New Mortgage Rules Begin October 3, 2015

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The Dodd-Frank Act will further impact those taking out real estate loans beginning October 3, 2015. Specific provisions of Dodd-Frank have been in place for some time. These provisions distinguish between lending to owners of 1 – 4 unit properties that are owner occupied verses non-owner occupied properties. Counterintuitively, obtaining financing has been easier to obtain on non-owner occupied properties because these owners are viewed as investors and therefore they are deemed to be more sophisticated relative to owner-occupants looking to refinance or purchase a home to reside in.

On October 3, 2015 the Dodd-Frank Act will radically change lender disclosures, escrow closing statements, and the borrower’s timeframes to review and rescind loan related documents. Now, more than ever, working with a real estate agent who understands the new rules and selecting an escrow company that is certified to be in compliance with Dodd-Frank through its enforcement arm, the Consumer Financial Protection Bureau, is the key to a successful home sale or purchase.

On the surface Dodd-Frank sounds like a windfall for the consumer, and that was likely the intent. However, upon closer examination of the legislation from a practical perspective lies many unintended consequences for those purchasing or selling a property. Next I’ll explore Dodd-Frank’s goal, a few of its unintended consequences, and strategies that buyers and sellers should be aware of to navigate the purchase/sale process with the goal of achieving a successful and smooth close of escrow.

The intention of Dodd-Frank may have been admirable given the timing of the Great Recession: to protect consumers from predatory and unscrupulous lending practices. Dodd-Frank regulates all kinds of loans – real estate, credit cards (i.e. note the new language about how long it will take to pay your balance by paying the minimum amount due), payday loans, et cetera. It doesn’t seem plausible that in our lifetimes we’ll go back to a real estate lending environment like we saw in 2007 with very loose underwriting guidelines on subprime loans, negative amortization loans, stated income loans, and generous lines of credit. However, in my 25 years in the business I’ve seen three cycles that went bust and most never see it coming. I don’t know if the Dodd-Frank Act will result in a soft landing in the next down cycle, the government is trying to make that the case.

While Dodd-Frank’s intention is admirable, there are many unintended consequences from the perspective of real estate industry experts. Some of these are short-term in nature as the industry adjusts to the new rules while other changes are here to stay. In my opinion Dodd-Frank provisions will play a more pivotal role in the strategies employed and negotiations employed by savvy real estate agents that take place during the course of every real estate transaction.

  1. A 30 day escrow is unrealistic when a loan is part of the purchase transaction. Several mortgage banks I’ve spoken with are suggesting 45 days as a reasonable expectation to close escrow. Thus, parties to the transaction will have to exercise greater patience as the requisite time periods in the lending process play out. Once the kinks are worked out of implementing the new rules it may be possible to shorten the time required to fund a loan.
  2. Because loans will take longer to fund, at least initially, a purchaser who is obtaining financing may want to purchase a rate lock for 45 days instead of the standard 30 days. In an environment where rumors abound about imminent interest rates hikes, I’d consider paying a slightly higher fee for a longer rate lock. The longer rate lock will typically cost a buyer approximately a quarter point.
  3. Dodd-Frank created the Consumer Financial Protection Board to enforce the new regulations. The CFPB is not federally funded and the organization will rely on fines to pay for its enforcement activity. Time will tell how this impacts lenders, large title insurance companies, and insurance companies issuing E&O policies – those with deep pockets. Those with pockets that aren’t deep such as independent escrow companies, mortgage brokers, smaller title insurance companies, and real estate brokers may also feel the pinch at some level. For the consumer it would not appear transaction costs will decrease.

Now, more than ever, working with a real estate agent who understands the timing of a real estate transaction and how the agent overlays strategy, negotiation, the loan process, and who has a complete grasp of the purchase and sale agreement is critical. Here are a few examples why:

  1. Transactions are more sophisticated and involve more parties then a seller and a buyer. Once a seller and buyer have an executed contract the lender along with all the buyer’s due-diligence professionals need time to perform their functions. The timing of these functions must be expertly choreographed so ensure a timely closing.
  2. I suggest language in the purchase agreement should allow for a 45 day close of escrow, or sooner if mutually agreed to by the parties.
  3. Select a CFPB Certified escrow company. Many lenders will not work with non-CFPB certified escrow companies.
  4. Negotiation of repairs and credits will need to be completed earlier in the escrow process. It used to be that seller credits could be negotiated a week or so prior to closing. That no longer holds true. Lenders will be tighter on both the dollar amount of credits and the timing they need in the loan process so that escrow can close per the contract. Credits impact the cost of money (Annual Percentage Rate) and ultimately that flows through to the lender’s disclosures. If the disclosures are incorrect the close of escrow will be delayed.
  5. Unrelated to the Dodd-Frank Act but noteworthy because so many agents are having a difficult time with how the new Residential Purchase Agreement (RPA) addresses pest control issues: pest control is treated the same as any other due-diligence investigation and the suggested repairs are subject to negotiation in terms of the seller performing the work or the buyer receiving a credit. Typically Stage 1 results in a buyer credit while the more significant Stage 2 work is performed by the seller. The key is to utilize forms Buyer’s Request for Repair (RR) and Seller’s Response (RRRR) appropriately.

Fortunately the golden rule in real estate is that in a purchase/sale transaction sellers want to sell and buyers want to buy, so neither side will be materially disadvantaged by the new provisions in the Dodd-Frank Act – transactions with reasonable and motivated parties will continue to occur. Like many things in real estate managing expectations through education is the key.

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