S&D III: Evolution of Home Financing Standards

As interest rates moved significantly lower, enabling a whole new class of Americans to become buyers, another evolution was simultaneously occurring: mortgage lenders were creating home-buying lending products that offered more aggressive, unusual and flexible terms than ever before. This evolution is still occurring today as lenders are still debuting new products on a daily basis.

It all started in the year 2000 when the stock market tumbled and long-term rates(the Bond market) rallied in response. Then September 11 th occurred and interest rates moved to 40-year record lows. These two events gave birth to the golden era of Refinancing, known as "the Refi Boom," in which almost all consumers took advantage of lower interest rates by refinancing their existing home loans to receive lower rates and payments.

The Refi Boom gave birth to a multitude of new home loan companies and lenders, who seemed to all succeed offering the traditional 30-year fixed-rate mortgage as the demand for refinancing was so great. Rates stayed low for longer than expected, giving every consumer the opportunity to refinance at least once, and by 2003 and 2004, the Refi Boom was clearly on its later legs.

During this slow-down, lenders began devising newer, more creative financing methods in order to maintain their record production levels. While these special new mortgages originally helped prop up the sagging refinance market, they eventually found great acceptance into the Purchase loan market. And thus, the Refi Boom continued to fizzle but the Purchase market was just beginning to see massive growth as now even more consumers could "afford" to buy a home versus renting due to these special new products.

Overall, the new products developed by lenders in the past few years to supplant traditional 30-year fixed loans have their pros and cons. The key for most consumers is to take the time to truly understand how these products work as some are truly viable alternatives while others can be a consumer's worst nightmare and while traditional products such as a 30-year fixed-rate loan is easy to understand, some of these newer loans are more difficult to fully comprehend.

For example, Interest-Only loans became very popular in 2005 and yet there is actually no such thing as an “Interest-Only loan.” Rather, Interest-Only refers only to a PAYMENT OPTION and this payment option can be associated with all different TYPES of loans, some good and some not so good. Today, you can obtain an Interest-Only payment option on loans ranging from a 30-year fixed to loans whose rates change every single month! Read our upcoming Secrets to Interest-Only Loans Blog Series for more information on evaluating these alternative types of loans.

In their effort to prop up demand, Lenders have created all sorts of new loan programs that allow additional consumers who previously rented to become home buyers. While Interest-Only loans are only one way in which this has been accomplished, the bulk of the changes relate more to the qualification requirements of first-time home buyers. For example, the Federal Housing Administration or FHA, originally required an 80% Down Payment back in the 1930's when this governmental department was created. Today, the FHA loan programs only require a 3% down payment and many non-profit organizations gift the 3% Down Payment as a donation to assist even more renters to become buyers. In fact, the current Bush Administration is working to eliminate this 3% requirement so even more Americans can own their home.

Other new loan programs we'll discuss in future Blog postings include a new 5% down program for those who cannot prove their Immigration Status. This has enabled a whole new class of borrowers to join the market and thus prop up demand and the size of this group of buyers is truly unknown, as it is not known how many undocumented immigrants are in the U.S. Additionally, new programs allow you to qualify off your HIGHEST credit score rather than the middle of 3 bureaus, new programs completely ignore all prior Collections and others require lower scores but offer more options.

While there are many critics to these new loan programs, they have now been written for several years without the lenders going out of business, and the national Foreclosure rate is still extraordinarily low. This indicates that while banks have loosened up the general standards for making home loans, they have found newer, better and less traditional ways to grade consumer's qualifications and thus have found a way to offer more options to more people, without negatively impacting themselves. Of course, when interest rates rise, the resultant increase in rate and payment of many adjustable rate loans may prove unbearable for some consumers, which may contribute to a significantly higher delinquency rate.

And so in the end, these newer loan programs enable another entire new crop of potential buyers into the marketplace and thus creating additional DEMAND that was previously nascent. Between low interest rates and more flexible home loan options, entire new groups of homebuyers have been unleashed into the overall Demand Mix.