Worth it to do Interest-Only non-QMs? (2015 Update)
What? No TILA-RESPA Integrated Disclosure topic? No, taking a quick break and exploring another issue that may be interesting for some.
So I get this note the other day ...
Ben, Has there been any discussion whether to entertain interest only loans again? They are a non-QM program and from a credit risk perspective, why would you unless you are the big boys like Wells Fargo willing to do non-QM loans. My boss wants me to look into them based on some recent articles. If you could make this one of your research articles, that would be great since I cannot be the only one being asked.
No you're not!
Hey, always happy to help ... any excuse to avoid talking about TRID for once!
This, like so many things, will come down to a risk-benefit balancing analysis.
Risk is Still Relatively Unknown
So the bottom line is this - there's no more reason to do interest-only products today (from a QM perspective) than there was yesterday. The ATR/QM Rule does not make interest-only mortgages illegal- it just makes them riskier... you cannot have the protection of Qualified Mortgage status on an interest- only product. (And there's no exception for "small creditors" or anybody else). Of course, President Clinton's HOEPA law didn't make High Cost loans illegal either, but who do you know that's willing to do those? Not too many lenders.
So the question today is the same question back in January 2014 - is non-QM the new High Cost? Does the regulation simply make it too risky for most lenders to offer this product? And unfortunately we still have no new information on how tough non-QM will be on lenders. Every time any court in the U.S. mentions the phrase "ability-to-repay" I get a Google alert - I get a few every day, I've seen a lot of bankruptcy court opinions and plenty of contract disputes, but none involving the ATR/QM Rule. Not yet. (Believe me, you'll hear about it on Wednesday morning as soon as it does).
Well, what do we know? An interest-only product will have to be non-QM, meaning it will live or die based on the underlying ability-to-repay determination. So you could tighten up underwriting standards so much that you're certain every borrower clearly has the ability-to-repay the loan. Large down payments, low LTVs, low DTIs, high credit score - in other words perfect loans. But how far do you have to go? Unless you're willing to go this far on underwriting, it will be very tough to offer interest-only loans for the first time--to prove an ability-to- repay claim, a lender is required to prove that the underwriting standards are historically safe. How will you do this without a history of this loan product? (This is an example of why critics say the ATR/QM Rule discourages innovation in mortgage lending).
How High is Your Benefit?
For most industry trends there will be a counter-trend, a niche if you will. Something a few companies can profit off of by diverging from the mainstream. For example, there is an industry trend towards using laptop computers ... you probably couldn't get a college degree today without carrying a laptop around on a daily basis. But then some days you'll be walking down Commonwealth Ave and see a member of 'Generation ADHD' typing away on a typewriter with a twirled handlebar mustache. The typewriter (and the mustache, I think) is an example of a countertrend - I wouldn't be surprised at all to discover there is a company selling refurbished typewriters to "hipsters" at prices comparable to a new laptop.
You may think we've gotten off track ... I disagree. Selling interest-only loans may work for you, but it would probably work only as a niche, if at all. If done, it may be prudent to price up for the risk. The debate on how much normally stays in the range of 10-30 basis points.
Risk-Benefit Balance - What's the Answer?
There is no one-sized fits all answer.
We still don't know exactly how much risk is involved with non-QM loans, and it's hard for me to disagree with a mortgage banker who says, "You know what? I'm going to stick to QM lending and let other lenders test the waters. If that doesn't fail miserably, maybe we'll jump into this arena, but I don't need to blaze a path just to wind up with a bunch of arrows in my back."
On the other hand, if you can rely on your underwriting to meet the ATR Rule without QM protection, if you price for the extra risk, and if there's demand for this product in your area - it's possible interest-only mortgage loans could work for you. And this could be an especially attractive offering to high-net worth individuals. But it's still more like being in the typewriter business than the laptop computer business. What may be a distraction to Samsung might be a profitable side-business for a smaller computer company. It just depends.
Some questions to ask yourself:
Have we done interest-only loans before? If you don't have a good track record of previously issuing interest-only loans, the risk is much higher for you under the ATR/QM Rule and doing so now is not recommended.
Do you have competitors offering this product? If you do, then this reduces your benefit - probably enough so not to justify the risk.
In other news:
In regards to the much discussed issue of whether MSAs are illegal, the fact of the matter is that Congress considers MSA to be legal. The CFPB can't make it illegal themselves. Read the 1974 Congressional statement on this here... it specifically says: "Reasonable payments in return for services actually performed or goods actually furnished are not intended to be prohibited."
Anyone involved with foreclosures in Massachusetts should probably read the Pinti v. Emigrant Mortgage Co. case from the Mass. Supreme Judicial Court, available here.
More reading on the interest-only stuff? Check this article out from CNBC
Someone on your team still confused about PMI cancellation? Here's a refresher memo from the CFPB on-topic.
There's always talk about technology replacing people. For example, point-of- sale systems replacing loan officers in the mortgage industry. Well, I guess that's one way to think about it. But there's a more interesting way to look at this. Consider Jack Welch's thoughts on this topic: "Ultimately, e-business will improve many jobs. Take sales: Today, 30 percent to 35 percent of a salesperson's face time is spent with the customer. Salespeople spend too much time on administrating, expediting orders, arguing over receivables, and finding late shipments. The Internet can do all this more efficiently. We're increasing the face time salespeople have with customers, transforming their roles from order takers and expediters to true consultants." I like the sounds of that!
"The manager has a short-range view; the leader has a long-range vision."
- Warren G. Bennis
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