FEATURED ARTICLE: GSE REFORM: HOUSING FINANCE SAVIOR OR LOOMING DISASTER?
of $4.9 trillion in global assets. “The risk to MBS investors lies in the fact that exact prepayment amounts are not known in advance; risks are furthermore associated with both increases and decreases in interest rates.” Lenders historically have sought to discourage refinancing and cur- tailments with prepayment penal- ties, sometimes very stiff penalties. Prior to the mortgage meltdown, Maine reported that, “prepayment penalties can be very expensive. For example, a typical prepayment penalty applies for the first five years of a loan and equals 5 per- cent of the loan’s balance. A lender enforcing such a clause would add $5,000 to the payoff amount owed by a consumer refinancing a $100,000 loan.” Some prepayment penalties went further. Before the meltdown there were “soft” and “hard” prepayment penalties. A “soft” prepayment pen- alty applied only to refinancing or curtailments. A “hard” prepayment penalty went into effect even in the case of a home sale, essentially forcing people to stay in place. The prepayment penalties of the time greatly worsened the mortgage crisis. A borrower could not refi- nance into a better loan because the soft penalty due at closing could be overwhelming – say $15,000 for a $300,000 mortgage. A hard penalty could prevent borrowers from mov- ing to get a better job or purchasing a home with lower costs. Prepayment penalties are now both rare and regulated. With mortgages backed by the VA and FHA – and with financing that meets Fannie Mae and Freddie Mac stan- dards – they are simply not allowed. Prepayment penalties are also not allowed with non-QM financing. In practice, the only place to find prepayment penalties today is with portfolio loans that meet QM stan-
Because the credit risk protection from mortgage insurance attaches on the very first day the loan is originated, it travels with the loan wherever it goes, whether onto a lender’s balance sheet, to an investor, or into a securitization pool. As such, private MI is one of the only forms of credit enhancement that is compatible with a number of different housing finance reform proposals, including a proposal that relies on Ginnie Mae, a cooperative model or otherwise.” sales price or the appraised value, whichever is less. Increasingly, ap- praisals are being replaced through the use of automated valuation models (AVMs). Last year, govern- ment regulators proposed raising the minimum threshold for resi- dential appraisals from $250,000 to $400,000. If approved, the new standard is expected to exempt 214,000 homes from appraisal requirement. Appraisals — inde- pendent valuations which include a physical examination inside the property — reduce risk by ensuring the property exists and has a given market worth. Fourth, real estate cash pric- es in most areas have increased over time if only as a by-product LINDSEY JOHNSON
dards. With such financing, the pre- payment penalty can equal as much as 2 percent of the outstanding loan balance prepaid during the first two years of the loan, 1 percent of the out- standing loan balance prepaid during the third year of the loan, and nothing thereafter. RISK & GUARANTEES “MBS,” explains FINRA, “car- ry the guarantee of the issuing organization to pay interest and principal payments on their mort- gage-backed securities. While Ginnie Mae's guarantee is backed by the ‘full faith and credit’ of the U.S. government, those issued by GSEs are not.”
ments can be forced to buy back mortgages. Also, under the False Claims Act, the Justice Depart- ment can go after lenders for tre- ble damages and other penalties if they can prove that FHA-insured mortgages were improperly origi- nated or underwritten. While bor- rowers routinely complain about excessive mortgage paperwork, lenders have strong incentives to play strictly by the rules and docu- ment every borrower claim. Second, the borrower is expected to put down 20 percent of the pur- chase price. Buyers who purchase for less will need some form of third-party backing such as FHA, VA, or private mortgage insurance (MI) to reduce lender and investor risk.
If the MBS originated by Fannie Mae and Freddie Mac are not gov- ernment guaranteed, then how are investors protected in the event of delinquencies and foreclosures? The answer is complicated. In basic terms, a mortgage is secured by the credit standing of the bor- rower, the underlying value of the property, and a series of guaran- tees which emerge as the financing is originated and sold. From the investor perspective, lender to follow the Ability-to-Re- pay rule and verify the ability of the borrower to handle the debt. Lenders who sell loans that do not meet program or investor require- the risk-reducers include: First, the obligation of the
Lindsey Johnson, president of U.S. Mortgage Insurers (USMI), told Housing News Report , “be- cause the credit risk protection from mortgage insurance attaches on the very first day the loan is originated, it travels with the loan wherever it goes, whether onto a lender’s balance sheet, to an in- vestor, or into a securitization pool. As such, private MI is one of the only forms of credit enhancement that is compatible with a number of different housing finance reform proposals, including a proposal that relies on Ginnie Mae, a coop- erative model or otherwise.” Third, the value of the proper- ty used to create a mortgage is determined on the basis of the
6 think realty housing news report
april 2019 7
Made with FlippingBook Online newsletter