On January 10, 2013, Federal regulators unveiled a range of obligations and restrictions on lenders for residential mortgage loans. These include bans on risky “interest-only” and “no documentation” loans that were largely to blame for the last decade’s housing crisis. The Consumer Financial Protection Bureau is the Federal entity in charge of implementing and carrying out the review, all of which will take effect in 2014.
Importantly, lenders will now be required to verify and inspect the borrower’s financial records, wage verification, employment verification and credit history. Federal regulators are hailing the restrictions by claiming that this will make sure that people who work hard to buy their own homes can be assured of greater consumer protections and reasonable access to credit. The rules also limit features like “teaser rates” that adjust upward and large balloon payments that must be made at the end of the loan. In the past, mortgage lenders found it very easy to hide or disguise these dangerous features of the loans.
An important aspect of the regulations is a new product called the Qualified Mortgage. These loans are expected to be the most common, and will have to meet affordability standards, including that the borrower’s combined debt payments cannot exceed 43% of income. Through their strong and effective lobbying efforts, the banks were able to craft various protections, including one that would largely insulate the banks from losses when some of the new loans go into foreclosure. This protection is called a “safe harbor” because it substantially limits a borrower’s ability in court to claim that a qualified loan was not affordable. The banks, however, got less protection on loans with higher interest rates to borrowers with weaker credit (sub-prime).
The new rules will also allow borrowers to introduce oral evidence to make their cases in court, if they can get their case into the courtroom in the first place. A borrower, for instance, could tell the court about a conversation with a loan officer that suggested a loan was unaffordable from the offset and should not have been made. This is called “parole evidence”, and is often not admissible in court. All in all, it is a step in the right direction, albeit about 10 years too late.
In my view, the regulators could not apply too many restrictions to the banks for fear that they would tighten the credit market and make it increasingly difficult for all borrowers to apply for and secure a new mortgage loan, and these rules may have been written in part so that the housing recovery of 2012 continues.
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