Absolutely. And we are seeing mostly positive outcomes this time around. There are key distinctions between the sub-prime of old that got everyone into trouble and these new loans, also called “non-prime”, “Non-QM” (Non Qualified Mortgage) and “Alternative Financing”. The two primary being much larger down-payments required (20%+) and a premium charged on the interest rate to help compensate for the additional risk taken on by the lender/investor. And they rarely come with the awful prepayment penalties they plagued homeowners in the past.
In the world of mortgage banking, the term “subprime” became the equivalent of a curse word. Subprime mortgages were largely to blame for the economic disaster that led to the Great Recession in 2008. The simple fact is too many questionable home loans were given to unqualified buyers. People borrowed more than they could afford and eventually the bubble burst.
Now, it’s 10 years later and mortgage lenders have learned their lessons. The mortgages have made a comeback, due to market demand. And new standards are being applied to help keep history from repeating itself.
How Nonprime Loans Work
The idea is to provide mortgage loans to borrowers “with less-than-perfect credit” and there are already some lenders in California that have successfully approved nonprime loans. The key is to make sure the loan is properly underwritten to protect both the lender and the borrower. Even though their credit situation may not be ideal, nonprime borrowers should be able to qualify in other ways. Unlike the subprime days, it’s not just anyone with a pulse who can get as big a loan as they want.
Nonprime loan underwriters manually assess the individual risks associated with any borrower. A bad credit score, past foreclosure or bankruptcy, or a history of late payments are factors that will be reviewed, but may not deter the loan from being approved if other factors are viable. Non-traditional forms of credit are also being considered. Qualifying nonprime borrowers have been able to secure new home loans, refinance loans, home equity lines of credit (HELOCs) and equity cash-out refinances.
Individualized Risk Management
Because each loan is manually underwritten, not all loans will be the same for all borrowers. It is a very individualized process because every applicant will have specific risks that need to be assessed. “What we’re talking about is underwriting that goes back to common sense sort of practices,” says Rick Sharga of Carrington Mortgage Services. “If you have risk, you offset risk somewhere else.”
Fannie Mae has already helped spur this trend by relaxing lending standards on prime loans, which now allow for borrowers with higher debt and lower credit scores to obtain loans. One big way to offset risk is to require a larger down payment. When a borrower puts 20 percent or more down, the long-term risks of any home loan become less worrisome. It also eliminates the need for Private Mortgage Insurance (PMI), which is an added cost borrowers have to pay if they aren’t able to provide a significant down payment. Most loan underwriters would much rather see a customer with a low credit score and a big down payment compared to an applicant with a high credit score and low down payment.
Helping More Borrowers
Ultimately, there is a growing need for nonprime mortgage loans in today’s market. Many people still haven’t seen their credit scores recover from the Great Recession and millennials, who represent the largest group of home buyers in today’s market, carry higher student loan debts than any generation before. Relaxing lending standards while refining underwriting practices allows more people to buy or refinance responsibly without putting themselves or lenders at risk.
To learn more about your mortgage options and to review your financial situation, contact Transparent Mortgage today or gives us a call at (619) 929-1099.