Risky mortgages continue to be made and are actually increasing on the national level, according to a recent report by the American Enterprise Institute’s International Center on Housing Risk. The index increased in January mainly due to a higher share of:
- Federal Housing Administration (FHA) loans originated; and
- homebuyers with Fair Isaac Corporation (FICO) scores below 660.
Wells Fargo is jumping on board, recently lowering the minimum accepted FICO score for loans from 640 to 600. Wells Fargo’s previous minimum was established in November 2012. The new minimum of 600 translates to riskier loans being made, as homebuyers with low FICO scores are more likely to default. However, they are not as risky as Wells Fargo’s 500 minimum FICO score seen as recently as 2011.
Lenders consider FICO scores below 650 to be subprime.
Some members of the mortgage community have questioned whether the new ability-to-repay residential mortgage regulations that went into effect in January 2014 have come too soon for the still-struggling housing recovery. Well, no need to fear: lenders may be reluctant to dive in like they did during the Millennium Boom, but they’re still more than willing to dip a toe in every once in awhile.
What the rise in risky mortgages tells us is that banks are able to work within the ability-to-repay rules and still make risky loans. A lender with a high risk tolerance has a lot of wiggle room within the base ability-to-repay rules (not the qualified mortgage – see the difference here).
So, are we headed for another deregulated mortgage boom (and bust)? Not quite yet.
While some Big Banks like Wells Fargo choose to grant subprime mortgages, these risky mortgages are not expected to become the norm. Subprime mortgages expose the lender to court action, with dissuading fees and penalties attached.
But don’t automatically assume lenders’ caution means your clients don’t have to know what they’re getting into. Just because the lender agrees to offer a mortgage to a homebuyer with low credit and little savings, doesn’t make it a good deal. Make sure your buyer is informed by sending them off with questions to grill the lender about when they’re shopping for a loan. [See first tuesday Forms 320 and 320-1]