By: Michelle Patana
Several lawsuits have been waged against large banks in recent months regarding questionable mortgage lending practices, and 10 of the nation's top financial institutions agreed to an $8.5 billion settlement this past week due to foreclosure abuse. The Consumer Financial Protection Bureau has been working on new mortgage rules designed to provide more protection to Americans, and the federal watchdog agency has released its new legislation.
The new rule requires that lenders institute a set of measures before extending a loan to ensure that prospective buyers can actually afford their mortgage. This rule is meant to prevent another subprime lending crisis that helped lead to the national recession and housing market collapse. The rule also seeks to protect borrowers from risky lending practices such as "no doc" and "interest only" features that resulted in many homeowners becoming delinquent on their loans and facing foreclosure.
"When consumers sit down at the closing table, they shouldn't be set up to fail with mortgages they can't afford," said CFPB director Richard Cordray. "Our Ability-to-Repay rule protects borrowers from the kinds of risky lending practices that resulted in so many families losing their homes. This common-sense rule ensures responsible borrowers get responsible loans."
How does the "Ability to Repay" rule work?
There are several ways in which lenders will now be required to ensure homeowners can afford the mortgages they take on. The so-called "ability to repay" rule mandates that lenders assess a great deal of borrowers' financial information to get a more accurate understanding of their financial condition. This includes analyzing a borrower's employment status; income and assets; current debt obligations; credit history; monthly payments on the mortgage; monthly payments on any other mortgages on the same property; and monthly payments for mortgage-related obligations.
Lenders must also examine a consumer's debt-to-income ratio and make other calculations to ensure they have the ability to repay the loan. A lack of sufficient assets should result in denial of a mortgage, a scenario that did not always occur prior to the housing collapse. Lastly, lenders must evaluate a person's mortgage eligibility by looking at their ability to repay both the principal and the interest, rather than simply the interest. The CFPB says that by implementing these measures, banks will no longer be able to engage in the poor banking strategies that led to the extension of loans consumers could not afford and the consequent housing crisis.