Starting Dec. 14, Fannie Mae will require self-employed borrowers to cough-up the most recent three months of business bank statements to support the level of business revenue reported in their year-to-date profit and loss statements. The government-sponsored mortgage giant had been requiring just two months of statements since June.
Tying three recent bank statements to the entire year-to-date P & L can easily become a nightmare for borrowers and underwriters.
If you own 25% or more of any business entity, corporation, LLC and the like, you are self-employed, even if you are a W-2 employee of your corporation. Or if you have Schedule C income on your 1040 tax returns (independent contractors, for example), you also are self-employed.
Fannie is tightening the credit standards because it’s worried about the near-term future.
Front and center is the question of continued business viability. Can that borrower make it through the COVID-19 headwinds or is he or she eventually going to circle the drain? Is his or her income the same as last year’s? If lower, then by how much? Is it 5%, 10% or 25% lower? Are qualifying income and debt ratios still within guidelines?
Fannie guidance allows underwriters to dig deeper for things like updated business plans, cash flow analyses and month-to-month trending analyses to help rule the business owner in.
Discretion and doubt can also make lenders just say no. Lenders have a clear memory of being second-guessed in days gone past and required to buy back what lenders believed to be responsibly underwritten mortgages.
On top of all that, the additional time, underwriting cost and loan file anguish are motivating many lenders to raise the bar on self-employed borrowers.
Some lenders added self-employment charges in the form of points. One lender is requiring a 780 middle FICO score along with a warning of a much longer underwriter line. Another lender won’t take you in if you are not an existing self-employed client.
What about Fair Lending? Can lenders stick self-employed borrowers with tighter underwriting standards or pricing adjustments?
“If lenders have empirical data that proves … that risk of default for self-employed borrowers has drastically increased, then the justification becomes both sound lending practices and consumer protection,” said Roger Fendelman, a partner at Garris Horn LLP, a virtual law firm focusing on the financial services industry. “If, however, lenders are upping the standards simply because it’s too expensive, then regulators will more inclined to dig deeper and search for patterns of discrimination, which they may be able to find.”
What about other forms of discrimination like disparate impact?
Disparate impact generally involves standards that look neutral on the surface but impact people in different ethnic, age and racial groups differently, said Troy Garris, a Garris Horn partner. Could self-employed borrowers who are seniors or Spanish speakers, for example, have a claim?
The point is you should inquire with your lender if you are being hit with seemingly arbitrary self-employment pricing or qualifying restrictions.
The answer to who gets a mortgage is relatively simple. Self-employed borrowers with strong financial statements are in. Self-employed financial statement weaklings are out. This is reasonable and prudent.
Why not give marginal, self-employed borrowers a break?
For example, what about the borrower with good FICO scores and good equity but weak year-to-date income? Or what about the borrower who is stuck in the mud financially because of COVID but has three years of cash reserves?
If you can knock his or her mortgage payment down by, say, $300 per month by lowering the rate, doesn’t that help all stakeholders?
The Federal Housing Administration and the Veteran’s Administration have been doing something similar for an eternity.
COVID is nobody’s fault. Self-employed borrowers are a huge economic cog. They deserve a hand, not a shove. Fannie should put the welcome mat out for marginally qualified borrowers during this pandemic.
Jeff Lazerson - Mortgage Columnist since 2011