By Mark Gurich @Lowermortgage.net March 13,2018
The housing bubble and subsequent crash in 2007 was precipitated by poor lending practices. Since then, The Dodd-Frank Act, the Bureau of Real Estate and the Consumer Financial Protection Agency have restricted predatory lending practices designed to confuse consumers into purchasing a property that they can’t afford.
In the years leading up to the crash of 2007, lenders like Washington Mutual, Countrywide, and hundreds of others had created “pay option arm loans” designed to entice a potential buyer into a purchase based on the low monthly payments. Consumers were offered up to four different payment options; 30 year fully amortized payment, 15 year fully amortized payment, interest only payments based on the current adjustable rate, or 1% based on 30 years for the first 3-5 years of the loan. If you thought that most people chose the 1% option, you would be correct. Nearly 47% of consumers that acquired a “pay option arm loan” paid the lowest payment of 1% for as long as they could. Since these consumers were paying only 1% and their agreed upon adjustable rate was between 4-5%, the unpaid interest was applied to the balance. When their mortgage balance reached 125% of the original amount financed, borrowers were required to make fully amortized payments often doubling the original mortgage payment.
During this same period of time, Lenders were finding loop holes in conventional lending guidelines to allow borrowers to state their income and assets without verification. These loans called “SISA”, “NINA”, and “NINJA” allowed consumers to buy properties that they wouldn’t normally qualify for. This lending practice lead to overwhelming defaults and foreclosures.
(Why did lenders offer these types of loans will be addressed in next week’s blog!)
As a result of the record number of mortgage foreclosures, the housing inventory became saturated with properties listing below market value. During the mortgage meltdown, over 250 top lenders filed bankruptcy or went out of business leaving the remaining lending institutions with much stricter guidelines. Mortgages, while at one time were as easy as completing an application became almost impossible to acquire. As property values declined, many homeowners panicked about their asset (property) depreciating and losing any equity they had built over the years. This perfect storm of mass foreclosures, stringent mortgage guidelines (less people in the mortgage pool), and panicked homeowners exacerbated the market crash.
Today, Lenders follow QM guidelines (qualified mortgage) that require proof of income and allows a debt ratio not to exceed 43%. Some conventional guidelines will allow a ratio of 49.5% with compensating factors. Most loans are 30 or 15 year fixed terms and the borrower is paying the principal down building equity in the property. The ARM loans (adjustable rate mortgages) require the borrower to qualify based on 2% above the start rate and usually require an additional 5% down as vested interest in the property. Residential “interest only loans” only make up 4% of the loans generated and require a larger down payment. Alternative loans are still available, but require some income verification (bank statements) and require a borrower to put a minimum of 20% down.
With the quality of loans currently on the books, borrowers vested interest in a property with larger down payment requirements, and normal rate of foreclosures, we will not see another housing crash similar to that of 2007. Unless of course I’m wrong!