The ability-to-repay (ATR) rule, the qualified mortgage (QM) rule and the Home Ownership and Equity Protection Act (HOEPA) all share the same DNA.
Historically speaking, HOEPA is the federal high-cost loan law that's been in effect for nearly 20 years; and ATR/QM evolved from the Act's high-cost loan requirement that loans be fully underwritten. By understanding all three rules in the context of their similarities, one can begin to make sense of what's happening to the industry as a whole.
Although HOEPA is ancient compared to ATR/QM, it remains very relevant today. Included in HOEPA is the requirement that high-cost loans be fully underwritten and actually benefit the borrower in a measurable way. Enacted in 1994 as an amendment to TILA to curb abusive practices in loans with high rates or fees, Dodd-Frank expanded HOEPA to include purchase money mortgages and open-end credit plans, and to substantially lower the rate/fee thresholds.
In a nutshell, ATR brings this concept of full underwriting to all residential mortgage transactions (itself a term newly redefined) – not just the high-cost ones set out in HOEPA – along with legal protections newly available to the consumer. The ATR rule, which takes effect in January, requires that originators follow eight general underwriting factors, such as verification of income and assets.
The QM rule fits somewhere in the middle. QM is an optional layer of underwriting standards on top of ATR, which, in return, provides much-needed legal protection to the originator, servicer and/or note holder in the event of borrower default. QM, in effect, shifts some of the legal protections afforded to the borrower back to the originator, by requiring a court to legally presume that the originator properly underwrote the loan and adequately took into account the borrower's reasonable repayment ability.
All of this is important to know when a borrower defaults or pursues other legal action. Under ATR, the borrower has the absolute right to defend him/herself in court by alleging that the lender failed to exercise sound underwriting judgment, which may be hard to rebut. This makes foreclosure a very lengthy and costly process to everyone involved.
In response to what amounts to an almost open-ended ticket for borrowers to delay legal enforcement proceedings, the QM rule effectively prohibits the borrower from alleging the originator engaged in poor underwriting.
ATR puts the onus on the originator, and then QM puts it back on the borrower.
Although ATR has no calculable standards baked into it, QM and HOEPA do. It's no coincidence, then, that although the fee caps are different for each test, the way fees are calculated for both of these is exactly the same – including thorny issues such as fees paid to affiliates and bona fide discount point exclusions.
So, in the end, this is about mandatory underwriting standards, wherein ATR is the new minimum, HOEPA serves as a ceiling and QM is an optional Ã¼ber-standard that provides additional legal protections. This helps to explain why HOEPA remains vital and must not be ignored. The fact is, there will eventually be a robust non-QM market for loans, and for those originators who dare venture there, the HOEPA fees limitation will be capped at a low – and potentially troublesome – 5%.
It's easy to see the importance of ensuring lenders' compliance automation systems are fully prepared to meet these challenges when the new rules take effect in January. At this point, they should be ready to debut their updated solution that checks every loan for QM and HOEPA compliance. If not, maybe it's time they reached out for help because – as Halloween, Thanksgiving and end-of-year vacation/time-off requests indicate – the distractions between now and Jan. 10 will only increase.
Roger Fendelman is vice president of compliance for Interthinx.