Hurdles of Home Lending
So I picked up the Wall Street Journal recently and read some snips and bits of an article about a guy finding out the pitfalls of today’s lending environment. Mr. Davis has a nearly perfect credit score, equity in his home, considerable savings and a solid pension plan. But he recently found out that his lender didn’t want to refinance his mortgage. The problem?
Mr. Davis’s income-tax return showed he had taken a loss on an investment he made in a small, family-owned business. That was enough to raise doubts about his otherwise strong financial condition.
Three years after the onset of the mortgage crisis, lenders are continuing to tighten credit standards. The initial moves were a natural reaction for a business badly burned by rising delinquencies and defaults. But conditions are now so tight that lenders are frustrating borrowers who have enviable financial situations but still can’t easily satisfy lenders’ rigid checklists.
This one guy…we’ll call him a Wells Fargo rep (wink wink…’cause he is one) was quoted as saying, “The pendulum may have swung too far the other way.” Really? Tell us something we don’t know Mr. Economist. Jeez…we’ve got Government agencies saying they will do one thing (guidelines) and all the lenders overlaying those policies and guidelines with their own filtration system…sometimes flushing the otherwise clean paper down the toilet. Risk “tolerance” ended long ago in the lending world. Underwriter’s fear for their jobs because of the enormous responsibility they have to their responsible party, which is the end investor who is buying the paper from the originating mortgage company (typically referred to as the servicer of the mortgage). CYA is happening everywhere in this industry.
Some analysts thought that by this point in the business cycle, lenders would have started to relax credit conditions slightly after clamping down on the risky bubble-era practices. Instead, the screws are still tightening. This is partly because lenders are taking every precaution to avoid being forced to buy back loans from mortgage investors Fannie Mae and Freddie Mac in the event of default. If you didn’t know, when a borrower defaults…Fannie and Freddie typically buy the loan out of the mortgage-security pool and pursue a workout or foreclosure. But they can force lenders to repurchase loans when they find flaws in the way they were underwritten. Hence, the underwriter is scared. Repurchases were a minor nuisance when defaults were low but have escalated over the past year.
Fannie and Freddie have already tightened their standards: Borrowers with credit scores above 720 accounted for 85% of all loans purchased by Fannie and Freddie last year. But some banks are being even more stringent to prevent repurchases and want several years of pay stubs, tax returns and other paperwork from potential borrowers.
The Wall Street Journal reports that during the first quarter of this year, Freddie kicked $1.3 billion in loans back to lenders, up from $800 million during the year-earlier period. At Fannie, repurchase requests jumped to $1.8 billion from $1.1 billion one year earlier. To be sure, the government has taken steps to keep mortgage spigots open. FHA still allows down payments as low as 3.5%.
Borrowers who have received standard paychecks and have uncomplicated finances generally aren’t getting tripped up. But others face hurdles, such as self-employed borrowers, for example. They document their incomes with tax returns that include business-related write-offs, which might (almost always) understate their cash flow.
Such caution in lending right now is helping to hold down lending completely, despite the lowest interest rates in more than five decades. Remember Mr. Davis? He thought he was exactly the kind of customer lenders love. He hoped to lower his interest rate to less than 5% from the current 6% through a refinance. But his mortgage broker turned down the application, citing the investment-related loss, which Mr. Davis saw as a minor setback rather than a threat to his financial health. Rather than continuing to shop around for a refinancing, Mr. Davis decided to cash in some of his investments and pay off the mortgage.
People with complicated financial situations can still find some willing lenders, but it takes more persistence than most people want to put forth. Heck, don’t make me tell you the story I heard recently of an arranged refinance for a borrower with a very high credit score and lots of home equity and debt payments totaling just 19% of pretax income. The lender was worried about this client’s credit report showing a $14 missed payment to a credit-card company in 2001. The lender insisted on proof the money had been paid, which was impossible to get. That creditor long disappeared and was out of business anyhow! Who cares? Right? I mean, we’re talking nine years ago and it’s $14! This borrower appeased the lender by writing a $14 check, though no one knew where to send it.
I have a client who is a rookie in the NFL and has a contract in black/white paying him close to seven figures. He and his wife want to purchase a home at the price of $279,000. He has an above 800 credit score and all other parameters are impeccable. The underwriter/bank balked because he was recently put on IR for his team and wouldn’t be on the active 40-man roster at the start of the season. When I got the player’s agent involved to uncover the way contracts are paid when a player is on IR (paid in full by the way) and went back to the underwriter/bank, you know what they said? “Once Player X comes off of the IR, who knows if the team will cut him or not, so we are not willing to take the risk.” Unbelievable.
As companies go out of business and the workforce shrinks…and there are job gaps in employment with potential buyers and borrowers…we’re going to see an awful lot of people whose business disappeared unless the banks learn some flexibility.
Until then though…have your blood and urine samples at the ready!
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