A Look Ahead: Home Finance in 2014
As we head into the new year, there is always a legitimate set of questions that potential homebuyers ponder. What is the future of home values for 2014 and beyond? What will interest rates be when I find my home? Will I still have a great deal of competition from other buyers when I make my offer? Some questions can be answered via good research, & other questions, such as future home values, we can only make educated guesses. In regard to home financing, we can now see a little clearer how changes will impact all of us. The landscape of mortgage financing will change in 2014 as regulations set forth by the Dodd-Frank Act continue to take effect. Ever since the financial crisis of 2008, mortgage lenders had already substantially tightened loan approval guidelines Just ask anyone that has obtained a mortgage in the last few years! So how will this change in 2014? There are a number of forces at play. In a subtle way, we will probably see some loosening of certain lending guidelines, as lenders vie for business that was lost when the recent refinance boom came to an end. Contrary to this, homebuyers that apply for a loan after January 10th of 2014 will see the effects of lenders complying with the "Qualified Mortgage" or QM rules that were spelled out in the Dodd Frank legislation. Most notably, lenders will be compelled to clearly document a borrower's "ability to repay" their mortgage loan. This may sound obvious...in the current high quality loan environment, aren't lenders already doing this? Definitely! However, this new requirement will ramp up the documentation standards, & "due diligence" that lenders will apply before issuing a loan approval. Many borrowers will see no impact in their requirements for loan approval. Others may have a tougher time getting to the closing table. So who may see some additional hurdles? First time homebuyers with no rental history, homebuyers that are new on their job, or new to employment, & self employed borrowers will probably face tougher scrutiny. Loan applications that might have been outside of guidelines but were approved based upon an underwriter's professional discretion will be more infrequent. Frankly, this "professional discretion" represents a small percentage of mortgage approvals that have happened in the last few years anyway.
The second category that will be different for 2014 is the cost of borrowing. This is not a commentary on the economic projection of interest rates. Instead,this is the result of Fannie Mae & Freddie Mac (FNMA/FHLMC) increasing what is called "loan level price adjustments". These are adjustments that lenders apply based on the perceived risk of the loan. Lower credit score? Higher cost. Purchasing a condo? Higher cost. Small down payment? Higher cost. One example has to do with how fnma/fhlmc looks at credit score. Currently, a homebuyer will typically get the best rates if their middle credit score is 740 or greater. In 2014, the best rates will go to those with a credit score of 780 or higher.
Keeping all of this in perspective, a homebuyer should not let these changes discourage one from a home purchase in 2014. Take note of the graph below, showing historic mortgage rates. Although rates are off of their lows from earlier this year, there is no question that rates are still extremely attractive, & remain at historic lows. Further, these attractive rates are on very conservative, fixed rate loans, so there is no need to turn to riskier loan products to obtain these low rates. In addition, while home values have rebounded nicely in the past year, they are still off of their highs from earlier in the decade. Finally, homeownership still provides very attractive tax benefits that are typically not realized when one is a renter.
Historic Mortgage Interest Rates:
So what steps can a homebuyer do to prepare for a home purchase in 2014?
- More than ever before, preparedness is key. Engage your mortgage lender very early on in the process. They can walk you through any additional requirements that may need to be met for the new QM compliance rules. If your income situation is unique, be prepared to write a narrative to help clarify how you earn your living. If you don't know where certain financial documents are (such as tax returns for the last two years), start digging now. You'll need them!
- Know your credit quality in advance. In the past, certain erroneous entries may have been "non-issues" for mortgage approval. Going forward, the cost of your mortgage will be driven even more by your credit score, so you'll want to check early for errors. A good place to start is www.annualcreditreport.com. This site was set up by the FTC to permit all consumers to receive one free credit report per year. Although this format will not provide you with a score, it will show you the credit data that the three major bureaus are reporting, & it also provides a quick way to file a dispute if needed.
- If you have been renting, offer to your lender copies of your cancelled rent checks for the past year (assuming of course, that the rent was paid on time!). If you past rent was $1,000 per month, & your new house payment is $1,125, rent checks will go a long way to document the fact that you have the "ability to repay". This is an old school underwriting technique that was used in the past to help supplement a credit history. Expect that this will be requested by lenders from recent renters in an effort to meet the new "QM" guidelines.
- Keep your closing schedule flexible. These guidelines are new for all in the lending industry, & there will be adjustments along the way. The industry is expecting that loan processing times will increase, but those that are well prepared will have a more manageable & predictable outcome. Stay flexible, & to the extent that you can, avoid the stress of a "drop dead" closing date.
As mentioned earlier, one should not be discouraged from making a home purchase in 2014, simply because of these changes. As always, being an educated buyer is key. Know what your lender can and cannot do for you, make sure that clear expectations have been set, and after all is said & done, you can reap the benefits of homeownership!