Saturday, October 22, 2005
RED ALERT For Home Owners/RE Investors
They have said several times that they were considering extending those principles to purchase-money mortgages, which would probably have a mild effect on a few of the very hot real estate markets.
But this notice of a proposed rule change regarding the rules for capital requirements looks very serious. Depending on the determination, banks may have to tighten their lending considerably. If some categories of real-estate lending will now be counted as requiring more capital, banks will be forced to make fewer real estate loans in some categories.
Banks currently sell their conforming long-term mortgages to offset their risk and lower their capital requirements, but they often keep short term and non-conforming loans as well as their home equity lines of credit. Under some possible scenarios envisaged, banks would not be able to make many of these loans.
The comment period runs until January 16th, and it will be some time after that when the rule is issued and becomes effective. Currently most first-lien 1-4 family lending gets a ratio of 50%. In some of the scenarios listed below, some loans might now get a rating of 100% - double the capital requirement! Many banks would be able to make very few of such loans, because they would not have the capital to offset the loan. Banks who fall below reserve capital requirements run the risk of being taken over or being forced to sell.
Do not ignore this. For example:
The Agencies are also considering alternative methods for assessing capital based on the evaluation of credit risk for borrowers of first lien one-to-four family mortgages. For example, credit assessments, such as credit scores, might be combined with LTV ratios to determine risk-based capital requirements. Under this scenario, different ranges of LTV ratios could be paired with specified ranges of credit assessments. Based on the resulting risk assessments, the Agencies could assign mortgage loans to specific risk-weight categories.and:
Another parameter that could be combined with LTV ratios to determine capital requirements might be a capacity measure such as a debt-to-income ratio. The Agencies seek comment on (1) the use of an assessment mechanism based on LTV ratios in combination with credit assessments, debt-to-income ratios, or other relevant measures of credit quality, (2) the impact of the use of credit scores on the availability of credit or prices for lower income borrowers, and (3) whether LTVs and other measures of creditworthiness should be updated annually or quarterly and how these parameters might be updated to accurately reflect the changing risk of a mortgage loan as it matures and as property values and borrower’s credit assessments fluctuate.Note #3 above, which would give the Fed the ability to tinker with real estate lending just as it now does with interest rate. And I can assure you that if debt-to-income ratios or credit scores come into the equation, poorer borrowers will suffer greatly. Many will be forced to get mortgages from non-bank sources, which are associated with predatory lending practices. All will probably face increased interest rates and higher fees.
The Agencies are interested in any specific comments and available data on nontraditional mortgage products (e.g., interest-only mortgages). In particular, the Agencies are reviewing the recent rapid growth in mortgages that permit negative amortization, do not amortize at all, or have an LTV greater than 100 percent. The Agencies seek comment on whether these products should be treated in the same matrix as traditional mortgages or whether such products pose unique and perhaps greater risks that warrant a higher risk-based capital requirement.Some of these approaches would nearly lock higher-risk borrowers out of the bank-financed market. Changing the risk-based capital rating for interest only loans or negative amortization loans would mean that many borrowers would find it much harder to get a loan in hot markets.
If you are in RE or are planning to buy a home in a hot market, you need to watch this one very, very carefully, because you could find the lending market tightening suddenly and home prices dropping because of a smaller number of prospective buyers who can afford to buy. In areas such as LA, for example, approximately 50% of new purchase-money mortgages now are interest-only or negative amortization. Imagine what the impact on home prices would be if 15% of those buyers were not able to get or afford such loans. Home prices are all about supply and demand, and demand could drop significantly.
Home equity lending could tighten considerably as well.
Yet another reason cash is king. If some of these scenarios come to pass, time to buy.
Still, banks exist to lend money and they need more customers, not fewer. Big money clients aren't loyal- you know the rest.
As for banks existing to lend money, that's right, and that's why they haven't really responded to the previous guidance. But capital requirements are not something you futz with. If something like those proposed changes goes through, banks will respond by tightening lending in certain categories.
The bad part is that it will leave finance companies holding the field and really working some vulnerable people over.
I think the market will be willing to write these loans as long as people are willing to sign for them.
What is still an unknown is the now decade long push by the banks to gwet into the RE biz.
They want to buy/sell RE, finance it and insure it- and the homebuyers.
There is vertial integration and then there is the brave new world. Like the Roman Legions, the banks march on.
Banks may originate mortgages, for example, but they usually can't afford to hold them. They sell the loans or even originate them for the RE securitizers like Fannie Mae or Freddie Mac. However they do usually keep their non-conforming loans and home equity lines of credit. It's too early to tell, but if these rules are written in certain ways banks may not be able to write and hold some of these HELOC's either.
But that doesn't mean that borrowers won't get these loans. The big finance companies may well fill the gap. That is one possible adverse side effect of this - that some borrowers might be forced to deal with finance companies and might suffer from the loss of that regulatory umbrella.
As for insuring, etc, the big mortgage companies already do this. Many of them are not particularly ethical, but they don't have the same regulations confining them as banks.
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