With home prices rising in many markets around the country, might mortgage lenders start loosening up on their hyper-strict underwriting rules and extend loans to buyers who now find themselves on the sidelines?
Could current preferences for FICO credit scores in the mid-700s, down payments of 20 percent-plus, and tight debt-to-income ratios begin to ease a little, given the widely acknowledged fact that loans underwritten in the past several years have performed exceptionally well — that is, defaulted at low rates? Maybe.
A lower unemployment rate would help, say mortgage industry leaders, as would signs of more robust growth in the overall economy. But the industry is unlikely to go back to what Frank Nothaft, chief economist of Freddie Mac, the giant federally backed investor, calls “the loosey-goosey standards we had in 2005 through 2007″: minimal documentation of income and assets, zero down payments and a widespread disregard for applicants’ ability to afford payments on the mortgages they sought.
Nothaft added in an interview, however, that “we have gotten better news on the home-pricing front,” which might allay some bankers’ fears about making loans secured by assets that are declining in value.
So the answer is yes, there are possibilities for easing in the months ahead. But there are also signs that for certain borrowers, things could get worse. Fannie Mae, the other dominant investor along with Freddie Mac in the conventional mortgage market, is planning an overhaul of its automated underwriting system in October. Fannie’s system plays a huge role far beyond its own business, since lenders often submit borrowers’ application data through it to get a quick read on whether a loan meets the baseline tests for eligibility or not — even if the mortgage is destined ultimately for FHA, VA or a bank’s portfolio.
While Fannie Mae officials insist that the upcoming changes to credit risk evaluation and other factors won’t significantly alter the percentages of approvals that the system generates, they concede that some applicants who are currently getting green lights for loans won’t get them, and others who are currently on the margins will sail through.
Some changes in the Fannie underwriting black box almost certainly will make approvals tougher, such as for certain condo loans. Under its current guidelines, Fannie Mae’s system allows lenders to perform a “limited project review” on the financial and other conditions of the underlying condominium community when purchasers put down as little as 10 percent. But under the upcoming changes, applicants making down payments of up to 20 percent will be subjected to a “full project review.”
This is “potentially a big deal” for condo buyers and sellers, says Philip J. Sutcliffe, a condo financing consultant based in Lansdale, Pa. “Most lenders aren’t equipped” to perform a full project review, which involves “legal review of the condo documents” and other tasks that can be costly and time consuming. The net effect: Some lenders may not want to bother with the hassles and expenses that come with such condo applications, potentially cutting off a key source of mortgage money for unit sellers and purchasers.
Other signs that the lending industry may not be quite ready to loosen up: In the latest quarterly survey of banks conducted by the Comptroller of the Currency, 25 percent said they had tightened rules for mortgages in recent months, whereas just 10 percent said they had eased their standards. Two-thirds said their rules remained the same.
Also, a study by mortgage data firm Ellie Mae of new loans closed in June found that credit scores for approved mortgages remain extraordinarily high. Fannie and Freddie’s refinancings had an average FICO score of 767 and average equity percentages of 29 percent. Home purchase loans had average down payments of 21 percent and 763 FICOs. Even the conventional home purchase loan applications that lenders rejected had high credit scores and down payments by historical standards: 738 average FICOs and 19 percent down payments.
FHA, which used to average somewhere in the mid-600s for FICO scores on approvals, appears to be continuing to cherry-pick applicants as well, based on the Ellie Mae survey data, which the firm says represents approximately one-fifth of all loans originated in June. FHA’s average FICO on approved refis was 716, up three points from May. For successful home purchase applications, the average FICO score was 701.
What does all this mean? If there’s a loosening of underwriting standards coming down the road, there are scant hints of it at the moment.
Kenneth Harney is a syndicated real estate columnist