New law Ability to Repay tightens mortgage regulations


Mortgage lenders will soon have to work under stricter regulations after passage of the federal government’s Ability to Repay rule, designed to reign in loose lending standards that officials blame for contributing to the Great Recession.

Ability to Repay is set to go into effect on Jan. 10. The regulation, promoted by the Consumer Finance Protection Bureau, is written to deter what the government calls “risky features,” such as loans allowing for interest-only payments or negative amortization, a term that refers to a payment schedule in which a borrower’s outstanding debt can increase even while payments are made.

The new standards also do not generally allow for points or fees charged to a borrower to add up to more than 3 percent of the loan amount.

Home loans that meet the new standards will be dubbed “qualified mortgages.” The rule does not always forbid lenders from issuing loans that do not conform to the standards, but issuing qualified mortgages will provide greater legal protections if a borrower files a lawsuit claiming that a lender failed to properly assess his or her ability to make mortgage payments.

Local lenders and experts said the new regulation, along with other factors, should put an end to the double-digit home price increases of the past year.

For example, Wells Fargo mortgage consultant Traci Stier said Ability to Repay essentially requires lenders to maintain evidence that they are doing what they should be doing anyway.

“It’s always been the rules,” she said. “Now, it’s more transparent, and we have a paper trail.”

Stier emphasized that she was speaking for herself and not on behalf of her employer.

California Mortgage Bankers Association spokesman Dustin Hobbs said most home buyers will not likely see much impact from the new rule, but “from the lenders point of view, it will have a long-term impact that we don’t know.”

The CFPB asserts the new rule effectively prohibits the “no documentation” loans that were issued before the housing bubble burst. Mortgages requiring little or no documentation were known as “Alt A” loans prior to the downturn, while mortgages issued to borrowers with bad credit were known as “subprime” loans.

These mortgages tended to carry higher costs than traditional loans, and the CFPB reports that Alt A and subprime loans originated in 2003 amounted to roughly $400 billion. Two years later, the amount rose to $830 billion in new debt.

Ability to Repay requires lenders to take into account a buyer’s employment status, along with his or her other debts and financial obligations. The rule generally requires that a borrower’s debt-to-income ratio should not exceed 43 percent of earnings.

That’s the key provision in the new law, said Daren Blomquist, executive vice president for RealtyTrac, an Irvine firm that tracks real estate data. Earlier proposals, he observed, could have been stricter — a 36 percent debt-to-income threshold or a 20 percent down payment requirement.

“There’s been a lot of uproar about the new mortgage5 standards, but the latest iteration of the proposed standards, these are a lot less scary than what people in the lending industry had thought,” Blomquist said.

An October white paper issued by Core Logic, a real estate data firm that also has offices in Irvine, declared that “it is fairly certain that the lending of pre-crisis years will not return.” The paper leaves open the possibility, however, that a “savvy entrepreneur” will figure out a means of issuing nonqualified mortgages while still figuring out how to maintain sound business practices and make money.

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