WASHINGTON—Federal regulators may have to take a different approach in drafting a securitization rule after stumbling in their first effort to define which mortgages are safe enough to exempt from risk retention.
Under pressure from Congress, industry and consumer groups, the six federal regulatory agencies working on the proposal extended the comment from June 10 to Aug. 1. Critics say the initial proposal drew such widespread opposition because it went beyond congressional intent by requiring a 20% downpayment on qualified residential mortgages. (Only QRM loans will be exempt from risk retention. Securitizers will otherwise have to retain up to 5% the credit risk.)
Consumer groups complained that the 20% downpayment would exclude otherwise creditworthy borrowers. Senators who last year authored the QRM provision of Dodd-Frank claim they never intended downpayments to be a critical factor in defining it. And it now appears that banking agencies are under pressure to add low downpayment language or eliminate it entirely as a defining factor.
Industry and consumers are likely to press regulators to use proven underwritten standards (and mortgage insurance) in determining which loans are exempt. The Center for Responsible Lending does not want a downpayment requirement “Low downpayments did not cause this crisis—bad underwriting did,” said CRL spokeswoman Kathleen Day. She stressed the need for verifying income, credit history and outstanding debts. Even lowering the downpayment to 10% would still arbitrarily cut out many creditworthy borrowers.
Bill Himpler, EVP, American Financial Services Association, said solid underwriting standards are more important than strict DTI or LTV ratios. And considering how tight credit is right now, they don’t need to make it tighter, he said. “It is just going to prevent a recovery in the housing market.” He believes regulators can review the risk-retention standards after a few years and tighten up if necessary.
National Community Reinvestment Coalition president John Taylor said a 3% downpayment would be acceptable to most people but wants regulators to raise the strict DTI, which is 28% on the front end. “It is not unusual for blue-collar workers to use 37% to 38% of their household income for mortgages. Yet, they can...be very responsible borrowers,” he said.
Meanwhile, now that regulators have extended the comment period, they have a chance to step back, rethink their proposal and correct a basic mistake: moving ahead with the QRM proposal before considering the parameters of something that sounds similar but is separate, a “qualified mortgage” definition which also was mandated by Dodd-Frank. The Fed is charged with defining the QM which includes an “ability to repay” standard. Lawmakers directed the Fed to establish underwriting standards for a QM, allowing prudent lenders to be shielded from litigation. Shortly after regulators issued their QRM proposal, the Fed issued its QM proposal. The Fed’s proposal creates a “legal safe harbor” if the lender originates standard, fully amortizing mortgages not exceeding 30 years and the points and fees do not exceed 3% of the loan amount. The borrower’s income and assets must be verified and the lender must qualify the borrower based on the maximum interest rate during the first five years of the loan.
The regulators should have issued a QRM after they reviewed the QM proposal, according to Bob Davis, SVP, American Bankers Association. “They didn’t follow the instructions of Congress for the QM and QRM,” Davis said.
He noted that the “ability to repay” standard and certain limitations on loan types are sufficient to guarantee a low probability of default. The comment period on the QM proposal ends July 22.
