Senators Mark Warner (D-VA) and Mike Rounds (R-SD) recently introduced Senate Bill 3401 to facilitate access to residential mortgage loans for consumers who are self-employed or otherwise receive income from nontraditional sources. The lawmakers indicated that lenders have shied away from loans to those consumers due to overly strict or ambiguous federal requirements for documenting the consumers' income. The bill would, if enacted, provide mortgage lenders greater flexibility in documenting income during the underwriting process. They call the bill the Self-Employed Mortgage Access Act.
Federal regulations require that for most closed-end, dwelling-secured loans, a lender must make a reasonable and good faith determination that the consumer will have a reasonable ability to repay the loan, based on (among other factors) the consumer's verified income. To take advantage of a presumption of compliance with that requirement, most lenders follow the regulations' Qualified Mortgage (QM) guardrails, described in part in Appendix Q of the regulations. Appendix Q generally dictates the type of income documentation a lender must obtain.
For example, for a self-employed individual (any consumer with a 25 percent or greater ownership interest in a business), Appendix Q requires that a lender seeking to make a QM must get the consumer's signed, dated individual tax returns, with all applicable tax schedules, for the most recent two years. For a corporation, "S" corporation, or partnership, the lender must get signed copies of the federal business income tax returns, with all applicable tax schedules, for the last two years. Finally, the lender must get a year-to-date profit-and-loss statement and a balance sheet. Appendix Q does not expressly provide for any flexibility in those documentation requirements.
By comparison, for a consumer with employment income reported on IRS Form W-2, Appendix Q allows a variety of reliable documents, including an IRS tax-return transcript, Form W-2s or similar IRS forms, payroll statements, or employer records. The underwriting guidelines of Fannie Mae, Freddie Mac, and the Federal Housing Administration (FHA) also allow some flexibility, including for self-employed borrowers, accepting tax-return transcripts in lieu of tax returns and schedules under certain circumstances.
The mortgage lending industry has criticized the QM guardrails in general, and Appendix Q in particular, for running contrary to established underwriting norms and unduly constricting access to affordable mortgage credit. While many lenders venture into non-QM lending (to meet the needs of self-employed borrowers, among others), those lenders often must price the non-QM loans to reflect the added compliance/litigation risk. (Mayer Brown's Legal Update addresses the state of the QM and non-QM markets.) Although the Bureau of Consumer Financial Protection (Bureau) has broad authority to revise Appendix Q and the QM criteria, and has requested public input on improvements (in June 2017 and March 2018), the bill's early supporters are apparently looking for a legislative solution.
The Self-Employed Mortgage Access Act would, if enacted, provide alternatives to Appendix Q for all types of borrowers (although apparently aimed at self-employed borrowers and others who receive non-W-2 income). Specifically, the bill would allow lenders to accept income documentation that would comply with the requirements of Fannie Mae, Freddie Mac, or a Federal Home Loan Bank, subject to the approval of the Federal Housing Finance Agency (FHFA). The bill also would permit the use of income documentation that would satisfy FHA, the Department of Veterans Affairs, the Department of Agriculture, or the Rural Housing Service. Accordingly, the bill would appear to allow a lender to select, from among all those sets of underwriting standards, the one the borrower can most easily satisfy.
The bill also would effectively cement the regulations' temporary Fannie Mae/Freddie Mac "patch." The regulations currently confer QM status on any loan that is eligible for purchase by Fannie Mae or Freddie Mac (if the loan meets a few basic criteria), although that automatic status is set to expire on January 10, 2021 (or whenever the enterprises are released from conservatorship). The bill's documentation alternatives, if enacted, would effectively ensure that the patch survives that looming deadline.
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