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Proposed self-employment mortgage act will allow risky loans

By Jeff Lazerson

August 30, 2018

What I think: This week, U.S. Sens. Mark Warner of Virginia and Mike Rounds of South Dakota introduced legislation named the Self-Employment Mortgage Access Act of 2018.

This legislation will fix some flaws that were part of the 2010 Dodd-Frank Act, making it easier for self-employed borrowers using alternative income sources to qualify for a mortgage.

“We aren’t loosening qualifying standards at all, just expanding the range of documents that can be used to prove income/debt,” said Nelly Decker, press secretary to U.S. Senator Mark Warner.

Nothing wrong with this in theory. But there is a lot more to this if we dig deeper.

First, a little history about how this came about.

Simply stated, Dodd-Frank offered mortgage lenders a safe harbor against getting in trouble for making bad loans so long as those loans were approved by running them through Fannie Mae’s or Freddie Mac’s underwriting engines (which also facilitate FHA and VA automated approvals).

This is called the Qualified Mortgage Rule. It means the lender followed the rules showing that you really do have the ability to repay the mortgage even when your total house payment and other bills exceeded 43 percent of your monthly gross income.

If you don’t fit that bucket, lenders could still make lend you money under rules found in the Consumer Financial Protection Bureau’s Appendix Q. It is more involved for the lender to document and defend your ability to repay. And there is no automatically assumed safe-harbor.

Lenders are cautious about making non-QM loans because a failing borrower could drag a lender into court and force it to rescind the loan.

That means the lender would have to refund the closing costs and the payments the borrower made if the lender can’t convince the judge that the borrower was, in fact, able to pay.

Anything over $453,100 in Riverside and San Bernardino counties and over $679,650 in Orange and Los Angeles counties is considered a jumbo loan. Jumbo loans are over the loan limits and can’t be considered under the Qualified Mortgage Rule.

Under this proposed legislation, a lender could use Fannie, Freddie, FHA, VA and USDA guidance to justify any loan approval outside of today’s QM box and not be burdened with that non-QM document and defend liability.

The purpose of the legislation is to allow lenders to securitize jumbo loans and go over the 43 debt-to-income limitation, said Pete Mills, senior vice president of residential policy at the Mortgage Bankers Association. Today, lenders largely sell non-QM loans one at a time.

That all seems simple and safe until you consider the implications. You could take a $1 million property using FHA underwriting guidance, a 3.5 percent down payment ($35,000) and a 590 middle FICO credit score and call it safe!

The offices of both Warner and Rounds made it clear to me these proposed rules are not all-inclusive. So, what happens if government guidance eventually allows bank statement or even stated-income loans that are easily obtained today in the non-QM world?

Then, of course, you could package a bunch of these loans into mortgage-backed securities and sell them to suckers across the country and around the world and call them safe because the U.S. government said so. Back to the future.