It may not be your business…but it is all mine!

Two years ago, our company switched our loan operating system to Encompass, so I have data available for the past two years (closed transactions from March 2005 – March 2007).   I’m pretty surprised at the results after analyzing my purchase transactions and so thought I would share this with you.

Mid Credit Scores

3% had credit scores between 600-619

17% had credit scores between 620-679

25% had credit scores between 680-719

47% had credit scores between 720-799

8% had credit scores above 800

25 % of clients purchased with 100% LTV Financing (80/20 or 100% LPMI)

Average zero down mid credit score = 723

7% FHA Financing

  • Mid credit scores ranging from 644 – 744
  • Average FHA mid credit score = 720

39% had 20% or more for down payment.

The most popular loan programs for my clients:

  • 47% opted for a 30 year fixed conventional
  • 26% have 5 year fixed period ARMs

So what do I make of this?   The consumers with scores under 620 will have a much tougher time, if they’re able to purchase at all.   Especially without a down payment of 5% or better.   Depending on credit history (1-2 years of no late payments), they may be able to go FHA or VA for financing.   The 3% (credit scores of 600 – 619) of my clients who I helped with financing over the past two years, would probably need to go back to drawing board and work on their improving credit scores (and, more importantly, work on changing their credit/spending habits) before being able to obtain financing for a home.   With that said, out of the 3% who were able to buy, I’m only worried about two buyers who may not have followed my advice of working on their credit and revamping their budget (and one of them has a 5 year fixed period ARM).

The 17% (credit scores between 620-679) would probably fit into FHA financing.   Over the past two years, most of my clients would opt for 80/20 or 100% (LPMI) financing over FHA for the following reasons:

  • The upfront PMI (1.5% of the loan amount) is no longer refundable on new loans.
  • Monthly PMI was not tax deductible (VA does not have PMI) for loans originated before 2007.
  • The payment with 80/20s was lower than FHA.
  • Borrowers could keep the 3% down (required with FHA) in reserves instead of draining their savings.  

This information is just a reflection of my purchase business from March of 2005 to my closed transactions as of today.   Historically, I have served more south King County families.   Just over the past year, with my move to Seattle, my business is beginning to expand to Seattle and Bellevue areas.

Before reviewing this data, I was certain that a larger percentage of my business was zero down or subprime.  Now I can see that I’ve done many zero down/subprime “prequalications or preapprovals” and they just didn’t pan out…but the effort that goes into a preapproval almost feels like you completed a transaction…especially for a subprime buyer. 

Again, I don’t represent every lender…just little ol’ me!  😉

54 thoughts on “It may not be your business…but it is all mine!

  1. “but the effort that goes into a preapproval almost feels like you completed a transaction”

    How true. The 100% loans do eat up a lot of time. I find that I have to price them rich to compensate for that time, lately.

    Glad you’re back; it’s never a party if you’re not here.

  2. Hey Rhonda,

    Thanks for sharing! Is a credit score below 680 still considered “subprime” today?

    I’m curious to see if consumers with a low downpayment/low credit score will be able to make the shift over to an FHA loan product. On the one hand, FHA is not a credit-score driven loan product. On the other hand, folks will have to document their income if they want an FHA loan. What do you think?

  3. Brian, thanks so much! It’s good to be back AND to be 40. Wooo hooo!

    Below 680, you probably are looking at “subprime” but not guaranteed…it all comes down to the AUS (automated underwriting…ie. what the computer spits out)…the lines are still a bit blurred and guidelines are changing constantly.

    FHA will not be a cure-all for those who could have bought subprime. FHA is text-book good ol’ fashioned underwriting. Income is fully documented and ratios can be “pushed” but within reason. Plus, we do have loan limits to contend with FHA. There will be “fall out”. But…the Flex programs are a great alternative as well.

  4. That is some fantastic hard data. There may be a bias due to it being south King, but still very interesting, useful and greatly appreciated.

    I do not understand why lenders allow the 80/20 financing. Part of the risk calculation should be based on the fact that the buyers have skin in the game. If everything is borrowed there is no skin.

    Do you have numbers on how many option ARMs you closed?

  5. Alan, that’s easy. 🙂 ZERO option arms. I just couldn’t get my personal arms around that product. I had many clients wanting that low low rate…but when I explained what would happen to them if that was the payment they constantly selected, they would opt for a different product.

    I believe by looking at the stats, you would only know that it is South King County from my admission? What do you think? The FHA loans might reflect that?

  6. “I do not understand why lenders allow the 80/20 financing”

    Because despite all of the news about forclosures, lenders made a killing on these loans. The vast magority of 80/20 loans are performing just fine.

  7. I wonder who was closing the option arms? Business Week reported that 15.5% of loans in seattle were payment option mortgages. If that article was accurate, they’re well represented in the loan mix.

  8. Honestly, I have no idea how south King would differ from the rest of the county. I just expect that it would. As Ardell often points out, different areas have very dissimilar markets. I do not have enough insight into those markets to guess how the borrowers differ.

    And kudos for talking your client out of option ARMs.

  9. Tim, what percentage of your closings have option arms?

    Bill, the various reps who call on our office would often push the option ARM and tell us we were one of the few companies not utilizing this product. I’m sure I lost business over it, but most clients were not interested in the Option ARM when they fully understood it. It seems like the ones who did not understand it were only interested in that low start rate and just didn’t want to hear about neg. am. and their mortgage recasting with a higher loan amount and a fully amortized higher rate.

  10. From my understanding of the Option ARM that product was first promoted within WaMu and it was a portfolio product – meaning it stayed within the lender’s servicing and was not bundled for resale on the secondary market. This is good for the overall market because it limits the risk to just the lender that was willing to make the loan and not having it out in the open market impacting the securitized loan bundles. Most other lenders that began offering their own version of this product did so to compete with the original by WaMu – I don’t know if those were sold on the secondary market or not, but I would hope not.

    The majority of clients, including myself, that opted for an Option ARM program were typically higher level clients that fully understood the terms of the option (negative amortization, recasting of the loan, etc) and the loans were used more for optimizing cash flow on rental properties in the first years of purchase while rents were on the upswing. Given that prices on smaller rental properties (2-4 units) around here were appreciating quickly while rents stagnated for several years it was the only way to make any of these purchases close to cash flowing. Rents are now on the up-swing since vacancy rates in the area are below 5% (around 4.4%) so that is a good thing for landlords.

    Most of these purchasers realize that they’ll need to refinance these loans in the near future to stabilize payments but it was a great tool to use in early years of purchase for rentals. As an agent that works with both residential and investment clients equally we would never suggest this kind of loan to a first time home buyer or to someone that wouldn’t understand the terms (2nd, 3rd, or more buyer) and what it meant to them long term.

    I know my own use of an Option ARM is to maximize my cash flow on a rental property and that my long term plan on the property is to refinance it at some point within the first 5 years of ownership to a 30-year fixed product. The maximized cash-flow in the first several years more than makes up for what is added on to the loan amount in this case (always case specific, it doesn’t work for all purchases). I would use the product again if it met my investment strategy and goals.

  11. Reba,
    You are a fine candidate for an option arm. But when they are mass marketed to people who need or want that low low payment/rate and who don’t fully understand neg am, then it’s not a good product.

    I can’t tell you how much mail we receive at home promoting start rates of 1.25% and how many consumers have contacted me needing to be refinanced out of these mortgages. The marketing I receive at home does not explain neg am or recasting…just how many thousands of dollars we’re going to save.

    It would be interesting to know how many used this mortgage for investment purposes and how many are home owners who made the min. payment only because they spent their other income elsewhere. I would bet most did not invest the difference or use it for a rental situation (such as a vacancy).

    The advertising of these programs are not gearred towards investors. From what I’ve seen, it’s scraping of the bottom of the barrel to get consumers who are either strapped for cash or are credit dependent.

    Hey, don’t ask me what I think! 😉

    Check out Jillayne’s post on Vacation Mortgages…it’s an option arm. The lender is promoting making the minimum payment.

    I would also bet that consumers with this product do not know how their LO is paid on it (the higher the margin, the more pay-ola).

    I am biased against this product. In most cases, a fixed rate interest only product would much better serve the borrower.

  12. Elizabeth Rhodes with the PI had an interesting article on Saturday regarding the subprime brouhaha’s impact on the Seattle Market. Relative to the rest of the country, it looks like we have less exposure. Only time will tell what the definition of “relative” is.

    “The Seattle/Bellevue/Everett area “is exposed,” but way down the list, Visini said.

    The Seattle area is in the bottom 20 percent for subprime mortgages among 331 major metropolitan areas” far below other parts of the country, particularly parts of Texas and California’s Central Valley where subprime accounts for nearly a fifth or more of all mortgages. At the top of the list was McAllen, Texas, where some 26 percent of loans are subprime.

    By comparison, only 7.9 percent of all Seattle-area mortgages were subprime at the end of 2006 (ranking 278th out of 331), down from 8.7 percent the previous year.

    And only a fraction of those loans were in trouble — some 7.6 percent at the end of 2006 were 60 days late or more, a sign foreclosure is looming. This put Seattle in the bottom 10 percent.”

  13. As I stated above, we wouldn’t recommend an Option ARM to a client that was buying residential and didn’t understand the terms of the loan. These loans were originally created to handle those market places where there were high prices and lower incomes relative to those prices, such as California. That’s why it’s not surprising that the majority of these loans being originated are concentrated in those areas. The lending industry was trying to find a way to let home buyers get into homes in places where prices were getting way out of reach using traditional lending products.

    Because the growth in Seattle prices has been slower and more steady we still have a large percentage of people that can afford the median price of a home with their current salary. However, that number has gone down over the years but we aren’t at CA levels of disparity.

  14. Hi John,

    I had a long email exchange with Elizabeth Rhodes over the weekend. The stats quoted in her article are only for Seattle. If you add in all of King County, and to that, Pierce and Snohomish, Kitsap and other areas of WA state, I am of the opinion that we would see the statistics altered dramatically leaning towards a higher number of subprime loans.

    We have an estimated 10 thousand loan originators in WA state. Many of them ONLY originate subprime. That is their entire business model.

    This is a gradual problem. We’re not going to see them all default at once.

  15. “These loans were originally created to handle those market places where there were high prices and lower incomes relative to those prices, such as California.”
    – Reba

    That isn’t how I understand it. As far as I know, Option ARMS were created originally to cater to the wealthy who might want to allocate their capital in more lucrative investments than real estate. Only recently has it been co-opted by those trying to sucker buyers, through quoting them initial low payment caps, into thinking they can own a home that would be out of reach to them with more traditional financing – both here and in California, though you are right that it is more pervasive in California.

    Rhonda – is there an AUS that was developed for subprime? I had thought they were exclusively for prime loans. Automating subprime sounds like a fools game.

  16. Biliruben, many subprime and alt-a lenders have (or had) automated underwriting. New Century promoted approvals in minutes (or was it seconds). Very few of the lenders I work with DON’T offer automated underwriting. Now, with that said, I never trust my responses (the computer) until we submit the supporting documents to a human. The human underwriter can add conditions once reviewing supporting documentation if they have any concerns.

  17. Thanks Rhonda. That didn’t actually answer my question, however.

    Are they simply using an AUS that was developed and tested for prime, but using it for sub-prime, or was there one actually DEVELOPED for subprime lending?

  18. Hi Biliruben,

    Many subprime lenders have their own proprietary automated underwriting systems. Here is an example from one company based in the Northwest, MILA. They specialized in subprime and built their business on this model. As I understand it, now they’re just doing A and Alt-A loans.

  19. That’s neat, Jillayne. Thanks!

    I didn’t realize they would allow just anyone access to those sorts of things.

    I am skeptical of any attempt to automate subprime, however. There are just too many possible variables in any subprime borrower’s situation to make automation anything more than something to game, imho.

  20. Option ARMs and other products such as interest only ARMs (without neg am) are under a great deal of scrutiny. I anticipate credit scores being increased and loan to values decreased (more equity required) for many programs. Congress is all over this and subprime as well. Yes, tighter lending standars will affect the difficulty for any borrower when applied to specific programs.

  21. Hi Biliruben,

    Automation increases the ability for a corporation to make more profit if you can replace a human with a machine. But you know this. So, that means corporations know this, too, and build the risk in with the pricing. I use to underwrite mortgage loans. I’ll bet that only the most sorry-looking loan files pass through human hands, and then they’re only looking at photocopies, scanned, or faxed documents instead of original documents. I will also bet that this is already starting to change.

  22. Replacing a human with a machine only increases profits for the company in the short term. Over time the competitors do it to and everyone slowly lowers their prices to compete. In the end it is the consumer that receives those former profits in the form of savings.

  23. Alan,
    There are still many humans that work on the transaction…we still have underwriters at our office who review the findings from the automated system. Also, a big benefit to automated underwriting is that it has decreased closing times significantly. which is a plus to home buyers and sellers.

  24. Jillayne, we refer to that (comment 23) as a “manual underwrite”. Sometimes the transaction isn’t “most sorry”; it could be that it just didn’t fit the aus system to get the response we feel it deserved (an approval). We do have real live human underwriters (I have a visual of a caged animal for some reason!) at Mortgage Master and believe me, they’re plenty busy. They reviews the findings to make sure they fit the guidelines and make sense. If there is something they question, they will “condition” for more documentation.

    This is the only mortgage company I work for, so I can’t speak for every type of lender (big banks, credit unions, mortgage brokers or other correspondent lenders). We have live underwriters because we close in our own credit line (we are a Correspondent Lender) and we since we are taking on the risk (vs. brokering a mortgage) we need to make sure the transaction makes sense.

    At our company, the AUS is a preapproval (when backed up with supporting documentation from the borrower). Then it is reviewed by u/w.

    We’re not a huge bank, we’re a family owned mortgage company who has been around about 30 years. AUS has allowed us to save TIME. And it COSTS the company quite a bit to have these systems, to be a direct lender, etc.

    I’m going to kiss our u/w’s when I go into the office today. 😉 Oh wait, you can’t do that any more without a lawsuit…I think I’ll bring them Starbucks instead!

  25. The New York Times has an article on subprime AUs and their potential problems today.

    “Automated underwriting is now used to generate as much as 40 percent of all subprime loans, according to Pat McCoy, a law professor at the University of Connecticut who has written on real estate lending.

    The software itself, of course, cannot be blamed for lowered lending standards or lax controls. But critics say the push for speed influenced some lenders to take shortcuts, ignore warning signs or focus entirely on credit scores.

    “Used properly, automated underwriting is a wonderful thing,

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