We all know what happens when loans aren’t originated the right way. Regulatory penalties, lost business relationships and bad publicity are just a few consequences that await originators who ignore this basic truth. If it’s worthwhile to originate loans the right way, it’s even more important when the loans are nonqualified mortgages, or non-QM loans.
Non-QM loans are financing that caters to borrowers who don’t meet the tighter mortgage requirements passed in the wake of the housing crisis. These products are helping some originators deal with tighter margins and lower volume.
Originating them does not come without risk — especially if the lender has little or no experience with these products. Brokers and loan officers looking to non-QM products as a way to boost margins should appreciate how different they are from agency and government loans — and they are quite different indeed.
Reevaluate the opportunity
If you’re thinking about originating non-QM loans, first, here’s the good news: There are probably more non-QM options than you ever realized, beginning with bank-statement loans for self-employed borrowers. Most lenders still underestimate how large this group is. A whopping three out of 10 jobs in the U.S. are held by the self-employed, or the workers they hire, and they receive fluctuating income from one or more sources.
They aren’t the only candidates for non-QM products, however. Real estate investors, who earn income by flipping or renting out properties, also use them. So do prime borrowers who have high debt-to-income ratios or are looking for an interest-only product. The same goes for nonprime and near-prime borrowers who have credit issues or have experienced a distressed-property sale in the recent past, as well as foreign nationals with little or no credit history who are interested in investing in the U.S.
When you add up all the different types of non-QM borrowers, the potential for mortgage originators to carve out a niche for themselves in the non-QM market is enormous. It’s probably obvious by now that a cookie-cutter approach to originating non-QM loans just doesn’t work. And therein lies the risk.
The hard truth is that many originators selling non-QM loans — or trying to sell them — aren’t doing a very good job at it. To be sure, today’s non-QM products aren’t the same subprime loans that helped sink the housing market more than a decade ago. That’s not the risky part. The risk lies in the fact that non-QM loans are nothing like agency or government loans. In fact, they are an entirely different animal.
Non-QM loans do not work with automated underwriting systems — they must be manually underwritten, so they take special skill. Most originators have been selling nothing but Federal Housing Administration or conforming loan products for years. As a result, they have no idea how to manually underwrite a non-QM loan, which increases the chances that they will be mishandled.
Understand the nuances
Originating non-QM loans the right way requires giving them your undivided attention and investing the proper time and resources. While non-QM loans allow greater flexibility when it comes to income analysis, it takes analyzing each borrower’s characteristics and comparing them to the guidelines of possibly applicable loan programs — and that’s not easy.
The first step in qualifying non-QM borrowers is understanding the importance of establishing the borrower’s ability to repay, or ATR. In fact, many originators are missing out on non-QM sale opportunities simply because they lack clarity about this standard and the different ways in which it can be established. For example, most originators believe the loan-to-value ratio is a part of establishing a borrower’s qualifications, yet it has no bearing on the borrower’s income or ATR.
On the other hand, when analyzing a self-employed borrower for a bank-statement loan, many originators neglect to look at the borrower’s history of insufficient-funds notices, which actually do impact ATR. Bank-statement loan programs require originators to look at nonsufficient funds, and if there are too many of these charges, that’s a sign that the borrower cannot manage their money.
So, how do lenders establish ATR for non-QM borrowers? The key is to apply the standard in new ways. Take interest-only loans, for example. These products comprise a large number of non-QM loan programs, since they offer borrowers a lower initial payment for the first part of the loan term. When selling an interest-only loan, originators should qualify the borrower for the higher payment that begins at the end of the interest-only period.
Another popular non-QM program is the five-year fixed loan. The key here is not to qualify the borrower based on the early, initial lower rate, but at the maximum allowed rate. By adding a 2 percent rate increase or the fully indexed rate, whichever is higher, originators can qualify borrowers for these products and comply with ATR rules.
Educate your partners
For originators who wish to take advantage of non-QM opportunities, the first step is to get educated about non-QM loans, how they work and who is a good fit for them. The second step is educating your real estate partners, who are often the first point of contact for many potential homebuyers.
If few originators do not take the time to understand non-QM loans, fewer real estate agents do. Yet they often end up in conversations with their clients about financing options. Educating real estate partners about non-QM opportunities helps them understand that their clients who have a unique financial situation may still have options.
The benefit to educating your real estate referral partners about non-QMs is that they become front-line advocates for you. Not only will they be more open to working with a wider set of potential homebuyers, but they will look to you as their non-QM expert. Of course, your success depends on being able to originate non-QM loans the right way, but once you establish a track record of doing so, your business-growth potential increases dramatically.
Lastly, success for a mortgage broker or loan officer in originating non-QM loans is highly dependent on identifying and working with a wholesale lender that is not only experienced with non-QM loans, but is able to help throughout the origination process. The most experienced of these wholesale lenders have developed unique strategies to help originators identify underserved borrowers and find the best loan programs for each situation.
Without the right mortgage partner with expertise in non-QM loans, originating these products can be too time- and cost-prohibitive an endeavor. With the right partner, however, originators can avoid or greatly reduce the amount of initial investments, and get on the fast track to expanding homebuying opportunities for a wider range of clients.
Another good thing about originating non-QM loans? Although it may seem that more and more originators now offer them, there is still room for more. The reality is that most originators still avoid anything that isn’t a government or conforming loan. As a result, a great deal of borrowers that fall outside the QM definition have never heard about them.
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There is a huge opportunity for mortgage brokers and loan officers who are committed to originating non-QM loans the right way. As long as they have the right resources and the right partner, an originator’s business can increase dramatically. More importantly, they can help more deserving borrowers overcome their perceived barriers to homeownership and attain a slice of the American dream. In other words, it’s not only worthwhile to do things the right way, but it’s simply the right thing to do.