The “no doc” or no-income-documentation loan was a type of mortgage that required little or no income verification. This loan was put together on behalf of self-employed or commission workers who tend to write off expenses or who use different taxes breaks to lower their income to pay less in income taxes. The way the loan worked, you would state what your income was but it was not verified. So if you said that you made $10,000 gross per month, that is the amount that was used to see if you could be approved for the mortgage. Typically, you would have to have a certain credit score and down payment or equity in the property in order to qualify for this mortgage.
When it first came out in the ’90s, this product was limited to self-employed and commission borrowers, but later as mortgage underwriting guideline were relaxed, this product was offered to borrowers who worked salaried or hourly positions. Sub-prime or higher-risk mortgage companies were the first to roll this out to salaried and hourly workers. After a few years, Fannie Mae and Freddie Mac decided to get in on the action and offer it, too.
Why did this product do so well? Two reasons.
First, there were greedy mortgage originators that put borrowers into these products when they realized that borrowers would not qualify for loans with just their regular income. Many borrowers did not realize that the originators had inflated their income on the application for these loans to be approved. (Although the borrowers should at the very least have looked to see if they were comfortable with the payment.)
Secondly, there were borrowers who knew that they could not qualify for the mortgage that they wanted, so they went in and lied about their income just so they could qualify. The attitude was, let’s worry about getting the mortgage now and worry about paying it later. We well know where that got us.
When I am asked who is responsible for the problems in the housing and mortgage market, my answer is, “Everyone.’ We had some bad mortgage people, some bad realtors, some very greedy rating agencies that rated these high-risk no-doc loans as moderate risks, and also some bad borrowers who knew when they were getting these mortgages that they could not pay them.
Allowing salaried or hourly borrowers to use this program was a big mistake. Had it been limited to self-employed borrowers or commissioned borrowers, I firmly believe that the default rate would be a lot less than what we have seen.
In the meantime, I sometimes run into self-employed borrowers that have 50 percent down on a property with great credit and reserves and we cannot get them approved because they do not have sufficient income on paper to service the mortgage. Having this product return to the market would help the economy because we would see more self-employed people borrowe money to invest, refinance or purchase primary residences.
On the other hand, self-employed borrowers would not have this problem if they showed more income (which would mean paying more taxes), thus qualifying for mortgages the way salaried or hourly workers have to now.
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