March 12, 2013

CFPB Issues Mortgage Rule on Consumers’ Ability-to-Repay

The Consumer Financial Protection Bureau ( CFPB ) has issued the much-anticipated final rules that implement residential mortgage reforms of the Dodd-Frank Wall Street Reform and Consumer Protection Act ( Dodd-Frank ). In a series of reports, PYA is analyzing the effect of each of these new rules, this week looking at the impact of the final rule that requires mortgage lenders to consider consumers ability to repay home loans before extending them credit.

The final rule, which takes effect January 10, 2014, is accompanied by a proposal-seeking comment on whether to include certain community-based lenders, housing-stabilization programs, certain refinancing programs of the Federal National Mortgage Association ( Fannie Mae ) or the Federal Home Loan Mortgage Corporation ( Freddie Mac ), and small-portfolio creditors. The CFPB anticipates finalizing the proposal during the spring of 2013.

In its discussion of the need for this rule, the CFPB says, During the years preceding the mortgage crisis, too many mortgages were made to consumers without regard to the consumer s ability to repay the loans. Loose underwriting practices by some creditors including failure to verify the consumer s income or debts and qualifying consumers for mortgages based on teaser interest rates that would cause monthly payments to jump to unaffordable levels after the first few years contributed to a mortgage crisis that led to the nation s most serious recession since the Great Depression.

The final rule consists of the following elements:

Ability-to-Repay Determinations

At a minimum, creditors must consider the following underwriting factors:

  • 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.

Presumption for Qualified Mortgages

Qualified mortgages, as defined by the Dodd-Frank Act, are entitled to a presumption that the creditor making the loan satisfied the ability-to-repay requirements, which is considered a safe harbor. The final rule provides a rebuttable presumption for higher-priced mortgage loans.

Grounds for rebutting the presumption exist when a consumer shows a violation with regard to a subprime qualified mortgage by demonstrating that at the time the loan was originated, the consumer s income and debt obligations left insufficient residual income or assets to meet living expenses. Such analysis considers the consumer s monthly payments on the loan; loan-related obligations; and any simultaneous loans of which the creditor was aware, and any recurring, material living expenses of which the creditor was aware.

The longer the period of time that the consumer has demonstrated actual ability to repay the loan by making timely payments, the less likely the consumer will be able to rebut the presumption based on insufficient residual income.

Requirements for Qualified Mortgages

The final rule prohibits the following types of loans from meeting the requirements of a qualified mortgage:

  • Loans with negative amortization.
  • Loans with interest-only payments.
  • Loans with balloon payments.
  • Loans with terms exceeding 30 years.
  • No doc loans where the creditor does not verify income or assets.
  • Points and fees paid by consumer that exceed 3% of the total loan amount (certain bona fide discount points are excluded for prime loans).

The final rule establishes general underwriting criteria for qualified mortgages, including:

  • Monthly payments should be calculated on the highest payment that will apply in the first five years of the loan.
  • The consumer should have total (or back-end ) debt-to-income ratio that is less than or equal to 43%.

The final rule also provides for a second, temporary category of qualified mortgages that have more flexible underwriting requirements if they satisfy the general product feature prerequisites for a qualified mortgage and also satisfy the underwriting requirements of, and are therefore eligible to be purchased, guaranteed, or insured by either: the government-sponsored enterprise ( GSE ) while they operate under federal conservatorship or receivership; or the U.S. Department of Housing and Urban Development, Department of Veterans Affairs, or Department of Agriculture or Rural Housing Service. This temporary rule will phase out over time as the various federal agencies issue their own qualified mortgage rules and if GSE conservatorship ends, and in any event after seven years.

Rural Balloon-Payment Qualified Mortgages

The final rule includes a provision that treats certain balloon-payment loans as qualified mortgages if they are originated and held in a portfolio by small creditors operating predominantly in rural areas or underserved areas. Creditors can make rural balloon-payment qualified mortgages if they originate at least 50% of their first-lien mortgages in counties that are rural or underserved, have less than $2 billion in assets, and originate no more than 500 first-lien mortgages per year.

Other Final Rule Provisions

  • The final rule prohibits prepayment penalties except for certain fixed-rate, qualified mortgages where the penalties satisfy certain restrictions and the creditor has offered the consumer an alternative loan without such penalties.
  • The final rule lengthens to three years the time creditors must retain records that evidence compliance with the ability-to-repay and prepayment penalty provisions and prohibits evasion of the rule by structuring a closed-end extension of credit that does not meet the definition of open-end credit as an open-end plan.

View the final rule regarding ability-to-repay here. To discuss the impact of the new mortgage rules on your institution, please contact the expert listed below at PYA, (800) 270-9629.

WE ARE REQUIRED BY IRS CIRCULAR 230 TO INFORM YOU THAT THE FOLLOWING DISCUSSION WAS NOT INTENDED OR WRITTEN TO BE USED, AND IT CANNOT BE USED, NOR RELIED UPON, BY ANY TAXPAYER FOR THE PURPOSE OF AVOIDING ANY PENALTIES THAT MAY BE IMPOSED UNDER FEDERAL TAX LAW. THE ADVICE WAS WRITTEN TO SUPPORT THE PROMOTION OR MARKETING OF THE TRANSACTIONS OR MATTERS ADDRESSED IN THE DISCUSSION. EACH TAXPAYER SHOULD SEEK ADVICE BASED ON ITS PARTICULAR CIRCUMSTANCES FROM AN INDEPENDENT TAX ADVISOR.