The ability-to-repay rule, and the qualified mortgage rule resulting from it, has been lurking in the shadows ever since the CFPB released the final rule more than a year ago. Like most shadowed creatures, though, much of the fear surrounding it has derived from uncertainty. Now that the deadline for compliance has come and gone, ATR is stepping into the light and credit unions can evaluate for themselves whether the rule is as burdensome as they feared.
The Dodd-Frank Act tasked the CFPB with creating and enforcing an ability-to-repay rule. The rule applies to almost all closed-end consumer credit transactions secured by a dwelling, and failure to comply, or show evidence of compliance, can result in legal liabilities for the originating institution. In response, credit unions have generally fallen into two camps. Some have ceded mortgage operations altogether, deciding that the uncertainties create too much risk. Others have decided the opportunities outweigh the burdens and have ramped up compliance procedures to meet the challenge. The most explicit of these opportunities comes in the form of qualified mortgages (QMs).
The QM Opportunity
A QM provides a presumption of compliance with ATR requirements and protections from legal liability so long as certain conditions are met [see below]. Although there are various types of QMs available for lenders, most credit unions might find the small creditor and balloon-payment QMs advantageous.
For example, the CFPB carved out additional QM provisions for small creditors in recognition that compliance costs are disproportionately higher for smaller institutions. The CFPB defines “small creditors” as one with assets of less than $2 billion at the end of 2013 and who originated no more than 500 first-lien, closed-end residential mortgages. According to data from Callahan & Associates’ Peer-to-Peer analytics, approximately 92% of the credit union industry falls under this small creditor classification and is thereby eligible to make small creditor QMs. Like the general QM, the small creditor QM cannot exceed 3.0% points and fees on loans of $100,000 or more — limits on loans of less than $100,00 are based on a sliding scale — and cannot contain risky features such as negative-amortization or interest-only payments. However, unlike general QMs, they may have DTIs that exceed 43%.
Many first-time homebuyers and low-income borrowers might have trouble meeting the sub-43% DTI standard, so the small creditor QM provides a great opportunity for credit unions to meet members' needs while mitigating the legal liability that would come from these otherwise non-QM loans. Likewise, small creditors also have the opportunity to offer members balloon-payment QMs, which might appeal to members that have special needs or desire that kind of product. Credit unions can make these mortgages as long as they have terms of at least five years and don’t contain risky features or points and fees that exceed 3.0% — again, smaller loan limits are based on a sliding scale.
Other Opportunities In An ATR Environment
For the larger credit unions that’s don’t fall under the small creditor guidelines and the borrowers that cannot meet the requirements found in any of the qualified mortgage options, non-QMs offer an opportunity to illustrate the value of cooperative financial services. In fact, the CFPB supports lenders that originate non-QM paper.
“Lenders that have long upheld such [sound] standards have little to fear from the ability-to-repay rule,” CFPB director Richard Cordray said at an MBA conference in October. “The strong performance of their loans over time demonstrates the care they have taken in underwriting to ensure that borrowers have the ability to repay."
As discussed in “Turning Regulation Z Into Opportunity,” credit unions can use the regulation as an opportunity to connect with their members in a way that other financial institutions won’t. Credit unions already place members in the best homes they can afford by thoroughly discussing all the obligations of a borrower and walking the member through the requirements, responsibilities, and process of a mortgage application and subsequent loan. ATR does not ban any type of loan feature or transaction, it just ensures lenders make a reasonable, good-faith determination that the borrower has the ability to repay the loan — something many credit unions claim they have done all along. Credit unions that have spent decades proving themselves to be careful underwriters who care about the well-being of members will find they have been implementing ATR standards long before Dodd or Frank were even senators.
According to Tim Mislansky, CLO of Wright-Patt Credit Union and president of WPCU’s myCUmortgage CUSO, Wright-Patt ($2.7B, Fairborn, OH) will continue to originate non-QM loans.
“At WPCU, helping members with ownership has always been about not only obtaining the home via a mortgage but also being able to maintain that ownership with a reasonably priced, well underwritten, responsible mortgage,” Mislansky says. “The new ability-to-pay requirements won't change that. We'll continue to make loans to members that make sense for the credit union and the member, even if they don't meet QM. We've set aside up to $10 million per month for non-QM loans.”
Credit unions sitting on the sidelines about whether they want to offer non-QM options should consider what the competitive environment will look like in the next few years. Rates are rising, and as a result, the Mortgage Bankers Association is forecasting a 33% plunge in mortgage volumes. Such a drop-off will deprive many credit unions of a key source of income, and the non-QM market could be a significant new segment to target. According to Raj Date, former deputy director of the CFPB and founder of Fenway Summer LLC, an investment firm that offers non-conforming loans, the non-QM market has the potential to reach $400 billion a year.
Refis are on the decline and lenders need to fill that vacuum with purchase money. If credit unions refuse to originate non-QM products, they will further diminish the size of their potential market. Additionally, credit unions that don’t originate non-QMs run the risk of losing good members and loans to other lenders. Wells Fargo, Bank of America, and JP Morgan Chase have all indicated their intent to originate non-QM paper, such as interest-only, to meet their borrowers’ needs.
Credit Unions Are Different
Although the new QM rules will add a burden to financial institutions that never considered a borrower’s well-being, ultimately it will reinforce the credit union philosophy of ways to say “yes” to those members who can afford a home. Perhaps the largest benefit of the ATR rule is it will finally allow credit unions to stand head and shoulders above the rest of the lending industry.
“Credit Unions are cooperatively owned financial institutions,” Mislansky writes in his Mortgages Are Memberlicious blog. “We exist to serve the needs of our member-owners. We have a different, and unique, motivation behind our decisions. Therefore, we should have a different approach. And that approach should be to help members buy homes and not get so caught up in the QM/non-QM debate.”
What Is A Qualified Mortgage?
General QM: General QMs may not have risky features — such as negative-amortization, interest-only, or balloon payments — terms that exceed 30 years, or points and fees that exceed specified limits. A borrower’s DTI cannot exceed 43%.
Temporary QM: Temporary QMs are eligible for purchase or guarantee by the GSEs and don’t contain risky features or points and fees that don’t exceed specified limits. The CFPB did not set an explicit DTI threshold for temporary QMs.
Small Creditor QM: If an FI’s assets were less than $2 billion at the end of 2013 and it originated no more than 500 first-lien closed-end residential mortgages, then any mortgage it originates is considered a QM as long as the mortgage doesn’t have negative amortization, interest-only features, or terms that exceed 30 years. There are also point and fee limitations.
Balloon-Payment QM: A small creditor institution can originate a balloon QM, which allows it to further-tailor a mortgage loan to a borrower’s specific needs.
What Is The Ability-To-Repay Rule?
The ability-to-repay rule requires lenders to make a reasonable, good faith determination that a borrower has the ability to repay a covered mortgage loan before, or when, it consummates the loan. A lender must document the following eight underwriting standards when making an ATR determination:
Current or reasonably expected income or assets (other than value of the property securing the loan), which the member will rely on to repay the loan.
Current employment status (if the lender relies on employment income when assessing a borrower’s ability to repay the loan).
Monthly mortgage payment for the covered mortgage loan (calculated using the introductory or fully indexed interest rate, whichever is higher, and based on monthly, fully amortizing payments that are substantially equal).
Monthly payments on simultaneous loans secured by the same property.
Monthly payments for property taxes and insurance the FI requires the borrower to buy and other costs related to the property such as homeowners association fees or ground rent.
Debts, alimony, and child-support obligations.
Monthly debt-to-income ratio or residual income (calculated using the total of all of the mortgage and non-mortgage obligations listed above, as a ratio of gross monthly income).