Can you still make 3 & 5 year balloon loans based on a 20 year payout that are secured by the consumer's principal dwelling if you qualify the customer using a 7 year balloon loan based on the same term?

Please explain this to me. I'm just not gettin it!!

Thanks

"Can you still make 3 & 5 year balloon loans based on a 20 year payout that are secured by the consumer's principal dwelling if you qualify the customer using a 7 year balloon loan based on the same term? "


Huh? You can make any type of loans that you wish. If they qualify for HPML status, then you have to ensure that the applicants can make all the payments within the first 7 years - including the balloon, if there is one.

So you are telling me that if the customer borrowers $50,000 I might as well figure his payment on a 7 year loan? (If we were planning to do the loan on a shorter balloon period and the loan was an HPML)

Just trying to get it straight in my head.

Thanks

You have to figure the payment on what they will actually be. If this is a 3 year balloon loan with monthly payments, it would be figured on the 36 payments that would be disclosed on the TIL disclosure. That is all the payments there will be in the first 7 years.

No, Randy is not telling you that all. He's telling you can continue to make the 3 or 5 year balloons, but.

If you do a 3 or 5 year balloon you have to verify/document the borrower's financial ability to repay the balloon payment that is due in 3 or 5 years and you can not use the value of the home to demonstrate that ability.

If you do a 7 year balloon then the repayment ability does not have to take the balloon payment into account.

I had trouble understanding that too ldsnanny. Outside of the fact that if you had to consider the balloon, probably NO ONE would qualify for the loan based on ability to repay........the idea is that if you have a 5-year balloon.....sure, the payments might be based on a 20-year or a 7-year (or whatever) AMO, but at the end of the 5 years when the balloon is due, the rate might be changed thus changing the payment amount. Therefore, you could not possibly evaluate the borrower's ability to repay based the highest payment in seven years, because you have no way of knowing what the "61st" payment might be. That's just my assessment. If anyone disagrees, please say so.

Addendum......but you can still make a 5-year balloon...right? You just loose the presumption of compliance with the HPML "ability to repay" rule?

No - you would have a direct violation of Regulation Z in the regulators eyes. These are affirmative compliance requires stated in the regulation. Presumption of compliance only comes into pay when you are dealing with civil liability.

"Outside of the fact that if you had to consider the balloon, probably NO ONE would qualify for the loan based on ability to repay........"

Ability to repay in this case would not be limited to DTI calculations. If the borrower had sufficient liquid assets to make the final payment, that can be taken into consideration.

But then you have a brand new loan, not just a rate change. If you are just systmatically renewing and extending and adjusting the rate, what is the purpose of having a balloon?

And if you opt not to extend and renew and thus call the loan due, and your customer is going to say "what do you mean due? you knew I could not afford to make that balloon payment... you said you always extend and renew..." you're going to have a handfull of issues.

Well, I was reading an ABA publication and got to the section titled "presumption of compliance" which stated that a lender is presumed to have complied if it:
1. Verfifies the borrower's repayment ability
2. Determines the borrower's ability to repay using the largest payment scheduled in the first seven years.
3. Assess the repayment ability using DTI or residual income after paying debt obligations.

But then it went on to say that #1 (above) is required, but #2 and #3 are optional and that if #2 and #3 are not considered, a lender will not be deemed to have violated the ability to repay requirement per se. Rather, the lender will not be presumed to have met the abiltiy to repay and may find it difficult to prove compliance otherwise.

So is that wrong?

Well, I'm not a lender, but I was always under the impression that the purpose of the 5-year balloon product was to avoid getting stuck with a 20-year loan when the borrower's situation might change, loan rates might change, etc. And so the solution is to set up with a "look in" at the 5-year mark to see if adjustments need to be made. Typically, we do NOT set up a new loan at that time, but just modify the existing loan to preserve the Title Policy and save the borrower from having to pay closing costs again. If the borrower doesn't agree to the new terms, he/she is free to "shop around" for alternative financing. But you're right, we never "call the loan due."

What do you think?

The rule does not
prohibit potentially riskier types of
loans such as loans with balloon
payments, loans with interest-only
payments, or ARMs with discounted
initial rates. With proper underwriting,
such products may be appropriate for
certain borrowers in the subprime
market. The regulation merely prohibits
a creditor from extending such products
or any other higher-priced mortgage
loans without adequately evaluating
repayment ability.

A second aspect of § 226.34(a)(4) that
is integral to its balance of consumer
protection and credit availability is its
exclusion of two nontraditional types of
loans from the presumption of
compliance that can pose more risk to
consumers in the subprime market.
Under § 226.34(a)(4)(iv), no
presumption of compliance is available
for a balloon-payment loan with a term
shorter than seven years. If the term is
at least seven years, the creditor that
underwrites the loan based on the
regular payments (not the balloon
payment) may retain the presumption of
compliance. If the term is less than
seven years, compliance is determined
on the basis of all of the facts and
circumstances. This approach is simpler
than some of the alternatives
commenters recommended to address
balloon-payment loans, and it better
balances consumer protection and credit
availability than other alternatives they
suggested.69 Consumers are statistically
very likely to prepay (or default) within
seven years and avoid the balloon
payment.


If you read through the pre-amble I think you will find that HPMLs are considered "subprime" loans and they are going to be scrutinized to that affect. You will also find a couple of inferences that balloon loans with terms less than 7 years are designed to put the borrower in a refinancing loop. Whether that's true for you institution or not is irrelevant. It's how the regulation looks at it. And to me it appears that's your intent also because you don't want to commit to a rate for longer than 5 years so you are putting the borrower in a position that they have to refinance the loan every 5 years instead of putting them in a ARM product or adjusting your price for the 7 year term.

I am a very big opponent of balloon loans, but that is my opinion.

What is the big deal to make a policy that if you make a balloon loan it will be for 7 years (I don't buy the pricing or competitive issue, pricing can be adjusted to make it profitable and competitive for the additional 2 year commitment on rate). I can assure you adopting that policy would already have saved most of you thousands of dollars in time and resources that have already been spent in trying to "get around" the rule.

Just my two cents worth and please take it as my opinion. It is not addressed at any specific poster nor is it meant to offend anyone.


I forgot to add that I agee with Randy. If you don't comply with the "reapyment ability" you lose your presumpiton of compliance. If you lost your presumption of compliance then how are you in compliance with the requirements?

Swiggles,

That is our typical practice as well, that is why I was looking into the "renewable balloon loan" clause discussed in 226.34(a)(4)(iv). If states that if you make the "renewal" (aka mod/ext) an "unconditional obligation of the lender, subject to conditions within the consumer's control", such as paying on time, staying in the home, etc., then you CAN use the amortization period to determine repayment ability instead of the "balloon" date.

I have not seen this option discussed here and wonder what the guru's think about it. It appears we would still have the option of adjusting the rate at the time of the balloon, which is all we really do anyway.

Any thoughts??

"But then it went on to say that #1 (above) is required, but #2 and #3 are optional and that if #2 and #3 are not considered, a lender will not be deemed to have violated the ability to repay requirement per se. Rather, the lender will not be presumed to have met the abiltiy to repay and may find it difficult to prove compliance otherwise.

So is that wrong?"

No - that is not wrong, but without the ability to prove compliance - how do you prove to a regulator that you comply with .34(a)(4). The regulators cannot presume compliance by the bank without the documentation. IMHO - It is not optional.

From the preamble: "The final rule is different in two respects. First, as discussed above, the final rule does not contain a “pattern or practice” element. Second, it makes verifying repayment ability an affirmative requirement, rather than making failure to verify a presumption of a violation."

If you take those steps, you have presumed compliance - if you don't - you don't.

"Well, I'm not a lender, but I was always under the impression that the purpose of the 5-year balloon product was to avoid getting stuck with a 20-year loan when the borrower's situation might change, loan rates might change, etc."

And if rates go up a lot and the borrower then can no longer afford the loan at renewal, they lose their house. This is the type of payment shock they want consumers to avoid. You are putting the consumer into a loan with an unknown quantity of risk.

Randy -

What is your take on the "renewable balloon loan" clause?

These are variable rate transactions subject to all ARM rules, i.e., early ARM disclosures. The payment stream that you would have to justfy would be like any other ARM at that point.

O.K. but can we do a 2 year balloon still as long as it is not a HPML?

Thank you....Randy and Dan....Just Jay....and everyone else on this thread. This is perfect ammunition for me because I fear that management will balk at my 7-year recommendation.....um.....something about old dogs/new tricks/that's the way we've always done it....yada yada yada. I think that I can be quite persuasive using your points of view. Don't worry, I won't drop names or they'll forbid me from using BOL as a resource.

Randy, that is my thinking too. It is basically a 5/5 ARM with the rate not tied to an index, but instead at the discretion of the creditor, correct? I assume this is what the commentary is referring to in 226.19(b)(2)(ii)2.

If you are a National Bank, you have no choice but to tie it to an index.

§ 34.22 Index.

If a national bank makes an ARM loan to which 12 CFR 226.19(b) applies (i.e., the annual percentage rate of a loan may increase after consummation, the term exceeds one year, and the consumer's principal dwelling secures the indebtedness), the loan documents must specify an index to which changes in the interest rate will be linked. This index must be readily available to, and verifiable by, the borrower and beyond the control of the bank. A national bank may use as an index any measure of rates of interest that meets these requirements. The index may be either single values of the chosen measure or a moving average of the chosen measure calculated over a specified period. A national bank also may increase the interest rate in accordance with applicable loan documents specifying the amount of the increase and the times at which, or circumstances under which, it may be made. A national bank may decrease the interest rate at any time.

Thanks for the reference Randy. I was reading the rest of that section and was confused by a statement in the definition:

34.20 Definitions.
"... An ARM loan does not include fixed-rate extensions of credit that are payable at the end of a term that, when added to any terms for which the bank has promised to renew the loan, is shorter than the term of the amortization schedule."

Hmmm.... Interest point. If I was an OCC bank, I might call my EIC as the definition conflicts with the "to which 12 CFR 226.19(b) applies". It may very well exempt these from the OCC requirements. I has been a while since I worked at a National BAnk and I can't ever remember addressing this issue directly.

RE: index at the discretion of the creditor 226.19(b)(2)(ii)(2).
Can a FDIC regulated bank have an internal index at the creditors discretion for closed end loans?

Yes. If it's not a HPML, the presumption of compliance does not apply and you can make a loan of < 7 years.