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What Was Old May Be New Again--the 20% Down Payment is Back

Written By:
March 22, 2011 at 6:16 PM

Mama always said to “wear clean underwear, brush your teeth and save 20% of your income for a down payment on a home.”

Back in the 1960’s and 1970’s “mama” probably included the golden rule of saving in her mantra so you could get a slice of the American Dream Pie--home ownership. Back in the days when “All in the Family” was the funniest show on television and the nuclear family gathered around the dinner table every evening for a meal, saving, not spending was fashionable.

1970’s mortgage lenders required buyers to have at least a 20% down payment before they would consider scrutinizing a mortgage loan. At the time home prices were at a manageable level so buyers didn’t think twice about scraping together the coin.

In the 1980’s, when home prices rose and mortgage lending became more sophisticated, integrating new technology to determine risk; lending standards relaxed and the mandatory 20% down payment started to wane.

The tides began to turn as trends morphed from the days of saving your pennies for a home to spending everything you had---including on a home. As prices rose, so did the quality and home level luxuries and the desire to keep up with the Jones.

Americans felt that they needed and deserved those luxuries and so did the modern mortgage broker. At this point a 20% down payment was no longer the norm, opening more borrowers to a new world of mortgage lending.

By 2003, Americans were obtaining an interest only mortgage loan with no money down as home sales went through the roof. Bigger and better was the new tradition--and you didn’t even need to have an income, down payment or credit score to support your purchase.

When the Market Went South, Mortgage Lenders Returned to Old School Borrowing Principals

…then came the housing crash of 2007. The month over month price increase took a nose-dive after the U.S. Treasury Secretary Paulson announced that "the housing decline ... the most significant risk to our economy."

The rest is recent history. Mortgage lenders lost their shirts after making subprime mortgages and the banking industry spiraled out of control. The housing market plunge kicked off one of the worst recessions in American history, close to what was experienced during The Great Depression.

With mortgage brokers and companies nursing their wounds and trying to regain footing on the slippery mortgage loan slope, loan requirements tightened to the point where nearly no borrower could obtain a mortgage loan.

Because many Americans lost jobs and income, homeowners were declaring bankruptcy and letting their homes go into foreclosure, ultimately scarring their credit report.

Higher credit standards, a steady income and a significant down payment were now the standard requirements for many lenders. However, because of the economic downturn, the majority of mortgage loan candidates did not qualify.

As the country trudged through the recession and mortgage lenders realized that their altruistic standards were cutting business, mortgage loan standards loosened…slightly.

But the mortgage industry still skittish about making sure history did not repeat itself and trying to figure out what will keep the mortgage machine going without filling it with risk.

FDIC’s Proposal for Qualifying Mortgages

A team of government experts including the Treasury Department, Federal Deposit Insurance Corporation and the Office of the Comptroller of the Currency are advocating a 20% down payment on all traditional mortgage loans. Coming fresh off of the housing crisis, government officials are taking steps to avoid having history repeat itself.

However, mortgage brokers and banks trying to cover their loan to deposit spread believe that the 20% down payment may still be asking too much and would price too many buyers out of the market.

Vice president/senior council for the ABA, Joseph Pigg is concerned that the 20% down payment mandate would further impede the home demand and bruise an already slow-recovering economy. He believes that mortgage lenders should consider additional elements such as income, credit score and property location to determine whether the borrower qualifies and for which rate.

Many economics experts agree that a 20% down payment is difficult for many borrowers to generate. And with home values still low, the Mortgage Bankers Association says that the average LTV ratio for January was 73%, meaning that borrowers would have to have 27% of the their homes purchase price ready for a down payment.

Where does the mortgage industry go from here? While tighter lending standards will keep the industry in check, it will probably close the door on many borrowers. However, is the country ready to endure another recession to this magnitude?





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