Benjamin Giumarra
As a compliance consultant, I’m not always able to deliver good news, so I’m all over this one!
With the Consumer Financial Protection Bureau (CFPB) relaxing certain parts of the Qualified Mortgage (QM) rule effective March 31 (because one day later and no one would have believed it), I thought this was as good a time as ever to revisit the regulatory advantages of small creditor status.
Unfortunately, the March 31 revisions won’t affect very many readers of this article because it basically pertains to balloon payments and rural/underserved areas. But that’s not the “good news” I was referring to. There was another recent change to the QM rule that will help many lenders – I’m talking about expanding the definition of “small creditor.”
The CFPB expanded the definition of “small creditor” in its rule effective Jan. 1. Originally, small creditors were only those institutions with less than $2 billion in assets that originated 500 or fewer mortgages a year. Many organizations, including ours, submitted commentary arguing the original definition was too narrow. One of our arguments was that $2 billion in assets didn’t match up with 500 originated loans – an institution with $2 billion in assets that wasn’t doing 500 loans wasn’t as community-oriented as the CFPB envisioned. Why discourage those institutions from doing loans? Better to raise the cap to match originations with asset size. There was too much incentive to skirt one rule or the other.
Now an institution qualifies as a “small creditor” if it:
Is under $2 billion in assets (this adjusts annually, and is already higher than that); and
Originates fewer than 2,000 mortgage loans that it does not keep in portfolio
Pause on the second point just to appreciate how broad this is. The limit goes from 500 to 2,000. And any loans kept in portfolio are not counted towards the limit!
So for all those institutions that will now qualify as small creditors, let’s talk about what this means to you.
Originating Small Creditor Qualified Mortgages
Surely this is great news for many lenders. With very few regulatory advantages coming down the pike, these lenders should understand and leverage them. Which brings us to the simple question: why is small creditor status so great?
First, it is easier to originate a QM (which protects lenders from ability to repay liability). How?
No need to meet agency guidelines (does not need to pass Fannie/Freddie muster).
No need to meet any numerical debt-to-income ratio (forget about 43 percent).
No need to meet Appendix Q’s underwriting standards (which many would consider rigorous, but even if you don’t, it still turns flexible underwriting standards into strict regulatory guidelines).
Second, it is easier to make non-rebuttable QMs (the very protective kind of QM) as opposed to QMs where the borrower can rebut the presumption of compliance. For small creditors, QMs with APRs within 3.5 points of the APOR will be safe (as opposed to 1.5 points for non-small creditors).
Selling Small Creditor Portfolio QMs
Revival of the private secondary market? Maybe. To retain QM status, a loan originated as a small creditor portfolio QM cannot be sold for three years. At least not to a non-small creditor. These loans can be sold to other small creditors and retain QM status. With the number of institutions that qualify as small creditors greatly increasing this year, perhaps we’ll see a noticeable increase in these private deals.
Buying Small Creditor Portfolio QMs
No, this isn’t just a repeat of the last paragraph. Here’s a totally different thought. Many community lenders need sales volume. When you look around at who has volume, often you find non-depository lenders and brokers doing pretty well. Why wouldn’t these community lenders (many of them now small creditors) consider adding a correspondent or wholesale origination channel?
While community lenders might not want to compete with the “big box” shops with the lowest pricing, maybe they can become a realistic outlet for borrowers on the border of traditional lending limits. A lender can avoid becoming a commodity by competing on price alone and instead leverage its local marketplace knowledge to make smart loans to qualified buyers. And the best part? As small creditors, these loans will be protected from the ability-to-repay regulations. So this is a way to use this regulatory exception to boost business.
I can certainly think of loan examples where it might be tough for a non-depository to find a home for at competitive rates, but that same loan to a local lender might look like a smart deal (and safe QM-wise). What about an 800 FICO loan with 44 percent DTI at 800,000 with a 65 LTV? What about a couple buying a vacation home with a DTI of 50 percent, with one of the borrowers close to finishing medical school? These are pretty safe bets. But they’re both tough to fit into the traditional QM box. Fortunately, small creditor status enables more common-sense underwriting. Hopefully these lenders can capitalize on it!
Ben Giumarra is a risk management consultant with Spillane Consulting. He may be reached at BenGiumarra@SCAPartnering.com.
