The Myth of the 20% Down Payment

I wanted to close this week by addressing an issue that I have seen commented upon repeatedly both by the left and the right on the topic of mortgage lending.  When Sheila Bair, FDIC chairwoman, announced the preliminary guidelines for the qualified residential mortgages, she stated that a 20% down payment has worked well for us in the past, so this should be the new standard for qualifying to purchase a home.  Since then, I have observed in blogs and writings from various commentators that there seems to be a general consensus that once upon a time only 20% down mortgages existed and the country was better off for it.  So I decided to do a little research of my own and today I want to debunk the myth of the 20% down payment.

My first source of information on this subject was my own parents.  I began my career in housing finance in 1998, and prior to that date I really did not pay any attention to the housing finance industry.  I think one reason God gives us parents is so that we have an immediate resource at hand for events that happened prior to our own experience.  My parents are actually pretty typical of most Americans their age.  My mother married my father the day after she graduated high school.  They purchased their first home in 1965.  They used his VA entitlement which he earned through having served in the U.S. Air force, and my mother recalls having to bring in "about $100.00" for closing costs.  Their first home cost $16,000.00, brand new from the the builder,  but since their combined income was only about $500.00 a month, a 20% down payment would have been prohibitively expensive.  (That same home is on the tax rolls today for over $100,000)  Their first house payment, escrowed for taxes and insurance, was just over $100.00 a month and my mother worried all the time about how they could afford something so expensive.

My parents lived in the home for 7 years, and then they decided they wanted to move their growing family out to the country.  In 1972 they purchased another home.  Since they had not sold their first home yet, my father sold his new Buick to get 10% down for the purchase of the $36,000 home.  They lived in that home for another 6 six years before moving across the state line to New Mexico.  By that time, having owned and sold two homes, they had acquired enough equity to have a 20% down payment plus money saved to renovate their home.  They had been married for 15 years and had six children.

My parents were excellent home owners.  They never had a late payment on any of their mortgages.  Even during the extremely difficult, financially stressful times when I was a teenager and a young adult, my parents never missed a mortgage payment.  They valued their home and made sure that the payment was made. However, if they had been required to make a 20% down payment to get that first home, they would not have been able to do so when they did.  They would have had to wait much longer and save money, which would have certainly meant a delay in homeownership and might have also meant a delay in starting a family.

An excellent study by Daniel K Fetter at Wellesley College published March 11, 2011, tracks the correlation between low down payment programs such as the VA loan guarantee program and the increase in homeownership.  His findings are very interesting.  In 1920, the average loan to value was 40 to50 percent of the purchase price.  Home ownership was limited to about 45% of the U.S. population.  From 1940 to 1960, homeownership increased from 44% of the population to 62% of the population.  Fetter studied U.S. born males age 18 and up and found that homeownership in this sector increased from 27 to 53%.  His study indicates "39% of the increase from men of age 26 and 26% of the increase for men of age 32 can be attributed to VA home loan benefits."  During the 20 years he studied, the VA required median down payment was about 9% while FHA had a median down payment of about 17%.  However, Fetter also foot notes his report that he has not studied second liens or more lenient terms offered by thrift institutions and Building and Loan Associations which also allowed for smaller down payments. By the 1960's, according to Fetter, homeownership for men in their early 30's had more than doubled. 

In 1977,  a survey of veterans of World War II and the Korean War reported that 3.233 million veterans would not have had enough down payment for their first home without a VA loan.  If you recall, the U.S. did not eliminate the draft until 1973, so most young men did serve in some branch of the U.S. military, either through the draft or through voluntary enlistment.

Of course, not everyone had VA, but a history of the housing markets shows that even those homebuyers who did not have VA entitlement still did not put down 20%.  The Savings and Loans of the 1970s and 1980 often financed homes at 10% to 15% down.  According to a study produced by the Kansas City Fed and published for the Economic Review September/October 1980 issue, "In sample surveys of homebuyers in 1977 and 1979, the U.S. League of Savings Associations, discovered a tendency for down payments to decline as a percentage of purchase price, both for repeat buyers and for first time buyers. The survey results indicate that the proportion of repeat buyers making down payments of less than 20% of the purchase price rose from 24% in 1977 to 39% in 1979.  A much larger share of first-time buyers--62%--made down payments of less than 20%  of the purchase price in 1979, up from 47% in 1977." 

According to a table in Fetter's study, by 1996 the median down payment for a home purchase in the United States was 14%.  According to the 2nd quarter housing conditions' market report by HUD published in August of 1994, FHA and VA loans together totalled about 17% of the market, and privately insured mortgages represented 13.5% of the market.  "Uninsured mortgages continue to dominate the market, with 69.8% of the value of new mortgages," and yet the median down payment for that time was 14%, indicating the trend of 10% to 15% down payments even among conventional mortgage products.  That same report says that in 1994, the median price for a "quality new construction home" was $153,000.

As I was discussing my parents' history of homeownership with them, my father reminded that me that when I was very small he had purchased a second home in the resort area of Ruidoso, New Mexico.  I remember going there once when I was about five years old and wading in the stream that ran beside the house.  I was intrigued at the memory of this "second home" and so I asked him how big a down payment he was required to make, and he replied, "Nothing."  Granted, it was a very small house, so I am sure that the loan was small too, but by anyone's standards it was still a second home.  Apparently, the lending institution just pulled a credit report and loaned him the full purchase price. (Since we only visited the house one time, my parents decided to sell it after a few months.)

Today, we have embraced a theory that a hefty downpayment makes a good homeowner. Sheila Bair and the FDIC may tell us smugly that 20% down was a good standard to use, but the real truth is that 20% down has never been attainable to most young couples starting out or first time home buyers.  And what Ms. Bair and the FDIC totally ignore is that up until now there has been no national, legal, federal standard for what a mortgage should be.  Lending guidelines were determined by the government agency guaranteeing the loan or by the lending institution making the loan.  As a result, lenders could be flexible, and they were. Over the last 70 years, Americans have consistently put less down payment than 20% on their homes even at a time when housing was much cheaper than it is today.  The whole idea that before 1994 everyone in the country had 20% equity in their home is a myth.

The idea that making a down payment makes a borrower responsible is also a myth. In the fall of 2008 our company did a loan for a young man who was buying his first home.  He had inherited a large sum of money from a family member, and he had chosen to purchase a new construction home and pay cash for all of the upgrades.  He financed $90,000 on a purchase of $160,000.  He was serving in the military and had plenty of income to comfortably make the payments on the $90,000 he was borrowing.  The loan was fully underwritten, qualifying him against his income. He and his wife appeared to be thrilled with their purchase.

Four months later I got a phone call from the lender.  The borrower had never made the first payment!  I called the real estate agent who had sold him the house, and the agent tracked down the borrower's wife.  (They had disconnected their email accounts and were refusing to answer the telephone.)  The borrower was still in the military and still earning the same pay that he had been earning prior to closing on the house.  He was simply refusing to make the payments on his home.  He was apparently somehow under the impression that the government would be taking over the job of making mortgage payments, and he was no longer responsible for paying for his house.  We tried repeatedly to reason with him, to explain to him that he would face foreclosure and a sheriff's sale if he did not make the payments and that he would lose not only the house but the large down payment he had made in securing it.  As far as I know, the house did finally go into foreclosure.  His large down payment meant only that the bank did not take a loss on the house--it did not inspire him to be committed to making his payments.

The FDIC, the Federal Reserve, the Consumer Financial Protection Bureau and all of the other existing and soon to be formed agencies that are writing mortgage guidelines need to take a long hard look at the history of lending in the United States.  By requiring excessive down payments, the government is cutting a lot of responsible home buyers out of the market and taking away their chance at the American dream.  But they are not necessarily guaranteeing that those fortunate enough to have the money for a large down payment will necessarily value their investment.

For related posts, visit http://www.frontier2000.net/

Bernanke Speaks

I watched most of Ben Bernanke's press conference today.  It was history making if only for the fact that this was the first press conference in the history of the Federal Reserve.  Bernanke's extreme nervousness was actually apparent on camera.

Beyond the "first ever" aspect of the conference, however, there was nothing noteworthy about it.  Bernanke assured us that he supports a strong dollar and low inflation.  He was asked questions about rising oil prices to which he correctly replied that the Fed can't do anything about oil prices because the Federal Reserve cannot produce more oil.  Apparently the Fed also does not have a bag of jobs for unemployed Americans (you think?) and therefore cannot do anything about long-term unemployment.

One of the final questions of the conference was asked by a CBS reporter who asked Bernanke why he decided to do a press conference and what concerns he had as he anticipated the conference, a question so ridiculously softball that Bernanke responded, "Thanks, Mom," before answering it.

While the conference contained a lot of questions about issues that Bernanke really has no control over--rising gas prices, for instance--it was largely devoid of specific questions about policy and regulations that the Fed does control.  For instance, in discussing the frustration of the American people with the slowness of the recovery, Bernanke mentioned that the crisis was triggered by a bubble in the housing market, and that normally construction in and out of the housing market would be a factor in a recovery, but that no such construction is taking place.

What Bernanke failed to mention, and what the press corps failed to ask, was the impact that specific policies have had on the housing market.  For example, the constraints of the Dodd Frank bill and the Federal Reserve's heavy-handed rule making in response to the bill have already shut down most smaller competitors in the mortgage community.  Small originators and brokers are being forced out of business; small community banks are closing their mortgage departments.  The lack of access to mortgage credit is part of what is tightening credit and keeping a housing recovery from happening.

Yesterday, the Standard & Poors/Case-Shiller index for 20 major U.S. cities was released, indicating a 3.3% drop in housing prices from February of 2010.  According to David Blitzer, chairman of the index committee at Standard & Poors, "There is very little, if any, good news about housing. Prices continue to weaken, while trends in sales and construction are disappointing."

The Fed has announced that its controversial QE2 program will end in June.  When Bernanke was questioned about the possible effects on interest rates, he responded that the quantity of bonds retained by the Fed is more crucial to rates than the quantity purchased, but he also indicated that the board will be making decisions about reducing its portfolio of Treasury and mortgage backed securities.  As that happens, mortgage interest rates will rise.  While higher yields on mortgage-backed securities is good news for investors, it is bad news for homebuyers and borrowers.  And with tight new credit restrictions such as those proposed in the FDIC's Qualified Residential Mortgage plan which would cap debt ratios at 36% of a borrower's income, rising interest rates will make qualifying for a home much more difficult.  According to the Mortgage Bankers' Association only 30% of the loans sold to Fannie Mae and Freddie Mac in 2009 would have qualified under the guidelines of the qualified residential mortgages, but interest rates in 2009 were extremely low.  If rates go to 6.5% or 7%, a 36% debt to income ratio ceiling will make qualifying almost impossible for borrowers.

Maybe a harder line of questioning for Bernanke could have included how the Fed's policies, and the policies of the U.S. government, are cutting off access to credit.  Without access to credit, the economy will continue to plunge into double dip recession and no amount of press conferences and photo ops will save Bernanke from the court of public opinion.

For related posts visit http://www.frontier2000.net/

The Federal Reserve's Newest Proposed Rule--Underwriting Guidelines

On April 19, 2011, the Federal Reserve published a proposed rule to establish minimum underwriting guidelines for mortgages, as required by the Dodd Frank bill.

Last week I wrote about the Qualified Residential Mortgage proposal introduced by the FDIC.  The Federal Reserve's proposed rule is not nearly as detailed as the FDIC QRMs, but the underlying philosophy is pretty similar:

The Federal Reserve's proposal will apply "the ability to repay requirement to all consumer purpose mortgages, (except home equity lines of credit, timeshare plans, reverse mortgages or temporary loans)." To achieve this, the Federal Reserve proposes 4 compliance options 1. General Ability to Repay Standard, 2. Qualified Mortgages,  3. Balloon Payment Qualified Mortgages, 4. Refinancing of a Non Standard Mortgage.   Within each of these 4 compliance option categories are various sublevels of compliance.

For example, to meet the general ability to repay standard, an underwriter needs to consider the following 8 underwriting categories:

1. Income or assets of the borrower
2. Current employment status
3. The monthly payment on the mortgage
4. The monthly payment on any simultaneous mortgage
5. The monthly payment for mortgage related obligations
6. Current debt obligations
7. The monthly debt-to-income ratio or residual income
8. Credit history.

The creditor must also make sure that when he is underwriting an adjustable rate product, he is qualifying the borrower on the fully indexed rate.

The Federal Reserve is also trying to solidify their own definition of a "qualified mortgage" which is interesting since the FDIC is currently seeking comments on its own, massive qualified residential mortgage proposal.  The Federal Reserve's proposal to satisfy this requirement is actually more reasonable than the FDIC's.  The Fed Rule proposal merely says that the QRM should not contain negative amortization, interest-only payments or a balloon payment or exceed 30 years in term.  A QRM also would not have points and fees exceeding 3% of the total loan amount.  Income and assets must be verified to determine ability to repay and the loan must be underwritten using a fully amortized payment schedule over the loan term.

The 3% cap on points and fees is part of the Dodd Frank bill, but it will be interesting to see how that aligns with recently adopted industry practices as part of the loan originator compensation rule.  For instance, under the new rule, originators have a ceiling and a floor for loan origination fees.  If we are originating a loan of $60,000.00 we can set a floor at $1000.00.  However, with lender fees consistently rising (some wholesale lenders are now charging about $800.00 for their administration fees), and with states such as Texas requiring attorney fees as part of the origination fees, that is going to leave very little money for the originator.  If I have to pay the lender $800 and the law firm that prepares the documents an additional $300.00., on a $60,000 loan I am left with only making $700.00.  These fee caps are going to keep a lot of the smaller loans from getting done at all in a situation where the loan originator is commissioned.

Additionally, the Federal Reserve is proposing that the QRMs meet the following additional underwriting standards in which the underwriter considers:

• The consumer's employment status
• The monthly payment for any simultaneous mortgage
• The consumer's current debt obligations
• The monthly debt to income ratio or residual income and
• The consumer's credit history.

Recognizing that rural properties create special challenges for the lending community, the Fed's Rule allows for balloon payment qualified mortgages. "This option is meant to preserve access to credit for consumers located in rural or underserved areas where creditors may originate balloon loans to hedge against interest rate risk for loans held in portfolio."  Under the proposal, balloon payment mortgages with a term of five years or more qualify as long as the loan complies with the other requirements for a qualified mortgage.

Finally, the Federal Reserve's proposal allows a creditor to refinance a non-standard mortgage into a "standard mortgage" using streamline mortgages.  Under this part of the proposal, a creditor would be able to refinance a consumer into a mortgage with caps on points and fees without verifying the consumer's income or assets as long as the other requirements of the ability to repay section have been met.

The Federal Reserve's proposal with lengthen the amount of time that creditor are required to keep files and will prohibit structuring an closed end line of credit as an open ended line to evade the statutes.

While the individual points of this proposal are not bad, I do have a huge issue with codifying underwriting guidelines into federal law.  By setting up federal underwriting guidelines for mortgage lending, the government does not leave any room for the creation of new products or for individual analysis of the borrower's situation.  We see that in a major way with the FDIC's Qualified Residential Mortgages and on a much smaller scale with the Federal Reserve's proposed rule but the basic problem is the same.  The federal government should not be in the business of establishing lending criteria.

Comments are open until July 22, 2011. However, since the Consumer Financial Protection Bureau is scheduled to take over TILA rulemaking on July 21, 2011, the Federal Reserve will not be issuing a final rule. 

For related posts, visit http://www.frontier2000.net/.

Qualified Residential Mortgages--The Worst Idea Yet

Last week, the House Financial Services Committee held a hearing on the new proposed qualified residential mortgages.  Henry V. Cunningham testified on behalf of the Mortgage Bankers' Association about the impact of the new proposed requirements for consumers. The Mortgage Banker's Association is one of a number of groups to include the National Association of Realtors, and several consumer advocacy groups to oppose this new proposed rule.  And as we read the rule, we can see why. Of all of the proposals that I have seen over the past three years, the Qualified Residential Mortgage reigns supreme as the worst, and I am including the Federal Reserve's loan originator compensation rule which was just implemented on April 6 in that statement.

Why?  The other proposals and rules primarily hurt and discriminated against small business people.  But the QRMs are aimed squarely at the consumer.  The Qualified Residential Mortgages declare open war on the American dream of homeownership and put that dream out of the reach of most Americans.  Qualified Residential Mortgages make downpayment and qualification requirements so strict that even financially strong, creditworthy borrowers cannot qualify for a residential mortgage.

The new proposed guidelines require a 20% down payment for a purchase, 25% equity for a refinance and 30% equity for a cash-out refinance. The borrower's debt to income ratio cannot exceed 28% for his housing ratio to his income and 36% for his total debts to his gross income.  As Cunningham points out in his testimony, these ratios do not have compensating factors--allowing, for example, high cash reserves to be used to offset a higher ratio.  As an additional blow, any borrower with a 60 day delinquency on his credit report will not qualify for a QRM.

Using these guidelines, only 20% of the loans sold to Fannie and Freddie over the last 10 years would have met the criteria of a QRM.  The Federal Housing Finance Authority found that less than one-third of loans sold to Fannie and Freddie in 2009 would have met the QRM guidelines, and 2009 was one of the strictest underwriting years on record.

To put this in perspective, I went through the files that I have done this year for my borrowers.  I have an upper middle-class customer base of professionals who have used me almost exclusively for their financing over the years that we have worked together, so I thought it would be interesting to see how their credit profiles would align with the QRM guidelines.

Borrower # 1 owns a catering company here in the area.  She does catering for government functions, and she also sells speciality items to restaurants.  In February, she wanted a rate and term refinance for her primary residence.  She has excellent credit and is filing a low six figure income on her tax returns, but she and her husband are getting older.  She had previously refinanced her home on a 15 year loan in 2008 and she wanted to take advantage of the lower rates and drop from a 5.875% to a 4.5% rate on her home. Her credit scores are low 700s.  Borrower # 1 would not qualify for a mortgage refinance under the QRM proposal because her debt to income ratio is 49% and her loan to value is 79%, so she would not be able to take advantage of the lower rates which shaved 1.375% off her interest rate and $450.00 a month off of her payment.

Borrower # 2 is a physician who works for a hospital.  He is single and he owns a primary residence, a second home in another city in Texas, and he is also making payments on view lots that he purchased a couple of years ago for nearly $500,000 on which he plans to someday build his dream home.  Borrower #2 is making over $500,000 a year and has no dependents, but part of his income is bonused at the end of the year, so the underwriter does not consider it in the income calculations.  His 797 mid credit score and many years of credit history combined with his retirement accounts containing several hundred thousand dollars make him a good credit risk. Borrower #2 recently decided to refinance both his home and his second home to take advantage of lower rates. Under the QRM proposal, Borrower #2 would not qualify, because the underwriter qualifies him only on a small portion of his income and with all of the mortgage payments he is making on his three properties, plus his two car payments, his debt ratio is 40%.

Borrower #3 is also a physician.  Borrower #3 has a family, and they want to purchase a bigger home more suitable for their growing situation.  Borrower #3 has an income of about $300,000, but he just received a bonus of $500,000 which he used to pay off his existing home since he has not been able to sell it.  Borrower #3 married later in life and his final holdover from his bachelor days is an expensive collection of luxury vehicles, part of which he is still making payments on.  He is financing only 80% of the sales price of his new home, but he still has to qualify against the property taxes on his existing home and the homeowners insurance on his existing home. Since Texas property taxes are very high, those payments are considerable. He also has a small collection item that he recently paid.  Borrower #3 would not qualify under the QRM because even though his debt ratio is only 34%, he had an account that went into collections so he would violate the 60 day delinquency part of the rule.

Finally Borrower #4 is a financial planner who makes $300,000 a year.  He recently married and he is selling his home.  With his child support, his car payments, his wife's new car payment, and his credit card debt, he has a 40% debt to income ratio for the new house he is purchasing. In addition, Borrower #4 wants to put only 10% down on the purchase of his house so he is seeking a first and a second lien. Borrower #4 has a lot of money in investments and a 710 score, but his debts are too high and his down payment is too small to meet QRM guidelines.

All of these borrowers are considered strong and an excellent credit risk, but none of them would qualify for financing under the QRM proposal.  In fact, Standard & Poors released their findings of the Qualified Residential Mortgage rules last week.  According to their findings, the QRMs will produce higher quality originations, but they will constrict credit and cause housing prices to continue to plummet.  I don't doubt that the QRMs will produce lower-risk mortgages; the lowest risk loan is the one that is not made at all. I am reminded of the Book of Proverbs, "An empty stable never needs cleaning, but there is no income from an empty stable."

We keep hearing from the FDIC that the QRMs are to be a "small slice of the market" and that the great majority of mortgage loans will require 5% risk retention by the originator.  These loans will supposedly offer expanded lending guidelines.  But a little industry experience teaches us that this is not true.  Portfolio loans, while traditionally having somewhat more flexible guidelines, usually require a lot of down payment.  For examples, look at the old World Savings portfolio loans.  These were basically 20 to 30% down payment stated loans.  The security that World Savings had was the down payment.  As Cunningham points out in his testimony, most private portfolio loans today have to loan values near 60%. For example, residential mortgages originated through some major insurance and investment companies offer really low interest rate ARMs with down payments between 30 and 40%.  The strong equity position of the lender protects them against default. So if the QRM guidelines become the standard for what a safe loan should be, we are very naive to think that large banking entities which are forced to retain 5% of the loan for the life of the loan are going to rush to create a lower down payment product.  That's just not the way it works.

Where the risk retention products will step in, I believe, is in allowing higher debt to income ratios.  Rather than requiring a 36% debt to income ratio, they may allow up to a 45% ratio.  That allows them to loan to these high quality borrowers who cannot meet QRM guidelines.  And since industry experts estimate that the costs for a non QRM mortgage could be 3 times as high as for a QRM, the mega banks and portfolio lenders can earn a high premium for cutting these solid borrowers a little bit of a break.

Loans made to Fannie and Freddie are to be excluded from the risk retention provisions as long as Fannie and Freddie remain in conservatorship.  However, Cunningham's testimony raised the excellent point that we have no reason to believe that Fannie Mae and Freddie Mac will have looser guidelines than those stated in the QRMs.  In fact, if the two agencies follow their usual course they will have tighter guidelines than the QRMs since both Fannie and Freddie are being phased out and are currently being charged with reducing their portfolios.

The comment period for the current proposal for Qualified Residential Mortgages ends June 10.  It is imperative that the FDIC receive as many comments on this issue as possible.  Make no mistake--the QRM guidelines being presented by the FDIC will shut the majority of Americans out of the possibility of home ownership and will turn creditworthy people into life-long renters.   Homeownership is one of the greatest wealth building tools that we possess as a nation, and to deny middle class and upper middle class families access to credit is wrong.  Speak up today before these guidelines are published into a final rule.

For related posts, visit http://www.frontier2000.net/.

New FHA Premiums Go into Effect Today

Last May, I wrote a post for this blog entitled, "Every Loan a Government Loan" in which I talked about the proposed bill by Maxine Waters to statutorily raise the FHA annual premium from .55% to 1.55% and the annual to a maximum of 3%. At the time, HUD was looking for assistance from the Realtor community to lobby Congress on behalf of the change. One of the Realtors I know who was reading the blog sent a copy to David Stevens, FHA commissioner, to ask him whether the information contained in it was true. Stevens promptly responded with a personal email to me and to the real estate agent that the information was in fact not true. Stevens wrote, "The current premium is 2.25% up front and .55% annually. Under the legislation, FHA will have the authority to raise the annual higher but as stated the fees will be changed as follows: the upfront will drop from 2.25% to 1% and the annual will go from .55% to .90%. the trade off is easier for the market by lowering the upfront it impacts initial equity less and the trade off is the increase to the annual." When in a response email I pressed him on the fact that the verbiage of the bill allows FHA to increase their premium to 1.55%, Stevens replied that the increased premium gives FHA room for years to come without going back to Congress for authorization.

Fast forward eleven months later. New premium increases, announced by FHA on February 14, 2011, go into effect today, April 18, 2011, and raise the annual premium for loans at less than 95% loan to value from .90% to 1.10%. Loans at greater than 95% will see an annual premium jump from .90% to 1.15%. Loans under 90% loan to value that previously did not have annual MI will see .25% annual MI for case numbers assigned after April 18, 2011 and those between 90-95% will now have annual MI of .50%. The upfront MI remains at 1%.

Why, you may ask, would the government want to increase FHA premiums right now just  as we enter the home buying season?  Housing sales are perilously slow and many experts are predicting a double dip in housing prices this spring.  At a time when both Congress and the White House seek to phase out Fannie and Freddie, why raise the premiums on FHA?  Simply put, part of the Administration's Housing Plan announced in mid February of this year is to reduce the role of FHA while closing down Fannie and Freddie. Remember that the Administration's goal for housing is to find solutions through "robust" private market initiatives--a lofty goal considering that the same Administration is heaping on more regulations to the lending world than ever before.

"In addition to winding down Fannie Mae and Freddie Mac, FHA should return to its pre-crisis role as a targeted provider of mortgage credit access for low- and moderate-income Americans and first time home buyers. (Today, FHA's market share is nearly 30%, compared to its historic role of between 10-15% percent.) As Fannie Mae and Freddie Mac's presence in the market shrinks, the Administration will coordinate program changes at FHA to ensure that the private market--not FHA--picks up that new market share." (The Obama Administration's Housing Finance Plan, released in February.)

Although the Housing Finance Plan gives FHA currently a nearly 30% market share, Housing Wire estimates that 40% of all purchase loans originated in 2010 were FHA loans. What is very interesting is that the Housing Plan wants to return FHA to their historic levels of 10-15%. And over the course of their existence--since the 1930's--that may be an accurate average. However, by 2006, just before the housing collapse, FHA had between 2-4% of total market share. The product had become obsolete as it had been crowded out by "robust" private market solutions. FHA's 3% down payment (which is now 3.5%) could not compete with private market solutions of 100% financing and sometimes greater. Also, because FHA had guidelines that prevented most small brokers from qualifying to sell the product, they had limited access to the consumer in a mortgage market driven by mortgage brokers and independent originators. Those factors, coupled with the fact that FHA had comparatively low loan limits, meant that their market share had dried up so much that many believed that the program had outlived its usefulness.

Today, however, FHA is responsible for 40% of purchase loans--up from no more than 4% five years ago! So who pulled FHA off life supports, resuscitated the program, and transformed it into a primary provider of mortgage money? The government, of course. As part of the Economic Stimulus Act of 2008, FHA's loan limits were raised to up to $729,750 for high costs areas, with a floor of $271,050. for all areas. In Alaska, Hawaii, the Virgin Islands and Guam FHA loan limits are $1,094,625.00. By changing the requirements for qualifying income and raising the loan limits, a product that could not compete with private market products became the financing vehicle of choice for nearly everyone who could qualify for it.

Now, however, the Administration wants to scale FHA usage back. One way to accomplish this is to raise the fees to make it less competitive. "As we begin to pursue increased pricing for guarantees at Fannie Mae and Freddie Mac, we will also increase the price of FHA mortgage insurance. We have already acted on this front, raising premiums two times since the beginning of this Administration. And we will put in place another 25 basis point increase in the annual mortgage insurance premium that is detailed in the President's 2012 Budget. This will continue the ongoing effort to strengthen the capital reserve account of FHA, and put it in a better position to gradually shrink its market share."

Other goals to reduce FHA market share include decreasing the FHA loan limits. The Administration is going to let the present limits expire on October 1 and then will review whether to further decrease the loan limits. Historically, the FHA loan limits have been 115% of the median housing prices of the markets they serve. Going forward, "the Administration will make sure that creditworthy borrowers that have incomes up to the median level for their area will have access to these mortgages [FHA], but we will do so in a way that does not allow FHA to expand during normal economic times to a share of the market that is unhealthy and unsustainable."

To put this in perspective, I did a little research. According to Census.gov, in 2008 the median household income in El Paso, Texas was $36,519.00; the median income for the state of Texas was $50,049. The median home price in El Paso, Texas in 2009 was $115,300, and the median home price for the state of Texas was $125,800. So to qualify to use FHA, under the Administration's proposed guidelines, a young couple purchasing a home in El Paso needs to have a combined income of no more than $36,519.00 and be purchasing a home costing no more than $132,595.00. The Housing Plan also proposes raising the required down payment for FHA loans so that borrowers have a greater investment in their home.

We are not supposed to be concerned about this credit tightening, because the private market is supposed to make up the difference with new mortgage products. But in the new world of Dodd Frank, where products that the government considers higher risk require that the originator retain 5% of the loan in their portfolio, aggressive new products may be very hard to find. And since the Dodd Frank bill automatically exempts FHA mortgages from the 5% risk retention rule and treats them as qualified residential mortgages, lenders will continue to try to put as many borrowers into these loans as possible, no matter how difficult qualifying becomes.

For related posts go to http://www.frontier2000.net/

Responsible Borrowing and Defense to Foreclosure

In 1953 my grandmother went through a divorce at a time when very few people living in middle America got divorces. Abandoned by her husband at about thirty years of age, she and her three young children (all under the age of 10) moved back to the tiny town of Parsons, Kansas, where her parents and siblings lived. My grandmother moved in with her mother and father and got a job in town which barely covered the expenses for herself and her children. After a short time, she realized that she needed a loan from the local bank in order to make ends meet.

My grandmother did not have credit or any collateral, but she hoped that her family's long-time presence in the community would help her in securing the small loan she needed. When she talked to the banker, she told him that her father would be willing to co-sign for her for the loan. The banker's only question was, "Who is your father?"

"Harlan Stringer," replied my grandmother.

"In that case, I don't need a co-signer," replied the banker. "I know your father. If you don't pay this money back, he will, whether he co-signed for it or not." She left the bank with the money, which she did pay back in full from her meager wages.

My great-grandparents were fairly typical of Depression-era families. They never had any extra money, but they raised a garden and a cow which allowed them to feed their own six children plus six extra children from town every night. (Each of their children had instructions to bring home one classmate from school each night for dinner, but to rotate the children so that all of the classmates could come out to the farm and eat. Children who lived in town often went hungry, so it was important that the invitations be extended to everyone since the Stringers raised their own food so they always had plenty to eat.) My great-grandfather eventually went to work for the railroad, and after he retired he stayed home and kept the garden, raised and sold chickens and fished. At that point, my great-grandmother got a job in town where she worked until well into her seventies.

They had no expectation of wealth--no concept of winning the lottery or some other contest that would bring a windfall into their lives. They expected to work for whatever they received and to pay for whatever they owned. They did not borrow money carelessly, because their sense of honor required that debts had to be paid--even if the debt were for an adult child who had borrowed the money because of a personal crisis but could not afford to repay the loan.

We hear a lot of comparisons today between our present day crisis, "The Great Recession," and the "The Great Depression" but I really don't think that it is fair to compare our society with the generation from 70 years ago who weathered that storm. The Depression-era generation was not as sophisticated as we are today and not nearly as well educated or well traveled, but they had a sense of values that our generation cannot begin to understand.

Today, we hear a lot about responsible lending but virtually nothing about responsible borrowing. By portraying  the borrower as the perpetual victim who is not responsible for the choices he makes, we are creating a society in which lending is almost impossible.  As an example, the Dodd Frank bill contains defense to foreclosure provisions which will become law in July, 2011.  Section 1413 of the Dodd Frank bill,  "Permits borrower to assert a defense to foreclosure against creditor or assignee or other holder of mortgage loan in judicial or non judicial foreclosure or any other action to collect debt in connection with mortgage loan when there is a violation of anti-steering and ability to repay provisions. Claim can lead to actual damages, statutory damages and enhanced damages including return of finance charges." (Quote taken from a 16 page summary of the mortgage provisions of Dodd-Frank).

Notice, that the claim can be against "creditor or assignee," which means that a current servicer of a closed, sold loan can be forced to pay "enhanced damages" if either the ability to repay or loan officer compensation statutes are violated. Of course, the "qualified residential mortgages" which are now being developed create a "safe harbor" for lenders, but that safe harbor can be rebutted in a legal argument.

Dodd Frank establishes prohibitions on "steering" by prohibiting payments to loan originators based on the terms of the loan and it prohibits the loan originator from receiving compensation from both the consumer and the lender. The "safe harbor" provisions also put a 3% cap on the total of broker and lender fees.

The bill further puts the penalty for violations of the compensation rules and "duty of care" on the shoulders of the loan originators as well as the servicers. Not only can violations be used as "defense to foreclosure" for the life of the loan, but the individual loan originator can be held liable for penalties of the greater of actual damages or an amount equal to 3 times the total amount of compensation or "gain" received by the loan originator plus costs and reasonable attorney fees.

In other words, if a consumer stops paying his mortgage, for whatever reason, and the lender starts the foreclosure process, if the attorney can argue successfully that the loan originator compensation rules were violated in any way or that loan originator did not meet the "duty of care" requirements, the loan originator is required to pay back the greater of whatever damages the court awards to the consumer or 3 times his compensation plus attorney fees and closing costs.

So let's see how this might look: John originates a loan for Sally for a $300,000 home. He knows that the new compensation rules do not allow him to collect money from both Sally and the lender, so he chooses consumer paid compensation of 1% or $3000.00. Sally receives a base salary from the office machines company where she works plus bonus. Since she has been receiving the bonus for the last two years, John uses the bonus as part of her income. Sally gets the loan. One year later, the office equipment company files bankruptcy and Sally loses her job. Since she is not able to find a job right away, she cannot make her payments on the house, and soon her current servicer begins foreclosure proceedings.

Sally gets an attorney who argues that she was not qualified properly with regard to her income because her bonus was used to qualify her and everyone knows that bonuses are discretionary. Without the bonus, she would not have qualified. Under the "defense to foreclosure" rules, Sally's home is now safe and she does not have to worry about making the payments. In the course of the attorney's investigation, he finds out that John's company is structured as a corporation rather than a sole proprietorship. Although he was self- employed, the judge rules that he does not meet the "salaried" requirements of the Federal Reserve interpretation of the loan originator compensation rule. So the judge rules that two violations have occurred.

Because of these violations, Sally's lender cannot foreclose on her even though she is not making the payments and in fact cannot afford to. And since the "defense of foreclosre" applies to the life of the loan, even when she gets a job and is able to make the payment, she can still live in her home without making hte payment and without fear of foreclosure. John, on the other hand, is now liable for $9000.00 plus attorney fees and court costs for originating a loan that he worked hard on and believed was perfectly fine. If he is like most loan originators today, John won't have the money, so the judgment will actually cost him his business.

Sound far fetched? It isn't. We are rapidly creating a world where consumers have no responsibility for their choices or actions. Even though no one coerced Sally to purchase a $300,000 home and in fact when she bought the house she would have been insulted at the implication that she could not afford to live there, as soon as she starts having financial difficulties, the purchase of the home and the loan that made it possible is everyone's fault but her own. Meanwhile, John who has worked hard and survived three years of real estate drought, is out of business because of regulations he did not even understand he was disregarding.

I learned last week that my local bank where I have my personal accounts has closed its residential mortgage department due in part to the defense to foreclosure provisions of Dodd Frank.  So a long-time customer of the bank who has trusted his local community bankers to handle his finances will now have to go elsewhere for mortgage money.  And I believe this is beginning of a trend which is going to lead to most smaller players exiting the mortgage origination market.  That leads to fewer choices for consumers and higher prices.  If we want to create a climate where originators will be able to do their jobs, we have to return to standards of personal responsibility and free enterprise. A basic fact of lending is that the only incentive that lenders have to make large personal loans in the form of residential mortgages is the collateral of the home and the lender's right to foreclose on it. As we make foreclosure impossible, we also make mortgage lending impossible. And by punishing the delivery system for mortgages, which is the loan originator, we create a system where no housing loans exist at all.

For related posts, visit http://www.frontier2000.net/.

Using Home Path to Close Sales

With all of the bad news circulating around us, it is nice to be able to report a little good news for a change. On April 11, Fannie Mae introduced some new incentives to make their REO properties more attractive for the potential borrowers.

I have written about the Home Path program before.  By logging on to http://www.fanniemae.com/ and then clicking the Home Path tab, borrowers and their agents can get a list of Fannie Mae owned foreclosures in their area which are eligible for the Home Path program.  Borrowers wishing to purchase these properties as a primary residence need only 3% down (which is less than the 3.5% down required by FHA).  The loans are available at competitive interest rates with no mortgage insurance, which saves the borrower considerable money. 

I have closed one Home Path loan.  Mine was for an investment property (yes, Home Path works on second homes and investments also.)  The borrower was purchasing a $400,000 Fannie Mae-owned home.  He could have gotten up to 90% financing with no mortgage insurance, but because he had the funds and wanted the lowest interest rate he could get, he decided to make a 25% down payment.  (The interest rate is closely tied to the down payment on a HomePath--borrowers are basically paying financing into the  interest rate for the privilege of making a smaller down payment.) 

The Home Path loan is underwritten very much to normal Fannie Mae guidelines except that it does not require an appraisal.  And as we near a potential double dip which threatens to further reduce home values, not having an appraisal can save the deal.  Remember that Fannie Mae currently owns these homes and Fannie Mae is providing the new financing on them, so Fannie accepts the sales price as the value of the property.

Our investor allowed the seller to pay up to 2% of the buyer's closing costs because ours was an investment property.  Check with your individual investor on this before making any promises; lenders have significant overlays.

Yes, Fannie Mae does pay real estate agents a commission.  That was a question in the comments' section the last time I wrote about this subject, and I now have verified first-hand experience to back up my assertion that they do. Think Big Work Small reported that Fannie is offering an additional $500.00 bonus to the agent for a limited time, but I was unable to verify that on the Fannie Mae website.

Now for the new incentives:  starting April 11, Fannie Mae is offering to pay 3.5% of the borrower's closing costs on the purchase of a Home Path home.  The initial offer must be presented after April 11 and must close before June 30.  This closing cost incentive applies only to borrowers who will reside in the home as their primary residences--no investors can use the closing cost incentive.

So let's look at what this would mean.  Even if the loan originator's compensation is consumer-paid, 3.5% should cover all of the closing costs, and he should need only the 3% down payment.  And according to the posted Home Path guidelines, the entire down payment can come from a gift, a grant, a loan from a non-profit organization or an employer.  A young couple getting a wedding gift from the parents of $6000.00 could use those funds as the down payment on a $200,000 home and need no other cash out of pocket.

One last item to remember--not all wholesalers or loan originators offer the Home Path program.  You may need to do some checking to see who in your area can finance these deals.

As with any REO, Home Path loans require that the closing package go to Fannie Mae for review 72 hours before the borrower signs, so plan your closings accordingly.  And use this program this spring to sell some houses, take some foreclosures off the market, and earn some money.

Alexandra Swann is the author of No Regrets: How Homeschooling Earned me a Master's Degree at Age Sixteen and several other books. For more information, visit her website at http://www.frontier2000.net

Staying in Compliance: The Mortgage Call Reports

As a licensed mortgage broker in Texas since 2000, I was accustomed to having to prepare a mortgage report for the state each year prior to February 28.  Texas required that each mortgage broker prepare a report for himself and each loan officer who was licensed under him.  Since Texas also required that we log incoming files, closed files, and withdrawn or denied files, we learned to set up our filing system to make year end report preparation easier.  For example, for a few years Texas was tracking the number and dollar amount of Texas cash out loans closed.  To make it easier to prepare these reports, we set up a log devoted especially to Texas cash out loans.  At the end of the year, I knew that all I had to do was count those files and total the dollar amounts in order to submit my report to the state.  Likewise, Texas tracked jumbo files, so I had a log devoted to jumbos so that I could prepare that part of the report easily.

Since I always knew that I had to do the report, and since we were organized in such a way to make preparation less painful, I got used to preparing the report each year during the first week of January when the forms became available on the Texas state mortgage lending website.  I was very surprised, therefore, to see that this year no report was posted.  I waited a couple of weeks to see if they were just behind in setting up the report, since I knew that the state regulators had their hands full with getting the state licensees converted to the NMLS system, but after a couple of weeks when the website still showed no links for our broker report, I called the state.  "You don't have to do one this year," the young man working in broker compliance cheerfully informed me, "Isn't that great!"

Actually, it was kind of great.  Of course I knew that NMLS would have its own reporting system, and that system is now in place.  Instead of our former state reports that we as designated brokers produced, we will now be completing the Mortgage Call Reports.  Mortgage Call Reports are to be prepared quarterly by each loan originator.  The first report will not be available until May 2; it is due by May 15.  Failure to complete a report and upload it in a timely manner is cause for license suspension. (The same was true in the case of our Texas annual reports.)

While the NMLS system is not yet ready to receive our uploaded reports, they do have sample PDF files on line that we can look at to the see the type of information required.  For a true broker, as I am, the report is not really all that bad.  As in the case of the old state reports, we have to complete the dollar amount and number of each type of loan originated (conventional, FHA, VA or Rural).  Reverse mortgages are in a separate listing.  Home purchases and refinances are broken out separately to be listed by number of such loans originated and dollar amount of the loans.

One noticable difference between the state report and the NMLS call report is that the call report requires that we state the total dollar amount of the broker fees and lender fees on our transactions for the quarter.  Listing our compensation seems to be to be an odd requirement for a federal report and it is going to require that we have our HUD settlement statements at hand while doing our computations.  The report also asks us to list the number of applications in process at the beginning of the quarter, the number of approved applications withdrawn by applicants and the number of denied applications.  This is a big departure from our state report which required information on closed loans only.

The facts I have presented above apply to mortgage brokers only.  Bankers and companies which sell directly to Fannie Mae and Freddie Mac have to complete a more difficult detailed report.

Fortunately, (I guess) the first quarter has been slow, so compiling all of the information for the report should not be that difficult.  And to assist us in preparation of our Call Report NMLS is scheduling workshops to teach us how to complete the forms. Information on the workshops has been posted to the NMLS website:

http://mortgage.nationwidelicensingsystem.org/news/events/Pages/MCRWorkshop.aspx.   Workshop trainers include Tim Lange, Senior Director--Policy, State Regulatory Registry LLC, Tia Ryan, Manager--Operations State Regulatory Registry LLC, Rich Cortes--Principal Financial Examiner, Connecticut Department of Banking and Darin Domingue--Deputy Chief Examiner, Louisana Office of Financial Institutions.

The workshops are basically a moderated conference call and webinar.  Participants will learn the following:

1. Policies regarding who needs to submit the Call Report and when
2. Directions on which portions of the Call Report need to be completed by which companies.
3. Resources for how to complete the report, including field definitions.
4. Overview of the options for uploading the Call Report data to NMLS
5. Understanding how the data is used by regulators.

The cost to participate is $35.00, but considering that our licenses and ability to work hinge on getting this right, that is money well spent.  Following are the dates for the workshops.

Thursday, April 14, 2011 from 2:00 - 3:30 pm ET
Thursday, May 5, 2011 from 1:30 - 3:00 pm ET
Tuesday, May 10, 2011 from 1:30 - 3:00 pm ET

Participants must register to take the webinar, and participants need to create a log-in ID on the CSBS website.  You cannot use your NMLS log in ID to register.  The dial-in number and link to the webinar will be emailed to registrants 48 hours before the workshop, so anyone out there wanting to participate in Thursday's webinar needs to register ASAP.

I realize that there are some great discussion groups out there on various social networking sites about completing the Call Report.  But it can never hurt to get facts and training straight from the regulators. 

I would like to especially thank David Dulock and the team of Black Mann & Graham for providing me with the information for today's post.

Good luck to everyone.

For related posts, visit http://www.frontier2000.net/.

Barney Frank, the Durbin Amendment and Swipe Fees

How would you like to have your name on a piece of major legislation and then find yourself supporting a second piece of legislation that blocks part of it?  That is the awkward position that Congressman Barney Frank, (D-MA) now finds himself in.  Barney is the "Frank" in "Dodd Frank" but last week he agreed to support HR 1081 which will delay implementation of the Durbin amendment which regulates debit card "swipe fees."  Last week HR 1081 had 71 supporters in the house. A companion bill in the Senate (S 575) by Jon Tester(D-MT) also seeks to delay the Federal Reserve from implementing the Durbin amendment. Tester's bill S 575, introduced March 15, "The Debit Interchange Fee Study Act" would suspend implementation of the proposed rule on debit fees for two years and call for a one year study of debit interchange fees.

Frank's support of the amendment is by no means altruistic.  The Durbin Amendment has powerful enemies (Jamie Dimon, CEO of JP Morgan Chase has referred to the Durbin Amendment as price fixing.)  And the outcry against the Durbin amendment is apparently having an effect--Fed Reserve chair Ben Bernanke says that the Federal Reserve will not be ready with its interim rule on swipe fees in time to meet the April deadline. (I notice that the Fed had no such trouble meeting its deadlines on the loan origination compensation issues.) 

The issue here will sound very familiar to those of us who have just suffered through the loan originator compensation rules.  The Federal Reserve Rule on debit card interchange fees will cap the interchange fee per debit card transaction at 12 cents, regardless of the size of the transaction. As a result, small banks are likely to limit the size of debit card transactions or cut off access to free checking.

What matters to us as small business owners is the logic behind introducing a bill to delay implementation of the Durbin amendment.  Jon Tester has posted his press release on his website, which you can read at http://tester.senate.gov/.  Consider this quote from Pat Roberts (R-KS), a cosponsor of the bill, on the issue of the debit card fee controls, "The government should not be in the business of setting price controls on any product, and implementing this rule would set a precedent for that. We need more time to sufficiently review this regulation, because failing to get it right ultimately means it will fall on the backs of consumers, merchants and financial institutions, including our small community banks. And at a time when Americans are watching every penny, we cannot afford to let that happen."  Fellow co-sponsor Bob Corker, (R-TN) adds this, "The federal government shouldn't be telling private companies what they can charge for goods and services; that's price fixing, and that's exactly what the Durbin amendment does....The hastily passed Durbin amendment will have numerous unintended consequences for debit card users, including reduced access and increased fees." Senator Mike Lee (R-UT) Ranking Member on the Judiciary's subcommittee on AntiTrust, Competition Policy and Consumer Rights, says, "Price controls are almost always problematic....If the rule remains in place, retailers, banks and consumers will lose out in the long run through higher costs and limited choices. I believe that we can form a better solution that does not unnecessarily burden small businesses and local financial institutions or pass fees on to the customer."

What is remarkable to me about this is that every single one of these arguments could apply to the Fed Rule on loan originator compensation.  (In fairness, Jon Tester did sign a letter to Ben Bernanke asking him to delay implementation of the rule).  What is the Fed Rule on loan originator compensation except the government telling private businesses what they can charge for goods and services? The Fed Rule on loan originator compensation certainly limits choices to consumers and ultimately raises the prices of mortgages.  The Merkley Amendment (part of the Dodd Frank bill which sets limits on loan originator compensation) was easily as hastily passed as the Durbin amendment. The country does not have to wait for the Durbin amendment to set a precedent for federally mandated price controls--the Fed Rule on originator compensation has already started us down that road.

What I see as good news in this situation is that the fact that these Senators have gone on record expressing their support for a free marketplace and that could bode well for us.  Of course, on April 1, Senator Jim DeMint introduced S 712 which would repeal the Dodd Frank Act in its entirety, and that is the best option. But barring that, maybe we as an industry need to be looking towards getting support for our own amendment, "The Loan Originator Freedom Act". 

If price fixing and federal control of what private companies can charge are wrong in one case, they are wrong in all cases.  We just need to get the word out to our elected officials that we, too, have a right to set our own fees within the framework of a competitive marketplace.

For related posts, go to http://www.frontier2000.net/.

SB 712: The Financial Takeover Repeal Act

On April 1, while most of us originators were celebrating the (very) temporary stay granted to us by the U.S. Appellate Court to prevent implementation of the Fed Rule on loan originator compensation, a bill was being unveiled in the Senate which, if passed, could actually help us.  Senator Jim DeMint (R SC) chairman of the Senate Steering Committee, introduced S. 712, The Financial Takeover Repeal Act of 2011, to completely repeal the Dodd Frank Act.  Currently the bill has 24 co-sponsors, including Sen. Richard Shelby (R AL), Sen. Mitch McConnell (R KY), Senator Rand Paul (R -KY)  and both Senators from Texas.  To see the full list of sponsors go to http://demint.senate.gov/. 

In his press announcement, Senator DeMint made the following argument for repeal of the bill, "We must repeal the Democrats' takeover of the financial markets that favors Wall Street corporations, over-regulates small businesses with massive new bureaucracy and hurts consumers. This financial takeover will strangle our economy and move jobs overseas unless it is repealed...The Dodd Frank financial takeover is producing hundreds of new regulations, forcing banks to charge consumers higher fees, and institutionalizing 'too big to fail' policies that favor Wall Street companies over small businesses."

Going to the Senator's website to read the press announcement is really worthwhile, because he provides links to the studies he cites to support his assertion that Dodd Frank needs to go. One of these is an article published by former Federal Reserve chair Alan Greenspan which was published in "Financial Times" on March 29, 2011.  Greenspan's comments are most interesting, "The financial system on which Dodd Frank is being imposed is far more complex than the lawmakers, and even most regulators, apparently contemplate. We will almost certainly end up with a number of regulatory inconsistencies whose consequences cannot be readily anticipated....In pressing forward, the regulators are being entrusted with forecasting and presumably preventing, all undesirable repercussions that might happen to a market when its regulatory conditions are importantly altered. No one has such skills."  I agree completely.  Dodd-Frank should have been subtitled, "The Law of Unintended Consequences," since it is basically a giant framework on which to hang numerous new laws and rules without having to go back to Congress.

DeMint quotes former Senator Chris Dodd, (D CT) whose name the bill bears, as saying about the Dodd Frank legislation, "No one will know until this is actually in place how it works."  That is very reminiscent of former Speaker of the House Nancy Pelosi's famous statement regarding health care, "We have to pass it to find out what is in it."  This is just one of many problems in Washington--legislators sponsor and write massive pieces of legislation they don't understand with far-reaching consequences they cannot appreciate and then force all of us to live with the results.

DeMint also cites a U.S. Chamber of Commerce study demonstrating that Dodd Frank regulations "could cut capital spending by over $5 billion and cost the U.S. over 100,000 jobs."

Jamie Dimon, CEO of JPMorgan Chase, is quoted as saying that Dodd Frank may "put the nails in the coffin" of the U.S. economy.  Recent studies indicate that excessive regulations on debit card fees may cause banks to stop issuing debit cards. Dimon likens the debit card fees restrictions to "basic price-fixing at its worst."

In what well may be the most interesting expert cited by DeMint, the outgoing Special Inspector General for TARP, Neil Barofsky, reported to Congress that the biggest banks had grown larger as a result of all of the financial reform and there is now more danger of having to engineer another bailout than when we started TARP.

And then, of course, there is the whole problem of the housing market and access to mortgage credit.  Surprisingly, this discussion is missing from DeMint's announcement.  (I say that not as a criticism but merely as an observation).  The housing market is extremely important to the economic recovery of the U.S., and the rules being implemented today are going to prevent a housing recovery in the near future and are ultimately going to prevent many responsible credit worthy Americans from having the opportunity to own a home of their own. 

Greenspan's article in "Financial Times" is followed by pages of vitriolic comments reviling Greenspan, the banking community and all financial services providers in general.  And I think this public perception problem is the reason that "The Financial Takeover Repeal Act" does not have a lot of widespread support.  Too many Americans see Dodd Frank as a necessary bill which protects the financial interests of the middle class.  They do not recognize that it creates a massive new bureaucracy which is crushing small businesses, gobbling up financial products, and cutting off many Americans' access to credit.

Making regular people understand that the credit crisis today, and especially the mortgage credit crisis, is not just a result of the recession but that it is a result of massive regulations which are squeezing the life out of mortgage lending has to be our job.  I realize that mortgages and mortgage lending are only one small piece of Dodd-Frank, but they are a critical piece affecting millions of Americans.  And no one is in a better position to tell the story of housing than we (the loan originators working in the housing markets.)

I know that many of us are still trying to figure out how to deal with the Fed Rule on loan originator compensation since the stay was lifted on Tuesday.  I have been seeing the various videos floating around from NAMB about future lawsuits.  The real truth of the matter is this--without repeal of Dodd Frank we have no chance of winning a lawsuit to change the Fed Rule because the basic provisions of the Fed Rule regarding compensation are also written into the new law.  And with the Consumer Financial Protection Bureau going into regulatory effect this July and qualified residential mortgages around the corner, our problems are only just beginning.  If we want to see anything improve, the underlying law has to be repealed.  Then, and only then, can we expect to win a lawsuit to make the Federal Reserve change its rules.

Neither of my two Senators supported the Repeal measure, nor will they.  I emailed both of them frequently when Dodd Frank was being debated last year and they both smugly assured me that the bill was necessary to prevent another financial crisis. But I plan to email Senator DeMint today and express my support, and I urge anyone who wants to continue to have a career in any aspect of financial services to do the same. If your Senators are more openminded than the two from New Mexico, where I make my home, I would recommend contacting them as well.  Only with a full repeal are we ever going to have any hope of earning a living, running our small businesses, and continuing to assist our fellow Americans in realizing their dreams of homeownership..

For related posts log on to http://www.frontier2000.net/

Building is Not in our Future

Yesterday afternoon, we received the disappointing but not entirely unexpected news that the Federal Appeals Court had denied NAIHP's and NAMB's request for a temporary restraining order and lifted the stay on the implementation of the Fed Rule on loan originator compensation.  So, today, April 6, the Fed Rule is in effect and all of us who are originating loans must comply with it or face the consequences (which are actually pretty severe.)

I don't think that the full impact of what this rule means will be understood for a long time, although we will begin experiencing some of the effects immediately.  The Fed Rule on loan originator compensation and the new qualified residential mortgages that the FDIC announced last week are going to dramatically change access to mortgage credit and lending in this country.  Today, I want to focus on one aspect of this long-term effect--the collapse of the residential home construction industry.

Home builders have been one of the many casualties of the housing crisis.   On March 24, the El Paso Times reprinted an Associated Press article entitled, "New Home Sales Lag to Half of 1963 Pace."   According to the article, "Americans are on track to buy fewer new homes than in any year since the government began keeping data almost a half a century ago. Sales are now just half the pace of 1963--even though there are 120 million more people in the United States now."  The Commerce Department reported that sales of new homes plunged in February to 250,000 annually, which was the third straight month of decline.  Part of the problem is competing foreclosures which are driving prices down, but part of the problem builders face right now is lack of access to capital.  The National Association of Home Builders is lobbying the House Financial Services Subcommittee on Financial Institutions to "open the flow of credit to home builders."  Of special concern to builders is the fact that their sources of lending are being cut off as lenders require additional equity, deny loan extensions, and make demands for immediate repayment on acquisition, development and construction loans.  The banks blame the banking examiners for their tough new stance towards builders. NAHB chairman Bob Nielsen says, "While federal banking regulators maintain that they are not encouraging institutions to stop making loans or to indiscriminately liquidate outstanding loans, reports from my fellow members and their lenders across the nation suggest that bank examiners in the field are adopting a much more aggressive position." These new lending pressures primarily hurt small, independent, local builders who cannot show enough cash to the bank to get the financing they need.

The builders' woes have spilled back into the general economy.  NAHB estimates that 1.4 million workers have lost their jobs in the construction industry which has led to a drop of $70 billion in wages.  NAHB further estimates that if we include the job losses of ancillary support industries who provided materials and services to the housing industry, those losses would total 3 million jobs and $145 billion in lost wages.  (That translates into the loss of a lot of tax revenue for a nation struggling to balance its budget.)  "NAHB estimates that over the next decade there will be a need for at least 1.7 million additional homes per year...This translates into five million jobs and significant economic activity. Without increased AD&C lending, this future demand will not be met, job loss will occur and job creation will suffer."

So what does any of this have to do with us as loan originators and the new regulations we are living under?  Plenty, actually.  For many years the major part of my business was one-time close construction loans.  The homeowner was actually able to get a loan to build his dream home on his own lot.  He hired a builder, took out the loan, and accepted responsibility for making the payments on the loan.  One-time close loans were a very popular vehicle for many very small builders, because they did not have to worry about trying to get the loan from the bank, or being stuck with a home after it was finished because the potential customer decided not to buy.  And they were also popular with customers, because the borrower had to qualify only once, at the beginning of the process, and therefore did not risk not qualifying for the home after it was built.

As the housing markets crashed, most wholesalers stopped doing one-time close loans.  I still have one lender who does offer them, and in fact we are brokering what is likely to be our final one-time close loan to them right now.  I say that because in this new world of regulatory reform, a one-time close is not likely to make the "qualified residential mortgage" list.  And for small independent originators like me, a QRM is the only type of mortgage we can originate since we cannot afford to retain 5% of the risk in a loan.  So consumers and builders will lose access to yet another source of funding offered by experienced, trained loan originators who can no longer offer the product.

In addition to the constraints posed by narrow definitions of "qualified residential mortgages" which FDIC chair Sheila Bair has already informed us are to be a "small slice of the market," builders and consumers alike are about to be confronted with another harsh reality of the implementation of the Fed Rule.  Construction loans, and in fact any type of difficult, work intensive loan, takes a lot of the loan originator's time and effort.  I see a number of different loan originator discussion forums, particularly those I participate in through Linked In, and I have been amazed to see the discussions from retail loan originators (not brokers mind you, but those working for banks and mortgage banks) about the types of work they are willing to do and not do as a response to the new rule.  For example, several participants in the forum said that they will no longer originate FHA 203K rehab loans.  The FHA 203 K rehab loan is a construction product which allows a borrower to purchase a home and finance substantial renovations to it in one loan.  The product is great because it allows a borrower to buy a distressed or foreclosed property and rehab it into the home they have always wanted.  And the financing vehicle can help employ people working in the construction renovation industries.

As an FHA loan, the 203K rehab should meet the "qualified residential mortgage" standards and therefore be available to any licensed originator.  But companies are planning to stop originating it anyway. Why?  Because construction lending is a lot of work and very time consuming.  When an originator's pay cannot vary from transaction to transaction, he or she does not have any incentive to work on more difficult loans or take on complex assignments.  In fact, the originator is being paid exactly the same for each loan whether it is easy or difficult, so he or she has incentive only to offer the loans that he/she can close the fastest with the least amount of work.  So a perfectly good financing vehicle is about to fall by the wayside because it the compensation received does not justify the work involved. 

I have thought a lot about the loss of construction lending in the past few days because I am working on getting my brother's house sold in the community of Santa Teresa, New Mexico. Nearly six years ago, when my brother and his family moved to Santa Teresa, the community was supposed to be on the verge of a boom.  A billionaire developer had just announced plans to expand the small community and to build it up to rival Scottsdale, Arizona.  The developer opened a mortgage company here to assist with the mortgage applications and was working with the State government of New Mexico to get some concessions for his project.  After a couple of years, though, the housing crash came, the concessions were never made, the billionaire moved to Houston and closed his development company and his mortgage company.  Santa Teresa remained exactly as it had been for the past twenty years--a very small residential community of mostly upper middle class families.

Then, this week, all of that changed when the new governor, Susana Martinez, came here and signed a repeal of the locomotive fuel tax.  Apparently, Union Pacific had planned to put a HUB in the Sunland Park/ Santa Teresa area for years, but they had never gone forward because the previous governor would not sign the fuel tax repeal.  Now, with the repeal signed into law, Union Pacific is ready to go forward with their new HUB, which will bring 3000 jobs to the area by 2015 and 600 permanent jobs after that.

I could not help shaking my head at the irony.  Not only is the billionaire developer and his development and mortgage companies long gone, but the new Fed Rule will force the break up of affiliated business arrangements between developers and mortgage companies or builders and mortgage companies.  So a builder wanting to go into Santa Teresa now would not be able to be affiliated with the mortgage company doing the transactions.  With one-time closes almost a thing of the past, and very little construction lending happening through the community banks, builders are not going to be able to build the homes to support the jobs that are coming. (Unless they can find a new billionaire to finance the project, the odds of getting AC&D funds are small.)  And the community definitely does not have housing for 600 additional people now.  So the new employees of Union Pacific will probably have to succumb to one of three choices: 1. Live in El Paso where they can pay very high property taxes from Texas, in addition to paying the state income tax required by New Mexico, 2. Buy homes thirty miles away in Las Cruces and commute, 3. Pay a lot to buy an existing home in Santa Teresa for the privilege of living close to work.

That's good news for my brother, but not such good news for the new residents of the area, or the builders who could build homes on the ample land available in the community if they just had access to some credit. It is also not good news for the unemployed people in our area with construction backgrounds who could finally have plenty of work again if they had a home builder to hire them to build hundreds of homes.  All of these people are just another set of casualties of financial reform.

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The 1099 Repeal Has Passed the Senate

In an era of almost daily bad news, especially for those of us who work in housing or real estate related industries, we who are small business owners finally do have something to celebrate.  Today the Senate voted by 87-12  to repeal the 1099 provisions of the Affordable Health Care Act (Obama care).

The 1099 reporting provisions of Obama care were designed to help fund the health care bill by providing $22 billion in tax revenue over 10 years.  But in reality, the 1099 reporting requirements created a climate which would have pushed corporate spenders to consolidate their business purchases as much as possible into a few large vendors in order to reduce their paperwork since for each business expense totalling over $600.00 in one year, the business claiming the deduction would have to provide a 1099 to the vendor. This would mean that companies spending over $600 a year on entertainment and meals would need to provide 1099's to the restaurants where they ate; companies which pay gasoline expenses of greater than $600.00 a year would have to furnish 1099s to each station where they purchased fuel, etc, etc and so forth.   And since in order to meet the filing requirements for a 1099, the business preparing the 1099 had to have the vendor's tax payer ID number, this promised to be an administrative nightmare.

We know that a particular bill is really bad when the IRS is actually trying to think of ways to minimize its impact.  And so last year, after Obama care passed and the business community became aware of the terrible impact of the 1099 reporting requirements, the IRS commissioner offered to help the business community by exempting all purchases made with credit cards. That's when we knew that they were not looking forward to sifting through mountains of paperwork any more than we were looking forward to trying to prepare it .

The House passed legislation repealing the 1099 reporting requirements in March.  The president has indicated his willingness to sign the bill when it reaches his desk.  So it looks as if we finally genuinely have a reason to rejoice.

Now if we could just get rid of that Dodd-Frank bill.

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