Is Wall Street Reform Too Hard on Mortgage Borrowers?

Broad, and positive, intentions may be counter-productive

SANTA ANA, CA–(Marketwired – Jul 18, 2013) – Since its passage almost three years ago, the 2010 Dodd-Frank Wall Street reform law has done much to change the mortgage industry. Most borrowers are able to finance and refinance with stable and steady loans, but does Wall Street reform go too far? Does it deny mortgages to well-qualified borrowers?

Christopher Whalen, Executive Vice President with Carrington, a provider of mortgage loans, servicing and real estate brokerage services across the country, thinks the answer is yes.

“Most in real estate agree with the broad intentions of Wall Street reform,” Whalen said. “Unfortunately, when those intentions are translated into thousands of pages of rules, guidelines and regulations the results can be counter-productive. We need to refine Wall Street reform so the results are more inclusive, so more people can get mortgage financing.”

Under the Dodd-Frank Wall Street Reform law, lenders are encouraged to originate “qualified mortgages” (QMs). QMs include FHA, VA and conventional loans bought by Fannie Mae and Freddie Mac as well as some “portfolio” loans, mortgages which lenders originate and then keep. However, QMs do not include many of the loan options which have been available in the past.

“One concern with qualified mortgages is that the regulations work well in some markets but not in others,” said Whalen. “For instance, the maximum size for an FHA loan is generally $729,750 while the limit for conventional financing is $625,500. That sounds like a lot, but the median home price in San Francisco is $947,260. Other major markets are also losing sales because of QM limitations. Think how many additional real estate sales we could have if only mortgage financing was readily available to qualified borrowers?”

Access To Credit

Whalen points out that the Dodd-Frank Wall Street reform law does not just impact borrowers at the top of the marketplace.

“The qualified mortgage guidelines limit points and fees to 3 percent of the amount being financed. If we have a stiff 3-percent standard, many borrowers with weaker credit will be locked out of the market. That’s not the way to expand local real estate sales or maintain home values.”

43 Percent — Or Else

Qualified mortgages, according to the Consumer Financial Protection Bureau, “generally require that the borrower’s monthly debt, including the mortgage, isn’t more than 43 percent of the borrower’s monthly pre-tax income.”

Unfortunately, the 43-percent debt-to-income (DTI) standard leaves many potential homebuyers without financing. It is important to note that the CFPB’s standard for 43 percent DTI is only 5 percent higher than the 38 percent DTI ceiling for subsidized mortgage modifications under the HAMP program. Why should the CFPB’s DTI cap for all borrowers be only 5 percent higher than the cap on programs for borrowers experiencing financial hardship?

How do homeowners get top prices for their homes if qualified borrowers cannot get financing?" There is less real estate demand than would be the case with more flexible underwriting standards

A 2012 study by the American Bankers Association found that “loans with DTI ratios above 43 percent constituted on average 14.3 percent of all mortgages made between October 1, 2010 and April 1, 2012, a period of conservative underwriting. Excluding loans above 43 percent DTI from the Qualified Mortgage definition would unacceptably deny credit to many creditworthy consumers.”

Whalen said, “Lenders need more flexibility to meet the needs of borrowers with unique financial profiles. Not every loan application fits nicely into a given mold. The way QM is designed limits affordable loan programs for many with decent credit.”

Interest Rates

In 2012 interest rates reached record lows, though not everyone could finance or refinance. Part of the problem: Tight credit.

“Tight credit is limiting the ability of would-be homebuyers to take advantage of today’s affordable conditions and likely discouraging many from even trying,” said Chris Herbert, Director of Research at Harvard’s Joint Center for Housing Studies. “At issue is whether, and at what cost, mortgage financing will be available to borrowers across a broad spectrum of incomes, wealth, and credit histories moving forward.”

“There’s little doubt that many lenders will want to make mortgages for new home purchases — but only qualified mortgages,” said Whalen. “While non-QM loans won’t be against the law per se, they’ll be widely shunned by many lenders because of liquidity issues and concerns about the ability to resell such financing in the secondary market.”

Whalen also pointed out that tight credit is not just an issue for borrowers — it’s also an issue for home sellers.

“How do homeowners get top prices for their homes if qualified borrowers cannot get financing?” he asked. “There is less real estate demand than would be the case with more flexible underwriting standards.”

The new ability-to-repay guidelines limit qualified mortgage pricing to levels not far above a base known as the “APOR” or Average Prime Offer Rate. This limit means that it will be difficult if not impossible for many borrowers to get financing.

“People can run into tough times for reasons beyond their control,” said Whalen. “They lose a job for a few months because an employer downsizes, have an auto accident or face a big medical expense. They need a way to rebuild and restart, to get back into real estate without waiting years for credit issues to clear out. Borrowers with less-than-perfect credit form an important part of the marketplace, and yet with the new ability-to-repay rules the financing options available to them have contracted. The result is that fewer homes are being sold. We need a better approach, one which will open more doors to credit, mortgages and homeownership.”