Mortgage giant Fannie Mae rolled out its Loan Quality Initiative (LQI) June 1, thereby forcing homebuyers to obtain mortgages based on "refreshed" credit reports or risk their closing being canceled and, in some states, their deposits forfeited.
In other words, the buyer is not officially approved for the mortgage until the results of second credit report are approved. There may be other last-minute verifications of undisclosed liabilities, such as job status, that may be "refreshed" as well.
Example:
Buyer A listed his three credit cards on his loan application. The lender approved Buyer A’s credit and approves the mortgage loan request, partially based on this information. Buyer A goes to Home Depot, applies for yet a fourth credit card.
The day before the closing, while Buyer A’s excitement is peaking, the lender refreshes his credit to make sure his credit score is still as good as it was when it was pulled the first time.
The lender discovers that Buyer A’s credit score has been lowered because Buyer A applied for a fourth credit card. It’s called finding an "undisclosed liability," and it is not going to end well for the buyer.
Under the LQI, the lender could delay the closing, increase the interest rate, ask for a larger downpayment, or cancel the closing. In some states, Buyer A could lose his deposit.
"The impact on closings is too early to measure," according to Gail Stanley, an Orlando mortgage lender, "but my guess is that homebuyers will be well coached.
"What lender, mortgage broker or real estate broker isn’t going to use every communications tool available to make sure the buyer does not even think about using available credit, much less apply for more during the ‘refreshing’ period?" Stanley asked.
"The mortgage lending business as we have known it is over," according to Boston’s MetLife Home Loans’ senior mortgage consultant, Brian Cavanaugh. "Quality loan service and counseling will replace rate shopping because mortgage pricing is so competitive.
"Homebuyers need to work with loan officers who clearly understand the new guidelines and can help the buyer understand the importance of complying with them. Mortgage financing is incredibly important in personal financing now and it needs to be understood and protected," Cavanaugh said.
Stanley said that pulling the second credit report is not new, and that the LQI will be a welcome new tool for lenders who practice responsible lending.
"We all realize that buyer qualifications need to be tightened and that the lender needs to be protected. Consumer education is the challenge," Stanley said. "Realtors need to encourage their buyers to be as complete as possible in the original application and to be careful not to do anything that will negatively impact their credit score before the escrow closes."
Depending on the state and the standard purchase and sale agreement used, borrowers could lose their deposits, according to Boston attorney Richard D. Vetstein. He recommends that real estate attorneys review standard purchase agreements.
Vetstein posted some advice about Fannie Mae’s LQI on his Massachusetts Law Blog. "If you’ve taken out new loans that are sizable enough to affect the debt-to-income-ratio calculations used in your original mortgage approval, the deal could fall through. The added debt load could render you ineligible for the mortgage because you suddenly appear unable to handle the payments without a strain on your household budget," he notes.
Also, "Many lenders already pull second credit reports right before the closing, but the Fannie Mae mandate will likely result in a markedly increased number of lenders pulling second credit reports and performing other last-minute verifications." And Vetstein states that a surge in new use of existing credit sources could also impact consumers’ ability to secure a home loan.
But holding the buyer accountable pales in comparison to the stringent accountability now in place to prevent lenders from submitting contract products for sale to Fannie Mae with "undisclosed" liabilities. (See www.efanniemae.com, keyword: Loan Quality.)
Just as lenders are calling for refreshed truth from buyers, Fannie Mae is not asking — it is forcing lenders to upgrade the quality of their underwriting and to get used to the new system and embedded, stringent accountability tools for meeting clear, detailed and tougher underwriting standards.
Fannie Mae’s ultimate goal is not to punish the lender or homebuyer. It is to be repaid. Not only will profits start flowing again, but investors will return. And when that happens, loans will become easier to obtain.
There will no doubt be faults found with Fannie Mae’s Loan Quality Initiative, but "lack of accountability" will not be one of them.
It is a welcomed and refreshing thought.
Dave Fletcher has been a licensed Florida real estate broker for more than 30 years. He has served as broker of record, marketing consultant or adviser for more than 60 communities. He specializes in fractured condo sales.
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