The Fed is proposing a rule that would require lenders to make sure borrowers can afford payments before they are issued a mortgage loan.
Isn't that common sense? You would think so but it was the lack of basic, commonsense rules that allowed lenders to give out mortgages to people who clearly couldn’t afford them during the housing bubble. The reckless lending practices resulted in a high volume of defaults that contributed to the financial crisis.
Only now regulators seem to have realized that minimum underwriting standards should be required.
According to the 474-page proposal, a creditor would be prohibited from "making a mortgage loan unless the creditor makes a reasonable and good faith determination, based on verified and documented information, that the consumer will have a reasonable ability to repay the loan, including any mortgage-related obligations (such as property taxes)."
The rule is being made pursuant to the Dodd-Frank Act and would apply to all consumer mortgage loans except equity lines of credit, timeshare plans, temporary loans and reverse mortgages.
Lenders would be required to follow basic underwriting standards, including verifying borrowers' income and assets, employment, debt obligations, monthly debt-to-income ratio, credit history and monthly mortgage payments.
But the problem is the rule doesn't spell out a guideline with numbers or ratios to determine if the borrower can afford the loan. Regulators are expecting lenders to be "reasonable" and use "good faith" to make the determination. Good luck with that!
And since every rule has an exception, here are the exceptions to the proposed rule:
- Lenders could be shielded from liability if they opt to making a qualified mortgage, which would be defined under the rule as a loan that does not contain negative amortization, interest-only payments or a balloon payment. Qualified mortgages would also exclude loan terms exceeding 30 years and loan with total points and fees that exceed 3 percent of the total loan amount. The underwriting of the mortgage would have to be based on the maximum interest rate that applies in the first five years. Don't confuse this with a "qualified residential mortgage," which relates to another rule that regulators are considering.
- Lenders would be allowed to write balloon-payment mortgages in "rural" and "underserved" areas without having to worry about this rule.
- Borrowers, who currently have a "non-standard mortgage" with risky features such a negative amortization loan, would be allowed to refinance with a "standard mortgage," without having to show proof of income and assets.
Do you agree with these exceptions?