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Mortgage Originations: The Good, The Bad, And the Ugly in 2014

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Th e M Rep o RT | 27 Feature T he subprime meltdown was like a waterspout on the ocean—breaking masts and sending ships crashing onto the rocks. When the winds finally settled, changes were instituted to protect consumers who ventured into mortgage waters and also to protect communities from housing bubbles that burst and could lead to waves of foreclosures. Furthermore, these changes were to ensure that a storm of that magnitude would never happen again. Those changes included many new types of proactive safety regulations that, in a sense, re- quired mortgage professionals to have a lifeboat on board, wear a lifejacket, and regularly verify their compass direction before steering a mortgage ship. As it happens, those are smart choices to make, whether you're heading across the Atlantic or floating out on the great mortgage sea. The Trade Winds of Change C hange has been blowing across the industry ever since the mortgage meltdown. On those winds has come a renewed emphasis on verification to ensure not only that borrowers can repay the loans they receive, but also that lenders originate safer and more affordable loans: » Fannie Mae's Loan Quality Initiative (LQI) was created to help ensure loans meet the credit and eligibility standards, pric- ing guidelines, and other new requirements of the Selling Guide or negotiated variances. The LQI is Fannie's long-term investment in systems, processes, and controls to help ensure that loans have un- dergone a careful risk assessment and are originated using accurate data. LQI focuses on gathering critical loan data earlier in the process and validating it all along the way. Such data includes: • Borrower Identity Verification • SSN and ITIM Verification • Borrower Occupancy • Validation of Qualified Parties • Undisclosed Liabilities • Minimum Credit Score • Property Unit Number • Calculating Loan-to-Value Ratio • Manual Underwriting of DU Refer with Caution Loans » Freddie Mac's Industry Letter on Quality Control and Enforcement Practices, and its pub- lication on Quality Control Best Practices, spell out the require- ments for establishing, managing, and documenting an effective in- house quality control program. » The Dodd-Frank Wall Street Reform and Consumer Protection Act increases requirements for investors to monitor loan qual- ity throughout the origination process. This regulatory oversight caused organizations to carefully examine internal auditing and outsourcing strategies. » The ability-to-repay rule requires that creditors use reason- ably reliable third-party records to verify that the consumer will be able to repay the loan. Third- party records are defined as: • A document or other record prepared or reviewed by a per- son other than the consumer, the creditor, any mortgage bro- ker, as defined in § 1026.36(a)(2), or any agent of the creditor or mortgage broker; • A copy of a tax return filed with the Internal Revenue Service or a state taxing authority; • A record the creditor maintains for an account of the consumer held by the creditor; or • If the consumer is an em- ployee of the creditor or the mortgage broker, a document or other record regarding the consumer's employment status or income. » Using those third-party re- cords for verification, the creditor must consider eight underwriting factors when deciding whether to grant the loan: • Current or reasonably expected income or assets • Current employment status • Monthly payment on the cov- ered transaction • Monthly payment on any simultaneous loan • Monthly payment for mort- gage-related obligations • Current debt obligations, ali- mony, and child support • Monthly debt-to-income ratio or residual income • Credit history Qualified Mortgages Provide a Safe Harbor S ince January 10, 2014, mortgage loans must meet specific requirements in order to be considered Qualified Mortgages (QMs), and thus, be eligible for sale to the GSEs. By meeting QM standards, lenders move from the risky seas outside the breakwater into a safe harbor, receiving a level of legal protection against borrowers who default and then claim that the lender should have known the borrower couldn't repay the loan. Qualified Mortgage requirements include: • Loan term cannot exceed 30 years • Points and fees must be less than or equal to 3 percent of the loan amount; a higher percentage is allowed for loans under $100,000 • Loan cannot contain risky features, such as negative amortization, interest-only, or balloon payments • Consumer debt-to-income ratio cannot exceed 43 percent • The institution must under- write the loan taking into account the monthly payment for mortgage-related obliga- tions. In addition, the monthly payment will be calculated using the maximum interest rate that may apply during the first five years. • The consumer's income, assets, and debts have been verified in accordance with Appendix Q of the ATR/QM rule When calculating debt-to-in- come ratio, lenders must be care- ful to include all required costs, such as homeowners and flood insurance, to ensure the later addition of these expenses don't push the ratio over 43 percent. A High Tide of Income/Employment Verifications T he Appendix Q amendment to the ATR/QM rule sets forth the rules for how lenders should review a borrower's employment history, income, and debt-to-income ratio. Appendix Q requires verification of employment for the most recent two years, with explanation for any gaps longer than one month. In order to meet the Appendix Q requirements, many lenders are turning to national databases like The Work Number, a solution offered through Equifax Workforce Solutions, to confirm employment records. The Work Number data- base contains more than 58 million By Greg Holmes, National Director of Sales and Marketing, Credit Plus

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