Mortgage industry takes a healthy step back in its practices
The mortgage industry is going through a long-overdue correction and that is good news for consumers and the country, according to Bob Shield, senior vice president of retail lending for WestAmerica Mortgage Co., a subsidiary of WinTrust Financial, a bank holding company based in Lake Forest.
When the real estate market was red hot in 2004, 2005 and 2006, lenders, borrowers and real estate professionals got greedy, according to Shield. A speculation mentality took over because they assumed that real estate was going to continue its meteoric rise in value.
"Over the long run, real estate will increase in value," explained Shield. "But everyone was expecting to make money from their homes as values increased. So borrowers were pushing lenders to get them into loans at any cost because they expected to be able to turn around and sell the property in a year or so for a big profit."
Common sense went out the window and the country is paying for it now with the currently slow real estate market and the increased number of foreclosures, he added.
But the changes forced upon the mortgage industry will be good in the long run, Shield believes.
Is it difficult for a qualified buyer to get a mortgage today?
"It is not as difficult as people might imagine," Shield said. "Mortgage lenders are happy to make loans to qualified buyers who are interested in becoming long-term owners."
Today lenders are carefully evaluating three critical factors with regard to borrowers: their willingness to repay a loan, their ability to repay that loan and the value of the collateral, which is the house they are buying, Shield explained.
"All three of these important factors got left by the wayside to some degree over the past few years and that is why the industry ran into trouble," he added.
A borrower's willingness to repay loans is reflected in their credit score, which is the record of what they have repaid in the past. Also, because of the stated loan programs requiring no proof of income, borrowers' ability to pay was ignored. And it was assumed that the value of the collateral would continue to rise - which it didn't.
"And, unfortunately, for some people who got in too deep, foreclosure became the easy way out," Shield continued. "Even if they could continue to make their payments, when their house lost value and was no longer worth what they borrowed to purchase it, they just decided to let the bank take it back - even though it ruined their credit," he continued.
What changes have been made to prevent difficulties in the future?
"The FHA (Federal Housing Administration) through Fannie Mae and Freddie Mac has tightened up its requirements for backing loans. But investors who purchase loans have tightened things up even more because they are still reeling from all of the foreclosures," Shield explained. "These lenders are requiring more credit review than the (federal) agencies if you want them to purchase your loans. For instance, the FHA has no minimum credit score for a loan but most investors are now requiring a minimum credit score of 580 for manually underwritten loans."
And the "stated loan programs" are gone, Shield said. Under these programs borrowers didn't have to prove their income in order to get a loan. No pay stubs or W2 forms were required.
"We are back to the future again with regard to mortgages," Shield noted. "We are seeing loan programs like we saw in the 1980s. Down payments are required. Full documentation is required."
In addition, as of Oct. 1, the Department of Housing and Urban Development will no longer allow the Federal Housing Administration to back loans that involve down payment assistance by a builder or other entity. Shield said a borrower can still get a gift of a down payment from a parent or relative. But the programs that were so popular for awhile in which sellers via charitable groups provided down payment "grants" will not be permitted under HUD rules.
"Loss rates have been much higher on down payment-assisted loans than on other loans," Shield explained.
The FHA now has 4.8 million insured single-family mortgages and 13,000 insured multifamily projects in its portfolio, according to its Web site. So FHA rulings affect a significant portion of the housing market, particularly first-time buyers.
Why are these changes good for consumers and the marketplace?
"This correction has been a long time coming. It has forced the fringe players out of the marketplace and we expect it to be healthy for both mortgage businesses and consumers in the long run," Shield explained.
"Those who are left in the mortgage business are being much more careful about the loans they write," he added. "Reputable lenders don't want to write loans that will result in the buyers losing their home so they are carefully evaluating applicants in a common sense manner and most of the programs that got people into trouble are gone."
What is the future of the mortgage industry?
"This tightening will continue for awhile, I expect," Shield said. "Credit will be tight until people feel that the real estate market has bottomed out.
"The supply of new homes is already dwindling as builders stop building spec homes. Eventually inventories will return to a more reasonable level and once that happens, sales of homes will pick up again. Once that happens, people who want to buy a home to live in for three to five years or longer will see good appreciation once again."