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Takeaways:
- It’s become increasingly difficult for some potential buyers to obtain a mortgage loan.
- This is because lenders — not investors — are applying mortgage approval standards beyond investor guidelines.
- These practices, known as credit overlays, are often cited as a reason for why some consumers are denied access to mortgage credit.
Since 2008’s financial collapse and recession, many mortgage industry watchdogs have lamented how tight credit has become and how difficult it is for some potential buyers to obtain a mortgage loan.
It may come as a surprise, then, to find out that some mortgage lenders are applying mortgage approval standards beyond the guidelines suggested by their investors.
These practices, known as credit overlays, are often cited as a reason for why some consumers are denied access to mortgage credit. Government-sponsored enterprise (GSE) Fannie Mae recently surveyed senior mortgage executives for its quarterly Mortgage Lender Survey about the lending parameters they employ.
According to the survey, conducted in May, lenders apply credit overlays on a limited basis, but the extent to which they do so varies by channel. Correspondent lenders and mortgage brokers are more likely to engage in the practice than retail lenders who deliver loans directly to the GSEs or to Ginnie Mae.
Although the survey did not examine the reasons underlying this observed channel difference, Fannie Mae said dynamics such as borrower and compliance risk and operational efficiency may be contributing factors.
“Better understanding lenders’ attitudes about the lending parameters they employ may shed additional light on factors that could make it more viable for lenders to do business within the full credit boxes of the GSEs,” said Li-Ning Huang, senior manager of Fannie Mae’s Economic & Strategic Research Group, in a commentary about the survey.
Approximately 40 percent of lenders who deliver loans to the GSEs or Ginnie Mae reported applying credit overlays that are more stringent than what their investors require. Why do they do it? The primary reasons are to reduce default risks and repurchase risks, Fannie Mae said.
The most common type of overlay applied is a higher credit score, followed by additional documentation requirements to make it easier for lenders to comply with the Ability-to-Repay and Qualified Mortgage rule that took effect in January 2014.
In the past year, borrowers who failed to meet these overlay standards had their purchase and refinance applications rejected about 10 percent of the time, according to the survey. The deal-breaker for lenders is usually high debt-to-income ratios, low credit scores or poor documentation quality.
