Mortgage Risk Assessment

What Is Mortgage Risk Assessment?

Mortgage Risk Assessment is included in the full underwriting process of the loan for approval.

At the same time, the risk of the approval is based upon the documentation in the file.  Past credit issues, current credit issues, employment stability, income fluctuation, and many other factors.

 

Having read online in the past about lenders being negligent when approving loans, it is obvious they are not in mortgage lending/banking. They must not understand all of the steps that go into a mortgage loan and realize exactly what a mortgage underwriter has to consider while underwriting the loan.

It is also clear that not everyone understands that all borrowers must be evaluated for their ability, capacity, and willingness to repay the mortgage debt without default. This is why lenders have mortgage risk assessment underwriting.

Some borrowers may have an easy process due to the fact they are very diligent regarding their financial situation. Others may have had financial difficulty re health issues, death, or other hardship.

However, each applicant has to face the same rules and regulations which are specific to their personal financial situation, employment status, credit evaluation, and savings ability.

Every person does not have the financial capacity for obtaining finance but they are given the same benefit by evaluating what their situation is.  Each individual makes up their own financial situation through hard work, life, and preparing for their financial desires.

This means that if they are salaried, self-employed, applying for a jumbo loan (loan amount greater than 417,000) or commission borrower, etc.  There is a process of evaluating the risk factors for each specific borrower based upon their circumstances.

What Mortgage Underwriters Review

The lender’s underwriter is looking for consistency, stability, and willingness to repay this large amount of money and it rests upon their decision.  They are looking at the history of employment, income calculations, the ability to save their income, and their credit history.

Has the applicant always paid their obligations in a timely manner?  If so, have they managed to save their income so that they can afford to buy this home?  Has the client experienced stability of employment without job-hopping or if they have, did their earning increase?

It is not all cut and dried but there are parameters that are used in the assessment of approving a mortgage loan.  This is to prevent a homeowner from losing their home and the embarrassment at a later date.  Sometimes clients have a tendency to view today only and do not realize that the payment does not stop for even emergencies.

There is a process for all applicants who are considered for home loan financing:

Risk Assessment for all borrowers:

In manual underwriting, there are guidelines in which specific Risk Assessment criteria must be adhered to in the underwriting process.  They are:

• Primary Risk Assessment
• Contributory Risk Assessment
• Comprehensive Risk Assessment

Lenders who are conservative and prefer to underwrite their loans manually are required to follow these assessments before approval of a loan.

Primary Risk Assessment:

• the mortgage application is reviewed to determine the borrower’s equity investment compared to the loan to value, combined loan to value, or the HCLT.
• the credit history of all applicants on the application compared to the representative.

In other words, the prospective borrower (s) credit history and investment (down payment) should be analyzed.

When the loan is with minimal down payment and the credit score is low, and funds for closing are partly a gift, all of this must be analyzed to ensure repayment.

A representative credit score (middle score of the three major credit bureaus) and (the lower of the two if there is more than one borrower) is used in the final credit analysis. If that score represents the inability to pay their obligations in an adequate manner, the loan is considered high risk.

Contributory Risk Assessment:

• debt to income ratio
• liquid assets
• term of mortgage
• previous mortgage loan history or rental history
• previous derogatory credit – bankruptcy and/or foreclosure
• and the number of borrowers

The contributory risk assessment is stated by the investors as being an insufficient risk factor alone, but when combined with the primary risk factors, it concludes a high-risk assessment.

Comprehensive Risk Assessment

Combining the layers of the risk factors; such as low down payment, lower representative score, prior credit issues with no reserves after closing, and a high loan to value indicates a high risk is involved for mortgage default.

When a lender decides to make a loan and deliver that loan to the investors such as FNMA/FHLMC, they have to provide some evidence to offset the risk factors before these loans are eligible to deliver to them.

For instance, if you have a middle representative score which is approximately 660, (older credit issues which are isolated) and your loan to value if  90% but the borrower will have 5k in savings after closing which can be liquidated, this is considered an offset for approving the 660 scores. this depends usually upon the past delinquency, and if there have been or are any prior liens, delinquent child support, etc.

*in no instance will FNMA allow a credit score below 620/ *some lenders may not allow scores that low.

Layered risk factors include but are not limited to:

• a high loan to value (95%)
• a middle credit score below 660
• a high volume of revolving charge accounts on the credit report
• no reserves after closing or minimal
• no prior mortgage history or rental (they have lived with parents or someone else and their contribution cannot be documented) and
• minimal credit to begin with
• self-employment for less than 2 years

These factors when analyzed indicate that the loan is considered high risk for default.

Risk Assessment for Self Employed Borrowers:

Any person who has been self-employed knows that the first two years of the business are the most important. Even when the applicant has been in the same line of business. They do not know that they will do as well as the person with whom they have gained the experience has done.

It takes time to build a business because normally there is a start-up cost, which includes loans that have to be paid back.  Profitability does not occur overnight.

If a new business can make it through the first two years and have a substantial increase in earnings from the prior year is one assessment.

The aforementioned is one way to know if the company or schedule C person is on the road to a profitable new year.  If there are declining earnings, this indicates that the company may not be doing as well as expected and presents a risk of lending money to this applicant.

Summary

Hopefully, you can see that the mortgage lending process is not as indulgent as you might think.  Yes, the risk assessment has always been in place and probably sometimes ignored in some cases.  This was of course during the lenient subprime area which brought on the devastating results we now see.

Getting a mortgage is not like going out and buying a new coat.  You look at the coat, it feels good when you try it on and the decision is made to buy it.  The department store has no risk if you don’t like it…most of the time it is yours regardless.

Buying a house is the biggest investment an individual will make and it is something that should be permanent unless selling and buying again etc.

Certain risks are there for any application as the future is not known by anyone.  What tomorrow brings we do not know until it is here but the lender must do the right thing and evaluate each applicant by the book; using common sense where applicable.

If the above is met, there will definitely be fewer defaults in our Country.

Loan Underwriting and Analysis

Post Updated 9-17-21