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Tight credit standards benefit lenders and borrowers alike

Think Tank
Sharon Lee,
 DBA
Associate Professor of Finance, Risk Management and Insurance at University of Hawai'i, West O'ahu

There continues to be ongoing discussion about whether a large stable of potential mortgage borrowers have missed out on historically low mortgage rates because of strict lending conditions. To learn more about whether or not these strict lending standards are helping or hurting the market, we interviewed Dr. Sharon Lee of the University of Hawai’i, West O’ahu.

Q: With the re-regulation of the mortgage and credit markets, do you think that access to credit is improved, or are the new consumer protections preventing some people from getting the credit they need?

A: A: In response to the financial crisis there have been significant changes in the way banks and mortgage lenders do business. New credit standards set forth by the Consumer Financial Protection Bureau (CFPB) and effective this year are designed to lower risk in the lending industry, eliminating many of the high-risk loans made in previous years.

QM could limit loans

Though loans made to many consumers/borrowers will not be affected by the new “Qualified Mortgage” (QM) provisions, some groups of borrowers will not be able obtain specific mortgages because of the rule. Provisions such as the 3 percent cap on originating fees may not allow a mortgage lender to recover the expenses that would be incurred in making a smaller loan (e.g., loans under $100,000). Therefore, loans on relatively smaller homes may be cost prohibitive for lenders. The new maximum debt-to-income ratio of 43 percent is non-negotiable. Previously, a larger down payment, for example, could be a negotiating factor in increasing the debt-to-income ratio for a specific loan.

QM offers lenders protection

In return, lenders who make loans that follow the QM provisions will receive some legal protection from consumer lawsuits. It is true that some consumers, given the new regulations, may need to wait longer and become more financially stable before they are able to purchase a home.

Change is good

In the long run, these changes should be good for consumers and the economy. Making these financially-solid loans to borrowers that are able to repay their loans (i.e., not default) will lower costs from bad loans and reduce legal expenses, making lenders more profitable, generating more funds for future loans.

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