As part of the financial reform legislation, Congress designed a clear
framework for improving the quality of mortgage lending and restoring
private capital to the housing market. To discourage excessive risk
taking, Congress required securitizers to retain five percent of the
credit risk on loans packaged and sold as mortgage securities.
However, because across-the-board risk retention would impose
significant costs on responsible, creditworthy borrowers, legislators
also created an exemption for Qualified Residential Mortgages,
defined to include mortgages with product features and sound
underwriting standards that have been proven to reduce default.
Unfortunately, regulators have drafted proposed Qualified Residential
Mortgage (QRM) rules that upset the important balance contemplated by
Congress. Rather than creating a system of penalties to discourage
bad lending and incentives for appropriate lending, regulators have
developed a rule that is too narrowly drawn. Of particular concern
are the provisions of the proposal mandating high down payments.
Other aspects of the proposal such as the proposed debt-to-income
ratios and credit standards will also raise unnecessary barriers for
creditworthy borrowers seeking the lower rates and preferred product
features of the QRM. Additional analysis of these issues will be
addressed in updates to this White Paper.
The proposed QRM exemption requires a high down payment proposed at
20 percent, with even higher levels of minimum equity required for
refinancing despite the fact that Congress considered and rejected
establishing high minimum down payments because they are not a
significant factor in reducing defaults compared to other underwriting
and product features. In fact, the three sponsors of the QRM
provision have sent letters to the regulators saying that they
intentionally did not include down payment requirements in the QRM.
Requiring down payments of 20 percent or more is deemed by some as
getting back to basics. However, well-underwritten low down payment
home loans have been a significant and safe part of the mortgage
finance system for decades. The proposed QRM exemption ignores these
data and imposes minimum down payments of 20 percent, and equity
requirements for refinancing borrowers of 25 percent or 30 percent.
As a result, responsible consumers who maintain good credit and seek
safe loan products will be forced into more expensive mortgages under
the terms of the proposed rule simply because they do not have 20
percent or more in down payment or equity. These mortgages will be
more expensive for consumers because the capital and other costs of
retaining risk will be passed onto them, if the private market chooses
to offer loans outside of the QRM standard at all. In other words,
the proposal unfortunately penalizes qualified, low-risk borrowers.
The QRM should be redesigned to align with Congressional intent:
encourage sound lending behaviors that reduce future defaults without
harming responsible borrowers and lenders. With respect to credit
availability for high loan-to-value lending, the statute specifically
recommends eligibility for the QRM standard provided the loans are
covered at the time of origination by mortgage insurance, or other
credit enhancements, to the extent these protections reduces the risk
of default.
Consumer Impact of Proposed QRM
By imposing excessively high down payment standards regulators are
denying millions of responsible borrowers access to the lowest rate
loans with the safest loan features. The only beneficiaries of the
proposed QRM definition are those consumers with higher incomes who
can afford to make large down payments or who already have ample
equity in their homes.
Based on 2009 income and home price data, it would take almost 9 years
for the typical American family to save enough money for a 10 percent
down payment, and fully 14 years to save for a 20 percent down payment
(Table 1), assuming that the family directs every penny of savings
toward a down payment, i.e. nothing for their childrens education,
retirement or a rainy day. A 20 percent down payment requirement for
the QRM means that even the most creditworthy and diligent first-time
homebuyer cannot qualify for the lowest rates and safest products in
the market. Even 10 percent down payments create significant barriers
for borrowers, especially in higher cost markets (See Attachment 1).
This will significantly delay or deter aspirations for home ownership,
or require first-time buyers to seek government-guaranteed loan
programs or enter the non-QRM market, with higher interest rates and
riskier product features without adding a commensurately greater
degree of sustainability overall.
Years for Median Income Family to Save for Down Payment
20% Down Payment 10% Down Payment 5% Down Payment 3.5% Down Payment
Median Sales Price
$172,100 $172,100 $172,100 $172,100
Down payment + Closing Costs (est. @ 5%) $43,025 $25,815 $17,210
$14,628
# of Years Needed to Save @ $3000 per year 14 years 9 years 6 years
5 years
Source: Center for Responsible Lending Issue Brief, Dont Mandate
Large Down Payments on Home Loans. Based on NARs 2009 median home
price of $172,100, and median family income of $49,777. At $3000 per
year, the savings rate in the example is 6%, equal to the current
savings rate, which is at the highest annual level since the early
1990s. These figures are very conservative in that they assume 100% of
family savings are dedicated towards a home down payment.
Minority households will be particularly hard hit by the proposed
narrow QRM standard. As highlighted in a recent paper by Lewis
Ranieri and Ken Rosen, these families already have significantly lower
before tax family incomes and net worth than white households, which
translate into sharply lower homeownership rates. Ranieri and Rosen
note that current underwriting standards are already unduly
restrictive, and that private capital, along with the GSEs and FHA,
should be encouraged to return to active lending for all creditworthy
borrowers. Unfortunately, the proposed QRM cuts sharply against this
important recommendation.
The impact of the proposed rule on existing homeowners is also
harmful. Based on data from CoreLogic Inc., nearly 25 million current
homeowners would be denied access to a lower rate QRM to refinance
their home because they do not currently have 25 percent equity in
their homes (Table 2). Many of these borrowers have paid their
mortgages on time for years, only to see their equity eroded by a
housing crash and the severe recession. Even with a 5percent minimum
equity standard, more almost 14 million existing homeowners many
undoubtedly with solid credit records will be unable to obtain a
QRM. In short, the proposed rule moves creditworthy, responsible
homeowners into the higher cost non-QRM market.
Equity Position of U.S. Homeowners with Mortgages
47.9 million U.S. homeowners with mortgages: 30% equity 25% equity
20% equity 10% equity 5% equity
# with less than 27.5 million 24.8 million 21.9 million 16.3 million
13.5 million
% with less than 57% 52% 46% 34% 28%
Source: Community Mortgage Banking Project; based on data from
CoreLogic Inc.
As now narrowly drawn, QRM ignores compelling data that demonstrate
that sound underwriting and product features, like documentation of
income and type of mortgage have a larger impact on reducing default
rates than high-down payments.
A further analysis of data from CoreLogic Inc. on loans originated
between 2002 and 2008 shows that boosting down payments in 5 percent
increments has only a negligible impact on default rates, but it
significantly reduces the pool of borrowers that would be eligible for
the QRM standard. Table 3 and in Attachment 2 show the default
performance of a sample QRM based on the following attributes of
loans: Fully documented income and assets; fixed-rate or 7 year or
greater ARMs; no negative amortization; no interest only loans; no
balloon payments; 41% total debt-to-income ratio; mortgage insurance
on loans with 80% or greater loan-to-value ratios; and maturities no
greater than 30 years. These QRM criteria were applied to more than
20 million loans originated between 2002 and 2008, and default
performance is measured by origination year through the end of 2010.
As shown in Table 3 (and in Attachment 2), moving from a 5 percent to
a 10 percent down payment requirement on loans that already meet the
defined QRM standard reduces the default experience by an average of
only two- or three-tenths of one percent for each cohort year.
However, the increase in the minimum down payment from 5 percent to 10
percent would eliminate from 7 to 15 percent of borrowers from
qualifying for a lower rate QRM loan. Increasing the minimum down
payment even further to 20 percent, as proposed in the QRM rule, would
amplify this disparity, knocking 17 to 28 percent of borrowers out of
QRM eligibility, with only small improvement in default performance of
about eight-tenths of one percent on average. This lopsided result
compromises the intent of the QRM provision in Dodd-Frank, which is to
assure clear alignment of interests between consumers, creditors and
investors without imposing unreasonable barriers to financing of
sustainable mortgages.
QRM: Impact of Raising Down Payments Requirements
on Default Rates and Borrower Eligibility
Origination Year 2002 2003 2004 2005 2006 2007 2008
Reduction in default rate* by increasing QRM down payment from 5% to
10% 0.2% 0.1% 0.3% 0.3% 0.2% 0.5% 0.2%
Proportion of borrowers not eligible for QRM at 10% Down 7.6% 6.6%
9.0% 8.4% 10.9% 14.7% 8.4%
Reduction in default rate* by increasing QRM down payment from 5% to
20% 0.6% 0.3% 0.7% 0.8% 0.8% 1.6% 0.6%
Proportion of borrowers not eligible for QRM at 20% Down 19.2% 16.7%
23.0% 22.9% 25.2% 28.2% 20.7%
* Default = 90 or more days delinquent, plus in process of
foreclosure, plus loans foreclosed.
Importantly, this analysis takes into account the impact on the
performance of the entire cohort of defined QRMs that would result
from moving from a 5% minimum down payment on QRMs in that cohort, to
a 10 percent and a 20 percent minimum down payment. As such, it shows
the broad market impact of a QRM with a 5 percent down payment
requirement compared to a QRM with a 10 percent or 20 percent down
payment requirement, rather than simply comparing default risk on 5
percent down loans to 20 percent down loans. Clearly, moving to
higher down payments has a minor impact on default rates market-wide,
but a major adverse impact on access by creditworthy borrowers to the
lower rates and safe product features of the QRM.
Housing Market Impact of Proposed QRM
Strong and sustainable national economic growth will depend on
creating the right conditions needed for a housing recovery. The high
minimum down payment/equity requirements and other narrow provisions
of the proposed QRM will impair the ability of millions of households
to qualify for low-cost financing, and could frustrate efforts to
stabilize the housing market. To date, regulators have not provided
an estimate of the cost of risk retention to the consumer. This
should be done before finalizing a rule that imposes 5 percent risk
retention across such a broad segment of the market.
Some private estimates have concluded that 5 percent risk retention
could result in a three-percentage point rise in interest rates for
loans funded through securitization. In other words, todays 5
percent market would become an 8 percent interest-rate market. While
that estimate may be high, even a one-percentage point increase in
interest rates could be devastating to a fragile housing market.
According to estimates from the National Association of Home Builders,
every 1 percentage point increase in mortgage rates (e.g., from 5
percent to 6 percent) means that 4 million households would no longer
be able to qualify for the median-priced home. A 3-percentage point
increase would price out over 12 million households. Moreover, any
increase in rates that results from broad application of risk
retention to most borrowers would be in addition to a general increase
in interest rates forecast by most economists over the next 12-18
months.
For those markets already hardest hit by the housing crisis, the
proposed narrow QRM definition will exacerbate conditions. For
example, the five states most adversely impacted by the proposed QRM
rule are Nevada, Arizona, Georgia, Florida and Michigan (see Table
4). As a result of price declines already suffered in these states,
at least two out of three homeowners do not have at least 25 percent
equity in their homes that would allow them to refinance with lower
rate QRM. Six out of ten would not be able to move and put 20 percent
down on their next home.
Proportion of Existing Homeowners that Do Not Meet QRM Equity
Requirements
State: Proportion of homeowners with less than 30% equity less
than 25% equity less than 20% equity
Nevada 85% 83% 80%
Arizona 75% 72% 68%
Georgia 71% 65% 59%
Florida 70% 66% 63%
Michigan 68% 64% 59%
Source: Community Mortgage Banking Project, data from CoreLogic Inc.
For those borrowers that have already put significant skin in the
game through down payments and years of timely mortgage payments,
only to see their equity eroded by the housing collapse, the proposed
QRM definition tells them they are not gold standard borrowers and
they will have to pay more. In effect, the proposed QRM would
penalize families who have played by the rules, scraped each month to
pay their bills, kept their credit clean, and saved for a modest down
payment.
With major regional housing markets ineligible for lower cost QRMs
under the proposed rule, many states and metropolitan areas that have
seen the sharpest price declines will face higher interest rates,
reduced investor liquidity, and fewer originators able or willing to
compete for their business. These areas face long-term consignment to
the non-QRM segment of the market.
It is important to emphasize that the adverse impact of the proposed
narrow QRM is entirely unnecessary. Well-underwritten low-down
payment loans can and should play an essential role in a sustained
housing recovery. As noted by economist Mark Zandi in a detailed
report on the QRM issue, low down payment mortgages that are well
underwritten have historically experienced manageable default rates,
even under significant economic or market stress.
Market Structure
The proposed narrow QRM rule discourages development of a renewed,
robust and diversified private lending market. Under the restrictive
QRM rule, the vast majority of loans will be non-QRMs subject to the
higher costs of risk retention and without regulations that mandate
sound underwriting standards. It is not clear whether investors view
risk retention as a sufficient substitute for good underwriting,
strong documentation, and well-structured mortgage products.
Moreover, with a statutory exemption for FHA and VA, government-backed
loans will have a significant market advantage over fully private
loans. As a result, the proposed rule will delay, or even halt, the
return of fully private capital back into the market. This is
contrary to the purpose of the QRM. Mortgage securitization pioneer
Lew Ranieri has strongly supported efforts to reform the
securitization process and improve the incentive structures in the
market, but in response to the proposed rule, Ranieri has said: The
proposed very narrow QRM definition will allow very few potential
homeowners to qualify. As a result, it will complicate the withdrawal
of the Governments guarantee of the mortgage market. I fear it will
also delay the establishment of broad investor confidence necessary
for the re-establishment of the RMBS market.
Although the treatment of the GSEs in the proposed rule mitigates the
immediate adverse impact of the rule on the housing market, it is not
a viable long-term solution, and does little to establish the
certainty needed for a strong private secondary mortgage market to
develop based on sound underwriting principles and product standards.
Rather than rely solely on a short-term fix, the regulators should
follow Congressional intent and establish a broadly available QRM that
will create incentives for responsible liquidity that will flow to a
broad and deep market for creditworthy borrowers.
Finally, it is not clearly evident that risk retention itself will
attract investors to securitizations backed by non-QRMs. If investors
do not find non-QRM securities attractive, or issuers find that the
costs of the risk retention rule render securitization unviable, the
large non-QRM market created by the rule will be dominated by
portfolio lending. This likely means reduced market liquidity, a
shift away from 30-year fixed rate loans, and a move toward more
portfolio products like ARMs and hybrid ARMs (e.g., a fixed rate for 5
years that converts to a one year ARM).
If this occurs, the risk retention rule will have inadvertently tilted
the market further toward large banking institutions that have the
balance sheets to handle it. In 2000, the top 5 lenders accounted for
less than 29 percent of total mortgage originations. Today, just
three FDIC-insured banks control nearly 55 percent of all single-
family mortgages originations. By creating such a narrow QRM market,
the proposed rule could reduce competition from community-based
lenders that are unlikely to have (or be willing to allocate)
sufficient capital to hold significant mortgage portfolios under the
QRM rules. The result would be to further accelerate consolidation of
the mortgage finance market. In short, the proposal creates real
systemic risk, while doing little to relieve it.
Conclusion
The proposed QRM rule is narrowly drawn, producing a requirement that
is misaligned with three key pillars of Congressional intent:
? For consumers, the QRM was intended to provide creditworthy
borrowers access to well-underwritten products. Although Congress
intended for QRMs to be broadly available, the regulators acknowledge
that they crafted this rule to make the QRM a very narrow slice of
the market.
? Despite specific Congressional rejection of down-payment
requirements in the QRM legislative provisions, a fact attested to by
the QRM sponsors, the regulators have insisted upon a punitive down
payment requirement, even when confronted with ample historical loan
performance data that shows down payment is not a primary driver of a
loans performance provided the loan has been properly underwritten
and has consumer-friendly features.
? For the housing market, the statutory intent of the QRM was to
provide a framework for responsible liquidity provided by private
capital that would be broadly available to support a housing
recovery. However, the QRM definition in the proposed rule is so
narrow that the vast majority of both first-time and existing
homeowners will face potentially significantly higher interest rates,
or have to postpone purchases and refinances.
? For the structure of the housing finance market, the QRM was
intended to help shrink the government presence in the market, restore
competition and mitigate the potential for further consolidation of
the market. Again, the proposed rule is likely to have the opposite
impact.
Regulators should redesign a QRM that comports with Congressional
intent: encourage sound lending behaviors that support a housing
recovery, attract private capital and reduce future defaults without
punishing responsible borrowers and lenders.
IMPACT OF INCREASING MINIMUM DOWNPAYMENT ON DEFAULT RATES FOR LOANS
THAT MEET QRM STANDARDS
Low Down Payments not a Major Driver of Default when Underwritten
Properly
Source: Vertical Capital Solutions of New York, an independent
valuation and advisory firm conducted this analysis using loan
performance data maintained by First American CoreLogic, Inc. on over
30 million mortgages originated between 2002 and 2008. The QRM in
this analysis is based on fully documented income and assets; fixed-
rate or 7-year or greater ARMs; no negative amortization; no interest
only loans; no balloon payments; 41% total debt-to-income ratio;
mortgage insurance on loans with 80% or greater loan-to-value ratios;
and maturities.
Read more on Realtor.org at http://www.realtor.org/topics/qrm
Prepared by:
American Land Title Association
Asian Real Estate Association of American
Black Leadership Forum
Center for Responsible Lending
Community Reinvestment Coalition of North Carolina
Community Mortgage Banking Project
Community Mortgage Lenders of America
Consumer Federation of America
HomeFree USA
International Association of Official Human Rights Agencies
Mortgage Bankers Association
Mortgage Insurance Companies of America
National Association of Federal Credit Unions
National Association of Hispanic Real Estate Professionals
National Association of Home Builders
National Association of Human Rights Workers
National Association of Real Estate Brokers
National Association of Realtors
National Community Reinvestment Coalition
National Fair Housing Alliance
National Housing Conference
National NeighborWorks Association
National Urban League
North Carolina Institute for Minority Economic Development
Oak Park Regional Housing Center and West Cook Homeownership Center
Real Estate Services Providers Council
Worldwide ERC
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