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Cheating on mortgage applications is so widespread, and so seldom punished, that it’s fueling an increase in foreclosures that will prolong the housing slump, said Robert W. Russell, counsel to the director of the U.S. Office of Thrift Supervision, which oversees savings and loans.
If the IRS wants to spot large numbers of people stiffing tax collectors, it might want to consider auditing a fast growing segment of the mortgage market, writes Kenneth Harney in the Columbus Dispatch.
New research suggests that more than one out of six borrowers who take out limited documentation or no documentation mortgages do so in part because they have significant under the table income that they do not report on their federal tax filings.
Limited-documentation and no-doc loans once were used primarily by self-employed professionals, small-business owners and individuals who are heavily dependent on periodic bonuses or commissions.
In limited- or no-documentation programs, applicants typically state their income and assets to the loan officer but aren’t required to show detailed proof of that information for the mortgage company’s files.
Generally, applicants are required to have good credit histories, but at the extreme — NINAs (no income verification, no asset verification) — they need not document much of anything when qualifying for a mortgage. The allure of such mortgages for lenders or brokers: They come with higher rates and compensation.
Such home loans were only a small fraction of the market during the 1990s, but today, they’re big business for both mortgage lenders and home mortgage brokers. This year, they represent more than 16 percent of new home loans, according to Inside Mortgage Finance, a trade publication in Bethesda, Md.
Unlike in earlier periods, however, today’s low-documentation borrowers are much more likely to be people who could — but choose not to — document their income with W-2 forms or pay stubs.
Why do they prefer to go the low-documentation route? Survey designer Geosegment Systems of Nashua, N.H., asked 2,140 brokers active in the field this and came up with some eye-opening answers.
While 63 percent of mortgage brokers said they knew their self-employed clients had “unreported income” that they wanted to keep off the record, 71 percent said their borrowers’ applications were dependent on additional income “from a household member with poor credit.”
For example, say a married couple earns $10,000 a month, but one spouse had filed for bankruptcy or lost a house in a previous marriage. Most lenders would want to know about that to underwrite the new mortgage and charge mortgage rates high enough to cover the added risk. But with low- or no-doc loans, only the spouse with good credit would count as the borrower.
Forty-five percent of the brokers in the study said a significant reason for their clients to avoid full documentation is that they are self employed but have not filed tax returns. Forty-three percent said their clients “can’t qualify under standard (debt-to-income) ratios.”
In other words, if they documented their income and monthly bills, the new mortgage debt might represent 50 percent or more of their income — far beyond what most lenders consider acceptable.
Twenty-two percent said clients for low- or no-doc loans had “divorce or other legal circumstances” that complicated their financial profiles. One out of every seven said the “immigration status” of borrowers was an important issue, while one of 12 said they knew that their low documentation stated-income borrowers actually were unemployed.
Mortgage companies that make or invest in low-documentation mortgages largely agree, but they think the risks are controlled by the higher rates and fees they charge. If a loan officer knows that the applicants have adequate income and assets to handle a mortgage at the point of loan origination, that’s what’s really important — not that the standard documentation isn’t in the file.
But what about stiffing Uncle Sam?
Lenders say they do not approve of people illegally hiding income, but that the loan officer’s or lender’s main job is to make certain the mortgage is properly underwritten. Brokers and lenders “are not paid to do the work of the IRS,” one agent said.
Record numbers of people have taken out non-traditional mortgages, loans with lower initial payments or other options designed to help buyers with limited resources overcome sky-high home prices.
But these loans - which in some cases are considered predatory by consumer advocates - come with higher risk. Not only risk to the individual buyer, but to the economy as a whole.
Comprising less than 1 percent of the home loan market in 2000, estimates are that as many as a third of all mortgages currently are non-traditional loans, according to the Washington Times.
Additionally, although industry experts say there is likely a correlation between high-risk mortgages and foreclosures, “statistics on how many homes foreclose because of high-risk mortgages is hard to track,” says Fannie Mae Foundation Director of Public Affairs Albert King.
Experts told a U.S. Senate subcommittee that delinquencies on adjustable rate mortgages increased 141 percent in 2006 from a year earlier. Some estimate that subprime borrowers are 25 percent more likely to default on their loan. Still, lenders are filling what they perceive as a need in the marketplace.
Home buyers have several costs involved in mortgages. A payment includes principal and interest and also includes taxes and insurance. Altogether, this is sometimes referred to as PITI.
For our purposes, discuss the principal — the amount borrowed — and the interest, the amount the lender charges for the loan. How a homeowner repays the loan with interest is what determines the true cost of a home. Buyers have many creative ways to finance a home, rather than the so-called traditional 30-year mortgage. Here are four options, from the “safest” to the riskiest.
Interest rates on option-ARMs generally start between 9-10 percent.
If homeowners cannot refinance before the introductory rate expires, they could find themselves paying up to 15 percent interest. If a buyer has an option-ARM loan and sees their interest rate go up two points within two years, they could see their mortgage payment up by 30 percent.
Gary Herman, president of Consolidated Credit Counseling Services.com, counsels people who fall victim to overwhelming debt because of risky mortgages.
“The initial rate these mortgage lender quotes is almost always a teaser. It’s never spelled out for the borrower what the final payment ‘could’ be if the interest rate keeps rising,” he said.
Herman says many people don’t know what it will cost them over the life of the loan. The majority of Herman’s clients have credit card debt and also a second mortgage loan.
“A client asked me to talk to a financial service for them about what their final payment could be and what they would actually pay for the loan. I called them up and asked them for the bottom line and to fax me the paperwork. The guy laughed at me and said that if they knew that they wouldn’t take the loan,” he said.
The upside? ARMs give consumers with credit problems and no savings a way to finance housing. But there are other choices. Fannie Mae offers a 40-year fixed mortgage, which helps consumers avoid some of that term-interest payment. It helps make the monthly payments more affordable.
Whatever you do, be careful with these risky options. There is little room for error, and you don’t want to end up strapped for cash when things go awry. You need that security blanket.
Too many individuals are hesitant to jump into the home buying world because it seems too complicated and time-consuming.
While it’s certainly a drawn out process, however, there are ways to simplify it. Consider no-documentation mortgages, for example. While these resources are somewhat of a misnomer - because at least some paperwork is always required - you can cut down on the amount needed. But you may need to pay higher costs to do so.
This may be a worthwhile trade-off for some that have unconventional jobs or self-employed income that is difficult to document. Others are not comfortable sharing their financial information. For these borrowers, no-documentation mortgages may be an attractive choice.
Let’s take a look at the three main categories of no-doc home loans:
1. NINA (no income, no asset) mortgages
2. No-ratio mortgages
3. Stated-income mortgages