Our time in Washington has taught us that the actions of federal regulators can sometimes have unintended and harmful consequences. That’s why we have watched, with particular interest, developments in the “qualified residential mortgage” or QRM rulemaking that is winding its way through a maze of six federal agencies. How this rule is ultimately fashioned will shape the mortgage market for many years to come.
The recent decision by these agencies to issue a revised QRM rule that proposes as its “preferred approach” the elimination of a previously suggested twenty-percent down payment requirement is a victory for common sense.
By proposing to align the QRM requirement with the Consumer Financial Protection Bureau’s “qualified mortgage” standard, issued this past January, the regulators seem to recognize that failing to do so would exacerbate the uncertainty that already exists in the mortgage marketplace. This, too, is a very positive development.
The Dodd-Frank Act generally requires a securitizer of mortgage-backed securities (“MBS”) to retain not less than five percent of the credit risk of the mortgages in the MBS pool. The purpose of this risk-retention requirement is a good one: to ensure that the securitizer has some “skin in the game” and has an interest in the credit quality of the mortgages that are placed in each MBS.
In an initial rulemaking more than two years ago, the federal agencies proposed that only those mortgages with a 20 percent down payment would qualify as a QRM and thereby be exempt from risk retention.
In response, hundreds of individuals and organizations from across the ideological spectrum argued that such a high down payment requirement would effectively put homeownership out of reach for many creditworthy low- and moderate-income households who, in today’s tough economic environment, simply lack the resources to make down payments of this size. Many members of Congress also commented that the proposed 20 percent down payment requirement was inconsistent with legislative intent.
By proposing to align the QRM standard with the QM rule—in other words, a mortgage that is a QM is also a QRM—the regulators seem to recognize that it is possible to promote safe and sound mortgage lending without adding unnecessary complexity.
As you may recall, the QM rule establishes some baseline standards for what constitutes a prudently underwritten mortgage. Under the rule, loans with certain higher-risk features such as excessive upfront points and fees, negative amortization, and interest-only payments are excluded from QM status and verification of borrower income and assets is required. The rule sets a maximum debt-to-income ratio of 43 percent, but importantly does not impose a specific down payment requirement. Borrowers who enter into these “qualified mortgages” are presumed to have the ability to repay them.
The new QRM proposal is now out for public comment. It’s a dense, 500-page document, so there is plenty of material to review and evaluate.
At first glance, we question whether the proposal’s risk-retention exemption for all MBS guaranteed by Fannie Mae and Freddie Mac while in conservatorship will encourage financial institutions to originate mortgages intended for sale to the two institutions. This result would be at odds with the commission’s view that there should be less government involvement in the mortgage market, not more. We also question the merits of the alternative “QM-plus” approach that would set an even higher down payment standard of 30 percent to be eligible for QRM status.
Nevertheless, with their new QRM proposal, the federal regulators are headed in the right direction. Let’s hope they craft a final rule that provides clarity for the mortgage market, promotes prudent underwriting, and ensures access to mortgage credit for every family who is prepared to assume the obligations of homeownership.