In January 2015, new mortgage rules were promulgated by the Consumer Financial Protection Bureau. If you are to believe the statement of the Director of the Bureau, these rules are designed to take lending back to the basics. In a nutshell, these rules require two questions to be answered in the affirmative before a loan (mortgage) can be approved by the lender.
These questions are:
1) Can the borrower actually repay the loan?; and
2) Each mortgage must meet a debt-to-income ratio.
When the lender is reviewing a borrower’s application, the lender is now required to determine that the borrow currently has available assets and income that will allow him to make the required loan payment throughout the life of the loan. In order for the lender to determine the borrower’s ability to repay, the lender must look at the borrower’s current debt-to-income ratio. This determination requires a lender to review all of the debt the borrower has, and the terms and conditions for the repayment of that debt. Then the lender must establish a minimum income level that is necessary to repay the debt on a month-to-month basis. This determination then must be placed against what the borrower’s monthly income is to see if the monthly income can support the current debt, plus the new monthly debt that will be incurred if the requested loan is approved. The debts that the lender must review as part of the loan application include, but are not necessarily limited to, credit cards, car payments, house costs, student loans, and other loans or recurring obligations. This total is then divided into the monthly gross income to establish a new can-you-pay requirement. The basis for these new rules is an attempt to end the practice of no- or low-doc loans, where none or very little financial information is obtained from the borrower.
After the review has taken place, the next decision the lender must make is to determine if the borrower is taking on more debt than his income level will support. The new general rule is that the borrower’s income-to-debt ratio should be below 43 percent. A lender can allow a greater amount of debt if there are other mitigating factors, such as the borrower has a large amount of assets, i.e. stocks. If the borrower passes the test, the mortgage terms though cannot be greater than 30 years, nor can it be an interest-only loan or a loan which has negative amortization.
Also, the total amount of the upfront fees that a lender can charge a borrower cannot exceed three percent of the amount of the loan. These fees must include mortgage title insurance, origination points, and points that the borrower may pay in order to lower the interest rate.
The new rules are sensible, and if universally applied, should go a long way toward preventing another mortgage meltdown, such as the one that took place between 2007 and 2011. However, the loan application and closing period will take longer, and some individuals who are able to “qualify” for a loan in the past will now be denied. So, before your visit your friendly lender for a loan, you should run a short income-to-debt analysis to see how much income you have remaining in order to support new debt secured by a mortgage. This exercise will certainly give you a better understanding as to how the loan process works and how much of a mortgage your lender may be prepared to offer you.
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