Exotic Loan Programs and Potential Foreclosures

[photopress:Dollar_20Squeezed.jpg,thumb,alignright]Every “exotic” loan program has a potential appropriate user of that program. What we are seeing more and more today, is the industry using these perfectly good programs inappropriately, to “get the deal done”. Before I go into my take on the situation, let me point out two relevant sites worth reading. One is on “Non-traditional mortgage product risks and the other is HUD’s warning regarding Predatory Lending.

None of the programs being used today are new. What IS new, is the fact that they are being used by the wrong people for the wrong reasons, with the assistance of the real estate professional and the lendng reps. The Feds in their statement, acknowledge that these products have been around for a very long time, and have been used appropriately until recently. On the HUD site, the main point that ties into the “exotic loan” problem, is when lenders are “Making loans without ample consideration to the borrower’s ability to repay”.

Client A has $100,000 in a 30 year bond he purchased 28 years ago with an interest rate of 14%. He has $1,200,000 in various retirement investments. He has $50,000 in a savings account for emergencies. He is 57 years old and is buying a view condo for $750,000 that he plans to live in forever. He earns $200,000 a year and plans to work for at least 8 more years, possibly longer. He decides to buy the condo with zero down and an interest only loan.

That example may sound ludicrous, but 12 years ago they were the ONLY guys I saw using interest only loans. Their investments were earning well over the interest rate on the mortgage. They weren’t going to take money from an investment earning 12% to put down on a property where the mortgage was only costing 7%. Until recently, interest only loans were an investment decision, not a means to qualify for the home purchase.

Basically what the Feds are saying is that the exotic loans are, and have always been, very good programs used sparingly in the past by very savvy and knowledeable people. These lower payments were not meant to be used as a means to qualify for more house than you can afford. They were meant to be used by people who more than qualified at a higher payment, but chose the interest only option for reasons other than to qualify for the home purchase.

The key phrase in the Fed paper is “consideration of a borrower’s repayment capacity”. The key phrase in the HUD warning is “ample consideration to the borrower’s ability to repay”.

Zero down loans replaced VA and FHA for the most part. High rates on the second mortgages replaced PMI. Ten years ago a person might put 5% down and take out a 95% first mortgage and a lower rate, but they had to pay “Private Mortgage Inurance” on the top 15% of the LTV. The PMI amount was not tax deductible. The payment on the second at the higher rate was lower than the loan plus PMI payment and fully tax deductible. A conventional loan with a high rate second may “look” bad, but actually the numbers usually work better than a regular loan with PMI (the old fashioned way) or a 3% down FHA with an up front plus monthly MIP (Mortgage Insurance Premium).

Bottom line is that ALL of the “exotic” loan programs have valid and good uses. Let’s include “stated income”. Stated Income loans have long been used appropriately by people who more than qualified for the loan. Stated Income was often used by someone who had income they didn’t or couldn’t report on their tax return. There was no question but that they could afford the monthly payment, problem was they couldn’t PROVE it, or were not willing to prove it. Maybe it was some limo driver earning $23,000 a year and getting $1,000 in tips he wasn’t reporting. Maybe it was someone with a cash business that was showing $65,000 a year on his tax return and stuffing the rest in his mattress. Maybe it was a prostitute or a mob member…whatever. It was someone who could make the payment, it was just somebody who didn’t want to prove that they were able to make the payment, and so used a “stated income” loan. Stated Income loans are not supposed to be used as a means to “pretend” that you make more than you DO earn.

Zero down loans are NOT for investors! Yes I will yell that one from the tallest building. I heard that lenders “start to question” a guy who has SEVEN zero down loans in a short period of time. DUH! Why’d you let him get to seven, when he shouldn’t have had ONE! Zero down loans are only for people buying a home to LIVE in it.

So, bottom line. When you start seeing foreclosures, don’t assume the market is headed south. Understand that lenders are not following the Fed and HUD guidelines to give “ample consideration to the borrower’s ability to repay” before approving the loan. Maybe the guy who bought at $450,000 only qualified at $400,000 and was stretched beyond his limit. Maybe the guy who bought 6 homes zero down, stacked costs and stated income in 18 months time, got caught in the web he weaved when first he to practiced to deceive, the underlying lender with full knowledge of the real estate agent and the loan broker. Maybe all the guys who took the $6,000 seminar on how to buy lots of property with no money and no job, are all going down…but that doesn’t mean they are going to take the whole market down with them.

I went to a closing with someone else’s client as a “favor”. I got to the table and asked them if they knew that the payment including taxes and insurance was 60% of their gross income! The lender said, “the lender isn’t impounding taxes and insurance”. The buyer said, “We thought the payment was going to be $300 less than that AND included the taxes and insurance. They asked me if they could sell the house in six months if it was impossible to make the payment. I said not with the costs stacked into the price and the prepayment penalty stacked on top of that. I stood up from the table and said, no one is signing today. How many foreclosures will come about because no one stood up and said, “No one is signing today”.

If someone readily qualifies for the payment at say 33% of their gross income (not 60%!) and has a reasonable “back end” when you add their other debt payments to say 40% (not 73%) and isn’t using stated income, no impounds, interest only and subprime loans to get around the high back end, all is fine.

The “Exotic” programs have their place in the lending industry. We just have to stop agents and lenders from using these programs inappropiately as loopholes to “Get the Deal Done”. If the buyer doesn’t like any of the homes he can afford, send him home. Don’t send him to a lender who can figure out how he can qualify to buy a more expensive house, that he will like better, but can’t really afford.

92 thoughts on “Exotic Loan Programs and Potential Foreclosures

  1. “Zero down loans are NOT for investors!”

    Why would a middle aged person take out a 0-down 40 year ARM on a primary residence? This seems to indicate the home is owned by an investor, as an investment – not as a place to live out ones golden years. Ardell?

  2. >So, bottom line. When you start seeing foreclosures, don’t assume the market is headed south

    Yes, foreclosures are actually a good sign of a market returning to normal fundamentals.

  3. Will,

    I can think of one really good reason why a middle aged person would do that, and in fact know many people who have. Getting back on their feet after a divorce. I know a lot of men who leave the house to the ex-wife when the kids are grown or mostly grown, and leave with almost nothing. They want to own their own place, they have good earning power and buy the new place anyway they can. Maybe they have kids in college and use the 40 year and ARM, so they can have a home for their kids to come to visit, and still afford to help them with college tuition.

    One thing I know about middle aged people, they keep surviving. They don’t let things hold them back like maybe they will be 85 by the time the mortgage is paid. A 50 year old might see it as a means to have a home for 15 years, and then retire at 65 to a condo.

    I have met several 40 plus year olds who have rented their lives to date and want to buy a home.

    In order to qualify for a zero down loan, it has to be an owner occupied loan and not one you plan to use as an investment.

    If you are suggesting that any middle aged person buying a home using a zero down loan and affordable options has to be an investor, I can tell you emphatically that is not true.

  4. Swingdancer,

    Foreclosures are never a good sign of anything. But let’s say 5% of people who bought with exotic mortgages can’t make their payments. Let say they bought a house for $300,000 in Federal Way. Let’s say they stacked $10,000 of closing costs on top of the purchase price to make it $310,000. Let’s say they have a prepayment penalty of $16,000 if they sell witin 2 years. Then they can’t make their payments after 8 months.

    Even if they sell for $324,000 with 8% appreciation from what they paid before stacking the costs, they can’t get out whole. So that foreclosure and short sale could happen even if the market goes up 8% for them and everyone else.

    So foreclosures are not necessarily a sign that the market is going down, as I said. It could just mean that the market didn’t appreciate enough to get someone out whole, who couldn’t afford their monthly payments.

  5. Ardell-

    Good article – but just remember that market prices are set at the margin. If enough people are driven into foreclosure and other forced sales, those sales are what is going to set the market price.

    Of course, the interesting question is what is “enough” – but I think that it is a small fraction of the total number of houses. The question is at what point do buyers start significantly reducing their bids in response to forced sales and anticipated forced sales.

  6. I just looked up a “pre-foreclosure” we did last year. We had the buyer client and the agent and seller were able to keep the fact that the seller was behind in his payments a secret to the bitter end. In fact the escrow person should not have told us at all, but did.

    The seller had bought the downtown condo for $245,000 in $2000 and took out a private (not exotic) mortgage in 2004 for $150,000 but couldn’t pay it. He sold it for $315,000 to our client, and our client should be able to sell it for $450,000 or so given some renovations he has done to expand the view (took out a wall).

    Point being, I think that at this point in time, many going into foreclosure still have adequate equity to move without anyone knowing that it was a stressed sale. That could change in the next six months though.

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  8. A payment to income ratio of 60% is not exotic in many cases. If you make $1000 a month, and your housing payment is $600, leaving $400 for food, transportation, credit cards, heat… then yes, that’s bad. If , like a recent client of mine, you make $10,000 a month, and have a $6,000 housing payment, you still have another four grand for the rest of it. In a case like this, 60% pases through automated underwriting on vanilla loan products. I bring this up because every borrower is different. What both mortgage and real estate professionals need to do is find the best way to fit each clients needs.

    Another note. After talking with three large wholesalers here in Denver, well over half of their Forclosures are non-owner occupied. This suggests that your assertion, “Maybe all the guys who took the $6,000 seminar on how to buy lots of property with no money and no job, are all going down” is pretty much on the money. I don’t get to excited though. The forclosure rate here in Colorado leads the nation, yet is still only about 1 in every 400-500 performing loans a month.

  9. It would be super to see a post of what that poor person could do if they got into a situation like that. What if they bought way too much house, have a 2 year pre-pay penalty, went stated and interest only. If they start getting late on payments, their credit takes a nose dive. I’ve heard from a few fellow home-based business folk that they’ve gotten into this pickle (they work with real estate agents) and their business is in a slow-down. What kind of options do they have – if they want to sell or even try to keep the home? TIA

  10. Cheryl,

    It was a Friday when we were at that table. Since it was obviously the first time anyone laid out the reality of the total monthly obligation and pre-payment penalties, I told them to let me know by Monday morning. They called over the weekend and said they were going to wait until the husband, who had been laid off and out of work for quite some time, got a job and they had some money put away. I managed to get them out and get their Earnest Money refunded.

    Not sure the agent I was “helping” was happy about the outcome though 🙂

    It’s one of the reasons I make sure people know their worst case scenario in terms of total payment and prepayment penalties BEFORE they sign a contract to purchase. If they float their rate during escrow though, I can’t control what happens by close day. We don’t have rate caps in our Finance Addendums here. We are missing quite a few basic buyer protections here…not sure why or how to fix that on an overall scale vs. just for my clients. Would like to though.

  11. Todd,

    You’re kidding me right? That’s 60% of gross income on the front end before taxes and car payments and credit card debt. And you say you guys are the leader in foreclosure rates? Maybe you oughta rethink your position on a 60% front end, ya think? A 60% front passes through on a plain vanilla loan?

    From someone who saw 28% push up to 33% and then 40% based on income rising in double digits per year, to see a 60% being OK at this point in time is just outrageous.

    As my article says, lenders and agents thinking 60% front ends are A-OK misleads the public into thinking that must be OK.

  12. The question is – how do you moderate what is a smart exotic and what is done merely to “get the deal done?” I agree that there should continue to be options, but what incentive does one have (as a broker) not to push one across? Especially in times of declining volume. Im not so sure the guidelines are so easy to set.

  13. Kim,

    For many, many years the guideline was 28% of one’s gross income for the mortgage payment including principal, interest, real estate taxes and homeowner’s insurance (or condo dues). Add to that 10% of your income for debt payments including car payments that are not going to be paid off within 10 months. The ratios were stretched to 33% for the mortgage payment (front end) and 40% total for mortgage payment plus debt payments (back end). This does not count utility payments or food or income taxes or other deductions, before you get your paycheck.

    You ask “what is a smart exotic”. As the Feds state in their position paper, that is not the question to ask. They are ALL smart exotics when used appropriately, as they were for many years until now.

    The issue is not the loan program, it is in the lender’s responsibility to consider the borrower’s ability to repay. Maybe 28% is too conservative. Maybe 33% is the correct norm. But clearly when you qualify someone at 50% or 60% of their gross income, you have crossed the line.

    Maybe the Predatory Lending guidelines should be more clear as to how the lender is to “consider the borrower’s ability to repay”. But when you are going over double the long standing norm of 28%…maybe it’s a clue that you are overstepping “prudent” limits, as the Feds suggest.

    You ask “what incentive does one have (as a broker) not to push one across…in times of declining volume”.

    Jeez. Maybe so you can sleep at night? How about you qualify at a payment of $2,500 a month using prudent guidelines. I CAN get you a loan at a monthly payment of $5,000, but you need to know that is double the amount we feel you can “reasonably afford to pay” given your income and debts.

    Here’s another good way to test “a borrower’s ability to repay”. If their rent is $1,200 and they have NO extra money saved, maybe they can’t be “reasonably expected to pay” $3,600 a month? Maybe they should put away the extra $2,400 a month before they buy a house, to see if they could pay $3,600 a month before committing to do so?

    I honestly don’t understand how the sky became the limit. How no one became responsible for advising consumers regarding reasonable parameters. When did people start needing an incentive to treat people with respect and give expert advices?

    I can tell you this, when lenders used to hand people a letter saying you qualify for a monthly payment up to $2,000, the consumer undertood things a whole lot better than they do now with a letter that says you can afford a house at a sale price of $300,000. Maybe we should go back to the days when people knew what their monthly payment was going to be, BEFORE they signed a purchase and sale agreement.

  14. Ardell and Kim,

    [We are missing quite a few basic buyer protections here…not sure why or how to fix that on an overall scale vs. just for my clients. Would like to though.]

    A mortgage loan originator has no fiduciary duties to your real estate clients; to put the client’s interests above his or her own interests. It’s strictly a retail transaction. A loan originator can suggest loan products that will pay the originator more money because they can. Do all of them do that? No. But I believe we’ll see the day when loan originators will owe fiduciary duties to consumers. Ardell, that would be one way of fixing this problem on a large scale. If the mortgage industry does not start self-regulating, the government will continue to regulate for them, pushing the industry to a point in the future where some smart law student will analyze what’s happened and show us that the government is borderline mandating fiduciary duties anyways.

    One way to solve this fast and locally Ardell would be for your homebuyers, when shopping for a mortgage loan, to obtain at least three good faith estimates in order to compare rates and fees. One of those could be from a Credit Union. They usually will not make a loan if it is not in the best interest of the member.

  15. Jillayne,

    Don’t Predatory Lending rules come into play somewhere? Why does HUD say that not giving ample consideration to a borrower’s ability to repay is “Predatory Lending”? Who is HUD talking to?

    I was thinking a person could go to the most conservative lender, like a bank maybe, and then shop for rate and costs everywhere without pushing up the sale price over what the conservative lender told them they could pay.

    I can qualify my buyers without a lender, except for credit score. Once in a while a buyer doesn’t confide in me, but not very often.

  16. How do you even know if a Buyer can afford a certain type of loan? Do you ask them how much money they make? It never occured to me that this was my business, for as long as they have a pre-approval letter from a bank or reputable lender for a certain price, I think that’s all I need to know, isn’t it? I’ve never heard of quizzing a buyer on how much money they have or how much money they make or how they budget their money or to second-guess their financial position or situation….. I would offer advice if asked, but I don’t make a lot of financial inquiries beyond where they work and their time frame for ownership. It just doesn’t seem like my business. How can I justify asking a professional person their income? It just seems nosy. These are adults and I’m assuming they are capable of making their own decisions about their future. Am I missing something here?

  17. Marlow,

    Hmmm, well the comments do explain why some consumers are getting in up to their ears. The lenders say it’s not their job to make sure the buyer isn’t getting in over their head. The agents say it is not their job either.

    Well it’s always been my job. Weren’t you taught how to qualify people when you started selling real estate? I’m pretty sure it’s in everyone’s licensing exam in every state.

    Some where along the line agents started delegating that responsibility to the lender. But it is still the agent’s responsibility to make sure the client’s best interests are being served by everyone else. It is the agent’s job to make sure the buyer understands every aspect of what he’s getting himself into. It’s the agent’s job and no one elses. The law says the agent “represents” the buyer. Lenders sell a product to an agent, they don’t represent them. Escrow is a neutral party, they don’t represent them. Only agents “represent” buyers in all aspects of the transaction.

    You have to know a few things to write an offer. You have to know what the downpayment is going to be. You have to know what their total cash needs are going to be including closing costs, as they are not covered under the Finance Contingency if they can’t close due to lack of funds. And you have to know that they know what their payment is going to be including taxes and insurance and that it is something they can afford.

    You can do it backwards like this. To buy this house you need $8,000 for closing costs plus your downpayment. Do you have that much? Then they just have to answer yes or no. Then you can say, to buy this house with these taxes and this condo fee plus your principal and interest payment, you need to make about this amount a year before taxes. If they get red in the face and say, no way, I don’t make anywhere near that amount, you know something is wrong before you write the offer.

    Something is definitely broken around here and I can’t put my finger on it. I learned how to qualify a buyer before I was allowed out on the street to represent people. No wonder people look at me like I’m some kind of genius when I pull out my calculator. Why do you think the MLS store sells real estate calculators? Doesn’t everyone own a “Real Estate Qualifier Plus” calculator or some similar version?

    Not picking on you Marlow, somethings just gone sideways. No wonder buyers say I might as well go to Redfin if no one is “representing” me anyway. Send them to the lender and hope they buy something…is that what it’s come down to?

  18. In my Predatory Lending clock hour class, I ask the following question to the Realtors:

    “Should agents recommend lenders? If yes, why. If no, why not?”

    The student answers come down to this:

    “Yes, but only if I am certain that the lender I am referring people to is not a predatory lender.”

    “Yes, but only if I also recommend at least three lenders.”

    “No, because it increases an agent’s liability.”

    IMHO, you can’t have it both ways, real estate agents. If you limit your liability, you also are limiting your value as a professional to the consumer.

  19. Jillayne

    I agree completely with your last statement. Problem is that many agents think that they are incurring more liability by referring their client to one lender (you can insert any other service provider). The magic “3 referral” number is something of lore in the business. The fact is, at least in Washington state, that there is no reported case law holding an agent liable for the wrongdoings of the referred service provider. The only way an agent would have liability, in my opinion, is where the agent knows that the service provider is a bad actor and refers anyway (presumably for some monetary kickback or something). In that situation, agent deserves whatever they get. In most situations, where the agent in good faith refers their client to someone who they believe provides good service, agent will not be liable, regardless of whether they gave 1, 3, 10 or a million names to their client.

    Russ

  20. My two cents as a first time buyer – THANK GOD Ardell is keeping an eye on this financing stuff, because it’s pretty overwhelming. It’s one thing to research it and think you have a handle on it, but another thing entirely when it comes to execution. I don’t think it’s nosy at all that she wants to know the financial particulars – she is helping us make one (if not the biggest) financial decisions we’ll ever make. Maybe not every buyer needs someone keeping their eye on the bottom line, but in our price range especially (i.e. dirt cheap) we do. It’d be SO easy to just say, sure, we can stretch the budget and go for that fabulous house, when in reality, we can’t and we’d be in a world of hurt if we did.

  21. Jillayne,

    You are correct on all fronts. The trend to limit the agent’s liability has put consumers in a real pickle on all fronts. If the agent is not the one charged with the responsibility to look out for the consumer regarding the lender, home inspection, contract protections, earnest money protections, etc…then no one is! No one else is charged with the duty to “represent” the consumer. Technically our law only covers representation of the buyer for some reason. I still think the word buyer in that law should be changed to consumer.

    The number of lenders is irrelevant. The agent should test the ratios being used, make sure the buyer knows their cash to close needs and also knows what their monthly payment will be BEFORE they write an offer for a buyer client. (some buyers can be customers and not clients, by the way).

    I always call around before writing an offer to make sure I know the rates and closing costs available in the marketplace, so I can help the buyer sort out the main details. I do need to know the buyer’s credit score, roughly, to gauge the rate on the second. The rate on the second mortgage, for those without 20% down, is credit score driven, more than the rate on the first.

    If the score is low, then the buyer is more likely to have a prepayment penalty and a high rate on the second. In that case I usually have a lender work the score up before the client buys. Or, if the buyer wants to purchase and refinance or buy a starter house and then move, I have to factor that into home selection to make sure they purchase a house that is more likely to increase in value than some others.

    Giving three names of lenders, home inspectors, etc…does not work. It does not replace the agent taking on the responsibility to have the skills needed to do the job right.

    It’s not rocket science, but it is a skill required to sell real estate. If you buy house A, you may not be able to sell it or refi it in a short period of time. If you buy house B, you will more likely to be successful in the long run.

  22. Marlow,

    See Adrianna’s comment above. (Adrianna is her “code name” on my blog). I did her numbers backward and said “Is this what you make?” Then we did the numbers again, forward. I also show them how to do it themselves. And we will do them again when we find the right house at time of offer.

  23. But whether or not a real estate agent believes someone can afford a particular home, even if I believe it with ever fiber of my being, I am not a lender or an underwriter. I have no power to give or take a loan, unless I am loaning the money myself.

    If I made inquiries to most of my clients or customers about how much money they made, I’m sure they would be offended. If the purchase is part of an investment strategy, then we discuss financials. But if a working professional comes to me, an adult pre-approved by a bank or legitimate mortgage broker and a mortgage underwriter, I think they would be insulted then if I kept questioning them about their financial abilities to pay back the loan. All I need to know is how much they have to put down and if they have enough to cover closing costs and if they’re “approved”. I’m assuming “approved” means they can afford to make the monthly payment. I’m not going to micromanage their lives and bank accounts and think they might be insulted if I tried.

    It’s my understanding that underwriters have loan guidelines that borrowers must fulfill so they can sell the loan on the secondary market. If a borrower doesn’t make enough money or has too much debt, the loan won’t fit into FNMA guidelines and can’t be sold, so the underwriters make sure that borrower and their loans qualify.

    Seriously, I must have missed that class that says I’m supposed to preapprove buyers….. I’ve been told to refer them to legitimate lenders who can pull their credit report and confirm their income and then to get a letter attesting to that. I’ve never heard of anyone asking for income tax returns or paystubs before showing houses. Even if I do think someone can afford to buy a home, a letter from me isn’t going to get them a loan or satisfy a Seller. They still need to go to a lender and get a preapproval letter.

    Many larger real estate offices actually have a mortgage person who works in their office, perhaps in a separate cubicle or desk, but as a separate business. If a buyer comes in who hasn’t spoken to their own bank yet or needs a mortage broker or a second or third “quote”, that lender will have them fill out an application, bring in paystubs or income tax returns and pull a credit report and then issue a preapproval letter based on that information.

    I don’t think that not preapproving or prequalifying buyers for a loan is just me not willing to take responsibility for a buyer or being a “bad agent”. It’s just that I have no power to grant or deny a loan and that seems to be something that should be left to those who actually have the power and funds to do so.

  24. Hi Marlow,

    I agree with you and maybe combining your post with Ardell’s last post I see that perhaps treating all homebuyers the same might not work. Some homebuyers are financially astute. Other homebuyers might not be as savvy. To assume that first time homebuyers are the ones who are NOT financially savvy would be a mistake. Sometimes it’s the second or third time homebuyers who fall victim to predatory lenders.

    Russ gave us some excellent advice a few posts ago. So let’s ask him again, how does a competent, professional real estate agent determine who needs more hand-holding?

    Russ, what I hear in my real estate clock hour classes is that agents are often okay with taking the risk of recommending lenders. What they struggle with is when a homebuyer has been preapproved by a lender unknown to the real estate agent. It could be an out-of-state lender, it could be an out of the immediate area lender, it could be a local lender the agent is not famiilar with. Either way, real estate agents struggle with not wanting to say anything disparaging about one of these “unknown” lenders yet still wanting to advise the consumer to get Good Faith Estimates from other lenders. They often turn to their broker who tells them not to get involved in the financing, which seems to support Marlow’s perspective.

  25. Russ,

    Giving 3 names doesn’t replace the agent being on top of what is happening because the agent shouldn’t “write it” until the agent knows all is OK, and the agent knows for sure that the buyer fully understands what they are getting themselves into.

    Example: Received a call from one of my clients that his brother was closing on new construction and was having a problem. I called the new construction office and was told the buyer needed to fake a rental agreement on his current home to close. The lender was a big national chain and the builder was a huge mass builder. I said do you realize you are asking the buyer to commit lender fraud? Answer: “It’s done all the time”. aka Everyone’s doing it. I figured out a way to close without the advices of the builder and lender and all turned out well.

    I don’t want to give you the 100 stories of the naked city, but these are not isolated events. Once the agents became liability driven and stopped running the show, as they should as the buyer’s representative, all hell broke lose. That is one thing the Bubble people have RIGHT! No one’s watching the henhouse and the person who is supposed to be watching the henhouse is handing out lists of 3 names of the foxes. That doesn’t mean the lenders aren’t “reputable”, it means the lenders SELL loan products, they do not represent the buyer. The agent represents the buy and cannot delegate full responsibility for the client, to 3rd part vendors.

    Russ, Why??? Why DON’T agents have fiduciary duties to the consumer here in this State? I’m sure that’s not true in every state. The Law says we “represent” which is ambiguous to the consumer. Who lobbied to reduce Fiduciary Duties down to Statutory duties, and when and why?

  26. Marlow,

    You can use a lender’s assistance, but you can’t delegate your responsibility to represent the client. Lenders will be the first to tell you that they DO NOT represent the buyer. You “represent” the buyer via the Law of Agency, and no one else.

    If the lender is using a HELOC as the second, a pre-payment penalty and 50%/66% ratios, you need to know that, because you need to know that your client understands the full ramifications of what they are getting themselves into before you write the offer.

    25% of the Washington Real Estate Practices book is devoted to loan qualifying and loan programs. You can’t delegate to a third party without knowing enough to be the check and balance for your client.

    If you are selling houses TO buyers, then all you need to know is whether or not they can close. A lender can do that. If you “represent” the buyer, then you need to know just enough to ask the right questions and make sure the buyer fully understands what they are getting themselves into.

    If on page one of the contract you are checking the box at line 15. that says “Selling Licensee represents “neither party”, then you don’t have to do this stuff. But if you check the box that says Selling Licensee represents “buyer”, then you need to do more than if you are checking “neither party”. If the buyer is merely a customer, and in some cases he is, then you can check “neither party”. But you can’t check “buyer” and then do the exact same thing for that buyer that you would do if you checked “neither party”.

  27. The median housing price in King county is $425,000. How much income is needed to buy a $425k house using the lending guidelines you prescribe?

  28. Alan,

    Are you talkin’ ta me? LOL, sorry, I’m still giddy over Merv’s post.

    Sale price $425,000. Downpayment 20%. Credit score 780. Total cash needed to close, approx. $90,000. Total payment including taxes and insurance, approx. $2,500 a month. Total income needed to purchase, approximately $95,000 give or take. More income needed if you have two big car payments, student loans, tons of credit card debt, a stay at home mom wife who likes to shop and three kids. Less if you are single, have six month’s worth of expenses tucked safely away in liquid form, you have a modest car payment and low or no debts, and you don’t feel the need to take a different girl out to a fancy restaurant every night for dinner 🙂

    There’s a start point and a variance, just like a building permit. You build around the basics to include your specific clients’s particulars. But there ARE basics and there ARE safe zones and danger zones. Client wants to run into the danger zone, after knowing it is the danger zone, and has good reasons why, like he’s in his last year of internship or getting an inheritance within a year or taking a new job after closing that pays double the income…fine. As long as everyone’s on the same page and the agent knows that the client is fully aware of his options and the ramifications of his choices.

    Agent’s job to know the client is making “informed decisions”. Agent’s job to know that the client has all of the information needed to make the decision. Not rocket science.

  29. Alan, the question is: how much income do I need to state that qualifies me for the median price in King & Snohomish Co. 🙂

    Jillayne, I wonder if you could guess how many loans are closed where the buyer’s FICO score is 700 or higher AND has a loan with a pre-payment penalty. I’ve run across those a few times while signing people and had to work hard to mask my non-verbal communication as much as possible. One deal early this year had me so upset my wife had to keep me from ringing the LO invovled. I know everyone has stories, but this was of the kind that Mike Wallace would have on 60 Minutes.

    But, like Marlow says, it not our jobs to tell people our views about what they are doing, even to the demise of the consumer. Hopefully the consumer advocacy and education takes place prior to a home purchase rather than during or after the deal closes.

    To an extent, agents are “Conductors of the real estate orchestra,” so I can completely understand Ardell’s desire to assist her clients with navigating the financial web.

  30. Alan,

    The first time I looked at Ardell’s numbers, I thought “Wow! Those numbers sure are high!” and where the hell is a first time buyer going to come up with $90K in cash???

    But, I have a slightly different perspective to add… The “median price” home is probably not the best place for a first-time home buyer to start. I would argue that a typical home buyer would have three options in a VERY generalized sense: The “starter home”, the “median home” and the “luxury home”.

    While many first-time home buyers WANT to start with the median home, that is probably not the most financially-sound place to begin. (I’ve heard Ardell make a variant on that point many times.)

    It reminds me of a story from my grandparents (as told to me by my grandmother): When her and my grandfather started their family in Los Angeles, my grandfather erected a large (and kind of extravagant) tee-pee in their backyard and then built a home from scratch over a year. They spent the next fifty years building out the house and buying the extras that made life more comfortable (such as TVs, washer machines, microwaves, cars, etc). She made the point to me when I first got married that I shouldn’t expect to get everything right away.

    If a first-time home buyer expects “the works” at closing, then they will probably need to max themselves out. If they are willing to be patient and start with a more financially-appropriate home, they is likely an option available that will get them started down a path that will lead to the home of their dreams.

  31. Dustin,

    I used the 20% down example because Alan didn’t state the terms, nor did he state it was a first time buyer. I can do it with any terms, just didn’t want to clog up a comment with ALL terms, so I chose the simplest of terms. All agents should know how to do it with different variables.

  32. BIG correction, Tim!

    “Like Marlow said, it’s not our jobs…” You and Marlow are not the same with regard to your jobs. You are an escrow person, which by definition is a NEUTRAL party. Marlow is not by definition a neutral party.

    Why do you equate your job as an escrow person to Marlow’s as a real estate licensee? How can your jobs be one in the same?

  33. Maybe we have too many Tim’s around here 🙂 Is that “Tim” Tim the Escrow guy? Tim the agent guy? Tim the none of the above guy? LOL If it’s Tim the escrow guy, my comment stands. If it’s Tim a real estate licensee…what state are you licensed in? Makes a difference sometimes. But not as often as people think.

  34. Ardell, I understand our jobs are different. But, my point was that I can understand Marlow’s thoughts about privacy and letting the lending issues operate on it’s own merit. Yes, escrow is theoretically neutral, but my neutrality in signing a client doesn’t mean I don’t have opinions about the efficacy of a borrowers loan. Just as much as I wonder about someone’s ability to pay, there are just as many thoughts about what awesome deals some people do receive. Lynlee and I talk literally all day long about transaction work, what was strange, what management snafus we need to work through and the type of loans people are receiving…..and most recently, discussion about when in the world we are going to get a vacation;preferably one that is not a single holiday when banks and post offices are closed. 🙂

    I’ll be with clients at around 9pm tonight down in your neck of the woods! I wonder if people don’t understand that escrow is like a bank and that’s why we have banking hours. Maybe people think we are like agents and work at all hours of the day–sorry for the rant! This is not directed at you Ardell, but in general. I think all escrow folks can relate! 🙂

  35. Tim,

    Big difference is that you do have to bite your tongue and look the other way, as a neutral party escrow. Real estate licensee cannot bite their tongue and look the other, way like the see no evil, hear no evil, speak nothing that can kill the deal…you get the picture. Licensees “represent”…or not. Escrow never “represents” the parties. Escrow must let things operate “on their own merits”…agents…not. You and Marlow are not in the same boat in that regard.

  36. Tim,

    Can you pull the buyer’s agent aside when you see a 700 credit score and a prepayment penalty? Not the buyer, but the agent, so the agent can make sure all is OK? It can happen if the buyer chose to stretch the ratios into subprime zone. Credit score alone does not determine the accuracy of the loan provisions.

  37. Ardell, I do not need to rethink my position. A 60% front end ratio will pass through automated underwriting under the proper conditions. I know because I’ve seen it happen. Using FNMA’s Desktop Originator, the result comes out as Approve/Ineligible (ineligible because the loan is larger than FNMA limits). The best grade it can give for a Jumbo loan amount. These loans are then delivered to A-Paper lenders under Jumbo programs at the best rates on the market. It’s not a high risk loan at all.

    Fannie Mae built these automated underwriting systems to measure risk layers. Debt to Income is only one layer. A high debt to income ratio becomes less and less important as disposable income increases. A 60% front ratio is very uncommon, but it can exist, and it can be a low risk loan. Again, I only bring it up because every borrower is different, and generalities about what is good for the majority can be a disservice to the minority.

  38. Todd,

    There are a lot of people who expect the lender and agent to tell them “how much home they ‘can’ buy. Many don’t know much about ratios and are handed a letter saying “you are qualified to purchase a house at $450,000”. The letter doesn’t say what the ratio IS, that the lender used when coming up with the purchase price.

    1) If you do pre-qualify someone at a 60% front end, how do you warn them that this is an exceptionally high front end ratio?

    2) How much of an allowance on their back end would you allow with a 60% front end?

    If you would only go 60% on the front end if they had no change on the back end due to car payments or credit card debt, do you factor in that they might by a car after they close on the house, or buy furniture and applicances on a credit card? Do you assume a long term likely back end addition when there is zero debt? Or do you use 60/60 ratios?

    Again, Todd, I fully recognize that it is NOT the lender’s job to represent the buyer. But your response confirms that it better be someone’s job…and I say it is the agent’s job.

  39. I don’t use ratios to qualify people. I use Desktop Underwriter. Fannie Mae has invested millions in determining what is and isn’t a good loan. An LO who sends a potential buyer into the market without fully qualifying them through an automated underwriting model is doing a disservice to their clients. 28/36 might be to high for some, 60/65 may be fine for a few others. A client that qualifies for a 60% debt to income ratio loan doesn’t need to be told that that’s a high number. They are the sort of borrowers who already know. They have the credit history/score that proves it. The people who only can qualify at 28/36 are the folks I worry the most about.

    I meet with client and talk about their goals. I tell new borrowers that 28/36 is a pretty good marker for what most new borrowers are comfortable in paying.

    The borrower I mentioned in my first comment had only a few credit cards, all paid monthly. He drove a Toyota Camry that was a year away from being paid off. His wife’s car was completely paid off. He had paid down a good chunk of his existing $800,000 mortgage well ahead of schedule. He was putting 30% down on on a 1.4 million dollar home. He had reserves, enough to pay off the Camry if we needed to. Also remember that over half of his income is now deductible against his taxes. Add in his three dependents, and his tax burden is minimal.

    If I, and the broker who did his previous mortgage refused to go beyond 28/36, this guy would never be in the position he is now. Buying a 1.4 million dollar home. He made several hundred thousand dollars in equity because twe were smart enough to recognize this borrower’s strengths.

    I’m making absolutely no argument that It’s not my job to represent the client. That is absolutely my job. Turning this guy down based on antiquated qualifying practices would of been poor representation.

  40. Todd,

    Here’s my anecdote. Went out with a buyer prequalified by a lender. Buyer said her credit score was just under 700 and the rate on her second was 12%. I asked about her debts. Her car was paid for and she had one credit card with an $800 balance and a $50. payment. I called the lender who said she qualified it at subprime.

    I met with the lender who further stated it was subprime because the payment represented over 50% of the borrower’s gross income. I asked the borrower why she was looking in a price range that put her into subprime. She said that’s what the lender gave her as the price she could afford. Lender said, I’m not her mother. I want to do it subprime because I make more money that way and it’s an easier file to put together because subprime lenders aren’t as picky. Good credit score equals good enough.

    I showed the buyer a place that was low enough in price to move her away from subprime. She loved it and bought it. So all I am saying is ultimately, the buyer’s agent needs to take a peek over the lender side of the fence when representing their buyer clients. Otherwise they are not representing the buyer, they are selling them a house.

    That’s OK too as long as the buyer knows they are not being represented as a client, and are being treated as a customer, and the real estate commission is adjusted accordingly, with the buyer’s informed consent to operate on that basis. 

  41. That lender is a crook. I agree that the buyer’s agent should look over the lenders shoulder. I depend on it for referals. In return, I look over the buyer’s/seller’s agent’s shoulder and don’t refer crummy agents to my clients.

  42. Ardell, you go from “I stood up from the table and said, no one is signing today.” (original post) to “the buyer’s agent needs to take a peek over the lender side of the fence when representing their buyer clients.” (comment #41). There’s a huge latitude between the two. With your original post, you killed someone’s house purchase (perhaps costing them the house and losing their earnest money) to just suggesting that the buyer’s agent look at the good faith estimate prior to committing. I think that’s fine, and I’m glad you started this dialogue, as it gives many of us a chance to really think about our role in the finding, negotiating, financing and closing of a real estate transaction.

  43. Marlow,

    I would have caught the issue earlier on if it were my client. That was a situation where an agent was getting “leads” from a bad lender and ended up with many clients in huge messes. He asked me to help out. It was a mess. The lender is no longer in business. I was able to help close two of the four and no one lost their Earnest Money.

    The two sub-prime ones the I helped turn into non-subprime were two different lenders, neither the first one.

    None of the six cases above were my clients. I was called in when it was near the end, and a huge mess. On the “stood up from the table” one, the lender was freaking out so much, and the buyers were so left in the dark, that the buyers asked me to meet them in a bowling alley so the lender wouldn’t catch them reviewing the HUD 1.

    All involved South of Downtown. One was Downtown, with the closing South of Downtown. I don’t seem to run into it as much elsewhere. Lots of minorities and people who didn’t speak English very well. Some people need more protection.

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