On Aug 31, I wrote about the Qualified Mortgage Safe Harbor exemption expiring and the original purpose of the Safe Harbor. To refresh memories, the purpose of the Safe Harbor exemption was to allow the GSE’s, Fannie and Freddie, to avoid the 43% Debt Ratio limitations imposed by the Qualified Mortgage rule. The exemption would prevent mortgage lending from “stalling” further, and help prop up the Housing and Lending industries. I also reported on how banks are beginning to restart the Mortgage Backed Securities business.
CoreLogic has spent considerable time looking at the lending data that they accumulate in the course of their business activities. The data has revealed some not so surprising results.
“Loan application data illustrates that the current GSE Patch (Safe Harbor) disproportionately benefits younger millennials and retirees, Non-W-2 borrowers, low income borrowers, and borrowers purchasing low-to-mid priced homes.”
In another CoreLogic blog post it is noted that “minority borrowers and those purchasing homes in underserved neighborhoods similarly depend upon the GSE Patch.”
To illustrate the evidence, CoreLogic has prepared a number of graphs that we can look at to see just what has gone on.
Figure 1 displays Purchase Mortgages with Debt to Income Ratios over 43% by the agency funding them. As would be expected, FHA loans would have the greatest number of loans over the 43% Debt Ratio, since they allowed DTI’s up to 55%. Unexpected was the number of VA loans greater than 43%, but since VA loans have great performance history, then this is not a concer.
The “Convential Conforming” category consists of the Fannie and Freddie loans. Both GSE’s had higher standards for lending and it reflects in the fewer numbers of 43% plus Debt to Income Ratios. But note the increase in the number of loans above 45% DTI when Fannie lossened the requirements to 50%.
The loans above 43% DTI would not be Qualified Mortgages without the Safe Harbor provision. (There are limited circumstances where some could still be QM while greater than 43%, but that is another discussion to be had.)
When the Safe Harbor exemption expires in Jan 2021, it will be these loans where banks will focus upon MBS activities.
Figure 2 presents the distribution of greater than 43% DTI loans by age group. There is some relevance to age and DTI, where both the young and old have higher DTI rations, but I find the distribution to not be that significant overall. The reason is that even though young and old have greater DTI percentages, the reality is that the number of borrowers in those age groups are far less, especially when Purchase Loans are factored in.
Figure 3 is an interesting graph. It shows that “Non-W-2” persons have a greater percentage of borrowers 43% than W-2 borrowers. There are a couple of things to note on this graph.
- W-2 employees will consist of both low income and high income earners. Low income earners will usually have greater Debt to Income Ratios than high income earners, so that is why W-2 is over 30%.
- Non W-2 income earners are the self employed, independent contractors, etc. Their Non W-2 status actually “warps” the actual percentages represented. The reason is very simple.Ever meet the guy who has a new car every year, or lives in very expensive homes with all the toys? Usually, when the person is self employed, he has all sorts of tax deductions that he can take advantage of to reduce his income. (I have personally known people like this who show only $10k to $15k income per year, but have all the toys.)
There are various methods that the low income self employed person can be approved for loans, and legitimately so. But just looking at their tax returns, one would not know how much they really made without in depth analysis. So when that happens, it is easy to get “inflated” Debt Ratios that are not truly representative of what is going on.
Figure 4 presents the number of Purchases Mortgages over the 43% Debt Ratio by Annual Income of the borrowers. The graph shows that the less the income, the greater the Debt Ratios.
Unfortunately, the graph does not break down the numbers further, especially by W-2 versus Non-W-2. If it did, there would be a more accurate representation of what is present.
Without question, the graph reflects that the Safe Harbor provision exempting 43% maximum Debt Ratios has benefited those with the lowest Annual Income in far greater numbers than those with higher incomes.
Figure 5 presents perhaps the “cleanest” picture of what is going on and even then, it leaves much out.
Debt to Income Ratios can be highly dependent upon the loan amount needed for purchase of a home. As the loan amount increases up to around $220k, Debt to Income Ratios tend to increase. But as loan amounts increase further, there tends to be a drop in percentages again and the higher the amount, the less the percentages.
There is a “human factor” to explain why at the lower loan amounts, there is an increase in Debt Ratio percentages. Buyers typically will want to get “as much house” as they can when buying. So they go for the most home and loan that they can be approved. But this is not without risk.
As Debt Ratios increase at the lower loan amounts, people will have less Disposable Income. Less Disposable Income reduces the Ability to Pay of the borrower. So the risk for such loans is much greater.
Looking at the CoreLogic graphs, it is easy to extrapolate why the Safe Harbor Exemption benefits those who are both younger borrowers and retirees. As well, the self employed, low income borrowers and those buying lower priced homes enjoy the same benefits.
Without the ability of the GSEs to purchase such loans, the borrowers/buyers would go wanting for financing of home purchases.
It is this that explains why the banks are looking at “restarting” the Mortgage Backed Securities issuances. The banks will be able to use the higher Debt Ratio loans to form the pools of mortgages and sell them to investors, even though there will be greater risk of default.
In my next article, I will take a look at the current FHA loan performance reports to illustrate why there will be such increased risk with the loans that will comprise the new MBS issuances.