Sound Mortgage Planning Blog

Just two days ago I received this email response to my request for supporting documentation on a purchase loan. In all fairness, this isn't from the actual borrower occupying the home, but rather from the CPA for the cosigner on the loan.

"Why do you need lease agreements on rental properties, [tax returns], explanation of credit report inquiries, bank statements, retirement statements, Isn't this a bit on the excessive side? You used to give away money on next to nothing. Now you have gone crazy"

If you have seen the headlines over the past year the answer to the CPA's question is probably obvious. Mortgage lending is based on risk and guidelines were pretty lax when it came to assessing risk. How do we assess risk? We verify the information that has been provided by a borrower.

So why do we need this information? Let's take the CPA's list above: 

Lease Agreements: Rent received for properties owned by the borrower (or in this case, the cosigner) is acceptable if the lender can document that the rental income is stable. Examples of stability may include a current lease, an agreement to lease, or a rental history over the previous 24 months that is free of unexplained gaps greater than three months. (Student, seasonal, or military renters, or property rehabilitation would provide such an explanation.)

Tax Returns: Schedule E of IRS Form 1040. Positive rental income is considered gross income for qualifying purposes; negative rental income must be treated as a recurring liability. The lender must be certain that the borrower still owns each property listed by comparing the Schedule E with the real estate owned section of the residential loan application.

Credit Report Inquiries: This request for an explanation falls under Recent and/or Undisclosed Debts. The lender must ascertain the purpose of any recent inquiries, as the inquiry indicates that there has been an application for credit and may mean an indebtedness may have been incurred. Since this possible debt could adversely affect the borrowers ability to pay their proposed mortgage payment. The borrower must explain in writing all inquiries shown on the credit report in the last 90 days.

Bank and Retirement Statements: Lender must document the source of funds used for the down payment if required, deposit on the sales contract, and for closing costs and prepaid items paid by the borrower. The bank statements will provide verification of available funds. If the bank statements do not support the minimum funds required, then the lender must determine if those funds are from a relative in the form of a gift or if they are a loan that must be repaid. If the funds for the down payment, closing costs and prepaid items are borrowers, the loan must be considered a debt and therefore could affect the borrowers ability to repay the proposed mortgage.

Just as a credit report is used to determine a borrowers willingness to repay the mortgage debt, the above sampling of items are needed to determine the borrowers ability to repay the mortgage debt.

If we did not have these guidelines we would never see a recovery in the housing market and homeowners would continue to purchase homes that they cannot afford.