QM Rule: The law of unintended consequences

The law of unintended consequences warns that intervening in a complex system may lead to unforeseen outcomes contrary to the original intent. Nearing the end of its first year, the Qualified Mortgage Rule (QM) is living up to the law of unintended consequences. 

Richard Cordray, director of the Consumer Finance Protection Bureau (CFPB), said, ‘QM is designed to assure the reliability of mortgages – making sure that lenders offer mortgages that consumers can actually afford to pay back.’ 

{mosads}No complaint there and responsible lenders including loanDepot LLC strongly support that goal. However, QM has had far-reaching and unexpected negative consequences that have pushed our country into Code Red. 

Why Code Red? Because home financing has come to a virtual halt. Homebuyers are struggling to comply with QM standards while prices slowly rise and push once affordable homes beyond their grasp. Homeowners seeking refinance are declined in greater numbers every year, and now access credit through higher cost options. Other of QM’s unintended consequences: 

• Credit Box Shrinks – In response to hyper-conservative QM rules, about half of all lenders imposed “buffers” to avoid making loans that might exceed QM caps on debt-to-income, FICO scores, fees, and more. But these buffers serve to disqualify borderline creditworthy applicants, thus increasing the rule’s negative impact on housing beyond what regulators anticipated. Mortgage lending is running at its lowest level in 13 years and 2014 will be the worst year for mortgage volume since 2000. Upshot: While inventories rise and interest rates remain at historic lows, many loan applicants are not qualifying – so home sales and local economies will continue to suffer. 

• Homeownership’s Facelift – Because tougher QM standards remove lender’s flexibility, denial rates for conventional purchase mortgages today among Hispanic (25 percent) and black (40 percent) loan applicants are two and three times those of white applicants. These disparities worsened from 2011 to 2012, when denial rates for white applicants decreased but those for Hispanic and black applicants increased. Upshot:  The face of American homeownership looks nothing like the face of our multicultural society. 

• Delayed Dreams – QM’s strict requirements on credit, steady income and employment histories, and the 43 percent cap on debt-to-income ‒ based on adjusted verifiable income and not actual cash flow ‒ has created impossible hurdles for millions of first-time buyers. Their numbers have dwindled to 33 percent of our total home buying market. Without financing, most will remain renters. Upshot: Without first time homebuyers, today’s homeowners can’t move up to expand their families or into more expensive houses, and home inventories are subject to imbalance. 

• Rising Cost of Credit – Homeowners today seeking to refinance for debt consolidation, lower mortgage payments, or home improvement have a harder time meeting QM’s standards than borrowers trying to purchase a home. In fact, just four percent of today’s homeowners are taking advantage of historically low interest rates and on average, only half (49.3 percent) are approved. As a result, the refinance market fell to 47 percent of all mortgages in Q1 2014 compared to 78 percent a year earlier. Since borrowers can’t access credit through refinancing, they are turning in greater numbers to unsecured personal loans for financing. Upshot: Creditworthy borrowers who for decades refinanced at 4 percent over 30 years now borrow at rates exceeding 15 percent for five years from lenders like Lending Club and Prosper, two fast-growing marketplace personal loan lenders making high-interest, unsecured loans. The marketplace-lending model, while still small at just 0.5 percent of all annual consumer loan originations, doubled in the past year. 

The upshot? Code Red. QM’s unintended consequences are slowing down the biggest and most vital engine of America’s economy: the housing market. 

With the 2008 financial crisis in mind, Congress and regulators set out to protect U.S. taxpayers from future losses derived from irresponsible practices that led to the financial crisis. This necessary act helped stabilize our country’s economic and housing finance systems. We should all be thankful for their stewardship. 

But the pendulum has swung too far. The millions of taxpayers who Congress and regulators intended to protect with the QM Rule are the very same borrowers, homebuyers and homeowners now hurting and struggling. 

It’s time to ask our new Congressional leaders to revisit the Dodd-Frank law that created the QM Rule and make the necessary adjustments so the solutions we seek to protect one group will not lead to the unintended consequences that have hurt us all. 

Hsieh is CEO and chairman of loanDepot, LLC, the nation’s second largest nonbank consumer lender.