Editor’s note: This feature originally appeared in the November issue of MReport.
The 2018 Home Mortgage Disclosure Act (HMDA) filings indicate data submissions from more than 5,600 institutions on approximately 10.3 million home mortgage applications. This total includes approximately 2 million applications that the lender closed as incomplete, or the applicant withdrew before the lender made a decision, according to the CFPB’s report in August 2019, “Data Point: Mortgage Market Activity and Trends.”
Why Are Applicants Walking Away?
Lender requirements for reporting of denial reasons was changed from optional to mandatory in 2015. The HMDA Loan Application Register (LAR) includes nine potential reasons for denial, and the LAR now requires up to four denial reasons. Lenders can explain loans that are denied for “other” reasons in a free-form text field.
The 2018 overall rate of denial for conventional and unconventional home-purchases for all applicants is 9.8%. This figure represents a denial rate of 8.4% for conventional loans and 12.7% for unconventional loans.
Denial rates on home-purchase applications have generally declined. However, denial rates vary among racial and ethnic groups. Denial rates for conventional and unconventional home-purchase loans were 17.4% for African-American borrowers, 13.1% for Hispanic-white borrowers, and 10.2% for Asian borrowers. The rate of denial was 14.2% for applicants listed as “other,” which includes borrowers reporting two or more minority races, American Indians, Alaskan natives, Native Hawaiians, or Pacific Islanders.
The reasons for denial are telling. In the home-purchase category for conventional and unconventional loans, a reported denial reason for 13% of all applicants included incomplete credit application. The incomplete application denial rate was 15.6% for Asians, 13.1% for Non-Hispanic white, 10.4% for Hispanic white, 10.1% for African-American, and 11% for “other” minorities.
In the home-purchase category for all loan types, 8.4% of all applicants included unverifiable information as a reason for denial. This figure was highest for Asians at 13%, followed by 10.4% for Non-Hispanic white, 8% for other minorities, and lowest for both African-American and Hispanic applicants, each at 7.5%.
Remaining reasons for denial are very consistent across each race and ethnic group, with an overall rate of 32.6% based on debt-to-income ratio, 23.1% for credit history, and 16.9% for collateral.
Withdrawn applications represent the larger share of loans closed prior to the lender making a decision. Homebuyers, as well as refinance applicants who apply for loans to more than one lender, will ultimately withdraw their application from one lender, whether or not they were approved. There are many reasons why consumers withdraw a mortgage application. For purchase transactions, there may be buyer’s remorse or concerns about the home after a property inspection is completed.
According to Fannie Mae’s June 2019 National Housing Survey, 34% of homebuyers obtained only one quote from a lender. About 72% of white borrowers reported shopping around, while only 10% of Hispanic, 7% of African-Americans, and 5% of Asians obtained more than one quote. For applicants earning less than $50,000, only 10% obtained more than one quote.
Best Practices to Reduce Fallout
Customer engagement is a primary driver for building trust. Whether communication is in-person, by telephone, mail, or email, every point of contact from application to closing between the borrower and any representative of the company must demonstrate a willingness to lend. There are potential homebuyers who have the capacity to purchase a home, but they hesitate because they sense some form of unintentional bias. Unintentional bias is not about how a lender treats a loan applicant—it’s about the applicant’s perception.
Applicants sometimes have a preconceived notion that an institution would be reluctant to loan money to them because they lack banking experience, have little or no credit history, have a low-income job, were not born in this country, or because of their race or ethnicity. The Fannie Mae survey brings up an interesting observation—white applicants are more comfortable negotiating with different lenders. One of the most important things a lender can communicate to an applicant is that documentation requirements, underwriting rules, and verification steps are uniform and apply to all borrowers, and in all income levels.
To sustain trust, there can be no surprises. Applicants need to know up-front that verification letters will be sent to their landlord, their employer, their union administrator, or to their neighborhood savings club. They need to be told that their boss might receive a telephone call to confirm their overtime pay. Borrowers who are receiving cash gifts should be able to prepare their relatives ahead of time about gift letters and rules for sources of funds.
Multi-generational households are popular in certain cultures, and qualifying income may include boarder income, accessory apartment rent, income from non-occupying co-borrowers, and extended household income. It is important for originators to provide applicants with detailed information regarding verification steps and procedures. Ask what language they would like to have additional explanatory information, and offer to set up additional meetings or calls with relatives to explain verification steps and required supporting documents.
Mortgage applicants need to demonstrate, together with any partners, that they have the strength and capabilities to responsibly finance a home. It is the lender’s job to acknowledge each area of strength, and explain how compensating factors can offset a weakness. Whether it is for a job, or college admission, every potential applicant wants to be reassured that all of their strengths and capabilities were considered. Suggested best practices are discussed separately according to the following four factors:
- Property and transaction
- Credit and debts
- Cash and assets
Factor #1—Property and Transaction
When interviewing applicants in person or by telephone, focusing on the topic of the property helps establish a positive dialog. Originators can quickly determine if the subject property meets investor guidelines based on loan purpose, occupancy, and property type. For lower-priced homes, rural properties, or manufactured housing, originators should clarify a few additional items, such as property square footage, type of foundation, type of heating, plumbing, and land ownership need answering. If the property does not meet any requirements, your customer may very likely contact you again with an application for a different home.
When discussing the topic of income, it’s important to use the phrase “qualifying income,” since it conveys the message that although the lender recognizes their hard-earned income, qualifying income must be from verifiable and acceptable sources. The new Uniform Residential Loan Application (URLA) includes 20 different types of acceptable sources in Section 1e, Income from Other Sources. One-third of Americans today have non-salaried sources of income. They are self-employed, independent contractors, and work on farms or ranches. Applicants need to hear that you accept a wide range of income sources, and that if they are willing to spend some time gathering supporting documents, it will expand their available loan options.
Factor #3—Credit and Debts
Telling a consumer that they are being offered a loan at a higher interest based on their credit score or lack of history sounds negative. Perhaps the non-QM program is the ultimate choice, but it must be their choice. The originator’s job is to get the applicant actively involved in building their credit profile. They need guidance about gathering supporting documents that prove at least 12 months’ timely repayment history on items that are not included in bureau reports, such as utilities, cable TV, cell phone bills, car insurance, health insurance, child care providers, etc. The phrase “non-traditional credit” is not relatable to consumers. People who pay their bills in cash have the longest tradition in history, and this needs recognition.
Factor #4—Cash and Assets
Sometimes applicants are discouraged from including liquid assets on the 1003 if they are not needed for transaction funds. However, if the loan is denied, an applicant might question whether they would have been approved if all of their assets were disclosed. If the asset is not needed to cover transaction funds, it will not be verified, nor will it be included on the final 1003 and transmittal summary. For example, additional months’ payment reserves might be required if the LTV-percentage is adjusted, or the credit score falls. Consumers who are not engaged in mainstream banking sometimes find the verification steps and documentation requirements a hurdle, especially if older generation relatives are involved. It is important to keep the conversation relatable, and show respect for the customer’s culture and traditions.
To narrow the gap in borrower fall-out rate in multicultural markets, lenders need to consider the lifestyle, culture, and demographics of their marketplace. There is a reason behind every loan application that is closed for incompleteness. If three or four reminder letters and/or lists of outstanding documents were ignored by the applicant, at least the lender has an audit record. On the other hand, minimal follow-up communication is noted, this may be viewed as discouragement in a fair lending examination. There is a reason behind every LAR reason noted as unverifiable information. These situations can sometimes result from inadequate instructions given to the borrower.
Consumer outreach, such as homebuyer seminars, and face-to-face interaction can boost production in multicultural markets. The one trust-building advantage lenders can offer is a letter of pre-approval. This type of pre-approval would entail full underwriting except for the property. First-time homebuyers should be encouraged to meet with your representative several months prior to beginning their home search. This will give them the opportunity to begin gathering supporting documents.
This is the time to tell them their employer will receive a telephone call, and that their landlord will receive a verification letter. It is the time to tell them that because their grandfather is giving a cash gift, they also need to provide a copy of their bank statement. In some cultures, asking for this type of proof is a trust issue. As long as they are told their credit report and verifications, including telephone calls to their employer, might need to be updated after they find a home, they will be fully prepared. During this time, the trust-building journey begins and you might just receive a few more referrals along the way.