The True Tightness of Residential Finance
There has always existed a subtle Chinese wall in between the worlds of residential and commercial mortgage finance. One relies more on the borrower, the other relies on the property. One looks at DTI (debt to income), while the other looks at DSCR (debt service coverage ratio). Each camp has “purists,” of those who never have considered originating a loan on the other side of the aisle, and would rather refer it out to someone that they trust to do a good job in an area of expertise that is not their own. Fannie and Freddie actually provide very attractive financing to both sides of the fence, with regards to SFR-4unit properties on the residential side and multi-family units on the commercial side. As much of a dichotomy as it has been, the pendulum is swinging in favor of the commercial loan, and even the highest people on the financial food chains of capital markets agree.
First of all, the banks have a strong preference for strong collateral, which lends to the idea that commercial real estate finance is the darling of the ball at the moment. Borrowers have been so decimated by the recession, that whole generations, namely Generation X, have found themselves in a financial funk that is caused and characterized by underemployment, reduced wages, slaughtered credit scores, and compromised mortgage histories which include loan mods, short sales, and foreclosures.
On the residential side, Fannie Mae and Freddie Mac have handed down the verdict that borrowers with the preceding mortgage issues have to have four years of good payment since the original incident. Every document imaginable is being asked for. Proof of child support for 23 year old children, copies of $2,400 social security check stubs for multi-millionaires, and 24 months HOA payments to show continuity of obligation are all some of the asinine requests that are coming from the residential regulatory camp which is sending the buyers running into the streets pulling their hair out in frustration.
It has gotten so bad that the chief architect of our country’s recovery from the brink even ran afoul of some the regulations. Former Fed Chairman recently shared how he and his wife were recently turned down for a home loan. Yes…the man who had his hand on the control button for the world’s economies got denied financing on his Washington DC home that has about $1,000,000 in value and very little debt. As Fed Chair, Dr. Bernanke made $199,000 as our central bank chief, and even now commands $250,000 a speech as an independent financial policy expert. The Fed’s website says “after completing five years of service, you are vested and entitled to a monthly retirement benefit that can begin as early as age 55.” Dr. Bernanke is 61 and served in the Chairmanship for 8 years, so needless to say, he’s got more than enough income. He has the equity in his home, and given his prominent position, we can assume that he has pristine credit.
So what gives? Why is he put through the ringer? The current system is indiscriminating towards a borrower no matter who they are. For now, the black box rules. The post-2008 guidelines make it hard to get residential financing in spite of ones stature or position. So the best of borrowers will fume and cuss, shake a fist and protest, but truly, que será sera. Unless one is buying their personal residence, it makes all sense to buy a commercial property. The guidelines aren’t as tough, the underwriting isn’t as onerous, and the conditions for closing are totally predictable. There is no conceivable reason outside of owner occupancy why one would buy residential property right now. Everyone has to put down 25%, so one might as well get as much as they can with whatever their capital can buy.
So residential lending is still stuck in a rut after almost seven years. What’s it going to take to loosen the lever? Will envy do it? I don’t know. Will new policy do it? Probably…but all interested parties need to come to the table. The market for residential money is tight, and the pathway to commercial greatness is the road less traveled. I think that there is time for a change and a new reality. Commercial rules the day (for now) and residential appears to be the relic of the days gone by. What do you think? For me……I think that I want to buy some units or a strip mall, and I wont have to sell my child to qualify!!
Preston Howard is a mortgage broker and Principal of Rose City Realty, Inc. in Pasadena, CA. Specializing in various facets of real estate finance; he can be reached at email@example.com.