A battle over who gets stuck with tens of billions worth of bad housing loans made during the boom years explains why many Americans still can’t get a mortgage as interest rates hit a new low.
The average rate on a 30-year fixed-rate mortgage hit 3.53% last week, the Mortgage Bankers Association said Wednesday. It was the lowest rate since at least the 1950s. But thousands of would-be homeowners are being locked out of the market because lenders, facing a hard-line stance from Fannie Mae and Freddie Mac, have grown wary of making new loans.
The two mortgage giants have been forcing banks to take back an increasing number of loans that the banks made during the boom years and sold to Fannie and Freddie. To protect themselves from such demands in the future, banks are ratcheting up credit and documentation standards for new mortgages.
“Mortgage credit is tighter than it should be,” said Treasury Secretary Timothy Geithner at a Senate hearing in July. “And the main reason for that is because banks feel much more vulnerable now to what people call ‘put-back.’ ”
This play-it-safe stance by banks threatens to undercut the Federal Reserve’s latest effort to push down mortgage rates by buying up mortgage-backed securities. Even if rates keep falling, many people will find it much harder to take advantage.
So far, Fannie and Freddie have asked banks to repurchase $66 billion in mortgages made between 2006 and 2008, according to an analysis of federal filings by Inside Mortgage Finance, an industry newsletter. The balance of outstanding demands from both companies at the end of July was up 37% from a year earlier. Most of these loans have defaulted, so banks face losses when they take them back.
Fannie and Freddie don’t actually make loans, but instead buy those from banks and other lenders that meet certain standards. Together with federal agencies, they are backing more than nine in 10 loans being made today, up from around two-thirds of all loans before the housing bubble.
Put-backs help recover money for Fannie and Freddie, which have turned small profits in recent quarters after getting a $142 billion taxpayer bailout. Buying back defective mortgages “is part of the business if we make a legitimate mistake,” says Bill Cosgrove, chief executive of Union National Mortgage Co., a Strongsville, Ohio-based lender.
But bankers believe Fannie and Freddie are going too far. Earlier this year, Mr. Cosgrove faced a demand from Fannie Mae to repurchase a $103,000 mortgage his bank had made in 2003 after the homeowner in Garfield Heights, Ohio, defaulted in late 2010. The latest example, because the borrower made regular payments for so many years, is proof that the loan put-back process “has become more and more ridiculous,” he says. In this case, Fannie reviewed the lender’s 2003 property appraisal and decided the valuation was inaccurate. The dispute hasn’t been resolved.
A Fannie spokesman says the company has “a thorough and thoughtful process to examine loans, seek complete information from lenders and determine if a repurchase request is warranted.”
Fannie and Freddie defend put-backs as an important step to restore discipline in the underwriting process. Fannie’s chief executive, Timothy Mayopoulos, compared the loan assembly line to an auto maker’s in an August interview. Car manufactures have developed “very exacting standards” so that a repeatable process produces “the same thing day-in and day-out,” he says. The lending process still isn’t exacting, he says, which is why lenders have been forced to tighten lending standards.
There is near-universal acknowledgment that mortgages were much too easy to get during the past decade. But Mr. Cosgrove said standards are now more conservative than at any time since he started working as an underwriter in 1986.
Loan officers say their job used to be fairly straightforward: Determine that a borrower could reasonably repay the loan. Today, they say the goal is to shield themselves from a put-back. This means asking borrowers for reams of documentation “tax returns, bank statements, pay stubs, and appraisals in order to deliver loans that can’t be questioned.
Banks are asking borrowers to explain every deposit into their bank accounts over a few hundred dollars in order to verify that their assets are their own, lest an audit later find that the buyer borrowed cash from a family member.
“Why do I care about that $100 deposit? Why am I triple checking your credit score?” says Barry Sturner, president of Townstone Financial, a Chicago lender. “Because I’m scared to death of the buyback.”
Despite strong credit scores and an ample down payment, Paul Stone and his wife had problems getting a mortgage in March from Wells Fargo & Co. to buy a $300,000 house in Broomfield, Colo. He says the lender raised concerns about his income. Mr. Stone, a real-estate agent, has worked for the same company for the past 2 ½ years and earns a fixed salary.
But he relocated to the Denver area from Virginia this year, and he says the bank wanted to see a two-year record of earnings in his new location. His wife eventually got a mortgage with Wells Fargo, using only her income, to buy the house.
“Wells Fargo’s goal is more than helping our customers buy a home. It is to make sure that they are able to own one successfully for years to come,” said Vickee Adams, a bank spokeswoman.
Despite the sharp drop in rates, mortgage applications for new loans have been low in recent months. In April, senior loan officers indicated in a special Federal Reserve survey that put-backs were the leading reason for tighter underwriting standards.
The average conforming loan for a home purchase that was denied by lenders in August had a borrower with a solid credit score of 734 and a 19% down payment, according to Ellie Mae, a mortgage software provider. In the past, such a borrower would have easily gotten a mortgage.
Part of the problem lies in changes in mortgage processing over the past few decades. Fannie and Freddie rolled out automated-underwriting systems in the mid-1990s that allowed lenders to punch borrower data into computer systems in order to receive faster approvals or denials.
The mortgage bust highlighted weaknesses. Fannie and Freddie did few upfront reviews of loans that they purchased; instead, they screened some of those that went bad, forcing banks to buy back any with obvious signs of negligence or fraud.
After the meltdown, the mortgage giants began hiring armies of auditors called “bounty hunters” by bank executives to conduct detailed reviews of loan files to spot errors that could justify a put-back.
The companies and their regulator, the Federal Housing Finance Agency, announced in September some steps to address lenders’ concerns. For loans delivered to Fannie and Freddie beginning in January, banks won’t face put-backs for certain flaws if the loan has a record of on-time payments for three years.
“Lenders have pulled back” from lending because they can’t easily predict their put-back exposure, says Maria Fernandez, an associate policy director for the FHFA. The goal of the policy changes, she says, “is to be very clear with lenders what our expectations are so we can help facilitate more liquidity.”
Federal Reserve Chairman Ben Bernanke said in September he was optimistic that the change would make mortgage markets “a little bit more open, and that is one factor, actually, that could make our [asset-buying] policy more effective.”
Industry analysts say the guidance should help ease lending standards in the long run, but it could still take time. As part of the new protocol, Fannie and Freddie will do more screening of loans immediately after they acquire them, which may boost put-backs in the near-term.
Some borrowers are having better luck getting mortgages with local banks or credit unions, which hold on to the loans they make and don’t rely on selling them to Fannie or Freddie. But community lenders aren’t large enough to fill the void left by banks’ cautious approach to making mortgages.
New mortgage regulations set to take effect next year also could hold back any thaw. One provision of the Dodd-Frank financial-overhaul law, for example, may carry hefty penalties for failing to thoroughly document a borrowers’ ability to repay a mortgage.
Banks, meanwhile, say the companies have recently stepped up scrutiny of older loans that have a longer record of making payments. Bank of America, for example, says $8 billion in outstanding put-back claims at the end of June were for loans on which borrowers had made at least 25 payments. That compares with just $3.7 billion in such loans at the end of last year. Bank of America stopped selling loans to Fannie earlier this year amid a dispute over which loans it should be forced to buy back. Both sides say they are in negotiations to resolve the matter.
Lenders can appeal put-backs by proving the loan didn’t violate underwriting guidelines. But when Fannie and Freddie deny those appeals, lenders have little recourse but to comply if they want to keep selling loans to Fannie and Freddie.
Fannie and Freddie are operating with a “gotcha mentality,” says Laurence Platt, an industry lawyer at K&L Gates in Washington. He says more loans are being put back for reasons that have nothing to do with why a borrower has defaulted. “But for their monopoly-like powers, they couldn’t get away with that.”
Mr. Mayopoulos, the Fannie CEO, dismisses such complaints. “This is about the fact that back at the time of origination, the manufacturer of that loan did not do what they had represented that they had done,” he says. As the housing boom turned to bust, “that was pervasive,” he added.
Fannie officials also say put-backs aren’t as responsible for tighter standards as lenders suggest. Underwriting criteria for jumbo mortgages are every bit as stringent, and those loans are too large, by definition, for purchase by Fannie and Freddie.
The tougher guidelines are especially hard on borrowers who are self-employed. They tend to take more deductions on the tax returns, reducing the reported income that underwriters use to document earnings. Borrowers with uneven earnings, including those who receive a large share of their pay in commissions, bonuses, tips, or seasonal income, also are having trouble qualifying for mortgages.
Lenders are scrutinizing the house that serves as collateral for the loan by reviewing property appraisals and demanding repairs of everything from missing electrical outlet covers to broken air-conditioning units
Missy Jerfita, a Chicago real-estate agent, had the sale of a five-bedroom home in Glenview, Ill., fall apart on the eve of the closing when the bank said it wouldn’t be willing to finance the loan due to a crack in the foundation of the house. Her client had negotiated a $10,000 discount for the buyers, who were making a large down payment and planned to repair the issue as soon as they moved in.
“They have their stuff in a moving truck, and my client is all packed up,” said Ms. Jerfita. “It was these big banks who are nervous.”
The prospective buyer sent his wife then three months pregnant and three kids to live with a relative in Wisconsin while he slept on a neighbor’s couch.
Ms. Jerfita, meanwhile, raced to find a local lender that agreed to fund a one-year bridge loan a few days later. Once the repairs are done, the bank will refinance the loan into a mortgage that is eligible for purchase by Fannie and Freddie.
Banks also are relying heavily on credit scores. Wendy Dalpiaz and her husband, Brett, were pre-approved for a loan until they hit a snag her credit score fell by 100 points due to a late payment on her Amazon credit line. She didn’t realize that her 5-year-old daughter had purchased a $3 app on the family’s Kindle e-book reader until she received a notice from a credit service about her late payment. “A $3 Amazon charge: are you kidding me?” she says. “I was just floored.”
Ms. Dalpiaz, a 40-year-old nurse, had hoped to move into their home in Lake Stevens, Wash., before the school year began, but they didn’t close until Sept. 21 on the $289,000 purchase. “It just took forever,” she said.
– Article from The Wall Street Journal