With origination volumes skyrocketing due to historically low interest rates, it would be an understatement to say lenders have been preoccupied in 2020. However, as the Consumer Financial Protection Bureau considers changes to the qualified mortgage rule, lenders must shift a portion of their focus to ensure they understand the proposed changes and are prepared to comply once the rule becomes final.
The CFPB’s proposals would eliminate the much-reviled Appendix Q and clarify several factors currently used to assess a borrower’s ability to repay — including the consumer’s current or reasonably expected income or assets and current debt obligations, alimony, and child support— and offer a path for loans to achieve safe harbor status over time. As with any regulatory change, the proposals offer cause for celebration and concern.
For example, many lenders will applaud the elimination of Appendix Q, which is based on underwriting guidelines from the Federal Housing Administration. Appendix Q marked the first foray by federal regulators into establishing underwriting standards, and while the effort was intended to give lenders a familiar, readily-understandable means for determining the debt-to-income threshold for the general QM safe harbor, the reality has been far more problematic.
The FHA’s underwriting standards were never meant to serve as the foundation for a “bright line” test such as the 43% DTI threshold, and as a result, Appendix Q created grey areas for lenders. Eliminating Appendix Q certainly resolves this challenge, but lenders must be clear that this may not absolve them of responsibility for determining DTI. Instead, it would simply eliminate the current basis for how lenders arrive at a DTI ratio.
The proposal would also replace the current 43% DTI threshold with a risk-based pricing threshold consisting of a 2-percentage-point tolerance limit for first-lien mortgages between a loan’s locked annual percentage rate and the average prime offer rate. This opens the door for the CFPB to allow non-GSE-eligible loans with DTIs exceeding 43% to qualify for QM safe harbor status.
While the industry might consider this to be a more holistic and flexible measure of ATR than a DTI ratio alone, consumer groups could push back on correlating low pricing with a consumer’s ATR. The CFPB even noted this weakness and asked for industry guidance on types of compensating or mitigating factors that could be relied on, including the trailing economic effects of COVID-19. These additional clarifications could end up making this proposal as, or more, complicated than the original. Furthermore, given the current rate stack compression in the secondary market and low-interest-rate environment, consumer groups might wonder if almost all loans fall within 2 percentage points above APOR.
Speaking of the government-sponsored enterprises, the proposed rule also offers several options for addressing the QM patch. These options provide the Bureau with additional time to craft a rule and stagger it with the GSEs’ exit from conservatorship, but if a rule does not become effective in time or market conditions change, this grace period for the existing patch could complicate things far more.
The CFPB has also proposed a seasoned QM safe harbor, in which loans could eventually achieve this status. With this proposal, it appears the CFPB is acknowledging, at least to a degree, that there is a subset of loans that do not meet current safe harbor requirements but could be perfectly good and responsible credit opportunities for the right borrowers and that by generally repaying on time, a borrower is proving in practice his or her ability to repay.
Generally speaking, actual repayment of responsible loans without predatory characteristics offered in a competitive marketplace is the overall policy goal of the ATR rule. If that goal is achieved when a borrower repays responsible loan products over a specified period, it would stand to reason that such loans should be treated the same as current QM safe harbor loans for which the lender, on some level, anticipated ATR at closing.
What this proposal lacks is further help in developing a responsible private secondary market. If the final seasoned QM safe harbor is limited to portfolio loans only, it will continue subjecting the private secondary market to an uneven playing field for loans having the same criteria and features but are sold within a few days of closing. As the revitalization of the private secondary market has been a long-standing industry goal, thought should be given to how the proposed rule can help further this end.
With the comment period coming to a close, the industry will be waiting with bated breath to see what form the final QM rule takes. However, regardless of the outcome, lenders must think through all possible contingencies to ready themselves and their organizations to comply and to possibly take advantage of new opportunities created by the proposals.