‘Liar loans’

By Jessica Legge
Times West Virginian

FAIRMONT August 31, 2008 12:40 am

— As subprime foreclosures create problems for the country’s housing market, more homeowners are experiencing losses because of liar loan default, The Associated Press reported.
The AP said these loans could potentially extend the mortgage crisis for another two years in certain areas of the nation. Liar loans are commonly found in states like California, Florida, Nevada and Arizona where house prices are dropping.
Liar — or no doc — loans were one of the risky products with no documentation introduced in the early part of this decade, said Walter Molony, spokesman for the National Association of Realtors.
“Frankly, they’re the kinds of loans that were not suited for many people and should have never come onto the market,” he said.
No doc loans were offered to borrowers without any confirmation of income and allowed buyers to state their resources without verification. Molony said it was mostly mortgage lenders and brokers, rather than banks, who introduced these products into the market and sold them. These lenders then collected quick fees and resold the mortgages into the secondary market.
“It took a long time for the problem to become apparent,” he said. “They’re terrible mortgages.”
The market saw an explosion of loans with no money down, no documentation and low interest rates, Molony said. While these mortgages didn’t make sense for many consumers, some people got them against the advice of their real estate agents.
People sometimes get very excited about buying a home and don’t read or understand the fine print, and they assume that a lender wouldn’t give them a loan that they couldn’t afford, he said.
In 2005, the National Association of Realtors started putting out brochures about risky mortgages.
“We had a lot of risky behavior fed by those types of loans,” Molony said.
He said most of these liar loans went away quickly last year along with other risky products. This period of very loose lending with no criteria or oversight then transitioned to overly restricted lending today.
“Borrowers with good credit are unable to buy homes that they can afford,” Molony said. “They need to loosen up the lending criteria.”
Molony said the country should start to see the rate of foreclosures trend downward and return to normal levels next year.
“When you look at our inventory and sales data, we have unprecedented levels of distress sales — either foreclosure or a short sale in which the home is being sold for less than the outstanding mortgage value,” he said. “A lot of people have been hurt by that.”
Jed Smith, managing director of quantitative research for the National Association of Realtors, said liar loans are also referred to as Alt-A loans, or low or no doc loans. Viewed as a step below prime — or A-credit — borrowers, these products are considered in the classification of subprime loans. The borrower states his or her income and obligations but doesn’t provide written proof.
According to Harvard University’s Joint Center for Housing Studies, the country had about $466 billion in subprime loans in 2007, and low doc loans accounted for approximately $275 billion of that amount, Smith said. The low doc loans that year were around 60 percent of the total subprime loans.
“More subprime loans are in default than is the case with prime loans,” Smith said. “It’s our impression that the no doc loans are less likely to default than the others, but overall the subprime loans have accounted for over half of the housing foreclosures.”
With no doc or low doc home loans, neither the borrower nor the lender has to document the ability to repay the amount, said Robert Lamont, legal counsel for the West Virginia Division of Banking.
He said the Division of Banking has some regulations that restrict the use of no doc loans. In July 2004, a new legislative rule pertaining to residential mortgage lenders, brokers and loan originators went into effect.
This rule states that “no lender should make a loan unless the lender reasonably believes at the time the loan is closed that the borrower(s) will be able to make the scheduled payments to repay the loan. This reasonable belief must be based upon a consideration of the income of the borrower(s), current debt, employment status and history, and other financial resources other than equity in the dwelling that will secure the loan.”
Lamont said this legislation is basically telling lenders that they shouldn’t rely on a home’s equity to protect themselves. The danger with these liar or low doc loans is that brokers aren’t verifying someone’s income and are relying on the equity instead.
“Some lenders have tried to have very much more relaxed underwriting standards,” he said. “That’s part of the problem that’s led to mortgage default rates being higher than they were in the past.”
Brokers were granting loans that they wouldn’t normally award, Lamont said.
He said the state Division of Banking’s examiners generally don’t see many problems in regard to liar loans. The division sees a greater number of issues with delinquencies caused by an adjustable rate mortgage where the rate goes up. Also, a lot of foreclosures are caused by life events, such as divorce or loss of a job.
While the division regulates state chartered community banks in West Virginia, it has no authority over national banks and thrifts and their subsidiaries. Thrift institutions, which include savings banks and savings and loan associations, are under the jurisdiction of the Office of Thrift Supervision, and the Office of the Comptroller of the Currency controls national banks.
“We have no idea of what they’re doing,” he said. “That’s not part of our jurisdiction.”
The West Virginia Association of Realtors always encourages consumers to use reputable lenders.
“If you want something for nothing, there’s always people out there willing to give it to you,” Ray Joseph, CEO of the association, said of lenders who specialize in risky products.
He said he hasn’t heard of any issues with liar loans in West Virginia. Compared to the rest of the country, the state is doing pretty well in foreclosures. West Virginia is ranked at the bottom of the country for foreclosure rates, Joseph said.
The state’s housing market is solid and has no real peaks or valleys, which he said “is really about as good as you can get.” Nationwide, home sales are down on average.
While housing in West Virginia is slower now than it was two years ago, interest rates are still at historic lows and prices are favorable. Plus, a wide selection of homes are available.
“It certainly is a buyers’ market because there’s a lot of inventory,” Joseph said.
He said all these factors — as well as gas prices that are going down slowly — come into play when someone is buying a house.
“We have some good value out there in the market right now,” Joseph said. “Those prices are solid and there are some good buys and there’s plenty to choose from. When’s a better time to buy (than now)?”
E-mail Jessica Legge at jlegge@timeswv.com.