Consumer safeguards that went into law in January of 2014 make it harder for mortgage companies to get away with sketchy and predatory lending practices. That is good news for consumers and big news from the federal watchdog agency, the Consumer Financial Protection Bureau (CFPB). The regulations contain many long-overdue changes meant to curb a repeat of the recent housing crisis and mortgage industry meltdown.
What is not being discussed very much by the media, however, is that tighter underwriting standards also create hurdles for some borrowers. Those who used to be able to qualify for mortgages when lending policies were more lenient may be denied under the stricter guidelines. “No documentation” loans are now illegal, for instance, and lenders can no longer qualify a borrower for a loan based on the low monthly payments offered by special “teaser” introductory rates that later expire.
Tougher Loan Application Criteria
From now on, most banks will be instituting underwriting rules based on what the feds call a “Qualified Mortgage,” or QM, and if you don’t qualify you won’t receive a loan. That’s true whether you find a great deal on a property or you just want to avoid throwing money down the drain to pay for rent. Those who want to refinance an existing mortgage to secure a lower interest rate or pay off a nagging home equity loan will likely face tougher QM criteria.
QM Criteria Highlights
- Points and fees have to be 3% or less of the total loan amount, although higher thresholds may be allowed for loans less than $100,000.
- Negative amortization is prohibited, as are interest-only loans and loans that include large balloon payments.
- The maximum loan term for a QM is 30 years – which eliminates the 40-year loans borrowers have been using to lower their monthly payments.
- The debt-to-income ratio of the borrower must be 43% or less (with some special and rare exceptions). That means that the total cost of your monthly mortgage payment and other fixed debts like car loans cannot exceed 43% of your gross monthly income.
QM Promises Protection for Banks
Since the QM is now the new “gold standard” by which the CFPB will judge the ethical and professional behavior of lenders, those lenders who fail to meet that standard open themselves up to liability and investigation. Banks do not want to get into legal trouble and be accused of predatory lending practices, and lenders that meet the QM underwriting standards are promised protection from legal challenges related to those mortgages.
Although instituting the criteria of a qualified mortgage as defined by the CFPB is voluntary, most lenders began to make changes to their underwriting to meet this higher standard as soon as it was unveiled. Consumers should expect that even though the QM is not the rule of law it will still be followed by virtually every mortgage lender. That sets the bar higher for borrowers who need to anticipate the additional restrictions they will have to overcome in order to take out a loan in the new QM category.
Your Credit Union May Offer Fewer Mortgages
Credit unions, which are run as nonprofit institutions, are typically much smaller than banks and have fewer resources to help implement these kinds of changes. Credit unions asked for a delay in implementation of the new CFPB rules for that reason, and now many of them are even considering eliminating mortgages from their product inventory. Half of the credit unions surveyed last fall by a credit union trade association were still deciding whether they would write only QM mortgages, only non-QM mortgages, or some of each. Some credit unions are expected to simply stop offering mortgage products and services until they are able to sort out their options and come into full QM compliance.
Credit unions have, for the most part, never offered exotic and hazardous loans – and have always maintained underwriting policies that don’t let borrowers take out loans they cannot afford. Credit unions traditionally have stronger guidelines regarding debt to income ratios, for example, to ensure that consumers don’t borrow loans they cannot repay. As nonprofits, they exist for the sake of their customers and that’s why credit unions are a great source of affordable loans with fewer fees and lower interest rates. If they stop making mortgage loans that is bad news for the consumer.
How to Improve Your Chances of Loan Approval
To improve your chances of getting approved for a mortgage that meets the QM criteria, you will need to pay special attention to your debt to income ratio. That means eliminating as much debt as possible from such things like credit cards. The goal when managing plastic is to achieve an excellent credit utilization rate, which is the percentage of the available credit you actually use. Using only a small fraction of what is available helps improve your credit score and helps ensure you are low-risk to borrowers.
Of course you also need to keep an eye on your credit score and the information contained in your credit report. Oftentimes the information in a credit report may be erroneous or outdated, and it takes time to resolve that kind of issue by filing a complaint with the credit reporting agency. Since the process can take several weeks or even a few months to erase the problem, it is always a good idea to start working on your credit profile at least six months before applying for a mortgage or refinance.
Tom Kerr writes for the blog at CompareCards.com in addition to others. He has been an avid writer for years, even winning awards for work he’s done.