The Consumer Financial Protection Bureau published its final “ability to repay” mortgage rule on Jan. 10, 2013. This long-anticipated rule becomes effective on Jan. 10, 2014.
The rule comes in response to the financial crisis, which some experts say was at least partially caused by too many people obtaining mortgages they could not afford. The new rule requires mortgage lenders to determine that a potential borrower can repay the loan. Furthermore, the rule creates a new category of mortgages called “qualified mortgages,” which are presumed to meet the ability-to-repay criteria. Most of the mortgages made going forward are expected to be qualified mortgages.
Under the new rule, lenders will be required to verify a potential borrower’s ability to repay a mortgage. Eight specific facts must be checked:
- Income or assets
- Credit history
- Monthly mortgage payment
- Other monthly payments associated with the property
- Other monthly obligations associated with the mortgage
- Other debt
- Debt-to-income ratio
By requiring lenders to check at least these criteria, the rule prevents lenders from offering no-doc or low-doc loans, which were common prior to the financial crisis.
Qualified mortgages will have key features. Perhaps most importantly, qualified mortgages can only go to people who have a debt-to-income ratio of 43 percent or less. Also, qualified mortgages cannot include fees and points that exceed 3 percent of the loan amount, although some fees are excluded.
Qualified mortgages also generally prohibit loans with negative amortization, interest-only payments, balloon payments or terms beyond 30 years.
In an important concession to smaller banks in rural areas, a mortgage with a balloon payment will be eligible for qualified mortgage status if made in some rural or underserved areas. To be eligible, however, the loans must be for at least five years, have a fixed interest rate, and meet certain underwriting standards. The CFPB said it will publish a list every year naming which counties constitute rural or underserved areas.
Creditors are only eligible to make rural balloon payment mortgages if they originate at least 50 percent of their first-lien mortgages in counties that are rural or underserved, have less than $2 billion in assets, and originate no more than 500 first-lien mortgages per year.
Qualified mortgages will fall into two categories with respect to a borrower’s ability to sue the lender on the basis of its compliance with the ability to repay rules. Most mortgages will include a “safe harbor” for lenders, but higher-priced mortgages will have a “rebuttable presumption” which permits the borrower to file legal action against the lender. This arrangement represents a compromise of sorts, with consumer advocacy groups arguing that all mortgages should have a rebuttable presumption.
All the questions surrounding the ability to repay rule are not completely answered yet, however, as the CFPB also released for comment proposed rules regarding specific questions about specialized lenders. Among the areas CFPB is seeking comment is whether a new category of qualified mortgage should be established for loans without balloon payments originated and held in portfolio by smaller lenders. The CFPB expects to finalize these rules by spring.
Click here for the CFPB press release on the ability to repay rule.