Regulation Z and Loan Originator Compensation Agreement

Issue/Inquiry

Is the Bank required to have compensation agreements with its Loan Officers?

Response Summary

In order to demonstrate compliance with the loan originator compensation rules of Regulation Z, as per the amendments of the Dodd-Frank Act to the TILA, a creditor must retain, among other things, a copy of the compensation agreement with the loan originator.

Response Detail

The Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) was enacted into law on July 21, 2010. Among other things, it amended the Truth-in-Lending Act (“TILA”) to impose restrictions on loan originator compensation and prevent steering by loan originators. 75 Federal Register 58509 (September 24, 2010).

Under the loan originator rule of Regulation Z, which implements the TILA, a loan originator cannot receive, directly or indirectly, compensation in an amount that is based on any of the terms or conditions of a transaction. The term “loan originator” defines a person who, in expectation of or for direct or indirect compensation or other monetary gain, performs any of the following activities:

• Takes an application, offers, arranges, assists a consumer in obtaining or applying to obtain, negotiates, or otherwise obtains or makes an extension of consumer credit for another person
• Through advertising or other means of communication, represents to the public that such person can or will perform any of these activities. 12 CFR 1026.36(a)(1)(i).

The “term of a transaction” is any right or obligation of the parties to a credit transaction when a “term”, for example, would include the transaction’s interest rate, annual percentage rate, loan-to-value ratio, or the existence of a prepayment penalty. 12 CFR §1026.36(d)(1).

An exception concerns a consumer credit transaction that is secured by a dwelling. In such case, an individual loan originator may receive compensation in the form of a contribution to a defined contribution plan that is either a designated tax-advantaged plan or a benefit under a defined benefit plan that is a designated tax-advantaged plan. An individual loan originator may also receive compensation under a non-deferred profits-based compensation plan (i.e., any arrangement for the payment of non-deferred compensation that is determined through reference to the profits of the person from the mortgage-related business), provided that:

• The compensation paid to an individual loan originator pursuant to this paragraph (d)(1)(iv) is not directly or indirectly based on the terms of that individual loan originator’s transactions that are subject to this paragraph (d)
• Either the compensation paid to an individual loan originator pursuant does not, in the aggregate, exceed 10 percent of the individual loan originator’s total compensation corresponding to the time period for which the compensation under the non-deferred profits-based compensation plan is paid, or the individual loan originator was a loan originator for ten or fewer transactions subject to this paragraph (d) consummated during the 12-month period preceding the date of the compensation determination. 12 CFR 1026.36(d)(1)(iii),(iv).

In order to demonstrate compliance with the loan originator rule of Regulation Z, a creditor must maintain:

• Records sufficient to evidence all compensation it pays to a loan originator and the compensation agreement that governs those payments for three years after the date of payment
• Records sufficient to evidence all compensation it receives from a creditor, a consumer, or another person; all compensation it pays to any individual loan originator; and the compensation agreement that governs each such receipt or payment, for three years after the date of each such receipt or payment. 12 CFR 1026.25(c)(2).

A compensation agreement includes any agreement, whether verbal, written, or based on a course of conduct that establishes a compensation arrangement between the parties (e.g., a brokerage agreement between a creditor and a mortgage broker, or provisions of employment contracts between a creditor and an individual loan originator employee addressing payment of compensation).

Where a compensation agreement is verbal or based on a course of conduct and cannot be physically maintained, the records to be maintained include evidence, if any, of the existence or terms of the verbal or course of conduct compensation agreement.

Creditors and loan originators are free to specify which transactions are governed by a particular compensation agreement as they see fit. For example, they may stipulate, by the terms of the agreement, that the agreement governs compensation payable on transactions consummated on or after some future effective date (in which case, a prior agreement governs transactions consummated in the meantime). For purposes of applying the record retention requirement to transaction-specific commissions, the relevant compensation agreement for a given transaction is the agreement pursuant to which compensation for that transaction is determined. Official Interpretations, 1026.25(c)(2) – 1.i,ii.

This entry was posted on Monday, April 8th, 2019 at 6:00 am.