The Role of ‘Debt to Income’ in Assessing Mortgage Risk

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The Washington Post recently ran an article, “Federal government has dramatically expanded exposure to risky mortgages,” which surmised that over the last few years, Fannie Mae and Freddie Mac (the GSEs), and, to an extent, FHA, have taken on too much risky mortgage debt. In particular, the article focuses primarily on debt-to-income (DTI) ratios, and how higher-DTI loans could fare in a financial downturn.

What the article fails to mention is that DTI is only one of the many considerations lenders use when evaluating whether a borrower can and will repay a loan. Lenders also rely on other factors such as credit history, previous housing expenses, cash reserves, equity in the property, and liquid assets to get a fuller picture of a borrower’s true credit profile.

In fact, numerous publicly available studies, and research by the Consumer Financial Protection Bureau (CFPB), have determined that DTI by itself is a weak predictor of a loan’s likelihood of default.

And while the article does discuss the Qualified Mortgage (QM) rule, and how the 43% DTI target was somewhat arbitrarily drawn by the CFPB, it fails to mention many of the rule’s crucial product feature restrictions that have made today’s loans significantly safer than those made in the pre-crisis period.

The QM rule prohibits loans without documented income, with terms of over 30 years, with interest-only or negative amortization features, and that are not underwritten with possible rate increases in mind. These features of both the Dodd-Frank Act and the CFPB rule are far more effective risk-mitigation tools than a standalone DTI cap.

The article also downplays or does not mention the significant protections for taxpayers for loans that do default. Borrowers’ equity in the home securing the mortgage, private mortgage insurance for conventional loans with down payments of less than 20%, and very substantial private capital bearing risk of loss via the GSEs’ credit risk transfer programs meaningfully insulate the taxpayer.

While it is true that recessions are naturally correlated to poor loan performance, this reality argues against the reliance on DTI as a sole or key variable for assessing systemic risk. In a downturn, when the primary wage earner loses his or her job, the DTI at the time the loan was originated is unimportant. As recent studies show, the borrower’s liquid cash reserves are a far more important indicator of risk when unemployment is rising. That is why thoughtful product design and holistic underwriting practices that consider more than a static point-in-time DTI ratio, and good loss-mitigation practices, are the best way to reduce risk and ensure the borrower has a reasonable ability to repay his or her loan.

After the crisis, policymakers created barriers that had the unfortunate effect of preventing many borrowers from obtaining access to mortgage credit. Recent underwriting trends represent a rebalancing, not a return to the pre-crisis risks. In fact, we agree with The Washington Post article’s assessment that housing affordability challenges cannot be addressed solely through more flexible financing.

MBA is deeply concerned about trends that make it more difficult for creditworthy borrowers to find affordable housing. The administration recently released a housing finance reform plan aimed at addressing the future of the GSEs, bringing back private capital, and preserving the important role that FHA plays in the marketplace. Because we share similar goals, we intend to continue to work with the administration, policymakers, and other stakeholders to develop innovative solutions that will protect consumers and encourage lenders to participate fully in all segments of the housing finance market.

A Bipartisan Effort Helps Protect Affordable Mortgages for Veterans

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Mistakes happen. We all make them, and sometimes the unforeseen ones have sweeping consequences. The road to fixing those unintentional errors can often be long and require deep cooperation from unlikely allies. Sometimes solutions don’t come to pass.

Today MBA celebrates the possible: bipartisan cooperation that fixes an inadvertent legislative mistake that “orphaned” thousands of VA loans and created troubling uncertainty in the market.

Late last week, President Donald Trump signed the Protecting Affordable Mortgages for Veterans Act of 2019. You won’t see that headline on the front page of any newspaper, but it is a milestone that represents over a year of hard work, breakthrough coordination among Republican and Democratic members and staff on Capitol Hill, and, most importantly, constant interaction with MBA’s members.

This new law eliminates the confusion and duplicative requirements created by regulatory reform efforts in 2018 that had rendered some loans with valid VA guarantees ineligible for Ginnie Mae pooling. As a result, thousands of VA loans had been stuck on lenders’ books, stifling their ability to offer new mortgages to veterans and active-duty families.

We at MBA would like to thank the sponsors of this legislation, Representatives David Scott (D-GA), Lee Zeldin (R-NY), Mike Levin (D-CA), and Andy Barr (R-KY), as well as Senators Kyrsten Sinema (D-AZ) and Thom Tillis (R-NC), in addition to the authorizing committees and congressional leaders, for spearheading this endeavor.

Prompted by our members, MBA brought the issue to the attention of legislators late last year, highlighting to them the impact this unintended mistake was having on liquidity in the VA loan space and thus on mortgage availability for our nation’s service members and veterans. We couldn’t sit idle as lenders looking to make new loans and serve new consumers faced an unnecessary obstacle in their ability to do so.

At MBA, we live for the details. We always strive to dot our i’s and cross our t’s. It’s why we strive to correct all errors – both big and small – that impact our members, and helps explain why we fought so hard to make sure Congress repaired the very real damage caused by this mistake.

Locking In Progress Toward GSE Reform

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In late April, FHFA released its 2018 Scorecard Progress Report for Fannie Mae and Freddie Mac. While it may not have received widespread attention, I found the Progress Report notable in the context of recent discussions around housing finance reform and the path forward for Fannie and Freddie (the GSEs).

The report touches on a number of important reforms that have been made at the GSEs to date. These are reforms that can and should be locked in — in order to set the stage for permanent, comprehensive reform that involves both the Administration and Congress. They include: Continue reading

The Roadmap to CFPB 2.0

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Last year, MBA responded to a series of 12 requests for information (RFIs) issued by the Consumer Financial Protection Bureau (CFPB or the Bureau), looking for ways the CFPB could better serve its statutory mission by improving its supervisory practices and regulatory framework. I, along with others in our industry, was encouraged by the Bureau’s openness to listening to stakeholder proposals to improve its regulation and enforcement to ensure strong consumer protections.

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MBA Economic and Mortgage Finance Commentary

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With the start of New Year just behind us, it’s a good time to take stock of the landscape for real estate in 2019 and beyond. As MBA’s President and CEO, I am often asked for my views on the outlook for the housing sector. There’s no doubt that a combination of low inventory, a significant drop in refinance activity, and uncertainty caused by trade wars, government shutdowns, and a volatile stock market have given many pause. Overall, however, I agree with MBA’s most recent forecast commentary that 2019 will be a good year for borrowers and lenders alike.

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The 2019 Independent Mortgage Bankers Conference

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It’s been just over 100 days since I started as MBA’s President and CEO, and it’s been a wonderful experience meeting our members and hearing their priorities for MBA and our industry. It’s no secret that real estate finance is facing headwinds, with limited housing inventory, high home prices, and lower demand for refinancing due to climbing rates (although refis have rebounded somewhat in recent weeks). Bank, nonbank, or credit union — everybody is feeling the pinch, and MBA is working with all its members to see what we can do to help.

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Helping Homebuyers and Homeowners During the Government Shutdown

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As the partial government shutdown drags on, MBA has been active in ensuring that interruptions in critical federal services needed to serve homebuyers, homeowners and furloughed workers are limited.  As The Washington Post reported in a front-page story, we were instrumental in advocating for the resumption of the IRS IVES (Income Verification Express Service) system for processing Form 4506-T tax transcript requests.  Why did we do this?  We wanted to avoid having home purchase transactions delayed or canceled, and we wanted borrowers closing on refinance loans to take advantage of today’s lower interest rates to close their loans before their interest rate lock-ins expired.

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