For Self-Employed, Borrowing Gets a Bit Easier

Since tightening underwriting standards in the wake of the financial crisis, one key group other than non-prime borrowers has seen the greatest difficulty in getting a mortgage loan: the self-employed.

Fitch Ratings, New York, said that’s changing a bit. A new Fitch analysis said mortgage programs using bank statements are finding more favor with self-employed borrowers taking out U.S. non-prime mortgage loans, though bank statement programs are still very much unproven and remain susceptible to meaningfully higher risk of elevated losses.

Fitch noted loan programs using bank statements over traditional income documentation like tax returns are growing and now represent between 25-65 percent of new originations by non-prime lenders.

“The good news so far is that bank statement loans are outperforming non-prime full income documentation loans to date,” said Fitch Managing Director Roelof Slump. “Despite the solid early performance, however, questions linger around the longer-term credit risk.”

Fitch warned adverse selection could occur as these programs attract borrowers unable to qualify using standard income documentation. “A miscalculation of expenses could come into play since some bank statement programs only use an estimate of business expenses to calculate a borrower’s net income,” Slump said. “Additionally, some programs allow for as little as one month of bank statements, a far less meaningful reflection of income sustainability compared to two-years of tax returns.”

For these reasons, Slump said, Fitch assumes a much higher default risk for bank statement loans compared to traditional income documentation loans.

Another factor to consider for bank statement programs is the Ability to Repay rule, which requires lenders to make a reasonable, good faith determination of a borrower’s ability to repay loan claims.

“Not considering the income reported on tax returns likely increases the risk a borrower may claim ATR as a defense if they are forced into foreclosure,” Slump said. “This is why Fitch assumes the ATR claim probability for bank statement loans to be double that of non-QM loans using traditional documentation.”