“Now that the mighty hath fallen…”

Earlier this month, Federal agents acting under the direction of the FBI and the Department of Housing and Urban Development, raided the Florida based corporate offices of Colonial BancGroup and Taylor, Bean & Whitaker.  While to date, there is still very little known about the exact reasons and circumstances under which the shutdown took place, we can make an educated guess as to how this development will impact the mortgage market as a whole.

Traditionally, the standard for guaranteeing mortgages under the VA streamline Refinance program or IRRRL (Interest Rate Reduction Refinance Loan) did not require borrowers to have a particular credit score in order to qualify.   Rather, of chief concern was a veteran’s clean mortgage history, i.e. no late mortgage payments to suggest potential loan default.  Taylor, Bean & Whitaker (TBW) was one of the last banks to offer these “no minimum credit score” VA streamlines.  It’s important to note here the distinction between the VA’s standard for guaranteeing a mortgage, and a banks standard for underwriting it.   Contrary to popular belief, the VA is not, in fact, a lender.  The VA acts as a guaranteeing agent to a lender who agrees to finance the mortgage.  The standards by which the VA will guarantee the loan do not necessarily have to parallel the guidelines by which a lender agrees to finance it.   Loans guaranteed by the VA are not guaranteed to 100% of the loan amount.  In a more stable housing market, with a less severe degree of loan default and foreclosure, lenders have been willing to accept the risks associated with loan guidelines based off VA loan guarantee guidelines.  The times have changed however, and now the risk exposure associated with approving a loan without considering a borrower’s credit score, an appraisal of the property, or verifying financial stability are becoming too great for a bank to take.

TBW had created a name for itself by bucking the trend and displaying a willingness to lend to financially distressed veterans.  The logic seemed to be centered around the reasoning that the volume of good loans funded would far outweigh those that would end up defaulting.   Most veterans, they thought, wanted to stay in their homes and would eventually be able to return to good standing even if they had encountered some temporary financial setbacks.  Since they were the only game in town for low credit veterans, they had the market relatively cornered.  TBW’s departure from the lending world means there are fewer alternatives for distressed borrowers.  Fewer alternatives for distressed borrowers mean there is less competitive pressure on those lenders offering similar loan products and rates, which should be a call to action to any veterans with blemished credit still sitting on the fence.

This “competitive pressure” issue, extends beyond loan guidelines and influences interest rates as well.  For example, TBW was one of the first lenders to offer competitive rates on VA Hybrid Adjustable Rate Mortgages.  Because they had a larger pool of lending dollars to draw from, they were able to offer the best available rates on these loans.  Veterans by the thousands were calling in to take advantage of these rates.  This put pressure on other lenders to lower their rates on VA Adjustable Rate mortgages, lest they concede all of these loans to TBW.  With TBW out of the marketplace, the pressure on the competition has decreased, which gives the lenders still standing the ability to scale back their risk.

While this may sound unfair to veterans, this phenomena represents the essence of capitalism.  Many veterans believe that the Federal Reserve alone controls interest rates.  For the most part, the Fed only indirectly influences mortgage rates by regulating the rates at which banks lend to one another.   In doing so, the Fed mitigates the cost of financing for a bank, which reduces a banks margins and frees them up to lower their interest rates without a commensurate hit to their bottom lines.  However it is the field of competition among other banks that (along with the perceived value of the underlying real estate investment) have the most influence on where rates are going- supply and demand at its finest.  TBW represented the 5thlargest government (FHA & VA loans) lender in the country and, recently, the largest purveyor of government ARMs as well.  With their departure from the market, the total available lending dollars in the country available to veterans has shrunk.  Since the number of veterans that need to refinance don’t go away simply because TBW went out of business, there is now an artificial “increase” in demand for VA loans even though there is now a “decrease” in the lending supply.  Higher demand and smaller supply means that lenders can be much more discriminating about their lending dollars and much more particular about their loan guidelines.

The bottom line:  The writing is on the wall with regard to interest rates.  Federal Reserve Chairman Ben Bernanke released a statement last week in Wyoming, stating that he believed the economy’s downward spiral has leveled off, and that recovery, while distant, has already begun.  TBW’s departure represents a call to action for those veterans still waiting to time the market.  While it is unlikely rates will return to the levels we saw in Feb/Mar of this year, they are still low enough to help stabilize the monthly expenses of most veterans.  The question veterans should ask themselves shouldn’t be simply, “Are rates low enough for me to consider refinancing?”  I would argue that they should also be asking “Is a VA loan the best/only financing option available to me, and if so, how long will they stay that way?”

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