A New Solution for Variable Rate Loan Products

The Federal Reserve will replace the London InterBank Offered Rate (LIBOR) with the Secured Overnight Financing Rate (SOFR) as the primary index for interest rates in 2022. Because LIBOR has served as a foundational interest rate product for so many decades, mortgage lenders are already beginning to prepare for their transition to new processes.

Lenders have been instructed to stop using LIBOR by the end of 2021. The biggest change for lenders will involve loan contracts for both new and existing mortgage loans. Any contract for a loan that is expected to extend beyond the end of 2021 and require a benchmark interest rate should not include LIBOR. Lenders should instead build SOFR into new contracts for adjustable-rate loans, because at this point it is unlikely that an adjustable-rate mortgage originated today will refinance into a new product before LIBOR sunsets.

Lenders can take these three steps now to prepare for the coming change:

First, make sure current mortgage servicing software can support the shift to a new benchmark. The right software will facilitate this change, but only if it offers the right functionality.

Mortgage servicing software should be able to (a) seamlessly integrate the new rate codes for the various SOFR products, (b) utilize an adjustment spread if necessary, (c) easily modify legacy loans to SOFR specifications, (d) ensure that interest rate adjustments can be determined using both LIBOR and the new SOFR products and (e) modify third-party reporting with the new SOFR products.

Second, lenders should create a program to educate staff, so they have the correct answers to borrowers’ questions. If staff members answer questions incorrectly or inconsistently, borrower satisfaction may drop.  

Third, consult legal counsel about creating a plan for all existing contracts.

Read the MBA Newslink article.