Why Haven’t Loan Officers Been Told These Facts?
Challenges Underwriting the Self Employed
Let’s try to unpack the self-employed dilemma by examining the regulatory guidance. FNMA follows the revised General QM. The CFPB follows the FNMA. It’s like a cat chasing its tail.
From FNMA (LL-2021-11) “. . . we only acquire loans that meet the Revised QM loan definition or meet other requirements for loans not covered by QM.”
From the CFPB, Regulation Z 1026.43(c)(2)-1
“A creditor may, but is not required to, look to guidance issued by entities such as the Federal Housing Administration, the U.S. Department of Veterans Affairs, the U.S. Department of Agriculture, or Fannie Mae or Freddie Mac while operating under the conservatorship of the Federal Housing Finance Agency. For example, a creditor may refer to such guidance to classify particular inflows, obligations, or property as “income,” “debt,” or “assets.” Similarly, a creditor may refer to such guidance to determine what information to use when evaluating the income of a self-employed or seasonally employed consumer . . . (Told ya! – LOSJ)
From Congress, TILA 15 USC 1939c(a)(4)
A creditor making a residential mortgage loan shall verify amounts of income or assets that such creditor relies on to determine repayment ability, including expected income or assets, by reviewing the consumer’s Internal Revenue Service Form W–2, tax returns, payroll receipts, financial institution records, or other third-party documents that provide reasonably reliable evidence of the consumer’s income or assets . . .
Regulation Z requires that a creditor must verify the consumer’s current or reasonably expected, income or assets and must verify such amounts using third-party records that provide reasonably reliable evidence of the consumer’s income or assets.
From the CFPB Regulation Z 1026.43(e)(2)(v)(B)-1
“Under § 1026.43(b)(13)(i), a third-party record includes a document or other record prepared by the consumer, the creditor, the mortgage broker, or the creditor’s or mortgage broker’s agent, if the record is reviewed by an appropriate third party. For example, a profit-and-loss statement prepared by a self-employed consumer and reviewed by a third-party accountant is a third-party record under § 1026.43(b)(13)(i). In contrast, a profit-and-loss statement prepared by a self-employed consumer and reviewed by the consumer’s non-accountant spouse is not a third-party record . . .”
Note that the 1026.43 (e) definition conspicuously leaves out the term “reasonably reliable” when using P & L as an example. What a crappy example to choose. Surprise, there is no “reasonably reliable” exposition elsewhere either. Oh, my. The term “reasonably reliable” is at the heart of ATR. For both the capacity test and documentary standards. For better or worse, that is the North Star. The TILA states the lender must use “third-party” documents that provide “reasonably reliable” evidence of the consumer’s income. The lender’s reliance on an unaudited P & L is not much different from a stated income loan. Even if FNMA says otherwise.
Is the CFPB suggesting that an unaudited P & L is reasonably reliable evidence? – No. The CFPB is DEFINING (1026.43(b) are definitions) a third-party record. Unfortunately, “reasonably reliable” is utterly subjective and inadequately explained. They go on to say the capacity test requires the use of third-party records “that provide reasonably reliable evidence of the consumer’s income.” In other words, the third-party record requires that the data provides “reasonably reliable” evidence. Got it, or shall we say it again? “Reasonably reliable!”
But what does reasonably reliable actually mean? Who knows? That uncertainty is why we had the stampede away from Non-QM loans. Okay, thankfully the CFPB provides some guidance here. From Regulation Z (you’ll never believe it)! Regulation Z implies that the third-party records and the credit decision were reasonably reliable based on the loan performance. Meaning, that after the loan is closed, did the borrower pay on time?
The proof is in the pudding. If the loan pays on time, the lender made a reasonable and good-faith determination on the ATR. The records are reasonably reliable if the borrower is never late. No exaggeration, read on.
From the CFPB
A. The following may be evidence that a creditor’s ability-to-repay determination was reasonable and in good faith:
1. The consumer demonstrated actual ability to repay the loan by making timely payments, without modification or accommodation, for a significant period of time after consummation or, for an adjustable-rate, interest-only, or negative-amortization mortgage, for a significant period of time after recast;
2. The creditor used underwriting standards that have historically resulted in comparatively low rates of delinquency and default during adverse economic conditions; or
3. The creditor used underwriting standards based on empirically derived, demonstrably and statistically sound models.
Okay, I’d be crying if I wasn’t laughing so hard. Look at number 1, “timely payment” – come on guys, we know you can use your grown-up words. A little quantification maybe? Better yet, remember the game Twister? Here is the Twister! “Timely payments for a significant period of time.” Grandkids say five minutes is a significant period of time. The ambiguity of the regulation makes the seasoned QM rules look like a mathematical solution.
Better hope that the applicant never encounters life’s hardships.
Number 2 is not much better. “Low rates of delinquency and default during adverse economic conditions?” Would that be derived from COVID servicing? FHA loans? Agency loans? In-kind loans? That would make it kind of hard to model underwriting on such market vagaries. I like my steak cooked.
And then there is number 3, my personal favorite. Mark Twain wrote, “There are three kinds of lies: lies, damned lies, and statistics!” Statistics are as bad as the unaudited P & L. Does the CFPB have a resident statistician to examine lenders in their use of sampling data, box models, and chi-squares? LOL!
Applicants have plenty of motive to shade the income data when applying for a loan. Therefore, without evidence, the unaudited P & L is little more than stated income.
The accompanying statement of income of X Company as of June 31, 2021, and any related statements for the period then ended were not audited by us. Accordingly, we do not express an opinion on them. – That is what you get from a “third-party” without audit. If the statements are not “certified” or otherwise identified as audited, it’s stated income.
So what if bank statements accompany the P & L? Bank statements can be manipulated through structured transactions. All these concerns add to the greater scrutiny involved in using third-party verification for those folks that have yet to file their 2021 return. Couple all that with the GSEs losing the ATR magic wand, and bingo. That’s where we are today.
At this point, it should be clear that the challenge is underwriting self-employed applicants with dated records.
You can hope for the government to address this lapse. Then, maybe the inappropriate bias against the self-employed gets better. A good bet is to start examining Non-Agency lending opportunities if you haven’t already done so.
Behind the Scenes
The CRAs – Teed-Up for Another Non-Compliance Whoopin!
Last week, the LOSJ wrote about the CFPB’s scathing report on the CRAs handling of consumer disputes (see figure above for rising complaint volume). The Journal has written about credit remediation in the past. The last thing a homebuyer needs to add to their woes is spurious and inaccurate credit data.
When the consumer contacts the CRA to dispute inaccurate credit data and gets blown off, what’s a regulator to do?
Blowing off consumers is one thing. But are the CRAs blowing off the FCRA regulator? Maybe just a little misunderstanding and the report is merely a shot over the bow.
The integrity of the credit reporting system and the financial services that depend on accurate credit data are imperiled by inaccurate credit reporting. Not to mention, this is a consumer protection law. The law intends to protect consumers from having their reputations smeared by these monolithic providers of credit data.
15 USC 1681(a)(1) The Congress makes the following findings:
The banking system is dependent upon fair and accurate credit reporting. Inaccurate credit reports directly impair the efficiency of the banking system, and unfair credit reporting methods undermine the public confidence which is essential to the continued functioning of the banking system.
The End of the Book – The Distant Sound of a Marching Army
For those that want to cut to the chase, here are a few concluding comments in the CFPB report.
“The CRAs’ actions, and inactions, have large implications for consumers’ financial well-being and the economy more broadly. The FCRA requires the CRAs to conduct a review of certain complaints sent to them by the CFPB and to report their determinations and actions to the CFPB. The CRAs’ responses to these complaints raise serious questions about whether they are unable—or unwilling —to comply with the law. The CFPB will use its authorities to meet its statutory objectives and to ensure that consumers receive quality responses to their complaints. ” – Sounds like the CFPB bout’ to open a fresh can o’ Dodd-Frank whuppin’ on ya’. Somebody better call 911! LOL. Okay, sounds like you guys are gonna need a lawyer!
CFPB Background and Synopsis, CRA Obligation
“CRAs must satisfy legal requirements when information is disputed. Under Section 611 of the FCRA, if a consumer disputes with the CRA the completeness or accuracy of an item of information, the CRA has an obligation to conduct a reasonable reinvestigation. There are specific timelines, notification requirements, and actions a CRA must follow when conducting a reasonable reinvestigation. A CRA is not required to investigate a dispute if the CRA has reasonably determined that the dispute is frivolous or irrelevant, but must notify the consumer of its determination.
When a consumer disputes a tradeline to the CRAs, the dispute is often routed through the Online Solution for Complete and Accurate Reporting (e-OSCAR), a system used by the CRAs to create and respond to consumer credit history disputes with furnishers.
Consumers also play a vital role in promoting accurate reports. By disputing inaccurate information, described by some consumers as a time-consuming and difficult process, consumers provide information that can be used by CRAs to evaluate whether furnishers and other data sources provide reliable, verifiable information.”
What is the Big Problem?
Allegedly, among other concerns, the CRAs ignore disputes submitted by third parties.
“The CRAs do not respond to complaints they suspect are submitted by third parties because they inappropriately conflate different obligations. Under existing FTC guidance (and some case law), CRAs do not need to investigate disputes submitted by third parties, such as credit repair organizations. The FTC guidance concerns disputes submitted under FCRA Section 611(a). The guidance does not address duties to review complaints transmitted by the CFPB under FCRA section 611(e). This exception in the dispute investigation obligation does not apply to covered complaints submitted to the CFPB. The CFPB expects that companies, including the CRAs, should reasonably review and respond to complaints legitimately submitted by a third party on behalf of a consumer, and there is no guidance or caselaw precedent to the contrary.”
The CFPB is saying that if a third-party credit repair agent submits a complaint to the CFPB regarding CRA inaction, the CRA better respond.
Read the full report here: https://files.consumerfinance.gov/f/documents/cfpb_fcra-611-e_report_2022-01.pdf
The CFPB provides consumer-friendly guidance on disputes including a handy template here: https://www.consumerfinance.gov/ask-cfpb/how-do-i-dispute-an-error-on-my-credit-report-en-314/
Tip of the Week – Don’t Piss-Off Your Regulator
What Has Your Regulator So Pissed OFF?
In this week’s case study, the Complainee appears to have been transitioning from one sponsor to another but failed to maintain his sponsorship during the change. The Complainees sponsor filed a request to terminate sponsorship with the regulator. After the termination of sponsorship, the regulator received a sponsorship request from a new sponsor and approved the request.
However, there was a three-month lapse in sponsorship during the transition period, meaning the Complainee was not authorized to engage in orgination activities during the lapse period. Misrepresenting that he was authorized to engage in mortgage origination activities, including representing a lender, ended poorly for this licensee.
The Complainee’s user profile and MU4 indicated he was unemployed during the transition. However, the regulator had copies of two preapproval letters the Complainee provided on two separate occasions during the supposed period of unemployment.
The complaint fails to connect the dots on how the violation was uncovered. One can assume what might have happened. Any number of stakeholders could have brought the matter to the attention of the state.
This sad case is a simple lesson. Follow the process when transitioning between sponsors. Don’t go storming out of anyone’s office until the transition logistics are solid.
From our friends at the CA-DFPI
On or about (REDACTED), Complainee sent a “Pre-Approval Letter” to a California resident (Borrower A) on letterhead containing a logo purportedly authorized by “(LENDER REDACTED)” The “Pre-Approval Letter” informed Borrower A that a $1.5 million residential mortgage loan application had been approved by “(LENDER REDACTED)” with a 30 year fixed rate of (TERMS REDACTED). The sender of the letter was identified as “Complainee, (NMLS# REDACTED, LENDER NAME AND ADDRESS REDACTED).”
On or about (REDACTED), Complainee sent a different “Pre-Approval Letter” on “(LENDER REDACTED)” letterhead to another California resident (Borrower B).
Subsequently, Borrowers A and B discovered that Complainee was not authorized to represent LENDER REDACTED. Unable to procure the residential mortgage loans promised by Complainee, Borrowers A and B were compelled to secure alternative funding.
The Commissioner finds that Complainee, while engaged in business as a “mortgage loan originator” and, thus, being subject to the CFLL, violated Financial Code section 22161, subdivision (e), by knowingly misrepresenting, circumventing, or concealing, through subterfuge or device, a material aspect or information regarding a transaction to which the person was a party when (Complainee) distributed a “Pre-Approval Letter” to Borrowers A and B falsely stating their loan applications had been approved by (LENDER REDACTED) and mispresenting that Complainee was authorized to represent (LENDER REDACTED).
The Commissioner further finds that (Complainee) committed an act that constitutes fraud or dishonest dealings in violation of Financial Code section 22161, subdivision (f), when he falsely represented to Borrowers A and B that their loan applications had been approved by (LENDER REDACTED) and misrepresented that he was authorized to represent LENDER REDACTED.
Based on the foregoing, the Commissioner finds that Complainee knowingly misrepresented, circumvented, or concealed through subterfuge or device any material aspect or information regarding a transaction to which the person is a party in violation of Financial Code section 22161, subdivision (e), and (2) committed an act that constitutes fraud or dishonest dealings in violation of Financial Code section 22161, subdivision (f). These violations of the CFLL are grounds for revoking Complainees mortgage loan originator license under Financial Code section 22172, subdivision (a)(1).
Moreover, due to the foregoing violations of the CFLL, the Commissioner cannot find, as required by Financial Code section 22109.1, subdivision (a)(3), that Complainee has demonstrated the financial responsibility, character, and general fitness as to command the confidence of the community and to warrant a determination that he will operate honestly, fairly, and efficiently as a mortgage loan originator within the purposes of the CFLL; and, the Commissioner is authorized to revoke Complainees mortgage loan originator license pursuant to Financial Code section 22172, subdivision (a)(2).
WHEREFORE IT IS PRAYED that the mortgage loan originator license issued to Complainee be revoked.
It’s easy to update the User Profile, Sponsorship, Company Access and MU4 when changing sponsors.
See the handy NMLS Quick Gide here: