With the passage of time, however, their continued, absolute control over all mortgage underwriting has become a barrier to homeownership and a hindrance to a vibrant national housing market.
It is now time to complete the job of restoring our housing economy to full strength by creating a viable, private-label secondary market where lenders can sell to private investors the loans they originate that don’t meet the rigid guidelines for loans the GSEs will buy.
Right now, without a secondary market, lenders have only two choices in what to do with the mortgages they originate: retain them or sell them to the GSEs. But federal regulations limit the funding amounts mortgage lenders can keep in their own portfolios.
So every day, mortgage applications are declined — not because borrowers are not creditworthy, but because the GSEs’ automated underwriting system. This process — sometimes called the black box of underwriting — doesn’t account for many real-life situations such as self-employment, recent divorce, student loans or medical bill debt. Virtually anyone whose income, credit or debt is marginal or difficult to document doesn’t fit into the GSEs’ underwriting box. Thus, hundreds of thousands of people are unfairly shut out of homeownership every year, while the process of getting a mortgage for others has become too expensive or prohibitive because their financials don’t conform with today’s cookie-cutter lending guidelines.
Without compromising the post-crisis protections set in place, a private secondary market would end this unfairness. It would allow lenders to offer more flexible terms and innovative loan products to meet the needs, lifestyles and preferences of today’s responsible and creditworthy borrowers.
We’re all paying the price for today’s uniformity in lending, and unfortunately there is no relief in sight to the strict regulatory rules that former Federal Reserve chairman Ben S. Bernanke in 2012 called “overly tight” and recently experienced first hand when he was denied a refinance loan.
President Obama spoke to the issue of financing in his State of the Union speech last year:
“Even with mortgage rates near a 50-year low, too many families with solid credit who want to buy a home are being rejected,” he said. “Too many families who never missed a payment and want to refinance are being told no. That’s holding our entire economy back. We need to fix it.”
An illustration of the problem involves the recent introduction of FICO 9, a new, multi-faceted credit model that combines sophisticated in-house analytic technology with insights gained over 50 years of building credit risk models. The new FICO 9 model, according to the Federal Reserve, will provide best-in-class predictive power across all major credit product lines — mortgages, auto loans, credit cards and personal loans — from originations through account management.
Among the FICO 9 upgrades is a new way to assess consumer collection information, bypassing paid collection agency accounts and offering a sophisticated treatment that differentiates medical from non-medical collection-agency accounts.
Why is this important? It will help ensure medical collections have a lower impact on credit scores commensurate with the credit risk they represent. As a result, the median FICO score for consumers whose only major negative references are medical collections can increase by 25 points. This would be a significant and positive difference in how borrowers would be evaluated by home loan underwriters.
However, while most industries have adopted FICO 9, neither Fannie Mae nor Freddie Mac plan to update their automated underwriting systems to handle FICO 9 any time soon. In fact, they are still evaluating FICO 8, which was released six years ago.
While not using FICO updates is the GSEs’ prerogative and we must respect that, consumers should be able to choose a mortgage lender that uses a current FICO scoring model. But because there is no alternative secondary market, mortgage lenders must follow the GSEs’ requirements and remain boxed into uniformity.
The lack of innovative loan products, combined with crisis-era underwriting standards that haven’t evolved with today’s market conditions, have eliminated millions of potential home buyers who want, need and have earned the right to financing. In fact, today nearly two of every five applications are denied.
This year, mortgage originations are expected to reach $1.01 trillion, according to the Mortgage Bankers Association (MBA), the lowest rate in 15 years, with refinance originations projected to reach just $350 billion. This is a stark contrast to the average annual pre-crisis originations of $2.39 trillion (1998 to 2007) when annual refinance originations averaged around $1.26 trillion. If MBA projections are correct, this year only 3.5 percent of all homeowners in the United States will take advantage of today’s historically low interest rates to refinance their home loan.
The GSEs played a vital role in helping to rebuild the housing market. At a time when private investors had no appetite for mortgages, Fannie Mae and Freddie Mac provided desperately needed liquidity to help the housing market stabilize and move into recovery.
But the crisis has past, and it’s time to move forward. We call on the GSEs, the Treasury Department, the White House and the new Congress that will be elected Nov. 4 to make this eighth anniversary year of conservatorship one marked by the granting of freedom in mortgage lending and borrowing, and the rebirth of the American housing market.