Ed. #16: QM: The Price is Right?

September 20, 2020|Ability to Repay/QM, CFPB, Mortgage Industry

RIP Ruth Bader Ginsburg

SCOTUS Justice and heroic trailblazing feminist litigator Ruth Bader Ginsburg passed away on September 18. May her memory be a blessing and may all of us pray for civility, justice and wisdom to prevail in the partisan confirmation debates and hearings that lie ahead.

Masks cause hearing loss

On a lighter note, is anyone else finding that face masks cause hearing loss? I keep looking around for SNL’s Garrett Morris to help me understand people when I am masked. Perhaps I am looking at the cause and effect about that incorrectly. Anyway, speaking of classic SNL skits, let’s kick this off in the words of Gilda Radner’s Emily Litella, “What’s all this fuss I hear about the ability to delay a patch?”

Quick QM rewind

As many readers will recall, back in February I wrote about impending changes to the qualified mortgage (QM) safe harbor and the expiration of the GSE “Patch”. While not required background reading for this blog post, that post is helpful to understand the Ability to Repay Rule under TILA (known as ATR) and why change is coming to the QM safe harbor to ATR . If nothing else, looking back you might enjoy my prediction in a footnote that 2020 was going to give 2016 a run for the money as craziest year ever[1], Spinal Tap and Bill & Ted’s Most Excellent Adventure references, or perhaps just the grilling tip. Along those lines, there is a new Bill & Ted’s Excellent Adventure movie out now!

The CFPB’s QM proposals

Now that CFPB has issued some specific proposals to change the definition of QM, however, it’s time to dig in a bit further. Basically, there are 3 proposals that inspire me enough to discuss in my Mortgage Musings[2]. The first proposal is to extend the Patch, the second eliminates the general 43% DTI limit on QM to be replaced with a pricing measure, and the third is a “seasoned” QM loan definition[3].

Relax, the Patch will be extended

Actually, the proposal regarding extending the Patch would only be interesting if they weren’t going to extend it. Instead, with January 2021 rapidly approaching, it seems like a virtual lock that the Patch will be extended soon. The Bureau proposes to prolong the Patch at least until the general QM proposal (the second item above) is finalized and implemented. Regardless of the time frame, the Patch isn’t going away soon.

Say good-bye to 43%

The second proposal, on the other hand, is really the big cheese[4]/whole enchilada[5]of the QM proposals. Instead of having a 43% DTI limit determined by reference to the income verification standards of Appendix Q, CFPB proposes to have the QM safe harbor simply tied to the price of the loan. Loans that are priced above a certain benchmark APR measured against average mortgage industry price levels would fall outside the QM safe harbor. The idea essentially assumes that a mortgage loan’s price is set by an efficient market reflecting the risk of loss based on the borrower’s ability to repay the loan. The product limitations that currently apply to QM, however, would still apply, so you still won’t be able to do loans that are stated income, interest only or have negative amortization.

In February I criticized the idea of using pricing alone to determine ability to repay, saying it was “unrelated” to borrower ability to repay. I am willing to admit that was an overstatement. Certainly, the rise of loan level pricing adjustments since Dodd Frank suggests a robust price to risk model used by the industry in an era without collateral-based lending[6]. Still, I’m not totally sure about the connection between pricing and ability to repay without a clear requirement to assess borrower income and expenses.

Tis the Season

Meanwhile, in an effort to encourage underwriting and product innovation, the CFPB also offered a “seasoned” loan QM to enable lenders who hold a loan on their books for 3 years without serious delinquency to call it QM in hindsight regardless of the pricing or underwriting. This “seasoned loan QM” category will only apply, however, to loans that are (i) first lien, (ii) fixed rate, (iii) fully amortizing (less than 30 years), and (iv) meet the points and fees test[7]. That doesn’t sound like it leaves much room for innovation in affordable loan products, but perhaps we’ll see some unique and experimental underwriting qualification ideas percolate.[8]

A Trojan Horse? (Orlando Bloom wants it burned)

Secondary market advocates claim using pricing to determine QM is an elegant solution to the current DTI limit that not only assesses borrower ability to repay, but also assuages investors’ concerns with being able to easily determine which loans are QM. Unfortunately, that asserted elegance is imperfect. A loan’s price is more a measure of the lender’s assessment of the risk of loss than the borrower’s ability to repay. QM is supposed to be a safe harbor for a determination of the borrower’s ability to repay, not loan risk. That is, if a loan meets the QM standard, it is automatically deemed to be affordable to the borrower (i.e., the borrower is deemed to have the ability to repay the loan). Pricing as determined by loan risk, however, is evaluated against the collateral value (and available mortgage insurance support) in addition to the borrower’s ability repay.

As noted by Rich Andreano[9] in his interview with Housing Wire, it's important to highight that these proposals don’t quite eliminate DTI or Appendix Q entirely. As Andreano notes, the proposals include some confusing language about still having to consider DTI or residual income, without any benchmark or guidance as to how to do that or what is sufficient or appropriate. My guess is that CFPB fears that the pricing-based general QM proposal coupled with the seasoned loan proposal could enable some stated income and collateral lending to resurface and wants to keep some powder dry, just in case, on that issue. Assuming these proposals move forward, we’ll see if the industry acts responsibly and uses the flexibility provided by these proposals to innovate for consumers to expand homeownership opportunities or as a slow track Trojan Horse to make irresponsible loans.

[1] I believe 2020’s crazy crown was conferred (note use of alliteration again) by the arrival of COVID-19 and murder hornets, but RBG’s passing and the upcoming battle over a new SCOTUS justice make me wonder about 2020’s use of steroids.

[2]Apparently, some non-rural banks might get excited about another proposal to expand QM balloon loan eligibility. I don’t expect many calls on that one.

[3]Those of you who remember my grilling tip from February will also remember my suggestion to season your meat before searing. You still have until September 28 to comment on the CFPB’s seasoned QM proposal.

[4] I was tempted to use the idiom “Big Kahuna” here. Kahuna is Hawaiian word for a wise or respected person. I recently ate a sub sandwich called the Big Kahuna from Jersey Mikes, but many Hawaiians find the term Big Kahuna offensive, so best to avoid that temptation. Jersey Mike is apparently not so enlightened (another New Jersey thing?).

[5]BTW, I obtained clearance on use of the term, “whole enchilada” as mostly non-offensive from a few Mexican friends. I would also feel comfortable saying, “the whole Magilla” without having to ask anyone.

[6] Stated income loans really were collateral-based.

[7]Someone please explain to me why the points and fees paid at closing matters at all to an ability to repay test that looks at payment history over 3 years.

[8] For example, the movie “Dodgeball” offered an unorthodox way to train dodgeball players. “If you can dodge a wrench, you can dodge a ball.”

[9]Rich is another outstanding mortgage banking attorney I haven’t mentioned previously in the Musings.