This second article on credit conditions comes from a friend of mine, Joel Maloney, a mortgage broker in Santa Barbara (805-963-1496 x124). Joel has been in this business for 30 years and has been very successful serving his clients. We were chatting about mortgage lending at a Super Bowl party and I asked him to write down what he was telling me about the residential lending market. Again I was shocked at what is happening out there. This is a great piece of reporting.
Some people think the mortgage market is getting “looser.” It’s getting tighter. And money is NOT being lent to those who have proven themselves to be credit worthy unless they can meet the overly restrictive standards now imposed. Let me give you a few examples.
Retired doctor with over $3,000,000 in the bank; perfect credit history; significant equity. Since he’s retired, he has opted to take his income from a combination of pension, IRA, Social Security, and asset depletion [spending his capital]. Under current standards he can’t qualify for a new mortgage on his home (which would save him $1,000 per month) unless he shows “active” taxable income for the past two years adequate to meet income to debt risk standards. Let’s say his overall expenses were going to be $8,000 per month. Active income of $20,000 would be necessary to qualify. In his case, he shows “active” income of $3,000 pension, $2,000 Social Security, $7,000 IRA, and still has…$3,000,000 in the bank to draw from. Again, perfect credit. 50% loan to value. He’s 73 years old. He’s already servicing a mortgage perfectly. Current Status: DENIED! (Why would you want to save $1,000 per month?)
Husband and wife newlyweds. She works full time as registered nurse. He is self-employed as a barber for 5 years. She takes a month off to have her first child. In the meantime, he co-signs a car loan for his brother. They have perfect credit, 20% down payment. Looking to buy their first home together. She will return to work shortly at full hourly wage. They present information confirming that the brother makes the monthly car payment and it is registered in his name. One of the major banks (but it could be any Fannie/Freddie/FHA lender) won’t approve their dream purchase because: 1.) Her employment has not been continuous; 2.) He is self-employed and 2009 income was $900 less than 2008; 3.) He is 100% responsible for the car payment and that creates too much back-end debt. They are perfect first-time buyers. Status: DENIED! (Unless they pay off the car loan of $18,000 and she has been working full time for 45 consecutive days. Their escrow expired and they lost the deal.)
Former owner of large business sells in 2008 and makes considerable profit. He continues to work but takes a lower salary and generates additional monthly income via taxable and non-taxable interest and dividends. Retains $10,000,000+ in bank and investments. Wants to buy a rental property which will break even. Could pay cash, but prefers to leverage with 25% down payment. Problem: income declined between 2008 & 2009 and the interest and dividends need 2-3 year history to be counted. Perfect credit. status: DENIED! (Pay cash the lender says.)
Now that fixed rate mortgages have RISEN 1% in rate (5 points in fees) since Thanksgiving—effectively killing the once robust refinance market in this country—I have a chance to reflect on two of the challenges that lie ahead for the American consumer: higher mortgage rates/fees and more stringent qualifying standards. (Neither of which is in our economys’ best interests in my opinion.)
The Federal Government via Fannie and Freddie have added a .25-2.75% fee to every new residential loan they buy. They justify this as a credit “risk” premium. But in point of fact, it is a way to jump-start an insurance fund to backstop future foreclosures.
Before last week, a typical borrower could apply for a $300,000 fixed rate loan, 20% down payment, with a 680 credit score at a cost of zero points ($0). Beginning today, that rate would cost the consumer 2.75 points ($8,250). Let’s put it into perspective. Until two years ago, a 680 credit score with no late payments in the past 12 months was considered solid A credit. Now, apparently, it is barely acceptable. A consumer can have a 680 credit score with no historical lates, everything paid on time, but have too many inquiries or owe more than 50% on their credit cards and thus not qualify.
Today, you will need to provide the past two years federal tax returns, most recent 30 days worth of pay stubs, W2s, and ALL pages of two consecutive asset/bank statements at a minimum. Not unreasonable on the surface. But again, when you look more closely, all is not what it appears. If you’re self-employed and your income has dropped $1 from the previous year, you could easily be denied due to “declining income” (rather than averaging two years). We all know 2008 was a tough year and 2009 not much better. In order to use 2010 income, you would have to produce your 2010 Federal 1040’s. Here’s the catch: The IRS will not accept 2010 filings from people who “itemize” until after February 15, 2011. Assuming one files on February 16, the lender will need proof that the IRS has received the returns and the lender has to validate the filing using a 4506T form (ask anyone who has tried to modify an existing loan about the 4506T). This validation can take 4-6 weeks after filing. One could argue that this delay isn’t the lenders’ fault. But requiring 2010 returns before April 15 due to slight decreases in income during a recession IS a lending decision that, historically, was not necessary. Thus, if one needs to use 2010 income to qualify, don’t plan on closing before the end of April. I wonder what rate they’ll get?
Rather than make the process easier, I am confronted daily with “rule changes” by Fannie/Freddie/FHA that make the process more restrictive. Here are but a few:
1. A perfect borrower may only use 45% of their gross monthly income to service all debt. (Previous standard was 65%).
2. An investor wishing to purchase an abandoned or devalued property for rental income may only own a total of 4 financeable 1-4 unit properties—for a premium rate loan, 10 properties for .5% higher rate.
3. A homeowner who wishes to purchase a 2-4 unit rental property must prove that they have managed real estate over the past two years if they want to count the rental income for qualification purposes. (See #2 to understand how stupid this rule is).
4. If you pay your American Express off each month in full this used to be counted as $0 payment. Now they want to count 5% of the balance against your monthly debt. Think of the business professional who uses his card for travel, business supplies, etc., and goes to get a loan. A $20,000 balance which used to be $0, now is charged $1,000. It takes an additional $3,000 in income to offset that mysterious and illusionary expense.
5. The regulatory rules have been flying fast and furious too. Suffice to say that the paperwork has quadrupled and the forms have become more confusing for both borrowers and lenders. In many cases, the new forms have to be completed and validated before a loan can be locked in. In a fast moving market, this has proved suicidal to many borrowers wishing to take advantage of the lower rate.
So, congratulations to those hearty souls who made it through this process and we should apologize to the others who couldn’t.
