In today’s mortgage marketplace, there are two primary types of mortgage loans available- conventional and government-backed. Conventional loans include those underwritten to Fannie Mae and Freddie Mac standards while the government-backed group features VA, FHA and USDA mortgages. This is a far cry from say 10 years ago when a host of mortgage programs were available. For instance, someone with damaged credit could get financing using a “subprime” mortgage loan. Some programs required very little or even no documentation to get a loan approval.
Changing Requirements for Home Loans
A “no doc” loan meant just that- nothing in the file was verified. A “stated” loan meant the lender used whatever income was listed on the application for qualifying without the need for pay check stubs, W2s or federal income tax returns. Yet as lenders tried to find new customers some began lowering credit standards or asking for very little down payment, or both. At a certain point, we all know what happened. Certain borrowers found they couldn’t afford the mortgage and they couldn’t sell the home so they defaulted. Foreclosure rates hit record levels and these lower credit standards as well as the lack of documentation were to blame. Today, those loan programs and the lenders that made them are no longer around. We have conventional and we have government-backed.
What is a Qualified Mortgage
In an attempt to stabilize the mortgage industry, the Consumer Financial Protection Bureau, or CFPB introduced the concept of a Qualified Mortgage, or QM. As long as a lender approved a mortgage application using these new QM guidelines, the lender received certain protections against any future litigation resulting from the approval of a loan. In order for a loan to receive QM status, the lender must:
- Verify an Ability to Repay to repay the mortgage debt by limiting the debt-to-income ratio at 43% of the borrower’s gross monthly income,
- Issue a fully amortizing loan,
- Limit the loan term to no greater than 30 years
Further, the loan cannot have a balloon feature or accept interest-only payments.
As a result of the Ability to Repay requirement, “stated” income loans could not meet this guideline and lenders abandoned so-called stated loans. But they’re quietly making their way back, albeit in a limited way.
What is a Stated Loan
Stated loans are making their way back to some mortgage companies although it should be pointed out such mortgages don’t meet the QM guidelines. That hasn’t stopped some lenders from making them though. The difference this time around is that while there are no income tax returns, paycheck stubs or W2 forms required, there are other underwriting guidelines that must be met. First, the borrowers can expect at least a 20 percent down payment while a 30 percent down payment is most common. Credit scores are also required to be higher compared to a fully documented loan. Interest rates are also higher as well.
In lieu of income tax returns and paycheck stubs, the lender can assess monthly income by reviewing business and personal bank statements and using the income stated on the loan application. Let’s say a buyer submits a stated loan application and in the income section states monthly income is $8,000 per month. The lender will then review anywhere from six to 12 months of bank statements and look for deposits totaling at least $8,000. If a couple states they make $10,000 per month and get paid on the 1st and 15th, the lender will look for deposits on the 1st and 15th that add up to $10,000 per month.
Which Loan a Good Fit?
For someone who is self-employed and doesn’t get paychecks on a specific date but instead gets paid at various times throughout the month, the lender reviews both business and personal bank statements again verifying deposits that add up to the income stated on the loan application. The loan can be used to finance an owner or non-owner occupied property. Minimum credit score requirements are typically in the 720 range.
The most common borrower who takes out a stated loan is self-employed. Conventional, fully-documented loans typically require the two most recent federal income tax returns to document qualifying income. Such programs ask the lender to average the two previous years of returns in order to reach a gross monthly income amount.
However, if there is an indication of declining income, the loan may not be approved. Or, there is a sizable increase from one year to the next yet when the income is averaged, the qualifying income is lower than what is needed. With a stated loan, this hurdle is eliminated.