There’s good news for mortgage applicants who don’t fit into the precise mold demanded by Fannie Mae and Freddie Mac: After pulling back at the start of the pandemic in March, other lenders are returning to the market.
Banks like Citi, Flagstar, Regions Financial and Truist have turned on the financial spigots again, according to industry publication Inside Mortgage Finance, and non-bank lenders have begun loosening their rules.
Better yet, demand for these loans by investors has strengthened -- meaning as direct lenders sell loans on the secondary market, they will take in more money to make even more loans.
There’s not as much investor activity as there was before COVID-19, but it’s on the upswing compared to April, Michael Franco of SitusAMC told me. The company provides due diligence services for investors.
Pooja Pathak, a director of structured finance at MetLife, sees the same thing. “Demand is out there,” she said during a recent panel discussion.
Loans that don’t make the grade at Fannie and Freddie, the two government-sponsored entities that buy the lion’s share of mortgages, were once called “subprime.” And they’re held out as largely responsible for the mortgage meltdown that led to the 2008 Great Recession.
Back then, Wall Street capital chased mortgages like these: loans in which their balances increased rather than decreased, balloon mortgages in which a large amount was unpaid until the loan term expired, interest-only loans in which no principal was repaid, and loans in which neither the borrower’s income nor employment was verified.
As a result, loans were made to practically anyone who could fog a mirror because, in selling their production to investors, lenders assumed little risk. And when housing prices began to slide, the mortgage market crashed.
The mortgage business “spiraled out of control,” says Steve Schnall, founder of Quontic Bank. “There was a race to the bottom of the credit barrel. And when property values stopped rising, everything collapsed.”
Now, mortgages that don’t fit into the Fannie-Freddie box are known as “nonprime” and “non-QM loans,” as in non-qualified for purchase by the GSEs. But they’re not nearly as dangerous, says Franco.
No more “liar loans,” for example. Negative amoritization loans are gone, too, as are balloon and stated-income loans.
Non-QM lenders have to meet the same regulations set up by the Consumer Financial Protection Bureau under the Dodd-Frank Wall Street Reform and Consumer Protection Act for lenders who want to do business with the GSEs.
Under the rules, for example, lenders selling loans to Fannie and Freddie must be reasonably certain that the borrower has the ability to repay the loan. There are seven other underwriting factors that must be considered, too, including the borrower’s employment, projected monthly payments for other loans and obligations (such as alimony and child support), and credit history.
Non-QM lenders must do the same. But they often stretch the box -- sometimes more than a little -- based on the borrower’s credit score and loan-to-value ratio, as opposed to debt-to-income ratio. That means they’ll exceed the 43% DTI ceiling that binds the GSEs. And they’ll often lend amounts above Fannie Mae and Freddie Mac’s statutory limits, which this year is $510,400 in most places.
Quontic Bank is just one of many non-QM lenders. It offers financing to low-income but creditworthy borrowers running small, single-person businesses; well-capitalized startups; and businesses with nonrecurring debt or low overheads. Also on the bank’s target list are immigrants, the self-employed and so-called gig workers: musicians and others who go from one temporary job to another.
“There are many good borrowers who don’t qualify by traditional standards,” says Schnall.
Indeed, with COVID-19 causing temporary job losses, credit dings, career changes, depleted assets, forbearance and other financial challenges, the need for non-QM lending “has remained, if not grown,” writes Aaron Samples of First Guaranty Mortgage Corporation in the most recent issue of the Non-Prime Lending Council’s newsletter.
Using what Schnall says is “a commonsense approach” to approving borrowers for financing, lenders like Quontic are back in the game after all but shutting down when the virus hit. For example, LoanStream Mortgage has expanded its product offerings, including lowering its credit score requirement to 640 and raising its minimum loan-to-value ratio to 80%.
Elsewhere, Angel Oak Mortgage Solutions is now allowing LTV ratios up to 90% for borrowers who can show two years’ worth of bank statements. Greenbox Loans has full-documentation loans up to 90% LTV, plus loans for foreign nationals that require no tax returns, and 70% LTV loans up to $750,000 for people just out of foreclosure.
Meanwhile, the CFPB has proposed allowing non-QM loans to become qualified mortgages three years after their origination if they meet certain qualifications. The objective, the bureau says, is to “incentivize” more lenders to make non-QM loans they otherwise might not.
None of this is intended to necessarily tout the lenders noted here. Rather, it is to say that would-be homebuyers who don’t think they can qualify for financing should find a good mortgage broker who has a finger on the market and see what’s out there. Or, if you’ve been turned down for a mortgage during the pandemic, you might want to give it another try. You may be pleasantly surprised.