A rule that allows government-sponsored enterprises Fannie Mae and Freddie Mac to sidestep stricter mortgage underwriting requirements is set to expire in 2021, and while that may seem like a ways away, its pending removal has sparked widespread debate throughout the industry.
Known as the QM patch, the rule exempts GSE-backed loans from abiding by the full scope of the Ability to Repay/Qualified Mortgage rule, which requires lenders to adequately verify a borrower’s ability to repay their mortgage in the underwriting process.
This includes a review of a borrower’s debts and assets to ensure they have the ability to repay the loan, with a stipulation that their debt-to-income ratio not exceed 43%.
The GSEs’ exemption from these rules has significantly elevated their share of the mortgage market, giving rise to concerns about an uneven playing field holding back other lenders.
Recognizing that the rule has shifted an increasing market share toward the GSEs, the Consumer Financial Protection Bureau has expressed its intent to allow the rule to expire as planned.
In a notice to the industry issued Thursday, the CFPB revealed that it plans to allow for the planned expiration of the QM patch in January 2021, noting that it may impose a brief extension “to facilitate a smooth and orderly transition.” Regardless, the QM patch appears to be nearing its end days.
As the CFPB notes, the QM patch allows certain loans to exceed the 43% DTI ratio required to qualify as a Qualified Mortgage.
From the CFPB:
The GSE Patch, adopted in the Ability to Repay/Qualified Mortgage Rule, expanded the definition of qualified mortgage to include certain mortgage loans eligible for purchase or guarantee by the GSEs, and in most cases these loans are granted a safe harbor from legal liability in connection with the ATR requirements. These Temporary GSE QM loans generally qualify for that safe harbor from legal liability even if their debt-to-income ratio exceeds the 43 percent threshold otherwise generally required for loans to obtain qualified mortgage status.
According to the CFPB, a recent study found that some lenders are offering QM patch loans when they are not necessary.
"Earlier this year, the Bureau released an assessment of its Ability to Repay/Qualified Mortgage Rule and found that GSE QM loans represent a 'large and persistent' share of originations in the conforming mortgage market and that creditors generally offered a Temporary GSE QM loan even when a General QM loan could be originated," the CFPB said.
The CFPB also said it was seeking input on how to make this transition without creating too much disruption in the market.
“The national mortgage market readjusting away from the Patch can facilitate a more transparent, level playing field that ultimately benefits consumers through stronger consumer protection,” CFPB Director Kathleen Kraninger said in a statement.
“We want to hear all perspectives on how to move beyond the GSE Patch, the impact on credit, the role of the private mortgage market, and possible modifications to the definition of qualified mortgages and the rules governing the documentation of debt and income,” Kraninger continued. “The Bureau is committed to ensuring a smooth and orderly mortgage market throughout its consideration of these issues and any resulting transition away from the GSE Patch.”
As a number of interested parties have expressed, simply doing away with the QM patch could be catastrophic for the mortgage market, as it enables thousands of borrowers who might otherwise not qualify to obtain a mortgage.
According to a recent analysis by CoreLogic’s Pete Carroll, the QM patch accounted for 16% of all mortgage originations in 2018, comprising $260 billion in loans.
That’s a massive chunk of the market that might be left behind should all lenders – government-sponsored or otherwise – be forced to comply with the Ability to Repay/Qualified Mortgage rule as it currently stands.
Further, as a recent study by Urban Institute pointed out, the QM patch disproportionally serves minority and low-income borrowers, who would not qualify for a loan without its less restrictive standards.
To ensure that these borrowers can still be served, organizations like the Mortgage Bankers Association have lobbied to changes to the ATR/QM rule before the patch expires.
In an op-ed written for HousingWire’s Pulse column in May, MBA President and CEO Robert Broeksmit urged the bureau to grant lenders greater flexibility in assessing appropriate DTI thresholds.
“It makes little sense to commit to a rigid requirement that does not account for the complexities of underwriting,” Broeksmit wrote. “Instead, we should focus on alternatives, like permitting the use of compensating factors or implementing a residual income test.”
Federal Housing Finance Agency Director Mark Calabria shared a reaction to the move, with the FHFA tweeting on Calabria's behalf: "The QM patch should expire so that we can level the playing field, foster competition in our nation’s housing finance market, and bring us one step closer to comprehensive housing finance reform."
Housing Policy Council President Ed DeMarco, who was the interim FHFA director once upon a time, also urged reforms, encouraging the bureau “to go even further” and eliminate the QM rule’s “distortion” that led to the creation of the patch.
“By itself, a borrower’s debt-to-income is a poor indicator of a borrower’s ability to repay and both the numerator and denominator are very hard to define in regulation,” DeMarco said in a release. “We look forward to the public comment process leading to a simplification of the rule without this distortive element that has limited credit availability and consumer choice without enhancing risk assessments.”
The National Association of Federally-Insured Credit Unions also weighed in.
NAFCU EVP of Government Affairs and General Counsel Carrie Hunt said it plans to provide feedback to the CFPB about expanding the definition of what constitutes a qualified mortgage.
“Under the current QM definition, the QM Patch has been a key factor in credit unions’ ability to lend to members of their communities, especially those of low- and moderate-income, to achieve homeownership,” Hunt said. “We will support a solution that allows credit unions to continue to lend to those communities.”
But even though so many are calling for changes regarding the definition of a qualified mortgage, analysts warn that revisions will have far-reaching consequences.
Moody’s Senior VP Yehudah Forster said any changes to the QM rule or the patch will impact mortgage credit quality.
“The privileges afforded by the QM rule and the GSE QM Patch, like immunity from Ability-to-Repay lawsuits and exemption from risk retention, result in more originations and securitizations of mortgages that meet the regulations’ criteria and far less of those that don’t,” Forster said. “Thus, changes to one or both of these regulations will have a significant impact on mortgage credit quality as well as the loans’ ultimate destination in the secondary market, be it GSEs, private-label RMBS, or bank balance sheets.”