Meet the computer that now decides
whether you'll get a mortgage loan
By Michael D. Larson • Bankrate.com

It's not exactly HAL, but chances are a computer system called DU, LP, CLUES or some other acronym-laden name will have a lot to say about whether you get that next mortgage.

These automated underwriting systems, which evaluate loans by running them through computerized scoring and analysis models, have swept through the lending industry during the second half of the 1990s. Designed and marketed by the nation's largest mortgage companies, they simplify the underwriting process for lenders and eliminate costs and closing delays for consumers.

But even though an estimated three-fourths of home lenders now use some kind of automated qualification process, many borrowers don't understand how they can benefit by shopping at one. Without some understanding of these systems and how they work, those customers could end up with sub-par deals.

"It approves people who you never would approve as an underwriter before and the beauty of it is that it standardizes the process," says Kurt Bokenkamp, a vice president at the Chicago-based mortgage company Prism Financial Corp.

"It's all about getting the borrower done faster and getting them into their home quicker with as little pain as possible."

What pain? It used to be getting a decision on a mortgage went something like this: Joe and Jane Smith headed to the lender's office, filled out an application and submitted eight years' worth of bank statements, a note from their employer detailing their earnings during the last 120 months and a pair of sixth grade report cards (preferably demonstrating at least a 3.5 GPA). They wouldn't get a preliminary answer for what seemed like forever and they'd have to hope their 6-month rate lock would extend at least until closing.

Though that scenario exaggerates the details, yesterday's process was longer, tougher, more paperwork-intensive and more nerve-racking. Today, it's an entirely different ballgame, thanks to the automated underwriting systems.

These lending "engines" come in a variety of formats, but the two most widely used were designed by the secondary marketing agencies Fannie Mae and Freddie Mac. They were formally rolled out in 1995 and are dubbed Desktop Underwriter (DU) and Loan Prospector (LP), respectively.

When people shop at automated lenders, they generally deal with loan officers who take their application information. That information is entered into fields on the officers' computers, which have the DU or LP software installed on them.

Lenders have options
Next, lenders have a few options. They can send their applications along to either Fannie Mae via the company's MORNET dial-up network or to Freddie Mac via that company's GoldWorks network. As a third choice, they can connect to either of the agencies through the Internet. The cost to the lender is usually $20 per loan with Freddie Mac or a variety of rates with Fannie Mae, depending on the particular deal that lender has been able to work out with the company.

Computers at the two agencies take over from there, crunching debt-to-income ratios, running loan-to-value calculations and pulling credit score data. In a process that usually takes less than two minutes, their systems then return a recommendation to the lender on each loan.

That recommendation can take a number of different forms, with responses such as "streamlined approval" at one extreme and "caution" at the other. The first means the loan is basically a done deal, as long as the borrower provides a few documents to prove the application information is correct. The latter means the application probably shouldn't be approved unless the borrower can show that extenuating circumstances are to blame for past credit problems. A doctor's note or hospital statement proving a man missed four months' worth of mortgage payments only because he was bedridden and unable to work, for example, might suffice.

"You give information one time and it's carried through the process," says Tom Booker, vice president of technology marketing at Fannie Mae. "The amount of time to provide and know whether you got a loan is in minutes, maybe hours at the worst, vs. weeks or months."

There's more than speedy answers
Consumers can get more than speedy answers. Both Fannie Mae and Freddie Mac say that because they've amassed years of risk-management data from their systems, they have been able to expand the range of products lenders can evaluate electronically. The agencies also say their constant analysis of loan performance data shows they can ease documentation requirements, as well as loosen credit, income and other underwriting assumptions the systems use, without increasing their risk exposure too much.

That means borrowers who once were cast into the "subprime" market, where higher interest rates are the norm, have more choices today. No longer do they have to look at their credit reports, sigh and take it on the chin at a subprime shop. Instead, someone can now go to an automated underwriting-equipped lender and have a fairly decent shot at getting a "conforming" loan -- one that meets Fannie Mae or Freddie Mac guidelines -- at regular market rates.

Thanks to diminished costs and faster approval, lenders have more time to analyze and think, Booker says. And that allows them to "take on different kinds of borrowers with different kinds of needs."

They can "take on borrowers who may have credit histories in their past that may not have allowed them to qualify, or take borrowers who don't have a 20 percent down payment.

"It gives you greater and greater confidence to make broad decisions about that risk you're taking and your ability to reduce it so you can take more on."

Beyond conventional borrowers
Automated underwriting is expanding beyond the world of conventional borrowers. Thanks to upgrades of its system in December 1997 and March 1998, for example, Freddie Mac can now process Department of Veterans Affairs loans and Federal Housing Administration mortgages electronically. Fannie Mae added those capabilities this October and August, and both Fannie Mae and Freddie Mac in recent months threw in the ability to run "Alt A" or "A-" through their systems. These mortgages fall into the gray area between prime and subprime, usually because the borrower has minor income- or debt-related problems.

"We handle a very broad array of loans and it has evolved over time," says Patricia McClung, a Freddie Mac director responsible for LP's Internet-based version. "When we started out, our focus was primarily on traditional, conventional, standard 'A' loans, not a lot of your more unusual types."

While consumers should be able to find automated underwriting-equipped lenders running DU or LP without much trouble, people with superb credit or simple financial histories may want to consider a very large mortgage company when shopping for a loan. That's because some of the biggest lenders have developed their own underwriting engines in-house, allowing them to streamline the lending process even further for borrowers who aren't self-employed, trying to qualify with no income verification or doing anything else out of the ordinary.

Countrywide Credit Industries Inc., for one, conceived of its Countrywide Loan Underwriting Expert System at the beginning of the decade. Since March 1993, the CLUES system has been the underwriting engine of choice throughout the Calabasas, Calif.-based company's nationwide branch network, according to Iain Stobie, senior vice president for artificial intelligence.

"Its job is to make a decision about whether the borrower is a good credit risk, whether they have the ability and the credit history to qualify for the loan and whether the property is good collateral on the loan," he says. By using CLUES, the company is also able to offer strong borrowers a specialized loan that requires hardly any financial statements, pay stubs or other paperwork that can take hours for consumers to dig up.

Very little documentation required
"Pretty much all they have to do is walk into a branch and show their Social Security number," Stobie says. "Using automated underwriting, we can say there's practically no documentation required. Much of the decision is based on the credit report and that's an objective, third-party source of information.

"So really, if you've got good credit, you're almost there."

There are still limits on what technology can do to make home buying quicker and more efficient. Appraisers have to visit homes. Title agents have to trek up to the county courthouse. Inspectors have to test air conditioning and heating systems. But lenders note that even some of this is changing. On streamlined approval loans, for instance, appraisers sometimes don't have to do much more than take photos of the properties and make cursory outdoor inspections. A computerized review of recent sales in the neighborhood and other electronic steps satisfy Fannie Mae and Freddie Mac requirements.

"The biggest thing it's done for us is that it just allows the borrower to get a decision quicker so the borrower can get along with their lives quicker," says Prism's Bokenkamp. "The good credit, decent savings pattern type of borrower that has enough money to actually buy the house will fly through the system much faster.

"A majority of loans are going through automated underwriting at some point in life," he adds, "and it's going to be bigger and bigger in the next couple years."