Mortgage Lending "A through
D"
What was once a small segment of residential
lending is now becoming one of the fastest growing
areas in mortgage banking. Nearly every major
institution is entering the non-traditional lending
market. These lenders are providing mortgage loans
to borrowers that do not meet the traditional
credit criteria of secondary market investors
such as the Federal National Mortgage Association
(FNMA) and the Federal Home Loan Mortgage Corporation
(FHLMC). Some issues preventing borrowers from
meeting these criteria are bankruptcies, defaults,
foreclosures and chronic late payments on credit
obligations. This article will review the salient
points of non- traditional mortgage lending loans.
Credit Grades. Non-traditional mortgage lending is categorized
into credit grade categories based upon credit
and capacity to repay the mortgage loan. Those
categories are A-, B, C and D. The more serious
the credit problems, the further the grade decreases.
As the grade on loans decreases, lenders generally
assess higher rates and fees.
Several factors contribute to the credit grade
on non-traditional lending such as past consumer
credit history and mortgage payment history. Generally,
lenders review the credit history for the past
12- 24 months.
Income Ratios. Besides credit considerations,
non-traditional lenders review the capacity of
the borrowers to repay the mortgage obligation.
Lenders calculate a ratio (debt ratio) using the
total monthly debts and the total monthly income.
For example if a borrower has a monthly income
of $6,000 and a total monthly debt obligation
(including housing expenses and other consumer
debt) of $2,000, the debt ratio would be 33%.
If a borrower has a low debt ratio, the grade
will be higher. Conversely, if a borrower has
a high debt ratio, the grade will be lower.
Income Documentation. Non-traditional lenders
use three approaches in documenting a borrower's
income: Full documentation, easy doc/simple doc
and no income.
1. Full Documentation: Borrowers provide pay
stubs, W-2s or federal tax returns for self-employed.
Generally lenders require a two-year history to
substantiate the borrower's income.
2. Easy Doc/Simple Doc: Borrowers provide bank
statements to substantiate monthly income.
3. No Income: Lenders use the stated income
from the loan application and the borrowers do
not have to provide any documentation to substantiate
the income. This type of loan is known as the
"No Income Qualifier".
Lenders will assess a lower grade on loans when
little or no documentation is provided to substantiate
the borrower's income.
Loan-to-Value. Non-traditional lenders adjust
the loan-to-value ratio as a method to reduce
the risk of financial loss if a borrower defaults
and there is a loan foreclosure. Most lenders
believe borrowers with a low loan-to-value ratio
have a lower probability of a foreclosure than
a borrower with a high loan-to-value ratio. In
cases where a borrower has a low credit grade
and/or little income documentation, lenders may
reduce the loan amount.
Loan Programs. There is little difference in
the loan programs provided by traditional and
non-traditional lenders. There are 30 and 15 year
fixed mortgages, balloon mortgages, and Adjustable
Rate Mortgages (ARM's). Non-traditional lenders
assess higher rates and fees when there is a lower
credit grade, a lack of income documentation or
a high loan-to-value ratio.
Some industry experts believe one out of eight
mortgage loans are non-traditional. As this market
expands, competition in the non-traditional real
estate mortgage market will produce better rates,
loan programs and terms.
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