When you’re busy selling real estate or running a brokerage, you can’t be expected to follow every twist and turn in Washington over this rule or that rule. But there was one important twist just a few weeks ago that will make a genuine difference in your business—and yet you won’t notice a thing. That’s why it’s so important.
On July 2, the Federal Reserve released its rule implementing the international BASEL III capital standards. Originally, the Fed wanted to require banks to hold more capital in reserve for most of the residential mortgages they make, which would have made these loans far less attractive to banks than other types of products. What’s more, costs to your buyers would have gone up significantly. But when the rule came out, the increased capital requirements weren’t in there—they were one of the few things the Fed changed prior to publication.
Why? Because the National Association of REALTORS® and other real estate organizations made a clear case for not harming the attractiveness of home mortgage lending in the way that had been proposed.
To be sure, had the changes taken effect, business would have dropped off and the real estate market weakened. But NAR and the others also made it clear that the risk-weighting just wasn’t necessary, in part because the bad exotic loans of the housing boom were now a thing of the past and also because the upcoming qualified mortgage (QM) rule set standards for strong loans without requiring banks to hold more capital.
QM takes effect early next year, but banks are already underwriting to its standards and the loans are performing well. So with these new underwriting standards in place, the added reserve requirements simply aren’t needed. And the Fed agreed.
NAR still has concerns with the QM rule, but for the most part, the rule came out with sound standards that the association can support. (The outstanding concerns have to do with a cap on certain fee limits, and NAR is continuing to let regulators know why they’re a problem.)
With QM and BASEL III released, there’s much less of the regulatory uncertainty that lenders have been concerned about since the big Wall Street reform bill, Dodd-Frank, was enacted a few years ago. There’s still one more important rule to come out: the qualified residential mortgage (QRM) rule that is intended for loans packaged into securities and sold to investors. But putting that rule aside, the regulatory environment is much clearer now than it was just a few months ago. And so far, regulators are showing that they understand NAR’s mantra about doing no harm to the market.
To make the impact of the BASEL III rule more clear, NAR regulatory analyst Charlie Dawson and Senior Economist Ken Fears sit down for a discussion that gets at the heart of the issue in this 4-minute video.
Thanks to low interest rates, home owners are refinancing their home mortgages in sizable numbers, and that’s great for them and for the economy, because it helps free up money that can be put to other uses. A Bloomberg report earlier this week put the refi volume at a projected $932 billion for this year, up from $858 billion in 2011.
It’s a good guess the federal government is taking a strong interest in these numbers. Among all the efforts that the government has undertaken to help resolve the housing crisis and spur economic growth, none has been more central than its efforts to spur refinancing among struggling home owners. The government’s HARP program (Home Affordable Refinance Program) is all about providing incentives to borrowers to refinance their mortgage into something they can more easily handle. Incentives are provided to lenders and investors, too, to let borrowers do that.
To date, the government’s refi efforts have produced modest results, with roughly a million refis over the last few years, far fewer than the 3-4 million that was intended.
Without a doubt, the government should continue to look for ways to work with borrowers, lenders, and investors to spur refinancing. But what the Bloomberg report makes clear is that refis shouldn’t be the government’s only focus for improving the housing picture, especially if one of the government’s goals is to inject money into the economy through these refinancings. That’s because these refinancings, while they can be expected to free up some $2,900 a year for each home owner on average (assuming a typical $200,000 mortgage), exactly how much of that money will make its way into the economy as new spending is unclear. Economists interviewed for the report differ, but several say much of this money will go to shoring up home owners’ savings or paying down other debt, so only over time will the money make it into the economy as new spending.
In other words, even though the refis are important and ultimately beneficial, don’t expect them to jolt the economy with new spending.
The modest immediate benefit of refis shows just how important it is for the government to take a balanced approach to addressing the housing challenges today, and that means thinking long and hard about what we need to spur new purchases of homes. Clearly, rule one should be to do no harm, a refrain that NAR and others have been making for several years now. Doing no harm means taking a reasoned approach to banking regulators’ proposed qualified mortgage (QM) and qualified residential mortgage (QRM) rules. The QM rules will require lenders to make loans only to borrowers who can demonstrate the ability to repay, and the QRM rules will require lenders to hold 5 percent on their books for home loans they securitize and sell to investors, unless the loans meet certain “safe” underwriting standards. Loans that meet the “safe” standard don’t come with the hold-back requirement, making them more affordable to borrowers.
With these rules, the devil is in the details, and NAR has called for QM to give lenders sufficient flexibility so that a wide range of qualified, responsible borrowers can get affordable loans, not just borrowers with gold-plated credit profiles, and has also called for the QRM rules not to include a minimum down payment requirement, among other things, that would make it hard for many households to get a loan.
NAR is also looking closely at proposed bank capital standards in Basel III, the international banking protocol, that could force lenders to hold so much capital for home loans that, again, only borrowers with the best credit risk will be able to get affordable financing.
Other rules and laws that generate concern are being explored, but the point is clear: Although the government is right to look for ways to help troubled borrowers refinance into something more sustainable, the government at the same time must take reasonable steps on the new-purchase side of the equation. Not only is shaping these proposed rules in a reasonable way the right thing to do from a policy standpoint, but we can expect good rule-making to have a boosting effect on the economy as well, because new home purchases are the time-tested way for injecting money into the economy as new owners spend on upgrades, furnishings, and all the other things that make housing such an integral part of the economy. Encouraging refis is only half the equation.
Capital and mortgage financing rules being drafted in Washington and elsewhere raise the possibility that the United States will become increasingly split between affluent home owners and less affluent renters, because lenders will be constrained to stay within tight mortgage underwriting rules that many households won’t be able to penetrate.
That’s the grim assessment of a meeting of several dozen housing, consumer, and other organizations in Washington last week to look at the regulations coming down the pike as a result of the housing bust several years ago.
The meeting of the Coalition for Sensible Housing Policy, hosted by NAR at its Washington offices, heard from a panel of some of the country’s most highly regarded banking and mortgage financing experts, including Lew Ranieri, one of the creators of the mortgage-backed securities (MBS) market, Gene Ludwig, the U.S. Comptroller of the Currency under President Bill Clinton, and Jim Millstein, a Treasury official who oversaw the restructuring of insurer AIG in the aftermath of the mortgage crisis.
“We’re going to look back at these regulations five years from now and wonder, ‘What the heck did we do?’” said Millstein.
The regulations that have so many in the industry worried are two from the Dodd-Frank Wall Street Reform Act enacted two years ago: QM and QRM. QM stands for “qualified mortgage” and the rule would set standards for lenders to ensure they only make loans to borrowers who have the ability to repay them. The rules would apply to all mortgage loans. QRM refers to “qualified residential mortgage” and the rule would set minimum underwriting standards for loans that are packaged into securities and sold to investors. QRM applies only to securitized loans, with the exception of Fannie Mae and Freddie Mac loans, although once those two companies are out of U.S. conservatorship, their loans would be subject to QRM as well.
A third rule that is now on the horizon is known as Basel III, a set of proposed international banking standards being written in Basel, Switzerland, that would include requirements on how much capital banks must hold on their books based on the type of loans they make. In previous Basel iterations (Basel I and Basel II), the rules apply only to the largest banks, but there is concern that aspects of Basel III could apply to regional and community banks as well. The rules don’t have the force of law unless countries choose to adopt and enforce them. Banks in countries that have not adopted the rules might still have to abide by them, though, if they do business in countries that have adopted them.
Against these proposed rules are other factors that threaten to dramatically change the home ownership landscape: what to do with the two secondary mortgage market companies, Fannie Mae and Freddie Mac, which are now into their fourth year of conservatorship, and what to do with FHA, which has seen its market share soar since the housing bust but has analysts worried about its exposure.
A similar risk exists with QRM. If that rule requires a minimum down payment, such as 20 percent, much of the first-time buyer market outside of FHA would disappear.
Among the Basel III proposed standards that are troubling are finely detailed risk-weighting requirements that would force banks to hold more capital for all but the most conservative loans.
All three of these new rules becoming final in their current form would effectively create a have and have-not market in the U.S., “creating disparities outside of FHA that are very uneven,” said David Stevens, president and CEO of the Mortgage Bankers Association and 2009-2010 FHA Commissioner.
There’s some irony there, Stevens suggested. Because HUD and the new Consumer Financial Protection Bureau (CFPB) are writing “disparate impact” rules that would penalize lenders for loan practices that widen the disparities between borrowers. Thus, lenders face the possibility of adhering to QM, QRM, and Basel III and getting slapped with disparate impact penalties as a result. “This is leading to a real challenge around fair lending,” said Stevens.
There’s another irony as well, and that’s a delay in the day when Fannie Mae and Freddie Mac can be taken out of conservatorship and possibly replaced, paving the way for the development of a fully private mortgage market, which both the federal government and industry participants say they want. Right now, Fannie, Freddie, and FHA comprise the lion’s share of the mortgage market—by some estimates, more than 90 percent. If QRM rules are too tight, the federal government will face pressure to keep Fannie and Freddie under conservatorship rather than let their loans become subject to the new rules.
Thus, the industry finds itself on the horns of a dilemma: On the one hand, overly tight regulations will force all but a few borrowers into government-backed loans, delaying the development of a private market, while on the other, even when a private market is developed, it will be a sharply divided one, catering only to wealthy households that can meet the tight standards while everyone else must use FHA (or Fannie and Freddie, if they remain in some form), or be forced to stay in the rental market.
“What I see now is a turn away from home ownership in America,” said Sen. Johnny Isakson (R-Ga.), who provided closing remarks at the meeting, “an inability to finance home ownership. And a rental America is weaker than a home owner America, I can tell you that. We’re a nation of owners and not tenants, and that’s one of the great differences between the United States and many other countries. So, we’ve got to be really outspoken. Otherwise, if these rules start coming down after the election on Nov. 6, the administration is going to face not only a protracted unemployment of 8 percent, but a draconian drop in consumer confidence as housing becomes out of reach for almost everybody.”
Other presenters at the meeting were Jim Parrott of the National Economic Council, Michael Calhoun of the Center for Responsible Lending, Ray Natter, former counsel with the OCC and Federal Reserve, Susan Wachter of the University of Pennsylvania, and Brian Gardner, a Washington policy analyst with Keefe, Bruyette & Woods.