Dodd-Frank impacts lenders in many ways. In the span of less than two years there are now many new rules that will have material impact on the conduct of all mortgage originators and assignees. Consider the following impending rules:
- Qualified Mortgage (QM) / Ability to Repay (ATR)
- LO Comp Rule (Reg. Z)
- Appraisal Rules:
- Joint Rule (TILA / Reg.Z – HPML)
- Copy Rule (ECOA)
- Escrow Rule
- Know Before You Owe / Integrated Disclosures (TILA / RESPA)
While all are important, the Ability to Repay (ATR) elements of the Qualified Mortgage (QM) rules is first on our list. That’s where we’ll turn our attentions this month.
The Ability to Repay requirements with the Qualified Mortgage
A QM is a new loan classification that represents how the lender has made a thorough assessment of, and has fully documented, a borrower’s ability to repay their covered loan. Currently, Regulation Z, as amended by the Board of Governors of the Federal Reserve System in 2008, prohibits creditors from extending Higher-Priced Mortgage Loans (HPML) without regard for the consumer’s ability to repay. The ATR rule extends application of this requirement to all loans secured by dwellings, not just HPMLs. Also of note, this final rule establishes a Safe Harbor that contains a “presumption of compliance” with the ATR requirement for non-HPML QMs. While the ATR rule does not specify any particular underwriting model, lenders must consider and validate, at a minimum, 8 discrete underwriting factors:
- the borrower’s current or reasonably expected income or assets (other than the value of the dwelling, including any real property attached to the dwelling) that secures the loan;
- the borrower’s current employment status, if the lender relies on income from the borrower’s employment in determining repayment ability;
- the borrower’s monthly payment on the covered transaction, calculated using the greater of a fully-indexed rate or any introductory rate and using sustainably equal, monthly, fully amortizing payments;
- the borrower’s monthly payment on any simultaneous loan that the lender knows, or has reason to know, will be made;
- the borrower’s monthly payment for mortgage-related obligations (i.e., insurance premiums, property taxes, any similar charges required by the creditor, fees and special assessments imposed by an association, Co-Op, or PUD, any ground rents, and/or general leasehold payments);
- the borrower’s current debt obligations, and any alimony, and/or child support;
- the borrower’s monthly debt-to-income ratio (DTI), or residual income; and
- the borrower’s credit history.
If a covered transaction satisfies the requirements of a QM, and is not a HPML, then the lender is deemed to have complied with the ATR requirement and is entitled to the Safe Harbor and Presumption of Compliance. If the loan falls into the Safe Harbor, this means that there is a conclusive presumption that the lender has made a good faith and reasonable determination of the consumer’s ability to repay. Therefore the borrower cannot, at a later point, assert that the lender violated the ATR requirements of Regulation Z.
If the loan is a QM but falls within the HPML categorization, even despite being underwritten to these same ATR criteria, then the HPML QM does not fall into the Safe Harbor. In this case only a Rebuttable Presumption exists for the loan’s compliance. This Rebuttable Presumption permits a consumer to assert a violation of the ATR requirements, under a Regulation Z claim, and the borrower must demonstrate that, at the time that the loan was originated, the lender did not knowingly make a good faith and reasonable determination of the consumer’s ability to repay and the borrower clearly lacked the ability to repay.
What is my risk as a lender or assignee? A mortgage loan that is not a QM and that does not meet the ATR requirements may subject a lender, and the assignees of the loans, to civil liability (where borrower has a private right of action) under the Truth-in-Lending Act (TILA) and could very likely provide the borrower with a defense to foreclosure. In addition to actual damages that lenders and assignees face, there exists the potential for the imposition of statutory damages in an individual, or class action for a compliance failure. As if that is not enough of a deterrent, the Dodd-Frank Act has also amended TILA to include special statutory damages for a violation of the ability-to-repay requirement equal to the sum of all finance charges and fees paid by the borrower for any material failure to comply.
There is, of course, more underwriting criteria to the Qualified Mortgage Rules. Now is a good time to review your underwriting standards to determine how closely they align with the eight criteria listed above. Then there is the bigger question: as a lender do you know what percentage of your loans currently would meet QM (non-HPML) or QM (HPML) requirements? Or, as CFPB Director Cordray suggested within the past several months, there are many good loans to be made that fall outside the rules. It’s time to assess these questions and the risk associated with each of these loan categorizations. Qualified Mortgage Rules go into effect in January 2014.