The Consumer Financial Protection Bureau (CFPB) is trying to crack down on some of the biggest contributors to the financial crisis: mortgage loans with balloon payments, high-interest loans, no-doc loans and loans that exceed 43 percent of a borrower’s income.
The agency’s newly finalized rule that goes into effect in January 2014 creates a qualified mortgage standard and ability-to-repay rule that forbids those kinds of loans, that is, unless the lender wants to get sued for making them.
The trouble for small community banks and rural lenders is they often make some of those loans and they’re not trying to fleece customers.
Community banks sometimes make balloon payment loans of about five or seven years to hedge against interest rate risk. It sounds like a bad deal for the consumers, but these loans are kept in the bank’s portfolio and then simply refinanced without fees when the term is up–so no balloon payment is ever made and the borrower isn’t socked with a hefty reappraisal fee and other fees normally associated with a refinance.
People who don’t qualify for a loan under Fannie Mae and Freddie Mac underwriting standards–they work for themselves and don’t have a steady paycheck, or they own property that doesn’t qualify for a Fannie or Freddie loan for example—might be interested in getting such a loan from a community bank.
The banks don’t sell these loans in the secondary market or to a governmental authority. The bank keeps these loans, and their inherent risk, on their books. The logic is the bankers know their customers (in fact, their families have probably known each other for upward of 50 years).
One such banker is Jeff Boudreaux, the president and CEO of The Bank, in Jennings, Louisiana, a community of about 12,000 people about 36 miles from Lake Charles.
“We can’t make 20- to 30-year fixed-rate loans because we don’t know what will happen with CD rates,’’ he says. “We cannot box ourselves in and have that interest rate risk.”
The CFPB recognized that some small banks and lenders serve rural areas and other parts of the country that don’t have good access to credit. The agency said it wants to mitigate the risk that the new qualified mortgage rules would cut access to credit for people in those areas. The agency is carving out some exceptions for rural and small lenders. Yet, some community banks may still fall through the cracks.
For instance, rural lenders can make qualified mortgages with a balloon payment as long as they stay on the bank’s portfolio and the lender makes more than 50 percent of their mortgages in a designated rural or underserved area. The definition of rural will come from the U.S. Office of Management and Budget, but lenders such as The Bank won’t qualify. Despite its rural nature, Jennings falls in the metro area of Lake Charles. Only about 9 percent of the U.S. population lives in a designated rural area, says Matt Lambert, senior manager and policy counsel for the Conference of State Bank Supervisors (CSBS).
In a separate proposed rule available on the CFPB’s web site, the agency proposes creating a fourth category of qualified mortgages for borrowers who don’t meet the required 43 percent debt to income ratio or will be getting an interest rate that exceeds 150 basis points of the prime lending rate. The only entities that qualify to make such loans would be certain non-profit or designated housing organizations, or small lenders with less than $2 billion in assets that made fewer than 500 first-lien covered loans the previous year. Those lenders will be able to charge as much as 350 basis points above the prime rate. They must keep those loans in their portfolios, however.
But those lenders still can’t do interest only, negative amortization or balloon payment loans, or charge more than 3 percent in total fees and points (a higher fee is allowed for loans below $75,000), otherwise the mortgage is no longer a qualified mortgage. The rule has not been finalized.
Michael Stevens, senior executive vice president at the CSBS, points out that non-qualified mortgages are still allowed. They just don’t carry the newly created legal protection for lenders against lawsuits.
The question is whether a lot or very little lending will take place outside the definition of a qualified mortgage. Stevens thinks that if a lot of good borrowers are left out of the mix, the market will find a way to serve those people.
Richard Cordray, the director of the CFPB, this week encouraged the audience at a Credit Union National Association meeting to make loans outside the qualified mortgage rule.
“Of course, we understand that some of you–or your boards or lending committees–may be initially inclined to lend only within the qualified mortgage space, maybe out of caution about how the regulators would react,’’ he said in written remarks. “But you should have confidence in your strong underwriting standards, and you should not be holding back.”
Chris Williston, the president and chief executive officer of the Independent Bankers Association of Texas, is not satisfied. He wants a two-tiered system of regulation: one for small banks and one for larger banks that have the resources for complying with a deluge of government regulations.
The new qualified mortgage rule alone has more than 800 pages in it, and a concurrent proposal has more than 180 pages.
“All of our bankers are just weary and frustrated,’’ Williston says. “We have a lot of banks that are ready to throw in the towel.”