New mortgage-lending rules designed to curb the abusive practices that were widespread in the lead-up to the financial crisis took effect Friday.
For the most part, the new rules read like common sense, and speak to just how lax lending standards became during the bubble.
But some have expressed concerns that the rules, adopted as part of the Dodd-Frank Act and issued by the Consumer Financial Protection Bureau, could ultimately limit access to credit, particularly for first-time homebuyers and lower-income borrowers.
Broadly speaking, the rules are designed to eliminate incentives that put borrowers into more expensive and risky loans – the kind of loans that defaulted at alarming rates when the housing market crashed. They are also intended to raise standards for mortgage servicers, who were responsible for some of the worst abuses committed in recent years.
There’s an “ability to pay” rule that requires lenders to determine whether a borrower has the ability to repay the loan. This is, in part, a response to the “no-doc” loans that required no documentation. The new rule requires borrowers to turn over financial information that allows a lender to verify a borrower’s current income or assets, debts, employment status, credit history and debt-to-income ratio.
For adjustable-rate mortgages, the lender will typically have to consider the highest interest rate in determining whether a borrower can afford the loan.
The new rules also create a category of loans called qualified mortgages, which are required to meet certain standards. In most cases, a qualified mortgage will require that a borrower’s monthly debt, including the mortgage, not be more than 43 percent of the borrower’s monthly pre-tax income. There are also limits on the amount of upfront points and fees a borrower can be charged in relation to the size of the mortgage.
No risky features
Most qualified mortgages also can’t include risky features, such as an “interest only” period where a borrower pays no principal or a balloon payment at the end of the loan’s term.
If a loan is classified as a qualified mortgage, it means it can be bought or guaranteed by Fannie Mae, Freddie Mac and the Federal Housing Administration, the three government entities that today dominate the mortgage lending market.
Equally important for lenders, issuing a qualified mortgage provides the lender with certain legal protections if the borrower defaults.
Carrie Johnson, senior policy counsel at the Center for Responsible Lending in Washington, said the new rules “strike the right balance of borrower protections and providing access to credit.”
“The CFPB’s rule doesn’t put in a place a one-size-fits-all standard; it puts in place a broad definition that covers an estimated 95 percent of the market, so moving forward that’s not going to have an impact on access to credit,” she said.
Many lenders also say the new rules reflect practices that are already widespread in the industry.
“This is really not a change for us in the way we underwrite our mortgages,” said Ken Sykes, president of North State Bank Mortgage in Raleigh.
Sykes said the new rules are simply a more visible and consumer-friendly way for borrowers to understand and have access to the lending criteria by which they are being judged.
“We don’t think the credit criteria is going to change at all,” he said.
It would be nice to think that such standards aren’t necessary, that the industry has learned its lesson from recent events. But the industry has already shown that it can’t regulate itself, and the same incentives and financial products that played a role in the financial collapse could easily return as the market continues to recover.
The rules are a move toward more transparency and accountability, two things that have been sorely lacking in the finance sector in recent years.
A complete list of the new mortgage rules is available at www.consumerfinance.gov.
Bracken: 919-829-4548 or email@example.com; Twitter: @brackendavid