Fannie Mae and Freddie Mac announced that they will be loosening the penalties they impose on mortgage originators. A deluge of mortgages defaulted during the great recession, resulting in the current regulations designed to help resist a repeat. Much of the tougher rules govern percent of market value that can be mortgaged, income to debt ratio, and what constitutes income.
Unfortunately, many of those seeking a mortgage found the current refinancing rules impossible for their situation. Failures in refinancing are often unrelated to adequate income or installment debt payments. Rather, much of the difficulty arises from establishing a market value for the property.
No one wants a repeat of the great recession’s mortgage debacle. Certainly, we should not return to the good old days of “liars’ loans” where lenders did not bother to validate documentation or did not require much documentation on income. Irresponsible users of credit and those who cannot afford to buy a home should not be encouraged to do so by loose mortgage rules
Nor should we reinstate the politically correct pretense that home ownership is an entitlement or that banks have a community lending obligation regardless of whether those loans will earn an adequate return.
The average FICO accepted by Freddie is 760. The acceptable income to debt level is less clear because some kinds of income are treated unequally. This is experienced by the self-employed, by people who adjust IRA distributions to actual need, and especially by those earning rental income on properties which they seek a mortgage.
The most intractable issue is the market value of the house. This is where hostilities arise between borrowers and mortgage brokers. Owners often have an inflated impression of their property’s worth. Lenders and the appraisers, over whom lenders have economic sway, want to hear a “market value” that is conservatively low.
Existence of an authoritative house valuation source would help, but there appears to be no such thing. Some brokers admit that they and their lenders pay attention to Zillow’s “zestimate.” Many owners’ experience leads them to dismiss it. In one example, a small vacation house was bought in Florida in February 2014. In October 2014, Zillow offered an estimate that was nearly 4 times higher for the house, even though there were nearby comparables that put the value of the home closer to its original selling price.
When selling a home, finding a buyer who negotiates to an acceptable price is good, but not enough. The mortgage lender will want either an appraisal that affirms the price or a handful of comparables. In 13% of cases where the buyer and vendor have agreed, the appraisal will be too low for the sale to proceed to completion. Too often, genuine comparables are impossible to find.
We can model property costs and prices as well as any appraiser, and they will be equally unacceptable to the lender. The fate of these transactions revolves around recent comparables. If your property is larger than most, rural, or unique in some way, you may have difficulty finding a recent, local, comparable, sold property, let alone a handful of those examples.
Appraisers face the same dearth of comparables, and when desperate they may try to use foreclosures or short sales or properties in bad neighborhoods to fill out the basket of examples. Short sales are typically 15% lower in value for the same basic home. It is important to closely monitor any appraisal report because it can set a low-ball value for your property that comes back to bite you in future years.
Fannie and Freddie’s new friendlier stance on penalties will not improve the market value of homes quickly, but it may accelerate sales in the middle to low-income end of the market. We welcome that improvement, provided it does not signal a return to political pretensions on home ownership.
Alan Daley is a retired businessman who writes for The American Consumer Institute Center for Citizen Research