for all urban consumers (CPI, all items). In cases of unassessed new construction, the servicer may base an estimate on the assessment of comparable residential property in the market area.

24 CFR 3500.17(c)(7).

However, the Department's existing regulations (Sec. 3500.17(f)(1)(ii)) allow the servicer to conduct escrow account analyses at other times during the escrow computation year, which can result in changes to what the borrower must deposit in the escrow account. Some servicers conduct escrow account analyses when bills for escrow items increase.

Since the Department's current escrow rule provides for calculating escrow payments based on the projection of escrow disbursements for a 12-month period, when escrow items increase substantially after the initial 12-month period, the result is likely to be a substantial increase in a borrower's monthly payments for the second year and/or a lump sum payment, not only to reflect the higher disbursements, but to make up a shortage in the escrow account.<SUP>7</SUP> While the originator or servicer could alert the borrower at closing that an increase will occur, if that is not done, the borrower may be unpleasantly surprised by the increase. The preamble to the proposed rule explained that this situation could result in several problems. While disclosures received at closing show low payment amounts throughout the first year, the escrow payment will substantially increase for the second year, or even during the first year if a short- year statement is issued at the point when the higher disbursement shows up in the 12-month projection.<SUP>8</SUP> Some borrowers may be unable to meet the increased escrow payments and paying off the shortage will raise payments even more. A customer relations issue may be created for servicers who have to explain to borrowers why the payment is increased so much.

\7\ The preamble to the proposed rule explained that an increase in the monthly payment can be broken down into two components. Any time an escrow account disbursement increases, it will have the effect of raising the monthly borrower escrow payment by approximately one-twelfth of that increase. In addition, the projection for the coming year shows what the target balance (accruals plus the cushion) should be at the beginning of the coming year. To the extent that expected disbursements in the second year exceed what they were in the first, the beginning target balance for the second year may be in excess of the actual balance at the end of the first year. If so, then there is a shortage to be made up as well. If the 12-month approach is taken to eliminate the shortage, then monthly payments will also rise by approximately one-twelfth of the shortage. If a cushion is used, the payment increases will be slightly higher, until the cushion is built up.

\8\ The Department's regulations at 24 CFR 3500.17(f)(1) (i) and (ii) provide that, aside from conducting an escrow account analysis when an escrow account is established and at completion of the escrow account computation year, a servicer may conduct an escrow account analysis at other times. The escrow account analyses conducted at other times result in short-year statements.

As indicated in the preamble to the proposed rule, the concerns raised to the Department regarding payment shock came largely from industry representatives who told the Department that they have had to respond to numerous borrower inquiries

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and complaints about increases in escrow payments to reflect higher disbursements and payments to make up shortages. Mortgage servicers had indicated that they wanted to avoid any payment change in subsequent years by collecting more money in the first year of servicing.

2. Alternatives Proposed to Address Payment Shock Problem

The proposed rule offered three rulemaking alternatives, some of which contained variations within the alternative, to address the payment shock problem. The purpose of the alternatives was to develop a consumer-friendly way to avoid the payment shock surprise for the borrower, who may not be prepared to make the higher payments to his or her escrow account that would result from a substantial increase in the amounts needed for disbursements from the account. At the same time, the proposals sought to minimize the burden on the industry.

a. Consumer Choice. The first alternative contained in the proposed rule, Consumer Choice, would have provided that when the servicer expected that the bills disbursed from the escrow account would increase substantially after the first year, the servicer would provide to the borrower, at some time prior to closing, a written disclosure. The proposed format for the disclosure was set forth in Appendix G to the proposed rule. The borrower would make a choice from several accounting options for his or her account on a format that would indicate, under each option: (1) the amount due at closing; (2) the monthly escrow payments in the first, second, and third years; and (3) the corresponding surpluses anticipated at the end of the first year.<SUP>9</SUP>

\9\ The preamble to the proposed rule noted that whether disbursements from escrow accounts would be made on an annual or installment basis and whether there were a discount for annual disbursement would affect the numbers to be filled in and, potentially, the number of calculations on the Escrow Accounting Method Selection Format.

The proposed rule explained that the borrower would, therefore, have the opportunity to make a voluntary choice to limit payment changes in the second year of the escrow account. As would be explained on the disclosure format, if the borrower did not make a choice, the accounting method would ``default'' to the method prescribed under the current regulations (which may result in substantially increased payments in the second year). This alternative, as proposed, contained the additional restriction that once an escrow accounting method was selected by choice or default, that method could not be changed without the consent of the borrower, even if the servicing rights were transferred to another servicer.

The preamble to the proposed rule explained that, under this alternative, the following accounting methods (illustrated in ``The Payment Shock Problem,'' Appendix H-1 to the proposed rule) would be presented to the borrower for his or her selection:

Method A. Analysis of the account using the accounting method required under the current rule, which results in a shortage at the end of the first year and higher payments in the second year.

Method B. Analysis of the account using an accounting method that:

--Requires an initial deposit of $0 into the escrow account at closing;

--Requires a monthly payment in the first year equal to one-twelfth of the estimated total annual disbursements from the escrow account for the second year; and

--Causes surpluses or smaller shortages at the end of the first year, which causes escrow payments to increase in the second year by an amount less than under Method A or not at all.

Method C. Analysis of the account using an alternative accounting method that:

--Requires an initial deposit into the escrow account at closing greater than the initial deposits required under Method B;

--Requires the same monthly payment during the first year as under Method B, which is greater than under Method A;

--Generates month-end balances such that the lowest month-end balance for the first year equals one-sixth of the estimated total annual disbursements for the second year (the initial deposit is not considered in finding the lowest month-end balance);

--Generates even larger balances at the end of the first year than under Method B, eliminating shortages and increasing surpluses that must be returned to the borrower; and

--Causes no increase in escrow payments in the second year.

The preamble to the proposed rule noted that if the consumer were to select Methods B or C, the amounts held in escrow could be greater than allowed under section 10 of RESPA. In order to permit these options, the Secretary would invoke his exemption authority under section 19(a) of RESPA (12 U.S.C. 2617).

b. Make No Change. The second alternative in the proposed rule was to continue the current requirements for escrow analysis, even when the servicer expected that the bills disbursed from the escrow account would increase substantially after the first year. This alternative would not prevent payment shock in all instances. However, under this alternative, servicers could continue to disclose voluntarily the problem to borrowers and borrowers could make voluntary overpayments to escrow accounts. Servicers could also calculate short-year statements. Thus, even if no change were made to the regulations, some methods would continue to be available, although not required, to alleviate the payment shock problem.

c. Mandate First Year Overpayment. Under the third alternative in the proposed rule, Mandate First Year Overpayment, the Department would have provided that when the servicer expected that the bills disbursed from the escrow account would increase substantially after the first year, the servicer would be required to establish the escrow account under a procedure that had the characteristics described under Consumer Choice, Method C, above (illustrated in ``The Payment Shock Problem,'' Appendix H-2 to the proposed rule). The preamble to the proposed rule explained that this approach would result in requiring amounts held in escrow to be greater than allowed under section 10 of RESPA. The Secretary could, however, mandate the use of this escrow accounting method pursuant to his exemption authority under section 19(a) of RESPA (12 U.S.C. 2617).

C. Single-Item Analysis With Aggregate Adjustment Problem

1. Explanation of Single-Item Analysis With Aggregate Adjustment Problem

A third problem that the proposed rule addressed was the means of disclosure on the HUD-1 and HUD-1A settlement forms of amounts required for deposit at settlement in the escrow account. The 1994-1995 escrow rules established aggregate accounting (i.e., analyzing the escrow account as a whole) as the uniform nationwide standard escrow accounting method to be used to compute borrowers' escrow accounts. In establishing this standard, the rules supplanted single-item accounting, the accounting method that had been used at settlement up until that time to compute required escrow account balances. Historically, under single-item accounting, the reserve amount for each escrow account item on the HUD-1 or HUD-1A in the 1000 series was computed for the borrower and listed separately. Either zero, one, or two months worth of payments for

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each escrow item was set forth on the HUD-1 or HUD-1A in the 1000 series as necessary to establish the escrow account.

When the Department was developing the 1994-1995 escrow rules, Federal Reserve Board staff indicated that even if aggregate accounting were used it also needed a single-item amount for private mortgage insurance (PMI) reserves in order to make annual percentage rate (APR) calculations under the Truth in Lending Act (TILA). For this reason, and in an effort to avoid altering the basic format of the HUD-1 or HUD-1A in the 1994-1995 escrow rules, the Department required that an aggregate adjustment (either zero or a negative number) be made after all of the individual items were listed separately in the 1000 series, so that the total amount for escrow account items conformed to the aggregate accounting method. Before the 1994-1995 escrow rules, Section L of the HUD-1 and HUD-1A only showed positive numbers, that is, payments that were being allocated to various settlement costs. After publication of the 1994-1995 escrow rules, the Department received complaints that the itemization of the reserve amounts with an aggregate adjustment was confusing and the information was not useful to borrowers. Settlement agents and others indicated that individual itemization of reserves in the 1000 series imposed an additional paperwork and explanation burden, when the only relevant number for calculations is the total deposited.

2. Revision Proposed to Address Single-Item Analysis With Aggregate Adjustment Problem

In response to the Single-Item Analysis with Aggregate Adjustment problem the Department proposed to make more flexible the requirements for the provision of information to consumers. In the proposed rule, the Department proposed that to relieve confusion it would no longer require the single-item listing of escrow deposits or reserves on the HUD-1 or HUD-1A. The rule would create a new option in the instructions for the 1000 series of these forms to reflect the aggregate amounts to be deposited. As proposed, the settlement agent could also have continued to itemize the 1000-series reserves, at the settlement agent's discretion. If the charges were not itemized, an asterisk (*) would have had to be placed next to each item in the 1000 series for which a reserve was taken. The amount collected would have been described as ``Aggregate Escrow Deposit for Items Marked (*) Above'' on a line at the end of the 1000 series. In the discussion ``Clarifications of Existing Rule'' in Part VI of the preamble to the proposed rule, the Department had clarified that entries on the GFE may be based on single-item analysis, with a maximum 1-month cushion. The proposed rule also clarified that the use of the estimating method remained available after the end of the phase-in period (October 24, 1997).

D. Lead-Based Paint Disclosure Issue

1. Explanation of Lead-Based Paint Disclosure Issue

The proposed rule also addressed a concern that consumers should get information about their right to arrange for a timely paint inspection or risk assessment for the presence of lead-based paint or lead-based paint hazards before becoming obligated under a sales contract. The preamble to the proposed rule explained that a prospective purchaser generally has 10 days to conduct such a lead- based paint evaluation of the property. A prospective purchaser, however, may waive in writing the opportunity to conduct this evaluation. The proposed rule addressed ways that consumers could receive this information in addition to existing disclosure requirements.

2. Revision Proposed to Address Lead-Based Paint Disclosure Issue In response to the Lead-based Paint Disclosure issue, the Department proposed to require additional information to be provided to the consumer on the GFE and the HUD-1 or HUD-1A. The Department proposed to add information to the GFE format to help make purchasers of pre-1978 residential dwellings aware that, pursuant to 42 U.S.C. 4852d (implemented by the Department in regulations published on March 6, 1996, 61 FR 9064), purchasers have the right to arrange for a paint inspection or risk assessment for the presence of lead-based paint or lead-based paint hazards before becoming obligated under a sales contract. The Department proposed to add language to the GFE format (Appendix C to part 3500) specifically to refer to a lead-based paint inspection or risk assessment and designate a separate line in the 1300 series of the HUD-1 and HUD-1A for lead-based paint inspections or assessments and to revise the instructions for completing the HUD-1 and HUD-1A accordingly. The preamble to the proposed rule indicated that the Department anticipated that a more detailed explanation of purchasers' rights in this regard would be contained in the next revision of the HUD Settlement Costs booklet. See section 5 of RESPA (12 U.S.C. 2604); 24 CFR 3500.6.

IV. Overview of Public Comments

A. Description of the Commenters

The Department received a total of 141 comments on the proposed rule. Of the 141 comments, some were duplicates. Thus, the Department places the number of different comments received at 134.<SUP>10</SUP> The Department analyzed all the comments in detail and gave them careful consideration.

\10\ Seven comments were identical letters submitted by various officials of the same mortgage corporation; they were counted as one comment. Two other comments were substantially similar letters submitted by different offices of the same bank and mortgage lending subsidiary; they also were counted as one comment, but minor variations between the two were considered.

Twenty-one comments were duplicate comments submitted by various originators and servicers, including the United States Department of Agriculture. One bank and trust submitted nearly identical comments as the Mortgage Bankers of America (MBA), while the Oregon Bankers Association submitted nearly identical comments as the American Bankers Association (ABA). The Mortgage Bankers Association of Minnesota adopted with one small addition the comments of Norwest. Since these comments were submitted by separate entities, they are all counted as separate comments.

One commenter simply summarized the proposed rule without taking a position on any of the proposals.

One-hundred two of the comments came from originators/ servicers.<SUP>11</SUP> Fourteen comments came from trade associations. Four came from individual consumers, three from tax service providers, two from members of Congress, four from financial software companies, one from a state lending agency, one from a mortgage insurer, one from a builder, and two from persons whose professional interest in the rule could not be determined.

\11\ In some cases, the precise nature of the business was not clear from the comment. Moreover, it did not appear that the comments differed markedly depending on the precise nature of the business. For example, it did not appear that the comments from retail lenders differed markedly from those from mortgage brokers, or that the comments from one type of retail lender differed from those or other types of retail lenders. Thus, all businesses that originate, service, and/or broker loans are designated as ``originators/servicers'' in this preamble.

B. What Commenters Commented On

The Annual vs. Installment Disbursements problem attracted the most comments. One-hundred twenty-eight commenters, including all but one of the trade associations and all but two of the originators/servicers, commented on this issue. The Payment Shock Problem received the second highest number of comments, with one-hundred

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sixteen commenters, including ninety-six originators/servicers and all but two of the trade associations. The Single-Item Analysis With Aggregate Adjustment problem also attracted a significant number of comments, seventy-eight in all, including sixty-five originators/ servicers and ten trade associations. Only seventeen commenters, twelve originators/servicers and five trade associations, commented on the additional proposed change concerning lead-based paint.

C. Overview of Positions

The overwhelming majority of originators, servicers and mortgage brokers opposed those options for the first two issues that were designed to provide borrowers more choices, citing the costs and burdens of such an approach. Three commenters, including Norwest, criticized those options as being inconsistent with the principles the Department had articulated, asserting that the Consumer Choice options would increase the cost of homeownership. In contrast, the few consumers and members of Congress who commented on the first issue supported Consumer Choice approaches; these commenters did not comment on the Payment Shock problem.

On the Single-Item Analysis With Aggregate Adjustment problem, more commenters supported the proposed change than opposed it. Opinion was nearly evenly divided on the additional proposed change concerning lead-based paint.

Nine commenters, including the American Bankers Association (ABA), commented that no changes should be made at this time and instead, the Department should wait several years before considering further changes to Regulation X, at least until the changes made under the 1994-1995 escrow rules are fully implemented. (Those provisions took effect May 24, 1995 but provided for a three-year phase in for existing escrow accounts which expires October 27, 1997.)

The reasons given by the ABA, which were echoed by the Oregon Bankers Association, for not making any changes to the rule were that the rule would alter the escrow accounting systems at the very time the Department's new rules are bring fully implemented, causing major problems and an excessive burden for banks and other mortgage servicers. The New York Credit Union League agreed, emphasizing the costly changes that are already being made as a result of that earlier rule.

A bank holding company, in terms echoed by other originators and servicers, commented that there was no need to change the rules now as those borrowers with existing accounts have already benefited from or suffered the consequences of the 1994-1995 escrow rules and have subsequently adjusted to the changes and many of the problems created by that rule are over. Thus, it would be premature to make further changes, and doing so may only again create the same sort of initial problems that were created by the 1994-1995 escrow rules. GE Capital recommended waiting at least two years before revisiting the need for any changes. Another servicer and originator recommended waiting 24 to 36 months before making further changes. A bank compliance officer and a bank holding company also recommended against changes being made at this time.

Several other commenters recommended that the Department hold off action on specific portions of the rule. Those comments are analyzed separately under the portion of the preamble discussing that aspect of the rule.

In contrast, many commenters emphasized the importance of making changes to address their particular issues of concern, particularly the Payment Shock problem. These comments are summarized under the particular issues discussed later in this summary.

V. Annual vs. Installment Disbursements Problem--Comments Received, Approach Adopted in Today's Final Rule, Basis for Approach Adopted, Basis for Rejecting Alternative Approaches, Clarifications

A. Comments Received

Through the comments received on the proposed rule, the Department gained a better understanding of the Annual vs. Installment Disbursements problem. The Department learned more about how servicers have been addressing the problem of setting the appropriate disbursement date when given a choice of annual or installment disbursements. The comments received indicated that practices have not been uniform and that in some cases, originators/servicers have been using creative approaches to meeting consumer's needs. Five originators/servicers and two tax services indicated that they were disbursing in installments unless a discount was offered for annual disbursements that the servicer thought was a large enough discount to be in the borrower's interest, in which case the disbursements were made annually; one trade association indicated this was the approach of most of its members as well. One savings and loan indicated that its practice was to accommodate individual borrowers by switching people who complain to whichever method they prefer.

Other originators/servicers are using practices that do not provide as much flexibility for the consumer. In many cases, the originators/ servicers indicated that they believed such practices were compelled by the existing RESPA regulations. For example, thirteen originators/ servicers indicated that when such a choice is offered, they currently disburse in installments unless a discount is offered for annual disbursements, in which case they always disburse annually regardless of how insignificant the discount may be. Two originators/servicers and one tax service indicated that if no discount is offered for annual disbursements but a service fee is charged for installment disbursements, they disburse annually, no matter how insignificant the service fee may be.

A few commenters noted that in many jurisdictions, the installment option is only available for individuals, not servicers. Other commenters noted special rules that apply in particular States, such as Wisconsin, where the practice is to pay taxes in the year levied, even though they do not have to be paid until the following year, and Maryland, where a law provides that first time homebuyers may choose between annual and installment disbursements with a consumer disclosure highlighting differences between the two methods.

The Department also learned more about the discounts obtained by servicers for borrowers, e.g., how large the discounts are and when disbursements must be made in order to receive the discounts. Commenters estimated the size of the discounts to range from around 1-5 percent of the property tax bill, with only two commenters indicating that discounts ranged up to 10 percent, and only one commenter indicating they tended to be less than one percent. Several commenters--three consumers, two members of Congress, two originators/ servicers, one trade association--expressed the view that discounts are small and not in the borrower's interest to disburse in order to collect them. Two originators/servicers expressed the opposite view that discounts tended to be large and in the borrower's interest to obtain. The Department notes that, under reasonable assumptions,<SUP>12</SUP> a

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discount of 1 percent of the annual tax bill converts to approximately a 4 percent annualized return; a 5 percent discount converts to approximately a 23 percent annualized return.

\12\ The assumptions are that if, for example, the entire tax bill is paid on January 1, the discount applies to the entire bill. Otherwise, half of the bill is due on January 1 and half is due on July 1.

Several commenters commented on the extent of the problem. Two consumers from New York asserted that borrowers whose servicers switched from installments to annual disbursements were adversely impacted. One, a senior citizen, explained that she and her husband were required by their servicer either to make a lump sum payment of almost $1,500 with a monthly increase of over $150 or no lump sum payment but a monthly increase of over $200, to obtain a discount of only 1 percent. Another reported that his mortgage payment was increased over $100 for a mere $8 discount for annual tax payments.

Other commenters, however, challenged the Department's perspective that the issue of Annual vs. Installment Disbursements was a problem in need of fixing. Some questioned the Department's evidence that there was a problem. One bank expressed doubt about how many borrowers were actually affected, and to what extent, by the 1994-1995 escrow rules, indicating that the impact of the rule change had already been absorbed. Four originators/servicers, including Citicorp and First American Real Estate Tax Service, Inc., a large tax service, specifically asserted that there was no current problem. Citicorp asserted that there were few problems with the existing rule for borrowers or industry and that it was premature to change the 1994-1995 escrow rules until there was more experience operating under it. Citicorp recommended waiting until 1998 to make further changes. Ten commenters in the origination and servicing industry, including NationsBank and GE Capital, as well as the Mortgage Bankers Association (MBA), also asserted that the impact of the 1994-1995 escrow rules had already been absorbed, and any impacts on consumers with existing loans had already taken place.

Most of the commenters commented on one or more of the specific alternative proposals for addressing the problem.<SUP>13</SUP> The overwhelming majority of originators, servicers, and mortgage brokers opposed Consumer Choice; there was some division of opinion on what alternative approach to take. A modified version of the ``Keep But Clarify Current Requirements'' alternative garnered the most consistent support; the modification was that the restriction on servicers switching disbursement methods when servicing is transferred be eliminated. Opinion was fairly evenly divided on the merits of the ``Servicer Flexibility'' alternative.

\13\ In contrast, one commenter, a Wisconsin bank holding company, seemed to question the Department's legal authority to propose any solution to the problem. The commenter asserted that the Department can prohibit over-escrowing and pre-accrual or other servicer practices ``that require borrowers to have more than the amount of the projected property tax plus the permissible cushion in the escrow account before the tax lien attaches, but it was not the purpose of Congress that RESPA limit a lender's right to keep mortgaged property free of liens, and the authority of the Department to interpret RESPA so as to do so is questionable.'' The commenter criticized any proposal that would establish detailed rules regarding when servicer may disburse funds to pay property taxes after the tax lien has attached to the property.

This objection seems to raise an issue that was settled in the May 1995 rule, which elevated cash flow over lien priority. The Department has clear legal authority to address the matter of disbursements, as part of the Secretary's rulemaking authority pursuant to section 19(a) of RESPA (12 U.S.C. 2617) to interpret RESPA, including section 10 and section 6(g). Section 10(a) requires that disbursements be made in accordance with prudent lending practice. Section 10(a)(2) prohibits lenders from requiring consumers to deposit in escrow accounts more than one-twelfth of the total amount of the estimated taxes, insurance premiums and other charges which are ``reasonably anticipated'' to be paid on dates during the ensuing twelve months plus a cushion. Section 6(g) requires that disbursements be made as payments become due. By promulgating a rule to address the Annual vs. Installments Disbursement problem, the Department would be acting appropriately under one or more of these statutory provisions.

1. Comments on Consumer Choice Alternative

Only seven commenters supported Consumer Choice. The California Association of Realtors (CAR) specifically supported applying the Consumer Choice option to new loans as well as existing loans. CAR commented that the benefits would outweigh the marginal costs and that it favored approaches that provide consumers with as much information as possible and the opportunity, when fully informed, to make choices about the servicing of their loans and the related impound/escrow accounting. The CAR added that if the consumer failed to make a choice, disbursements should be made on an installment basis.

Two comments from elected officials, one from Representative Peter King of New York and one joint letter from Senator Alphonse D'Amato, Representative King, and Representative Dan Frisa also endorsed the Consumer Choice approach, focusing on its application to existing loans. Both letters expressed deep concern for homeowners who were negatively impacted when servicers switched disbursement methods and urged the Department to allow homeowners to have the choice to return to their prior disbursement method. Representative King's letter stated that consumers, not financial institutions, will be able to determine which method of tax payment is best for them and that allowing such a choice would further the goals of RESPA. Senator D'Amato's letter stated that ideally homeowners should be given the option to return to their previous disbursement methods with the excess of any escrow accounts returned and, at a minimum, their servicers must inquire as to the homeowners' preference.

Four homeowners in New York advocated allowing homeowners to have the right to decide whether they wish to forego a discount for annual disbursements and instead have their taxes disbursed in installments. All focused on the benefits of applying Consumer Choice to existing loans, complaining that they were left with a shortage in their account and suffered severe financial hardship trying to make up the shortage when their servicers switched disbursement methods.

In addition, one federal credit union's comments gave tepid support to the Consumer Choice option if it were limited to new loans. The credit union indicated that offering the choice to new loans would only entail the burden of preparing and explaining the form. It indicated, however, that for existing loans Consumer Choice would be costly in terms of staff, time, and the mailing of the selection format, and would be confusing to borrowers. The credit union also indicated that since borrowers could refinance anyway, there was no apparent need to offer existing borrowers a choice.

In contrast, 107 commenters opposed the adoption of Consumer Choice (91 originators/servicers, 11 trade associations, 3 tax services, 2 financial software companies, and 1 person whose professional interest was not known). Only one commenter, a credit union, appeared to limit its opposition to the Consumer Choice alternative to its application to existing loans. All of the other commenters appeared to oppose the application of Consumer Choice regardless of whether it extended to both new and existing loans, or only to new loans.

Most commenters did not separate out their objections to Consumer Choice as it would apply to new loans as opposed to existing loans. Whether the commenters separated out their objections or not did not affect the objections raised. Accordingly, all objections are discussed together below,

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with an indication, as applicable, if an objection was raised specifically in one context as opposed to another.

The most common objections made by commenters were:

1. It would cause miscellaneous or general increases in costs and/ or administrative burdens, such as costs and burdens relating to originating or servicing (64 commenters--60 originators/servicers, 3 trade associations, 1 tax service).

2. They were concerned about the specific costs and burdens of consumer disclosure, including producing and mailing disclosures, soliciting preferences, processing disclosures, tracking selection, and maintaining information on selection (50 commenters--45 originators/ servicers, 4 trade associations, 1 financial software company) or opposed the addition of a new disclosure in general (8 commenters--6 originators/servicers, 1 financial software company, 1 person of unknown professional interest).

3. It would require more customer service to explain choices and answer questions for consumers, which would raise costs, workload, and require more staff (46 commenters--41 originators/servicers, 4 trade associations, 1 financial software company).

4. The cost would be passed on to consumers (44 commenters--35 originators/servicers, 6 trade associations, 2 tax services, 1 financial software company).

5. They did not want to make the system and programming changes, acquire the new software, or incur the expense of additional programming that would be needed (38 commenters--32 originators/ servicers, 3 trade associations, 2 financial software companies, 1 tax service).

6. It would cause consumer confusion and consumers would not be able to make an educated choice (30 commenters--25 originators/ servicers, 3 trade associations, 1 financial software company, 1 person of unknown professional interest).

7. They did not want to have to maintain two, or possibly many more, different disbursement systems for every taxing jurisdiction where they service loans (24 commenters--18 originators/servicers, 5 trade associations, 1 tax service).

8. It would lead to more errors and could result in missed payments and interest and penalties (24 commenters--21 originators/servicers, 1 trade association, 1 tax service, 1 financial software company).

9. It would create hardship for taxing authorities (18 commenters), such as increased administrative costs/burden and workload due to lack of uniformity and similar factors (12 originators/servicers), unexpected shortfalls in tax receipts (8 commenters--7 originators/ servicers, 1 trade association), and unspecified or miscellaneous difficulties (2 originators/servicers).

10. It would require additional training of staff (8 commenters--7 originators/servicers, 1 trade association) or require additional staff and/or staff time for processing (13 commenters--12 originators/ servicers, 1 trade association).

11. It would result in impossibilities and impracticalities (15 commenters) including that computer and other systems could not handle Consumer Choice (6 commenters--5 originators/servicers, 1 trade association).

12. It would increase the need for manual processing or interfere with technological advances (12 commenters--10 originators/servicers, 1 tax service, 1 financial software company).

13. It would be less efficient (11 commenters--10 originators/ servicers, 1 trade association).

14. It would result in a loss of uniformity (10 commenters--9 originators/servicers, 1 trade association).

In addition, several commenters indicated that several aspects of the Consumer Choice alternative in the proposed rule were unclear and required further clarification. For example, eight originators/ servicers and a trade association indicated that the proposed rule was not sufficiently clear about what would happen if the customer did not return the format or how a servicer should document that a borrower made no selection. Several commenters recommend