New Rules Tighten Mortgage Lending

While lobbyists for smaller banks are still hoping for reprieve, some mortgage bankers in Arkansas seem resigned to — and even slightly relieved by — new regulations put in place by the federal Consumer Finance Protection Bureau.

The CFPB, the controversial bureaucracy created by the Dodd-Frank Act of 2010, finalized the mortgage lending regulations in May 2013 and the major requirements took effect Jan. 10.

Although they required expensive retooling of lending systems, mortgage loan executives say the regulations actually return the industry to the kind of underwriting standards that were typical before mortgage-backed securities became popular investment vehicles in the 2000s — and which quickly regained popularity after the housing crash.

“What we’re doing these days is not very different than what we were doing 10 years ago,” Chuck Quick, president and CEO of IberiaBank Mortgage in Little Rock, said.

“It really isn’t anything different than we have been doing for some time,” said Scott McElmurry, president and CEO of Bank of Little Rock Mortgage.

“There’s no doubt there is more documentation required,” McElmurry said. “More of the documentation now is combating fraud than it is to determine ability to repay.”

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Ability to repay, an old-fashioned concept just a few years back, is now so deeply engrained that mortgage bankers have shortened it to an acronym, ATR. And ATR has become as much a part of the calculus as APR, annual percentage rate, in creating the holy grail of products: QM, a qualified mortgage.

“A Qualified Mortgage is a loan a borrower should be able to repay,” according to a fact sheet issued last month by the CFPB. More specifically, that means:

• The mortgage can’t be too big. A borrower’s total debt-to-income ratio can’t be more than 43 percent.
• The origination fees can’t be too expensive. Points and fees can’t exceed 3 percent on a mortgage of more than $100,000.
• The interest rate can’t be too high. The rate on a qualified first mortgage can’t be more than 1.5 percentage points higher than the average prime rate.

And there’s more: Creative financing, what the CFPB calls “risky features,” such as negative amortization, interest-only mortgages and amortizations longer than 30 years, cannot be part of a QM.

Even short-term amortizations with balloon payments at the end, the kind that have been popular with self-employed borrowers, will have a hard time getting the QM seal of approval because of that ability-to-repay requirement, McElmurry said.

“Under the strictest interpretation, I may have made sure [the borrower] can make the monthly payment, but I have not made sure they can make the balloon payment,” he said.

Will fewer people be able to get the mortgages they seek?

“Maybe around the edges,” McElmurry said. “The vast majority of people who qualified on Jan. 9 still qualified on Jan. 10.”

Lenders and borrowers are not forbidden from making more exotic mortgages, but they will have to either keep some or all of the risk on their own books or find a private secondary market to which to sell them because government-backed Fannie Mae and Freddie Mac can now only buy qualified mortgages. And only QMs can be insured by those other federal agencies: VA, HUD, FHA and USDA.

A secondary market for loans that don’t meet the qualifications hasn’t sprung up, but Quick said it won’t be long.

“There will be a market, and it will probably be here sooner rather than later, for non-QM loans,” he said, predicting that large loan aggregators like Wells Fargo and J.P. Morgan Chase & Co. will be the first to fill the void.

Standard of Care

The CFPB regulations also include a more rigorous system for tracking the originators of loans. Every application and subsequent note, mortgage and deed of trust now includes the Nationwide Mortgage Licensing System & Registry identifying number for the originating organization and for the state-licensed mortgage loan officer, and that number follows the loan officer from employer to employer.

There are two reasons for the new accountability:

• Loan officers now owe a “duty of care” to each borrower, a fiduciary duty to match the mortgage product with the borrower. And one of the old incentives that tempted unscrupulous lenders to steer borrowers into higher-cost mortgages is now against the law: The commissions paid must be the same regardless of the terms of the mortgages originated.

• Borrowers who feel they were not treated fairly during the loan origination process have recourse throughout the life of the loan, which could be 30 years.

This is part of the new regulation that Quick especially likes.

“I like the idea that there is a duty of care from that loan officer,” he said. “Our business needed to be a professional business. You didn’t see it in Arkansas, but it was going on out there that people were making loans to anyone who would walk in without any accountability.”

Now, Quick said, regulators will be able to trace mortgage complaints back to the originating loan officer and take action if an originator is pumping out a high number of problem loans.

The Pendulum Swings

Neither McElmurry nor Quick wholeheartedly embraced the new CFPB mortgage requirements, and both said the pendulum of regulation had swung too far.

“Meeting requirements is now more important than the actual risk,” McElmurry complained.

“I don’t like having an agency that can overrule us,” Quick said.

But Quick paid the CFPB a compliment one rarely hears directed at a bureaucracy:

“The CFPB has made it real clear what they expect, and I think that if they make it clear enough, then we can work with it.”

What’s more, he said, the CFPB has shown leniency even toward mortgage lenders who weren’t able to meet every requirement of the new law by Jan. 10. “They are going to allow you to operate as long as you are moving in the right direction,” he said.

Larger mortgage operations expect mortgage lending to be less profitable because of the requirements, but small banks are worried that the CFPB rules will drive them out of the mortgage business completely.

The Independent Community Bankers of America has succeeded in getting legislation introduced that would give smaller lenders more leeway for holding mortgages in their loan portfolios and to make balloon loans.

The changes have come just in time for what McElmurry said is shaping up to be the first “normal” year for mortgage origination since homebuyer tax credits were introduced in 2008, followed by a rash of refinancing as mortgage rates fell to historic lows.

“At least nationally, we are going to be light on housing units from a population growth standpoint,” he said. “But we need consumer confidence to improve, at least where you aren’t worried about losing your job.”