We are inching closer to a new day in the mortgage industry – the day when the government begins to regulate the compensation earned by loan originators. April 1, 2011, has been circled on the calendars of nearly every retail bank, wholesale bank, mortgage brokerage, mortgage bank, and credit union – and especially by the origination staff at these companies – ever since the Dodd-Frank Wall Street Reform and Consumer Protection Act (simply called “Dodd-Frank”) was signed into law on July 20 of last year. There are a number of reasons for concern.
First of all, it will likely increase the cost of credit to the most qualified consumers. As with much of the recent legislation that has been proposed and/or signed into law in the past couple of years, the most responsible and self-sufficient members of our society are being forced to bear the cost for those that are less capable of providing for themselves. Dodd-Frank prohibits lenders from varying the charges on a loan based upon the loan’s characteristics (with the exception of the loan amount). For example, a lender must charge Borrower A (who is seeking a $200k conventional refinance loan, has 800 credit scores, a 20% debt ratio, $100k of cash reserves, and 50% equity in his property) the same amount as it charges Borrower B (who is seeking a $200k FHA loan to purchase a condominium with 3.5% down, 625 credit scores, multiple blemishes on his credit report, no cash reserves, is receiving gifted funds for the down payment, and was is receiving child support as part of the qualifying income). Both borrowers are applying for $200k loans, but Borrower B clearly has a more difficult file to approve, will take countless more time to properly document and process the loan, and is a higher-risk loan for the lender. Under our present regulations, Borrower B will have higher loan charges than Borrower A, which any clear-thinking person would agree is a reasonable expectation. In fact, in my experience, past clients of mine that fit the Borrower B profile fully understand and expect to pay a higher rate and/or closing costs to complete the processing of their loan because they know they have a difficult file. This all changes after April 1, however, and lenders won’t be allowed to charge more on the difficult files.
How does the industry account for this? As you would expect, the lost revenue from the more difficult files will be recaptured by raising the fees for the more qualified borrowers. If you were expecting the costs to remain the same for the well-qualified applicants while lenders lower the costs for the more challenging ones, you’d best think again. That business model will drive lenders out of business. Let me draw a comparison for you. Imagine that there are two men who come down with stomach pain. They each go to their doctor with the same expectation: to have their doctor cure their condition. Each doctor performs an examination and a battery of tests to determine the cause of the stomach pain. One is diagnosed with mere indigestion, is prescribed an antacid, and he is feeling better in no time. The other man, unfortunately, is found to have a cancerous tumor, and the list of treatment options include surgery, chemotherapy, and radiation. Fortunately, the treatments prove to be effective, and after 2 years he is feeling better. Do you think these two doctors would charge the same rate to address the stomach pain of their patients? Of course not. If they were forced to charge the same rate, what do you think would happen? Would the cancer patient end up paying the same rate as the man with indigestion, or would the man with indigestion end up paying significantly more? Naturally, it would be latter, and that is precisely what will happen in the mortgage industry, too.
The new Dodd-Frank law is so broad in scope, I could expand into other areas of impact on the mortgage industry and continue on for many more paragraphs. However, I think I’ll end this entry at this point, and I’ll save more commentary for next week.
