Your Community Needs Affordable Mortgages— And So Do You

Such programs grant lenders access to referral, cash flow, and marketing opportunities

Insider

Head of Hedging and Analytics, Embrace Home Loans

It has been tough going for Americans trying to buy homes over the past couple of years – especially lower- and median-income households. Nationally, median home sales prices have increased from roughly $260,000 at the beginning of Covid-19 pandemic to more than $400,000, according to National Association of Realtors (NAR) data. Concurrently, interest rates increased from roughly 4% pre-pandemic to the current level of 7%, or slightly lower. (See Chart 1)

Under these conditions, affordable mortgages are rightly earning a lot of attention. Affordability has been a key challenge for homeowners, especially first-time homebuyers struggling to afford the housing market’s high cost of entry because of the double whammy of home price appreciation and higher interest rates. (See Chart 2)

Assuming a mortgage payment ratio of 36% of the borrower’s gross monthly income leaves $2,760 for principal and interest, assume the monthly cost of tax and insurance is $600. At the current interest rate of 7%, the median income borrower in Rhode Island, for example, where Embrace Home Loans is headquartered, is only able to afford a loan of $390,000, which would require either significant down payment or a lower-priced home. Low inventory levels mean the competition for lower-priced homes is extra high, making it even more challenging for a borrower to win that deal. Likely there’s a bidding war. (See Chart 3)

Payment Based on Interest Rate and Loan Amount

Lenders play an important role in sustaining healthy communities and expanding access to affordable mortgages — it is important for communities to have their elected officers, teachers, and municipal employees living in the same communities. But, lenders often must educate borrowers about the existence of affordable mortgages.

It’s easy for prospective homebuyers to see home prices and interest rates rising at the same time and automatically remove themselves from the home-buying conversation. Lenders who do not understand affordable mortgages cannot educate borrowers in their community about the opportunities for homeownership just waiting for them — and lenders — to take advantage of.

LOCKING IN SUSTAINABLE COMMUNITIES

While depository banks come under the umbrella of the Community Reinvestment Act (CRA), enacted in 1977, which requires them to meet the needs of all the borrowers in their communities, including low- and moderate-income households, independent mortgage banks (IMBs) are exempt from CRA. Some state-level CRA laws exist, and a recently passed law in Illinois does assess IMBs under a CRA-like framework. Absent such state-level laws, IMBs are indirectly encouraged by regulators to make mortgages affordable and assess borrower profiles to ensure that all segments of the community are well represented in their loans.

Federal Housing Agency (FHA) and Veteran Affairs (VA) loans were the original affordability-oriented programs made available to borrowers with low credit scores and high loan-to-value and/or debt-to-income ratios. Fannie Mae and Freddie Mac provide affordability-oriented programs, too, through their Home Ready and Home Possible products, respectively. The availability of Home Ready and Home Possible mortgages to borrowers depend on income limits determined by the geographic location of the property.

There are also affordable programs available at state and county levels, usually provided by a state’s housing finance agencies. Borrowers need to research these programs more thoroughly as every state or country has a unique program only available through a handful of lenders. Lenders who provide access to these programs must be approved by housing agencies since the programs are specialized and borrowers have to be underwritten to specific requirements.

Most affordable mortgage programs determine borrower eligibility using an income limit of under 80% of the area’s average median income (AMI), depending on the family size. In Rhode Island, the state housing agency RI Housing has an income limit of $112k for a family of four to access affordable mortgage programs. A borrower that qualifies would benefit from access to lower interest rates, lower down payment requirements, and down payment assistance (DPA) programs.

Such programs expand access to homeownership, especially among first-time homebuyers.

DPA programs provide assistance to borrowers unable to reach certain money-down minimums, with limits depending on the income thresholds and geographic locations. Some DPA programs, however, charge higher interest than rates for first mortgages.

Loans for borrowers with income less than 50% of the AMI are called Very Low Income Purchase (VLIP) loans and those between 50% to 80% of AMI are called Low Income Purchase (LIP) loans. These income limits allow lenders to qualify the borrowers without any LLPAs with the GSEs providing substantial savings to the borrower relative to a conforming loan.

As seen in the table, these adjustments can provide significant savings, especially for borrowers with credit scores below 700, by providing significant reductions in their mortgage rates. The economics of these loans make homes affordable for borrowers and the production of these loans profitable for lenders because these products are part of the community-building goals of the GSEs. Lenders receive a “pay up” when selling these loans, and are therefore able to provide the borrower with some lender concessions, like underwriting fee waivers.

AFFORDABLE MORTGAGES HELP LENDERS, TOO

The most effective programs involve income limits based on AMI, but there can also be conditions for financing such as a requirement to live at the property for an extended period of time or penalties for refinancing the loan or selling the property too soon. Not only do loan officers need to know these nuances, but borrowers need to understand this fine print, too.

Grants available from foundations trying to make a cultural shift within the lending community to be more accepting of the DPA and CRA products — trying to satisfy corporate social responsibility (CSR) goals rather than just satisfying regulation — can also be sources of affordable mortgages. Lenders who link borrowers to these foundations help diversify borrower pools, as required by regulators like the Consumer Financial Protection Bureau (CFPB).

“Once a loan officer is able to help an agent partner access these loans with a member of the community, the connection is instant and relationship value is immense...”

—Nick LaClair

Head of Pricing

Embrace Home Loans

Lenders’ profitability associated with the bond loans can be a challenge since there is a cap by housing agencies on the margins that lenders are allowed to charge the borrowers. Instead, profitability from these products often arrives indirectly — these loans act as a mechanism for lenders to fill their pipeline and to be able to attract high-producing loan officers.

“Once a loan officer is able to help an agent partner access these loans with a member of the community, the connection is instant and relationship value is immense,” says Nick LaClair, head of pricing at Embrace Home Loans. “The LO is able to establish trust with that agent who then provides referrals in the form of buyers purchasing homes.”

The low (or negative) profit margin on producing an affordable mortgage becomes a net positive for the lender and the community. Borrowers access homeownership and lenders access referral networks. “It is a win-win situation for both the LO and the agent, too,” LaClair adds.

While there is an inherent risk of higher delinquencies underwriting these loans, favorable prepayment characteristics offset some of the negative value.

Lower loan balances mean rates would need to move significantly for the monthly savings to cover the closing costs on a refinance. Meanwhile, lower credit scores impact borrowers’ ability to qualify for a refinance, while the terms of affordable mortgages often require borrowers to hold the mortgage for a certain number of years before refinancing.

This guarantees cash flow to investors, as well as lenders who service their own loans.

A knock-on benefit of offering these programs is building a more informed home ownership community where you lend. While every affordable mortgage program has its own charter, many have a compulsory education class that borrowers must take to access the financing. The home buyer’s education ultimately provides borrowers with a clearer understanding of their financial situation and sets them up for a successful homeownership.