The Devolution of Home Loans

Using hindsight to examine the housing crisis and foresight to predict what lies ahead

January 3, 2014

“The best-laid plans of mice and men often go astray” is a perfect way to describe what has devolved in the mortgage industry during the past 5+ years. For many years the mortgage business was a highly self-regulated industry where in the vast majority of cases borrowers were treated fairly when they applied for a home loan. Our industry relied on borrower income, credit, assets, and the subject property to determine if the borrower was likely to pay their mortgage. The system worked very well for many years.

As Wall Street firms saw an opportunity to make healthy returns in the purchase and packaging of mortgage loans, they helped to create a niche market for the underserved borrower. That market was later defined as “sub-prime.” As the nation’s real estate market boomed and equity continued to increase, these same firms widened underwriting guidelines with little or no oversight until any human being with a heartbeat could “qualify” for a home loan. This was the height of the sub-prime real estate boom.

As the real estate boom came to an end and the U.S. economy began to lose steam, the financial crash occurred and foreclosures were popping up on virtually every street in America. The government stepped in and made some swift changes to the formally self-governed mortgage business.

Those changes were intended to help the consumer understand what type of loan they were getting and served to prevent the borrowers who no longer qualified under the revised and much stricter underwriting guidelines for obtaining a home loan.

“A needed innovation is for the currently over-regulated mortgage industry to develop a mortgage product that will enable the self-employed borrower to obtain a home loan based on his credit, equity, and cash reserves.”

The result has been a very slow recovery in the real estate market and inability for many people to qualify for home loans. This is where the devolution has been most evident. We live in a region where many of the borrowers are self-employed. Many of them have benefited by the real estate values rebounding and most have a solid equity position. These folks have very good credit, very little debt, and good cash reserves. These borrowers also have tax returns that show a net income below their ability to qualify to refinance their current loan or to step up and buy a more expensive home even though they are highly likely to pay their mortgage payment every month.

A needed innovation is for the currently over-regulated mortgage industry to develop a mortgage product that will enable the self-employed borrower to obtain a home loan based on his credit, equity, and cash reserves. I am suggesting loans for borrowers who have 20% or more equity in their property, a credit score above 750, and at least 24 months in mortgage payments in savings after the loan closes. This product would help the borrowers and all of the industries tied to the real estate business, including realtors, mortgage loan originators, title companies, escrow companies, appraisers, home inspectors, contractors, and others. This would be a huge revenue boom for our economy and, most important, it would help a lot of borrowers improve their financial situation and in some cases move into a home that better suits their current needs.

So, what is going to happen in the future? I wish I knew. As the economy recovers and real estate values continue to rise across the country, underwriting guidelines will most likely widen and more borrowers will “qualify” for home loans. In the meantime, I hope more articles like this are written and we as taxpayers communicate our unhappiness to those who are empowered to decide who qualifies and who doesn’t in hopes of moving the pendulum back toward a more sensible underwriting environment.

My hope and expectation as a mortgage professional is that we will return to a middle ground where those who are highly likely to repay their mortgage will get home loans.

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