Home Buyers Face Growing Scrutiny as Lenders Tighten Standards, Look Beyond Credit Scores
If you hope to get a mortgage this coming year, look beyond your credit score, because that’s what lenders will be doing.
The mortgage mess that has grabbed the attention of politicians, economists and investors has also altered the loan options available to borrowers. Mortgages that require no down payment or no verification of income or assets have fallen out of favor. So have mortgages that exceed $417,000, also known as jumbo loans. It’s still possible to find all those types of loans, but count on paying higher rates and jumping through more hoops.
When homes prices were rising, the borrower’s credit score was pretty much all that mattered to lenders. Back then, homeowners could quickly build equity. That made it easier for them to sell or refinance their homes if they were strapped for cash, which insulated lenders from defaults. “So the credit score trumped everything,” said Keith Gumbinger, a vice president at research firm HSH Associates.
But income matters now, and so does cash, said Sean O’Boyle, a vice president at SunTrust Mortgage in Chevy Chase. Lenders expect borrowers to have several months’ worth of mortgage payments in reserve and a steady job.
Lenders Now Expect Down Payment
Lenders expect borrowers to put money down now, the norm being about 5 percent, said John Ulzheimer, president of consumer education for Credit.com, a personal-finance Web site.
While a few loans may require just 1 percent to 3 percent down, "lenders in those cases are looking for immediate equity in the property, meaning the appraisal has to come out at or greater than the amount of money being borrowed," Ulzheimer said.
For instance, if a home is appraised at $170,000 and sells for $160,000, the buyer has an instant $10,000 in equity, from the lender’s perspective.
The more conservative lending environment has also meant a partial return to traditional underwriting ratios.
The Rule of Thirds
Those were formulas dictating that your monthly mortgage payment, including taxes and insurance, should not exceed 28 percent of your gross pay, and that all your loans, mortgage included, should not exceed 36 percent.
"I called it hurdle underwriting," said Margie Hoffberg, president of Residential Mortgage Center, a Rockville mortgage brokerage.
"The idea was that a third of your check went to taxes, a third to housing and a third would be left for everything else.
We’d start with that, and if you could not get past that hurdle, we could not do your loan.
It didn’t matter what your income or credit score was."
"There’s no hard and fast rules about the ratios," said Jean Marie Pace, a loan officer at FNMC, a division of National City Bank.
"If your credit scores are high and your monthly debt is low compared to your income, the ratios matter less.
If that’s not the case, the ratios matter more."
You can even find loans that require no down payment or no proof of income.
Must Have Perfect Credit Score For No Money Down
"A lender might give you 100 percent financing, but they’ll demand that you have a tremendous credit score," said Gumbinger of HSH Associates.
"They might give you a loan that requires no documentation of income, but they’ll require that you have a 20 percent down payment to offset the risk they’re taking."
The requirements are being tightened for those who are buying a condominium, too.
Fannie Mae, the largest investor in U.S. mortgages, now requires that lenders take a closer look at the condo developments, as well as at the borrowers.
For lenders who want to sell loans to Fannie Mae, that increasingly means filling out questionnaires that review the number of renters at a condo development, the concentration of investors there, any pending lawsuits and other factors that can affect marketability.
Fannie Mae and Freddie Mac
Fannie Mae has always required the questionnaire, but it generally accepted less extensive reviews for many borrowers, said Eric D. Gates, a mortgage broker at Apex Home Loans in Bethesda.
The company is now limiting the shorter reviews to borrowers who have at least 10 percent equity.
Lenders who want to work with Fannie Mae and its rival, Freddie Mac, must conform to their rules.
More lenders are doing so because Wall Street investors perceive these so-called conforming loans as a much safer bet than nonconforming loans.
In the nonconforming category are most loans made to subprime borrowers, who are generally defined as people with low credit scores.
The scores that define subprime vary from lender to lender but traditionally have hovered around 620 on the most common scale, known as a FICO score, named after Fair Isaac Corp., a credit-rating agency.
Other factors that can knock people out of the more creditworthy "prime" category are past bankruptcy filings or foreclosures, as well as an inability or unwillingness to document income or assets.
When subprime borrowers can get a loan, it’s generally been at a higher rate.
But they will be hard-pressed to find any loan these days.
With this year’s jump in defaults, many investors stopped buying subprime loans, and funding for them dried up.
Subprime Loans
Mortgage bankers funded $177 billion in subprime loans in the first nine months of 2007, about $29 billion of it in the third quarter.
With subprime loans disappearing, the Federal Housing Administration has stepped in to fill the void for borrowers trying to refinance the loans they already have.
As higher rates kicked in, large numbers of borrowers started missing payments, which is why the Bush administration announced the FHA Secure program in late August.
The administration and some of the nation’s largest lenders also proposed a plan recently to temporarily freeze interest rates for some at-risk adjustable-loan borrowers.
"We back the 30-year, fixed-rate, garden-variety, plain-vanilla mortgage," FHA Commissioner Brian Montgomery recently said.
But the adjustable-rate mortgages that have been so closely linked with foreclosures are still widely available and can be a good fit for some borrowers, said Gumbinger of HSH Associates.
That makes them suitable for someone who plans to move before the rate adjusts.
These loans may also be the only choice for people who need jumbo loans, the ones exceeding $417,000.
Jumbo loans are not nearly as risky for lenders as subprime loans, but they are classified as nonconforming because Fannie Mae and Freddie Mac are prohibited from buying them.
When investors yanked their money out of the nonconforming market, some firms specializing in jumbo loans shut down, stopped making those loans or got more selective.
- Source: Washington Post, Dec. 29, 2007 — Summarized for you by
