Riding the Verification Waves in a QM and Non-QM Sea

FEATURE
Riding the Verification
Waves in a QM and
Non-QM Sea
Are seafaring lenders ready for the odyssey?
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FEATURE
By Greg Holmes, National Director of Sales and Marketing, Credit Plus
T
he subprime meltdown was like a
waterspout on the ocean—breaking masts
and sending ships crashing onto the
rocks. When the winds finally settled,
changes were instituted to protect consumers who
ventured into mortgage waters and also to protect
communities from housing bubbles that burst and
could lead to waves of foreclosures. Furthermore,
these changes were to ensure that a storm of that
magnitude would never happen again.
Those changes included many
new types of proactive safety
regulations that, in a sense, required mortgage professionals to
have a lifeboat on board, wear
a lifejacket, and regularly verify
their compass direction before
steering a mortgage ship. As it
happens, those are smart choices
to make, whether you’re heading
across the Atlantic or floating out
on the great mortgage sea.
the way. Such data includes:
The Trade Winds of
Change
» Freddie Mac’s Industry
Letter on Quality Control and
Enforcement Practices, and its publication on Quality Control Best
Practices, spell out the requirements for establishing, managing,
and documenting an effective inhouse quality control program.
C
hange has been blowing
across the industry ever since
the mortgage meltdown. On
those winds has come a renewed
emphasis on verification to ensure
not only that borrowers can repay
the loans they receive, but also
that lenders originate safer and
more affordable loans:
» Fannie Mae’s Loan Quality
Initiative (LQI) was created to
help ensure loans meet the credit
and eligibility standards, pricing guidelines, and other new
requirements of the Selling Guide
or negotiated variances. The LQI
is Fannie’s long-term investment
in systems, processes, and controls
to help ensure that loans have undergone a careful risk assessment
and are originated using accurate
data. LQI focuses on gathering
critical loan data earlier in the
process and validating it all along
••Borrower Identity Verification
••SSN and ITIM Verification
••Borrower Occupancy
••Validation of Qualified Parties
••Undisclosed Liabilities
••Minimum Credit Score
••Property Unit Number
•• Calculating Loan-to-Value Ratio
••Manual Underwriting of DU
Refer with Caution Loans
» The Dodd-Frank Wall Street
Reform and Consumer Protection
Act increases requirements for
investors to monitor loan quality throughout the origination
process. This regulatory oversight
caused organizations to carefully
examine internal auditing and
outsourcing strategies.
» The ability-to-repay rule
requires that creditors use reasonably reliable third-party records
to verify that the consumer will
be able to repay the loan. Thirdparty records are defined as:
••A document or other record
prepared or reviewed by a person other than the consumer,
the creditor, any mortgage broker, as defined in § 1026.36(a)(2),
or any agent of the creditor or
mortgage broker;
•• A copy of a tax return filed with
the Internal Revenue Service or a
state taxing authority;
••A record the creditor maintains
for an account of the consumer
held by the creditor; or
••If the consumer is an employee of the creditor or the
mortgage broker, a document
or other record regarding the
consumer’s employment status
or income.
» Using those third-party records for verification, the creditor
must consider eight underwriting
factors when deciding whether to
grant the loan:
••Current or reasonably expected
income or assets
••Current employment status
••Monthly payment on the covered transaction
••Monthly payment on any
simultaneous loan
••Monthly payment for mortgage-related obligations
••Current debt obligations, alimony, and child support
••Monthly debt-to-income ratio
or residual income
••Credit history
Qualified Mortgages
Provide a Safe
Harbor
S
ince January 10, 2014,
mortgage loans must meet
specific requirements in order
to be considered Qualified
Mortgages (QMs), and thus, be
eligible for sale to the GSEs. By
meeting QM standards, lenders
move from the risky seas outside
the breakwater into a safe harbor,
receiving a level of legal protection
against borrowers who default
and then claim that the lender
should have known the borrower
couldn’t repay the loan. Qualified
Mortgage requirements include:
••Loan term cannot exceed 30
years
••Points and fees must be less
than or equal to 3 percent
of the loan amount; a higher
percentage is allowed for loans
under $100,000
••Loan cannot contain risky
features, such as negative
amortization, interest-only, or
balloon payments
••Consumer debt-to-income ratio
cannot exceed 43 percent
••The institution must underwrite the loan taking into
account the monthly payment
for mortgage-related obligations. In addition, the monthly
payment will be calculated
using the maximum interest
rate that may apply during the
first five years.
••The consumer’s income, assets,
and debts have been verified in
accordance with Appendix Q
of the ATR/QM rule
When calculating debt-to-income ratio, lenders must be careful to include all required costs,
such as homeowners and flood
insurance, to ensure the later
addition of these expenses don’t
push the ratio over 43 percent.
A High Tide of
Income/Employment
Verifications
T
he Appendix Q amendment
to the ATR/QM rule sets
forth the rules for how lenders
should review a borrower’s
employment history, income, and
debt-to-income ratio. Appendix
Q requires verification of
employment for the most recent
two years, with explanation for
any gaps longer than one month.
In order to meet the Appendix
Q requirements, many lenders are
turning to national databases like
The Work Number, a solution
offered through Equifax Workforce
Solutions, to confirm employment
records. The Work Number database contains more than 58 million
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FEATURE
current employment records
contributed by more than 3,700 employers nationwide, making it the
largest collection of payroll records
contributed directly from employers. This data is updated every
payroll cycle, ensuring the most
up-to-date information possible.
For those consumers who are not
listed in a national database like The
Work Number, manual verifications can be ordered from different
sources. It is important to make
sure that the supplier of the manual
verification uses an auditable process in case the loan defaults.
Income can be verified by ordering a Tax Return Verification
(IRS form 4506-T), which
confirms both income and Social
Security Number. TRVs can be
easily ordered through online
platforms provided by various
mortgage services providers, and
generally provide the needed
validation within 24-48 hours.
Determining the debt-to-income
ratio is generally straightforward,
unless the applicant takes on new
debt right before closing. Research
shows that 22 percent of new debt
is taken on by applicants in the
10 days before a home loan closes.
Lenders can use Undisclosed Debt
Verifications (UDVs) from all three
bureaus to uncover new debt before
it derails closing—or worse, delivers
a costly buyback when the loan
is validated by Fannie or Freddie
and found to be out of compliance.
UDVs show exactly what has been
reported to the credit bureaus—new
tradelines, inquiries, secondary reissues, bankruptcies, judgments, liens,
collections, late payments (30-6090-120 days), and even recent high
utilization on existing bank card
and revolving tradelines. Not every
mortgage services provider offers
UDVs from all three bureaus, so
it is definitely something to verify
before moving forward.
Navigate the
Uncharted Waters of
Non-QM Loans
T
here are many loans that
don’t fit Qualified Mortgage
requirements. When executed
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THE M REPORT
each one can be an extremely
time-consuming process. Many
lenders find that getting all their
verifications from one vendor
increases their productivity and
decreases their stress level. In
many cases, using one vendor
means that the lender receives
the applicant data at the same
time as its brokers, which eliminates the possibility of any data
manipulation.
All this is critically important
because non-QM loans do not
provide a safe harbor against
borrower suits, nor is there a
secondary market on which nonQM loans can be sold—at least,
not yet. Because non-QM loans
must be held in the lender’s internal portfolio, verification must be
as thorough as it is for QM loans
in order to protect the lender.
Despite the higher risk, many
lenders are planning to offer
non-QM loans. According to the
2014 21st annual ABA Real Estate
Lending Survey Report, more
than one-third of bankers now
plan to make non-QM loans in
targeted markets or products.
Sailing the
Verification Wave to
Success
T
properly, with complete
documentation of income, assets,
debt, and employment, nonQM loans may offer significant
opportunity for lenders to make
profitable, low-risk loans.
Non-QM loans often involve
wealthy borrowers, self-employed
business owners, doctors just
beginning their careers, or even
those with slightly blemished
credit. Many people in these situations are considered reasonable
risks even though their circumstances prevent them from meeting ability-to-repay rules.
According to the Consumer
Financial Protection Bureau,
as long as the lender makes a
reasonable, good-faith determination that the consumer is able to
repay the loan based on common
underwriting factors, the lender
can originate any non-QM mortgage. The key is making sure the
loan is going to perform for the
long haul—and the way to do
that is performing due diligence
using third-party vendors.
Unfortunately, if the lender is
using multiple vendors, vetting
he decision whether to
originate only QM loans
or to move into the non-QM
market is one that each lender
will have to face as they set
out on this new, uncharted
mortgage ocean. What is your
comfort level? Would you rather
be able to see the shore, or do
you want to explore what’s over
the horizon? There’s no right
or wrong answer—just what’s
right for you. But whether you
choose QM, non-QM, or both,
one fact remains the same—the
right verifications partner can
smooth the choppy waters
so you can confidently cruise
forward.
is national director of sales and marketing at Credit
Plus Inc., a third-party verifications company serving the mortgage industry. He
can be reached at [email protected].
AUTHOR GREG HOLMES