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Dodd-Frank Rules for Mortgages
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In 2008, the Board of Governors of the Federal Reserve System adopted a rule under the Truth in Lending Act prohibiting creditors from making higher-priced mortgage loans without assessing consumers’ ability to repay the loans. In the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act), Congress adopted similar Ability-to-Repay (ATR) requirements for closed-end residential mortgage loans. Congress also established a presumption of compliance with the ATR requirements for a certain category of mortgages, called Qualified Mortgages (QMs). In January 2013, the Consumer Financial Protection Bureau (CFPB) adopted a

rule that implements the ATR/QM provisions of the Dodd-Frank Act, then in May, July, and October 2013, the Bureau issued rules amending certain provisions of the January 2013 rule. The ATR/QM rule generally applies to most mortgages for which you receive an application on or after January 10, 2014. The ATR Rule applies to all mortgages regardless of whether they are QM or non-QM loans.


Ability-to-Repay Rule (ATR)


The Ability-to-Repay Rule, Regulation Z Section 1026.43, requires lenders to make a "reasonable and good faith determination at or before consummation that the consumer will have a reasonable ability to repay the loan according to its terms." The lender must follow underwriting requirements and verify the information by using reasonably relied upon third-party records. The rule applies to all residential mortgages including purchase loans, refinances, home equity loans, first liens, and subordinate liens. If the lender is making a loan secured by a principal residence, second or vacation home, condominium, or mobile or manufactured home, the lender must verify the borrowers' ability to repay the loan. The ATR does not apply to commercial or business loans, loans for timeshares, reverse mortgages, loan modifications, and temporary bridge loans. The lender must consider and evaluate at least eight factors during underwriting as described below.


Qualified Mortgages (QM)


The Dodd Frank Act provided that "qualified mortgages" are entitled to a presumption that the creditor making the loan satisfied the ability-to-repay requirements. The Bureau's rule establishes a safe harbor and creates a conclusive presumption for loans that meet certain criteria, are not high-priced, and for which that the lender made a good faith and reasonable determination of the consumer's ability to repay. The QM standard helps protect consumers from unduly risky mortgages. It also gives you more certainty about potential liability.


A QM mortgage loan generally has to meet the following criteria: fixed rate, 43% DTI or less, 3% cap on points and fees, and with a term of 30 years or fewer. Or, the loan must qualify for one of the exceptions: small creditor held in portfolio; eligible for sale to government or GSE; refinance a non-standard into a standard mortgage; or rural balloon loan. Loans that have "toxic" loan features are not QM loans, including interest only loans, negative amortization loans, terms greater than 30 years, balloon loans (non-rural). A temporary (7 years) exception will be granted to the DTI limit of 43% for loans that are eligible to be sold or insured by Freddie Mac, Fannie Mae, FHA, or VA.


Lenders that generate QM-compliant mortgage loans will receive some degree of legal protection against borrower lawsuits. The level of protection they receive will depend on the type of loan they make. In essence, there are two types of qualified mortgages:


1. Safe Harbor — this type of QM loan gives lenders the highest level of legal protection. These are lower-priced loans with interest rates (APR) that are less than 1.5% over the current prime rate (APOR). They are typically granted to consumers with good credit histories (less risk). If the borrower ends up in default / foreclosure down the road, the lender would be considered to have legally satisfied the Ability-to-Repay rule. Thus, it would be harder for the borrower to sue the lender in court. However, borrowers can still challenge their lenders in court if they feel the loan falls short of the QM parameters.


2. Rebuttable Presumption — These are higher-priced mortgage loans (HPML) that are typically granted to borrowers with lower credit scores. In this context, ‘higher-priced’ refers to a loan with an interest rate (APR) that is more than 1.5% higher than the current prime rate (APOR). Lenders who grant these types of mortgages will receive a type of legal protection known as rebuttable presumption, which offers less protection than the safe harbor explained above. If the borrower ends up in a foreclosure situation, he or she could still win an ability-to-repay lawsuit if they can prove the lender did not consider their living expenses after their mortgage and other debts. Borrowers may overcome the presumption when they can show that after making all mortgage related payments there is insufficient income left over to meet living expenses. The longer it takes for borrowers to default, the more difficult it is to overcome the presumption.


The CFPB Small Entity Compliance Guide for the ATR and QM Rule summarizes the requirements lenders must follow to determine whether their loans meet the QM requirements and, if so, whether they will receive either a safe harbor or rebuttable presumption of compliance with the ATR requirements. It also discusses the grounds for rebutting the presumption for higher-priced QMs — principally, that the consumer’s income, debt obligations, and payments on the loan and any simultaneous loans did not leave the consumer with enough money to live on.


Qualified Mortgages have three types of requirements: 1) restrictions on loan features, 2) cap on points and fees, and 3) underwriting criteria.



Restrictions on Loan Features


ATR/QM applies to all closed end loans secured by a dwelling. This includes first liens and junior liens, principal dwelling and non-principal dwelling (not owner-occupied). This includes HPMLs and HOEPA loans. It applies to 1-4 Units, Investor Loans, Second Homes, and Second Mortgages. The rule does not apply to home equity lines of credit, time-share plans, reverse mortgages, temporary bridge loans (term of 12 months or less), a construction phase of 12 months or less of a construction-to-permanent loan, and transactions secure by vacant land.


The rule bans most prepayment penalties, except on certain non-higher-priced QMs with either fixed or step rates. Prepayment penalties are allowed on these non-higher ­priced loans only if the penalties satisfy certain restrictions and are permitted under law and if the lender has offered the consumer an alternative loan without such penalties.


There are four types of Qualified Mortgages under the rule. Two types, the General and Temporary QMs, can be originated by all lenders. Two other types, Small Creditor and Balloon-Payment QMs, can only be originated by small lenders.  Small lenders are those that have 500 or fewer transactions secured by a first lien, and total assets of less than $2 billion.




Cap on Points and Fees


For all types of QMs, points and fees generally may not exceed 3 percent of the total loan amount for loans equal to or greater than $100,000. Higher thresholds are provided for loans below $100,000:


 1) $3,000 for a loan greater than or equal to $60,000 but less than $100,000

 2) 5% of the total loan amount for a loan greater than or equal to $20,000 but less than $60,000

 3) $1,000 for a loan greater than or equal to $12,500 but less than $20,000

 4) 8% of the total loan amount for a loan less than $12,500


The dollar amounts listed above will be adjusted annually for inflation and published each year in the commentary to Regulation Z.


The cap includes all the finance charge items except bonafide real estate or third party fees. The cap includes origination fees, processing/underwriting fees, document or administrative fees, compensation paid to third party originators like mortgage brokers, loan level price adjustments (LLPA5) if directly passed on to the borrower, upfront mortgage insurance premiums (MIP) in excess of the FHA amounts (meaning private MI beyond 1.75%).


As mentioned, the rule excludes real estate and bonafide third party fees. The CFPB defines these as reasonable fees not paid to an affiliate of the originator or lender. There are many exclusions. For example:

- Per diem interest

- Upfront Government MIP

- Monthly MIP

- Bonafide discount points up to 2

- Compensation paid by a lender/creditor to an employee loan officer



Underwriting CriteriaLoan Application


A reasonable, good-faith ATR evaluation that the consumer has a reasonable ability to repay the loan must include eight ATR underwriting factors:

  1. Current or reasonably expected income or assets (other than the value of the property that secures the loan) that the consumer will rely on to repay the loan
  2. Current employment status (if you rely on employment income when assessing the consumer’s ability to repay)
  3. Monthly mortgage payment for this loan. You calculate this using the introductory or fully-indexed rate, whichever is higher, and monthly, fully-amortizing payments that are substantially equal
  4. Monthly payment on any simultaneous loans secured by the same property
  5. Monthly payments for property taxes and insurance that you require the consumer to buy, and certain other costs related to the property such as homeowners association fees or ground rent
  6. Debts, alimony, and child-support obligations
  7. Monthly debt-to-income ratio (DTI) or residual income, that you calculated using the total of all of the mortgage and non-mortgage obligations listed above, as a ratio of gross monthly income. DTI ratio cannot be higher than 43%.
  8. Credit history


Included on the income side of the debt-to-income ratio when determining ATR: earned income (wages or salary); unearned income (interest and dividends); and other regular payments to the consumer such as alimony, child support, or government benefits. In all cases, the amounts you rely upon to determine ATR must be verified.


Included on the debt side of the debt-to-income ratio when determining ATR: the mortgage payment; any simultaneous loans secured by the same property; mortgage-related obligations (property taxes; insurance required by the creditor; fees owed to a condominium, cooperative, or homeowners association; ground rent or leasehold pa3ments; and special assessments); current debt obligations; alimony; and child support.


A temporary (7-year) exception will be granted to the DTI limit of 43% for loans that are eligible to be sold or insured by Freddie Mac, Fannie Mae, FHA, or VA.


The rule requires that you retain evidence that you complied with the ATR/QM rule, including the prepayment penalty limitations, for three years after consummation, though you may want to keep records longer for business purposes.


You can review the CFPB Small Entity Compliance Guide for more information.



Last Updated on Wednesday, 04 June 2014 23:02

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