Monday, July 14, 2008

Feds new lending rules should make bankers blush

The Fed lists four new protections for higher priced mortgage loans secured by a borrowers principal dwelling. The list is an enumeration of the most basic common sense principals.

  • Prohibit a lender from making a loan without regard to borrowers' ability to repay the loan from income and assets other than the home's value. A lender complies, in part, by assessing repayment ability based on the highest scheduled payment in the first seven years of the loan. To show that a lender violated this prohibition, a borrower does not need to demonstrate that it is part of a "pattern or practice".

  • Require creditors to verify the income and assets they rely upon to determine repayment ability.

  • Ban any prepayment penalty if the payment can change in the initial four years. For other higher-priced loans, a prepayment penalty period cannot last for more than two years. This rule is substantially more restrictive than originally proposed.

  • Require creditors to establish escrow accounts for property taxes and homeowner's insurance for all first-lien mortgage loans
Applied to education this would be like having the government decree you could not graduate with a BA from college unless you can read. Bankers should be mortified to have the Fed have to tell them how to make loans.

Moreover, these rules will straightjacket lending and make it impossible for banks to show flexibility here and there where it might make sense. The rules are set to avoid non compliance that is why 'rule one' says that a borrower does not have show that a lender has violated the rules as part of a practice or pattern.

Forcing banks to verify income is another 'novel' idea, though for small business owners this could become a problem where greater flexibility might have been preferable.

By and large these rules will force payment schedules to reflect a full cost of homeownership including taxes through the use of escrow accounts. Hard income will have to be identified to make payments. Rolling up a new loan for a refi ( the perpetual refi option) will not be part of plan 'A' to purchase a home any more. And borrowers will not be qualified on 'teaser' rates, but rather on the highest of formula rates.

Was all this a long time coming or what?

Unfortunately there may be times when banks would want to or would be willing to relax any one of these restrictions. But thanks to Greenspan's refusal to go after mortgage fraud during his tenure when he was Chairman things have gotten so bad that now a plain vanilla standard has been set for every one. Just like Henry Ford said when he built his Model T: "You can have any color you want, as long as it's black."




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