Office of the Commissioner of Financial Regulation

 

Maryland's New "Ability to Repay" Residential Mortgage Lending Requirements - Advisory Notices

 

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I. Introduction

On June 1, 2008, amendments to the Commercial Law Article of the Annotated Code of Maryland went into effect. These amendments are contained in Senate Bill 270/House Bill 363 which were passed by the General Assembly in its 2008 Legislative Session. A key provision of SB 270/HB 3631 is the requirement that lenders verify the borrower's ability to repay a mortgage loan secured by Maryland residential property. Under the new law, a lender may not make a mortgage loan without giving due regard to the borrower's ability to repay the mortgage loan in accordance with its terms, including the fully indexed rate of the mortgage loan, if applicable, and property taxes and homeowner's insurance whether or not an escrow account is established for the collection and payment of these expenses.

SB 270/HB 363 was adopted by the General Assembly after extensive hearings and considerable input from representatives of the mortgage industry, consumer groups, and regulators. The new law is an outgrowth of Governor Martin O'Malley's Homeownership Preservation Task Force which examined the factors that contributed to Maryland's current foreclosure crisis and ways to prevent a similar crisis from occurring in the future.

The requirement that lenders consider a borrower's ability to repay before making a mortgage loan was intended to address the widespread underwriting problems that resulted in large numbers of borrowers receiving loans they could not afford. These problems contributed to the current foreclosure crisis effecting not only Maryland borrowers, but those of the entire nation. These underwriting deficiencies have also effected the stability of certain lenders with significant exposure to stated income loans. The Board of Governors of the Federal Reserve also recently adopted mortgage regulations prohibiting lenders from extending credit in certain higher-priced or "HOEPA" loans without regard to a consumer's ability to repay, concluding that "the injuries are not outweighed by the countervailing benefits to consumers or competition when repayment ability is disregarded or income is not verified." Federal Reserve, Final Rule, Staff Commentary, Regulation Z, Docket No. R-1305, 44-45 (July 15, 2008).

II. The New Law Provides Significant Flexibility in the Documentation Needed to Verify the Borrower's Ability to Repay

The "ability to repay" provisions of the new law were drafted in a way to give lenders considerable flexibility in the documentation that they may consider when underwriting a mortgage loan. Significantly, lenders may verify an applicant's income or assets by "acceptable third-party documentation" which may include the applicant's IRS W2 form, income tax returns, records of a financial institution, or "other third-party documents that provide reasonably reliable evidence of the borrower's income or assets."

III. There is No Bar to Maryland Lenders Making Mortgage Loans to the Self-Employed

The document-verification provisions of SB 270/HB 363, particularly the underlined clause in Section II above, are broad enough so that no lender subject to the new law should be inhibited from extending a loan to qualified applicants, including those who are self-employed. Lenders may accept any third-party documents that provide reasonably reliable evidence of the borrower's income or assets. Hence, a lender may accept a wide variety of documentation from self-employed persons, so long as the documents are reasonably reliable evidence of the borrower's income or assets.

IV. Exceptions for FHA, VA and CDA Loans

Through the legislative process, sensible exceptions to the "ability to repay" requirements were built into SB 270/HB 363. Thus streamlined-documentation mortgage loan products offered by the Federal Housing Administration, Veterans Administration and Community Development Administration are not subject to the "ability to repay" provisions of SB 270/HB 363.

V. Text of the "Ability to Repay" Provisions

The "ability to repay" provisions of SB 270/HB 363 are codified at various places in the Commercial Law Article, but are identical in content. The text of the new law, as set forth in Md. Code Ann., Comm. Law § 12-127, is as follows:

 
(a)(1) In this section the following words have the meanings indicated.

(2) "Fully indexed rate" means the index rate, as defined in the mortgage loan documents, prevailing at the time the mortgage loan is approved by the lender, plus the margin that will apply after the expiration of an introductory interest rate.

(3)(i) "Mortgage loan" has the meaning stated in § 11-501 of the Financial Institutions Article.

(ii) "Mortgage loan" does not include a reverse mortgage loan.

(b) A lender may not make a mortgage loan without giving due regard to the borrower's ability to repay the mortgage loan in accordance with its terms, including the fully indexed rate of the mortgage loan, if applicable, and property taxes and homeowner's insurance whether or not an escrow account is established for the collection and payment of these expenses.

(c)(1) Due regard to a borrower's ability to repay a mortgage loan must include:

(i) Consideration of the borrower's debt to income ratio, including existing debts and other obligations; and

(ii) Verification of the borrower's gross monthly income and assets by review of third-party written documentation reasonably believed by the lender to be accurate and complete.

(2) Acceptable third-party written documentation includes:

(i) The borrower's Internal Revenue Service form W-2;

(ii) A copy of the borrower's income tax return;

(iii) Payroll receipts;

(iv) The records of a financial institution; or

(v) Other third-party documents that provide reasonably reliable evidence of the borrower's income or assets.

(3) This subsection does not apply to a mortgage loan approved for government guaranty by the Federal Housing Administration, Veterans Administration, or Community Development Administration.

 

1 Copies of SB 270/HB 363, Chapters 7 and 8 of Md. 2008 Session Laws, respectively, can be obtained from the Maryland General Assembly's web site.