Definition of “Qualified Mortgage” Issued by Consumer Finance Protection Bureau

Interest rates moved up slightly last week .This week, the Consumer Finance Protection Bureau finally released long-awaited standards to define a “Qualified Mortgage”. One key result is that interest only loans will probaly disappear by 2014.The following are excerpts on this published by HSH Associates :

“For the most part, the regulation seemed merely a codification of present industry practices and so didn’t contain too many surprises. It’s important to remember that such regulations occur to address the issues of the past, whether or not they still exist, and that, for the most part, the riskiest of mortgage products, practices and practitioners have long since been wrung out of the market. If nothing else, we won’t have to deal with a repeat of yesterday’s problems sometime in the future; by then, we’ll probably have brand new ones with which to contend.

Meanwhile, mortgage rates lifted a little bit this week, but that bump seems to have largely come from early in the week, with rates settling back somewhat by Friday.

The highlights of the new rule includes an “ability to repay” standard, where borrowers will need to provide and lenders will need to verify documentation that proves a borrower can actually afford to own the home they are buying, including all property-related expenses (required insurances, taxes, maintenance, etc) in their calculation. There is an eight-part set of standards lenders will be required to use to guide them. Full documentation of income and assets has been the order of the day in the mortgage market for several years now.

To be considered a “qualified mortgage”, the regulation now calls for maximum debt ratios of 43 percent. However, there is a provision in the rule which allows those exceeding the limit to still be considered a QM if they are eligible to be sold to a Fannie/Freddie after passing though an automated underwriting system which approves them. Traditional mortgage “back-end” debt ratios are 36%; at the height of the leverage madness which was the housing market five or six years ago, we saw those ratios as high as 55 or 60 percent, so this new standard seems fairly reasonable, especially given the broader inclusion of items into the “ability to repay” definition above.

To meet the definition of a qualified mortgage, loans cannot have interest-only or negative-amortization components, balloon payments (except in certain instances) or repayment periods longer than 30 years. “No-doc” loans cannot be qualified mortgages, either. That’s not to say that these cannot exist, but rather that they would not count as qualified mortgages; according to Dodd-Frank, which set all this in motion, loans not considered “qualified” will subject a party who securitizes the loans to “risk retention” rules, generally of about 5 percent of the loan or security.

Whether lenders will be interested in making loans which aren’t “qualified mortgages” — and thereby subjecting themselves to the risk retention requirement costs under Dodd-Frank — isn’t known. The new rules don’t actually take full effect until January 2014, and there will undoubtedly be changes to who offers what (and at what terms) between now and then. For now, consumers are unlikely to notice any difference in the process or in mortgage prices or availability.

For the most part, the changes seem reasonable and sensible, and the CFPB seems to have been sensitive to concerns about both consumer protection and ensuring the availability of credit.

The mortgage market continues to slowly grind forward to whatever will eventually constitute normal. Settlements for the “abuses” of the past continue to occur, agreements and deals on soured loans are happening, and new regulations are starting to shape tomorrow’s mortgage market. Although there remain many, many items yet to be resolved, adjusted or otherwise corrected, it would appear that after several years, the journey seems to finally have begun, and we continue to take steps forward.

At some point the complete crisis-and-response cycle will come to an end. We will no longer have extraordinary support for mortgage rates from the Federal Reserve, who will have retreated to a more traditional role. We will have a differently-functioning securitization market, hopefully one where risks are clearer and better understood, and where those risks are better shared and hedged. We may or may not have a Fannie or Freddie to create or maintain liquidity, or even maintain “conforming” standards (for what its worth, we think we’ll have some form, even if by another name). And we will have an all-encompassing, all-powerful regulator in the CFPB to watch over it all.

But that’s more tomorrow’s market than today’s. For the moment, we still have the same old, same old mortgage market, with fantastic interest rates provided by the Fed plus fairly liquid and functioning mortgage markets thanks to Fannie, Freddie and FHA. We should enjoy them while they’re here, and take advantage of the “good old days” while they last.” The following are interest rate quotes by Al Hermann of American California Financial: