Downsizing Helped Boost Mortgage Application Defect Rate

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The rate of serious defects in mortgage applications increased to 1.72% in the second quarter, up from 1.71% in the first quarter, according to the latest QC Trends Report from ARMCO, a provider of risk management solutions.

Helping to drive the increase, the firm says, was a significant, 23.8% increase in defects related to loan package documentation, which are often associated with downsizing and understaffing, a trend that began in the first quarter.

“In the second quarter, we saw continued increases in defects typically resulting from downsizing and understaffing,” says Phil McCall, president and COO of ARMCO, in the report. “This seems to indicate that many lenders are still responding to the reduction in business and compressed margins with personnel changes, even in a purchase-dominated market.”

Although defects associated with loan package documentation do not usually result in non-saleable loans, they can still have a detrimental impact on profitability, ARMCO says.

They often result in investors and insurers suspending loan purchases, which can reduce warehouse line capacity and result in price adjustments.

“The market’s current fluctuation demonstrates the financial reasons lenders need QC technologies that are dynamic and adaptable enough to respond quickly when the market shifts,” McCall says. “Sacrificing quality is a costly but unnecessary consequence of revenue reductions. In reality, no lender needs to accept less than the highest quality, regardless of contracting volumes or margins.”

Core underwriting and eligibility issues were the most frequent cause of critical defects in the second quarter, according to the report.

The majority of defects were in the reporting of income/employment information, a trend that also began in the first quarter.

Defects attributed to borrower and mortgage eligibility increased by roughly 70% to a rate of 11.36%, up from 6.57% the previous quarter.

The report is based on nationwide post-closing quality control loan data from over 90,000 unique loans selected for random full-file reviews, as captured by the company’s ACES Analytics benchmarking software.

Defects listed in the report are categorized using the Fannie Mae loan defect taxonomy.

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