|Mortgage Lending "A through D"
What was once a small segment of residential lending is now becoming one of the fastest
growing areas in mortgage banking. Nearly every major institution is entering the non-traditional
lending market. These lenders are providing loans to borrowers that do not meet the traditional
credit criteria of secondary market investors such as the Federal National Mortgage Association
(FNMA) and the Federal Home Loan Mortgage Corporation (FHLMC). Some issues preventing borrowers from
meeting these criteria are bankruptcies, defaults, foreclosures and chronic late payments on credit
obligations. This article will review the salient points of non- traditional mortgage lending.
Credit Grades. Non-traditional mortgage lending is categorized into credit grade categories
based upon credit and capacity to repay the mortgage loan. Those categories are A-, B, C and D.
The more serious the credit problems, the further the grade decreases. As the grade on loans
decreases, lenders generally assess higher rates and fees.
Several factors contribute to the credit grade on non-traditional lending such as past
consumer credit history and mortgage payment history. Generally, lenders review the credit
history for the past 12- 24 months.
Income Ratios. Besides credit considerations, non-traditional lenders review the capacity
of the borrowers to repay the mortgage obligation. Lenders calculate a ratio (debt ratio)
using the total monthly debts and the total monthly income. For example if a borrower has a monthly
income of $6,000 and a total monthly debt obligation (including housing expenses and other
consumer debt) of $2,000, the debt ratio would be 33%. If a borrower has a low debt ratio, the
grade will be higher. Conversely, if a borrower has a high debt ratio, the grade will be lower.
Income Documentation. Non-traditional lenders use three approaches in documenting a
borrower's income: Full documentation, easy doc/simple doc and no income.
- Full Documentation: Borrowers provide pay stubs, W-2s or federal tax returns for self-employed.
Generally lenders require a two-year history to substantiate the borrower's income.
- Easy Doc/Simple Doc: Borrowers provide bank statements to substantiate monthly income.
- No Income: Lenders use the stated income from the loan application and the borrowers do not
have to provide any documentation to substantiate the income. This type of loan is known as the "No
Lenders will assess a lower grade on loans when little or no documentation is provided to
substantiate the borrower's income.
Loan-to-Value. Non-traditional lenders adjust the loan-to-value ratio as a method to reduce
the risk of financial loss if a borrower defaults and there is a loan foreclosure. Most lenders
believe borrowers with a low loan-to-value ratio have a lower probability of a foreclosure than
a borrower with a high loan-to-value ratio. In cases where a borrower has a low credit grade and/or
little income documentation, lenders may reduce the loan amount.
Loan Programs. There is little difference in the loan programs provided by traditional and
non-traditional lenders. There are 30 and 15 year fixed mortgages, balloon mortgages, and
Adjustable Rate Mortgages (ARM's). Non-traditional lenders assess higher rates and fees when there
is a lower credit grade, a lack of income documentation or a high loan-to-value ratio.
Some industry experts believe one out of eight loans are non-traditional. As this market
expands, competition in the non-traditional mortgage market will produce better rates, loan
programs and terms.
#1 Loans USA (1LoansUSA.com) offers variety of mortgage information. Mortgage rates for any loan
program from various lenders, mortgage rate predictions, bond rates, CD rates and more.
Back to Real Estate Investing Articles