What Is Loan Servicing?
I'm here to explain loan servicing, which covers the full administrative side of managing a loan right from when it's disbursed until you make that final payment. You need to know how servicers collect your monthly payments, handle taxes, keep records straight, and even how they get paid—I'll include a real-world example to make it clear.
Key Takeaways
- Loan servicing includes all administrative tasks from loan disbursement until the final payment is made.
- The process can be handled by the issuing bank, a specialized non-bank servicer, or a third-party vendor.
- The securitization of loans has made loan servicing less profitable for banks, leading to a growing separate industry.
- Servicers earn their revenue by retaining a small percentage of each loan payment as a servicing fee.
- The loan servicing landscape is shifting, with smaller and non-bank entities filling the market once dominated by large banks.
Understanding the Loan Servicing Process
You should understand that loan servicing can be managed by the bank that issued the loan, a non-bank specialist, or a third-party vendor. It also refers to your responsibility as a borrower to make timely payments of principal and interest to keep your credit in good standing with lenders and credit agencies.
In the past, banks took care of loan servicing as part of their core operations since they originated the loans. That changed with the widespread securitization of loans, which reshaped banking and finance. Once loans, especially mortgages, were bundled into securities and sold off the bank's books, servicing became less profitable than originating new loans.
This led to separating loan servicing from origination and opening it to the market. With the heavy record-keeping involved and borrowers' changing expectations, the industry now relies heavily on technology and software to handle it efficiently.
Loan Servicing Example
Loan servicing has become its own industry. As a servicer, you get compensated by keeping a small percentage of the outstanding balance, called the servicing fee or strip, typically 0.25 to 0.5 percentage points of each payment.
Take this example: if your monthly mortgage payment is $2,000 and the servicing fee is 0.25%, the servicer keeps $5—that's 0.0025 times 2,000—before passing the rest to the note holder.
Key Factors Influencing Loan Servicing Today
Mortgages make up most of the loan servicing market, involving trillions in home loans, while student loan servicing is also a major player. Back in 2018, three companies handled payments for 93% of government-owned student loans, totaling $950 billion from about 30 million borrowers.
Big mortgage servicers are pulling back due to rising regulatory concerns, and smaller regional banks along with non-bank servicers are stepping in. Traditionally, big banks dominated, but now smaller players and non-banks are taking over.
The 2007-2008 financial crisis and mortgage meltdown increased scrutiny on securitization and servicing transfers. This has raised servicing costs compared to pre-crisis levels, with potential for more regulations ahead.
Some servicers are turning to technology to cut compliance costs, and certain banks are refocusing on servicing their own portfolios to maintain ties with retail clients.
The Bottom Line
To wrap this up, loan servicing handles the administrative work from a loan's start to its end, including payments, escrow, and delinquencies. Banks used to manage it, but now specialized companies and non-banks do too, thanks to securitization turning it into an independent field where fees provide compensation. Technology helps cut costs and meet regulations, with mortgages leading and student loans significant. As regulations evolve, smaller banks and non-banks are filling the gap left by big institutions.
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