More than four years after the passage of the Dodd-Frank Act, and after months of wrangling and rule-making with two successive federal regulators, the mortgage industry is set to cross the threshold into the post-Qualified Mortgage era in just over three weeks – and they’re taking it slow and careful.
Among the many sweeping changes wrought in the industry by Dodd-Frank, the definition of a “qualified mortgage” (QM) could be one of the most profound. In order to prevent a repeat of some of the worst excesses of the boom, the Dodd-Frank act makes lenders liable if they issue a loan to a consumer without verifying that the homeowner can afford to pay it back. Making sure that a loan meets the Consumer Financial Protection Bureau’s (CFPB) definition of a “qualified mortgage” – in other words, a soundly underwritten loan that a homebuyer should be able to pay back – gives banks a safe harbor from that liability.
What’s more, earlier this year other bank regulators indicated that they were leaning toward making the CFPB’s “qualified mortgage” definition the baseline for the “qualified residential mortgage” (QRM) standard as well, meaning that banks would not be subject to Dodd-Frank’s risk retention requirements if their loans were QM.
The final rules on risk retention have yet to be issued, and regulators have received some recent pushback from critics, including former FDIC head Sheila Bair and former Congressman Barney Frank himself, on the proposed QM-QRM alignment. Even so, the prospect that staying inside the QM lines will both free up bank capital and free banks from legal liabilities has made understanding and implementing the rules the most important task facing many firms in 2014.
Uncertainty Reigns
But even with the QM deadline less than a month away, lenders remain uncertain about how underwriting will work under the new rules. While third party vendors who provide back office and underwriting software have been able to provide updates in order to comply with the new rules, many lenders said that they think many potential problems may only become apparent when lenders begin to attempting to underwrite real live loans.
“In the last maybe four- to six- weeks people have gotten the software and are testing it, and training their people on it. I wouldn’t say people are scrambling, but it’s a challenge to be ready. There’s a lot to learn and a lot to do, and I think there’s still a lot of unanswered questions as to how this is all going to work in January,” said Jon Skarin, senior vice president for federal regulatory and legislative policy at the Massachusetts Bankers Association. “I think everybody would wish we had another three or four months to deal with this.”
The Bay State, with its older and more varied housing stock, may present some unique challenges. Ruth Dillingham, special counsel for First American Title Insurance Co., said one small quirk in the rules that’s been worrying her is the requirement that underwriters independently verify condo fees. It’s unclear which, if any, of the parties involved in a transaction might be “independent” enough to serve as a source for such a figure. “I hear lenders say, ‘Oh, well the appraisers will get that.’ I hear appraisers say, ‘We’ll ask the real estate agent.’ I hear real estate agents saying, ‘How can they call us on [behalf of] buyers when we get a commission from the seller?’” Dillingham said.
To be on the safe side, a lender might want to turn to the trustees of the condo association to verify such a figure, she said. But in a city like Boston, with many condo associations consisting of two or three owners of a triple-decker, with no formal condo board meetings and little to no recordkeeping, even that might prove impossible. Come the beginning of January, many underwriters may find themselves with new instructions from lenders that say, “’Insert name of certifying officer here.’ And [they’ll] say, ‘Uh, I don’t have a certifying officer,’” said Dillingham.
Many expect the implementation of the new rules will be littered with such small stumbling blocks – and given the tightness of current underwriting standards, any one of them could be enough to derail a loan entirely for fear that it won’t be QM. In addition to the condo quirk example that Dillingham points to, borrowers who work as independent contractors – as the vast majority of real estate agents do – may have a tough time meeting the new income verification standards necessary for a loan to be QM.
And in some cases, the property itself may prove problematic. For example, Fannie Mae and Freddie Mac won’t underwrite loans on condo buildings unless a certain percentage of the units are owner-occupied. For now, most lenders are taking the position that if a loan wouldn’t qualify for Fannie and Freddie, it’s de facto non-QM, Skarin said. That means a buyer looking to get into a building that’s under construction may find themselves out of luck, even if their own credit history is spotless.
Exactly how many potential buyers will find themselves outside of the QM definition for one reason or another is the biggest question mark facing the industry. Many community banks and credit unions, which retain the mortgages they issue on their own portfolios, would still be able to lend to buyers who don’t meet the QM standards. But others appear to be taking a wait-and-see attitude.
“How cautious are people going to be in going outside of that QM box? I don’t know. I’ve heard some banks say, ‘We’re going to keep on doing what we always do,’” said Skarin, while others have indicated they’re going to back off from non-QM lending for several months.
Independent mortgage lenders may find themselves in a more ticklish position, since they don’t retain loans themselves. While the vast majority of the loans she deals with will meet QM standards, her firm has begun to establish relationships with other lenders who do portfolio lending who may be able to take on non-QM loans, said Amy Tierce, regional vice president for Fairway Independent Mortgage in Needham.
The only thing that seems certain is that many lenders will be requiring even more documentation in order to close a loan. Several of the lenders Tierce deals with have issued new requirements for certain types of loans – some of which Tierce has never encountered before in her 20-year career. “There’s a certain amount of repositioning and covering of one’s buttocks going on, until the underwriters and the risk people are more are more comfortable,” she said.
Email: csullivan@thewarrengroup.com
