Implode-o-Meter News - Regulators Could Be Ready for a 'Redo' on Risk Retention

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Under pressure from Congress, industry and consumer groups, the six federal regulatory agencies working on the risk-retention proposal extended the comment from June 10 to Aug. 1.

Critics say the initial proposal drew such widespread opposition because it went beyond congressional intent by requiring a 20% downpayment on qualified residential mortgages. (Only QRM loans will be exempt from risk retention. Securitizers will have to retain up to 5% the credit risk on non-QRM loans.)

Consumer groups complained that the 20% downpayment would exclude otherwise creditworthy borrowers whose only fault is they don't have rich parents or cannot save much money.

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The Center for Responsible Lending does not want a downpayment requirement written into the risk retention rule. "Low downpayments did not cause this crisis--bad underwriting did," said CRL spokesman Kathleen Day.

Now, it is a little hasty to say that "low downpayments" had nothing to do with the crisis. No/low downpayments helped create a speculative bonanza, and brought way too many buyers to the table who were really not serious about homeownership (in many cases, they couldn't even speak English).

Of course, any requirement that ends up mandating 20% broadly is too Draconian. The risk should be priced in on a sliding scale by the private market. The lower the downpayment, the higher the risk of loss given default. That means the risk needs to be priced into the back-end in terms of monthly fees, interest rates, etc.

It's worth reflecting on what the whole point of a downpayment is anyways. Not only is it good to have an equity cushion in terms of default and show "seriousness" about homeownership, but the downpayment is really what makes the whole thing "ownership". If there is no downpayment, you're really renting... for quite a while (which evolves into "rent to own"). You also have no equity, so you can't really "cash in" on your house in any way, particularly in the event of an emergency. And when you own something, you should be able to sell it, but you're far more likely to be "locked in" by a negative equity situation if you put in little to no money.

Homeowners-to-be cheering for the lack of 10-20% downpayments should be careful what they wish for.

Relevant:

Regulators Could Be Ready for a 'Redo' on Risk Retention