6 questions on the CFPB plan to end Fannie and Freddie’s ‘patch’ | American Banker
The CFPB’s ability-to-repay rule includes a class of loans known as “qualified mortgages” that automatically meet underwriting criteria in light of certain features, such as a 43% debt-to-income limit. But the government-sponsored enterprises have been exempt from that stipulation since 2014; all Fannie- and Freddie-backed loans are QM.
But changes are on the horizon. The CFPB asked for public comment Thursday on possible changes to the QM rule. They include whether the agency will adjust the DTI limit. Any such proposal would have to be subject to more public comment before a new rule is finalized.
Yet one thing is for sure. Even though the GSEs’ exemption — now slated for January 2021 — may get temporary extensions, the CFPB is set on eventually letting it expire.
Because of the exemption, known as the GSE QM “patch,” nearly one-third of GSE-backed loans exceed 43% DTI but are still compliant. Letting the patch expire therefore raises questions about the future of a large chunk of the GSEs’ business, just as the Trump administration prepares to unveil a plan on how to release the two companies from conservatorship.
Here are six key questions about the future of qualified mortgages and the GSE patch.
1 What impact will ending the patch have on the GSE-backed market?
There is no doubt that the CFPB’s announcement could have a huge impact on Fannie and Freddie’s current domination of the market. Yet the agency’s intention to eliminate the GSE patch is only one half of the story.
On the face of it, ending the patch means the GSE-backed loans with DTI ratios above 43% are suddenly noncompliant with QM, and lenders originating Fannie and Freddie loans suddenly have to overhaul underwriting.
But the CFPB also asked for public comment on whether, in the QM rule, the DTI limit should be adjusted for the entire mortgage market. If the limit is raised, it could potentially preserve the GSEs’ compliance while still removing their competitive advantage.
“The goal here is to get a version of the patch [so that] QM covers a significant percentage of the borrowers that are currently served, but applies to the market entirely,” said Pete Mills, the senior vice president of residential policy at the Mortgage Bankers Association.
The agency also floated the idea of moving away from DTI or considering other factors to assess a borrower’s ability to repay, such as residual income, which could support some of the loans that now rely on the patch.
Others have argued for a lower DTI limit across the board.
With interest rates falling, homebuyers may not need as much leverage because monthly mortgage payments are going down, said Ed Pinto, a resident fellow at the American Enterprise Institute’s Center on Housing Markets and Finance.
“If I were writing the rule from scratch, I’m not sure I’d use 43%, I might use a lower number,” Pinto said. “But if you’re going to have a DTI requirement, you’d leave it at that, at 43%.”
To really address rising share of loans with higher DTI ratios, the government needs to do more to address the lack of affordable housing that have priced lower-income families out of the housing market, said Michael Bright, the CEO of the Structured Finance Association.
“The patch is acting as a Band-Aid over a much deeper issue that we have in this country, which is that incomes are going up much more slowly than home prices,” he said.
Yet the CFPB also signaled willingness to implement short extensions of the patch beyond the January 2021 deadline while the agency works on the QM rule.
“We are amenable to what a transition would look like,” CFPB Director Kathy Kraninger said Thursday.
Data shows that lenders have started to pull back on originating high DTI loans, perhaps in anticipation of the patch expiring in roughly 17 months, Pinto said.
Loans with debt-to-income ratios above 43% that were sold to Fannie peaked in December at 31.5%, but dipped to 27.1% in April, Pinto said. For FHA purchase loans, 61% had DTIs above 43%, which also peaked in December, but dropped to 57% in April, he said.
“The industry is going to have to take this for what it is — the patch is going to expire and we don’t know if anything will take its place, or the 43% DTI becomes the rule,” Pinto said.