Understanding Appendix Q & Basic Underwritingfic-webinars.s3.amazonaws.com/bc360-16-Handouts.pdf ·...

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Understanding Appendix Q& Basic Underwriting

Requires Creditors to make a reasonable, good faith determination of the consumer’s ability to repay…

ANDEstablishes certain protectionsfrom liability under thisrequirement for“Qualified Mortgages”

Ability to Repay & Qualified MortgagesTruth in Lending (Reg Z)

www.ficconferences.comCopyright © FIC Conferences, Inc.

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1. Current or reasonably expected income or assets;2. Current employment status;3. Monthly Mortgage Payment on covered transaction;4. Monthly Payment on any simultaneous transaction;5. Monthly Payment for mortgage related obligations;6. Current Debt obligations, alimony & child support;7. Monthly Debt to income ratio or residual income; and8. Credit History – Review, Consider & Verify

ATR - Minimum 8 Factors


- Develop Internal Policies& Procedures

- Underwriting Standardsusing Appendix Q as a Guideline

- Payment History

ATR – Proof is in Performance


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It is presumed that Creditors have satisfied the Ability to

Repay requirements for “Qualified Mortgages”

that are not higher pricedcovered transactions - HPCTs

QM - Safe Harbor Presumption


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Higher Priced Covered Transactions – HPCTs that are

QMs receive a rebuttable presumption meaning a court will presume it complies with the ATR requirements, but the consumer

may rebut the presumption

QM – Rebuttable Presumption


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Underwriter is Decision Maker

You could be using an AUS but you still need an underwriter to review information was correctly keyed, supporting documentation is included and analyze the appraisal and any tax returns

Copyright © FIC Conferences, Inc. www.ficconferences.com


Underwriter is responsible & should focus on:

•Reviewing the Disclosures•Assets & Liabilities•Credit•Application form has been

completed•Tax Return Analysis – Income Analysis

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Underwriter should focus on:

• Underwriting the Appraisal• Underwriting the Title• Property is properly Insured

(including any Mortgagee changes)

• Flood Determination Completed• Flood Notice disclosed correctly (if applicable)

•Red Flags or Fraud Systems Checked

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Reviewing the Disclosures

Underwriter should know what disclosures are necessary for each loan type and/or product

Returned? Signed? Dated?Re-Disclosures?

HPML? HPCT? High Cost?Copyright © FIC Conferences, Inc. www.ficconferences.com

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Debt-to-income Ratio (DTIR)

The ratio of the amount of debt the borrower has compared to

their income


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How to Calculate DTIR1. Determine Monthly Gross Income (before

taxes) from all sources2. Add up their prospective housing expense

(Mortgage P&I plus taxes, insurance, HOA dues, etc.)

3. To the housing expense, add their monthlydebt payments like credit card, auto and student loan payments (but not living expenses) and divide that by their gross income


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Remember to add:auto lease paymentspayments for deferred loans such as

student loans or furniture accountschild support/alimony payments

(that continue more than 10 months) revolving accounts (no monthly amount

shown on credit report) – use greater of5% of the balance or $10


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Estimated PITI = $2,000.00 + $500.00 (other obligations) = $2,500.00

Divide this amount by monthly gross income

$2,500.00/$7,500.00 = .3333 or 33.33%


Example: Calculating DTIR

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Analyzing & UnderwritingAnalyzing the Application

- All blanks should be completed- Any missing information should be addressed- Minimum 2 years’ residency covered- Minimum 2 years’ employment covered- All asset documents- All supporting documents, etc.

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Sales Contract- Is the contract complete and correctwith names, addresses and legaldescription?- Do you have all the amendmentsand addendums?- Is the contract fully executed by allparties and dated?- Review for contingencies and sales orfinancing concessions- Any repairs to be made?


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Review Names, Social SecurityNumber and Addresses


Has Credit Report Expired?Is it dated within 120 days of the Note?

Analyzing Credit &Underwriting Liabilities

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If required, do you have a tri-merged or residential real

estate credit report with credit scores from

all 3 bureaus?TransUnionExperianEquifax


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Reviewing Credit Reputation


The type & amount of credit outstanding How long the Borrower has had credit How available credit is used – balances Recent changes in number of open accounts Overall amount of credit outstanding Payment History & status of all accounts Recent Inquiries Public Record or Collection Items

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Analyze Derogatory CreditDo you have written explanations and/or documentation for adverse

credit information?


Number, timing & extent of derogatory credit itemsNumber, type & size of accounts w/derogatory creditPublic record information, (ie. Judgments & collections)

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Significant or Not?• Late payments were not recent

• Late payments did not extend beyond one month

• Number & size of delinquent accounts is not large inrelation to the overall credit

• Credit history does not show multiple revolvingaccounts with high balances-to-limits or

high overall utilization of revolving credit

• All other credit has been paid as agreed


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• Several accounts showing recent late payments

• Multiple 60- or 90-day late payments

• More than one 30-day late housing payment in thelast 12 months

• More than two 30-day or more than one 60-day latehousing payments within the most recent two years

• Number & size of the delinquent accounts are largein relation to the overall credit

• Multiple episodes of late payments extending over aperiod of time


Significant or Not?

• Credit history shows derogatory credit informationwithin two most recent years combined with multiplerevolving accounts with high balances-to-limits

• Public record information reveals severaloccurrences of derogatory credit information,including judgments, tax liens and/or collectionaccounts

• There is a bankruptcy, foreclosure, deed-in-lieu offoreclosure, or short sale within the last seven years


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Are there any Inquiries? Inquiries on the credit report generallyreflect the Borrower’s requests for new or additional credit

Are there written and signed explanations?

Underwriter must determine if any creditwas granted for inquiries made within previous 120-day period when inquiry is reflected on the credit report – if so, include in DTIR & verify

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To address how risk based on recent inquiries, layered with other credit reputation risks, may affect the Borrower’s overall credit reputation, the Underwriter must look at:

•The Borrower's payment history•The age of the Borrower's other credit•The type of credit being sought•The total amount of credit outstanding, and•The overall credit utilization reflected on the report


Are there any other mortgages on the Credit

Report that have not been matched to liabilities on the

application and the REO section of the application?

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Liabilities Match?Use these General guidelines when

No documentation for liabilitiesUse 5% payment calculation or

$10, whichever is greaterUse 1% of outstanding balance

for Student Loans


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Credit - LiabilitiesInstallments with 10 months

or less remaining can be excluded from DTIR

Auto Lease payments are included in DTIR regardless of the remaining term


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Consumer LiabilitiesRecurring Obligations for DTIR:

- All installment loans

- Revolving charge accounts

- Real Estate loans

- Alimony, Child Support

- Other Continuing Obligations

Contingent LiabilitiesCopyright © FIC Conferences, Inc. www.ficconferences.com

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Obligations not considered debt:- Federal, State and local taxes

- Federal Insurance Contributions Act (FICA) orother retirement contributions, such as 401(k)

- Federal Insurance Contributions Act (FICA) orother retirement contributions, such as 401(k)(including repayment of debt secured by these funds)

- Commuting costs - Union dues – Child Care

- Automatic deductions to savings accounts

- Voluntary deductions


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Appendix QPart 1026

Standards for Determining Monthly Debt and Income


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Underwriting IncomeStability of Income (recent 2 years)Salary, Wage & Other Forms of IncomePrimary Employment (less than 40 hr week)Commission IncomeBonus - Overtime – Part-time - SeasonalAuto Allowances & Expense AccountsEmployed by Family Business


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Stability of Income Income may not be used in calculating the consumer’s

debt-to-income ratio if it comes from any source that

cannot be verified, is not stable, or is not expected to continue for at least 3 years


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Employment Stability Verify Two Full Years Employment Explain Gaps Exceeding 1 or More Months If Previously in School-Get College Transcripts If Previously in Military-Get Discharge PapersAnalyze Past Employment-Does It AppearStable, Predictable and Likely To Continue?


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Examples of Income Requiring more documentation to prove the likelihood of

continuance for at least 3 years:

Alimony or Child Support Distributions from a Retirement Account Notes Receivable & Royalty Payments Social Security (not retirement or disability) VA Benefits (not retirement or disability


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Effective & Stable Income Income may be considered stable when returning to work after extended absence if:

Employed in current job 6 monthsor longer

Can document prior two-year workhistory


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Fluctuating Income

• Less Predictable• Calculated using Averaging Method• Verify History of Receipt• Look for 2 or more years of Receipt• Analyze the Trend• Examples: Bonuses, Overtime,

Commissions or Varying HoursCopyright © FIC Conferences, Inc. www.ficconferences.com

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Commission Income Preferably Two-Year History

Less than 25% of Borrower’s Total AnnualIncome - VOE or Recent Paystub & 2Years Most Recent W2’s

Greater than 25% of Borrower’s TotalAnnual Income - Along With Above – Need2 Years Most Recent Signed Tax Returns


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Income Trending • If the trend of the income is stable or

increasing, then average the income. • If the income is declining, but has stabilized

and employer has confirmed continuance, then use the lower amount.

• If the income is declining and not stable, youwill need to document and defend the use of the income all together and you would use the lower amount and not average the income.


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Conditions for Tax ReturnsEarns 25% or more of his/her income

from commissions Is employed by Family Members Is employed by interested parties to

the property sale or purchaseReceives rental income from

investment property (only one year oftax returns is required)


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More Conditions for Tax ReturnsReceives income from temporary or

periodic employment (or unemployment) or employment that is subject to time limits such as contract

Receives income from capital gains,royalties, real estate or other miscellaneous employment earnings reported on 1099


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More…Receives income that cannot

otherwise be verified by an independent or knowledgeable source

Uses foreign income to qualifyUses tip income not on W-2Receives income from:

Sole Proprietorship, LLCPartnership or Corporation, etc.


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Grossing up Nontaxable Income

Usually income such as social securityor child support payments or publicassistance payments

Verify the income is nontaxable Can gross up 25% of nontaxable

income


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Rental Income Request Most Recent Federal Tax ReturnIncluding Schedule E Using Schedule E to calculate qualifyingrental income, Add Back – Depreciation, Interest, HOA Dues, Taxes & Insurance to Cash FlowIf the income minus the full PITIA is a positive

number, add to borrower’s monthly income

If the income minus PITIA is negative, add toborrower’s total monthly obligations


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Review – Paystubs

Look at dates, are they the most recent? Do they have the correct Borrowers name

and SSN? Does the paystub reflect YTD income? Does the YTD income match to income

calculations? Does the paystub reflect Employer’s name

and address?


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Review – W2

Do they have the correct Borrowersname and SSN?

Does the W2 reflect Employer’sname and address?

Does the income appear consistent?

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Review Tax ReturnsDo they have the correct Borrowers

name and SSN?When Tax Transcripts are returned,

compare to actual Tax ReturnsDo you require the tax returns be

signed and dated?


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Frequency Calculation-Primary-Base Income

Hourly Multiply the hourly pay rate by the

average number of hours worked

per week then multiply by 52 weeks

and divide by 12 months.

Weekly Multiply the weekly income by 52

weeks and divide by 12 months.

Income Calculations From Primary Employment – Base Income

Calculations – Hourly & Weekly

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Every two

weeks

(Bi-weekly)

Multiply the two weeks income by

26 pay periods and divide by 12

months.

Twice per

month

Multiply the semi-monthly income

by 24 pay periods and divide by 12

months.


Calculations – Bi-Weekly & Semi-Monthly

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Monthly Use the monthly income from

the paystub.


Calculations – Monthly

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Borrowers

who may

be paid

less than

12 months

per year

Some Borrowers' annual salaries may be

received over a time period of less than 12

months. It is important to determine how

the Borrower is paid in order to accurately

calculate income. You should determine

how often and for how long the Borrower is

paid and then determine monthly income

based on the calculations above. For

example, if a Borrower is paid 10 months of

the year, multiply their monthly salary by 10

months and divide by 12.

Calculations – Paid less than 12 months

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Frequency Calculation-Primary-Additional Income

Annual,

quarterly or

monthly

If the amount of the bonus and/or

commission income is consistent or has

increased divide the total of the most recent

two years bonus or commission income

(minus business expenses, if applicable) by

24 months.


Commission & Bonus Income Calculations

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Projected Income – New JobAcceptable for qualifying purposes for a consumer

scheduled to start a new job within 60 days of loan closing if there is a guaranteed, non-revocable contract for employment.

The underwriter must verify that the consumer will have sufficient income or cash reserves to support the mortgage payment and any other obligations between loan closing and the start of employment.


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Analyzing AssetsVerify sufficient Borrower Funds,

including:• Down payment (including earnest money deposit)

• Prepaids/Escrow items, if paid byBorrower

• Closing Costs, if paid by Borrower• Financing Costs, if paid by Borrower


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Eligible Sources of Borrower Funds 1. Depository accounts2. Proceeds from a loan secured by an asset3. Proceeds from the sale of an asset4. Trust accounts5. Individual Development Account (IDA) –

Borrower contribution and Agencymatching funds not subject to Recapture

6. Community Saving System – Borrowercontribution

7. Pooled fundsCopyright © FIC Conferences, Inc. www.ficconferences.com

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Analyzing Assets Review Bank Statements for: Names and Addresses Most Recent 2 Months All Pages Included Large Deposits – What do you consider

a large deposit? (50% of total monthly income)

Has the Earnest Money Check Clearedif Purchase?


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Reviewing Title CommitmentName(s) listed and spelled correctly

for vesting?Loan amount is correctLegal description is correctAre there any liens other than

mortgages to be paid off throughclosing?

Are taxes paid current?www.ficconferences.comCopyright © FIC Conferences, Inc.

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Underwriting Conditions Each Underwriter has their own way of

conditioning a file Make sure your processor’s, loan officers

& closers understand what you are requesting

Help to prepare them with a basic list ofyour expectations prior to submitting files to be underwritten

Some Underwriters may use Checklists


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Self-Employed IncomeA Borrower who has 25% or more ownership

interest in a business is considered to be self-employed

The Business structure may be a sole proprietorship, a partnership (general or limited) or a corporation

A two-year history of self-employment is required in most instances to ensure that income is stable

An Income Analysis should be completed


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Analyzing Self-Employed Borrower

Review the following: • Stability• Location and nature of business• Demand for the product/services• Financial strength• Ability of business to continue to distribute

income, sufficient income so the borrowercan continue to make the loan payments


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Self-Employed PeriodBetween 1 & 2 Years:

- Need 2 years of documented employment in line of work- Could be combination of employment, education, training in line of work

Less than 1 Year:- Not considered effective


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General DocumentationSigned & dated complete individual

tax returns most recent 2 years

Signed & dated complete businesstax returns most recent 2 years

Year to Date P&L & Balance Sheet


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Sole Proprietor • Owns 100% of business

• Unlimited liability for business losses and debts

• One individual generates cash

• Business pays no taxes on income; all taxes are paid by individual - passed through to borrower’s personal return and taxed on the individual’s personal tax rate

• There is no separate business tax return; the Schedule C of the borrower’s personal tax return represents all business activities

• Make sure you have two years Schedule C or C-EZ to document the income


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Partnership• Two or more partners (one must be a General Partner)

• General Partner has unlimited personal liability for the partnership’s debts and losses

• Limited Partner is only liable for the amount invested in the business. Also No say in operation of business

• The partnership pays no business taxes; all taxes are paid by the partners

• The business activities are reflected on Form 1065

• The partners control the Partnership; the amount of control is in the Partnership agreement


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PartnershipIncome Reported On:• Form 1065

• K-1 1065 schedule and Part II of schedule E of the 1040 are where the percentage of a partner’s income/loss can be passed through to the personal tax return

• Request two years, 1040 tax returns (includingK-1’s). If the borrower has a greater than 25%ownership in the partnership, request full 1065returns


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S Corporation An S Corporation is a state-chartered business.

• The number of stockholders is limited to 75

• The S Corporation, not the stockholders, is liable fordebts and losses

• The S Corporation pays no business taxes; all taxesare paid by the stockholders

• Business activity is reflected on 1120S form

• Business activity is controlled by the Officers of the

S Corporation


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S CorporationIncome/losses is reported on: • Form 1120S, U.S. Tax Return for an S Corporation

• K-1 1120S schedule and in Part II of the 1040 Schedule E is where a stockholder’s (borrower’s) income/loss will be passed through to personal tax returns

• Request two years, 1040 tax returns (includingK-1’s). If the borrower has a greater than 25% ownership in the S Corporation, request full 1120S returns


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Corporation

• A Corporation is also a state-chartered business entity

• Greater ability to raise capital

• Unlimited number of shareholders

• Corporation is liable for debts, not the stockholders

• A corporation is controlled by a board of directors

• A corporation also has a major difference:

They pay taxes twice


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CorporationIncome/losses is reported on: • Form 1120, the U.S. Corporate Tax Return.

• Form 1040: Income generated from the corporation is passed on to stockholders (the corporation’s owners) as wages or dividends and reported on their 1040s. This is where the corporation gets taxed twice.

• Request two years, 1040 tax returns when a borrower has ownership in a corporation. If the borrower has a greater than 25% ownership in the Corporation, request full 1120 returns


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Limited Liability Company (LLC)A Limited Liability Company (LLC) is a combination of a

Partnership and a Corporation

• The owners are “Members”

• The LLC is liable for debts and losses of the company; the members are not personally liable (similar to a corporation)

• Easy to set up with few corporate formalities

• Usually have a finite life of 30 years to operate

• The LLC can be taxed as a pass-through entity like a partnership, S Corporation, or sole proprietorship, or as a regular corporation


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The LLC reports income/losses on: • Form 1040, Schedule C, E, or F if the LLC has only one

member and that member is an individual - In this situation request two years of 1040 tax returns

• Form 1120 or 1120S if the only member of the LLC is a corporation - If the LLC has only one corporate member, request two years of 1040s including K-1’s and 1120S returns

• Form 1065 if the LLC is comprised of multiple members. If the LLC is comprised of multiple members, request two years of 1040s including K-1’s and 1065 returns


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Stability How long has the borrower been in the business?

How long have they been self-employed?

What is the likelihood of the business continuing?

Are all the tax forms in the file? Do you have twoyears of returns so that you can establish a trend ofregular and recurring income?

Do you need financial statements? These are notused frequently anymore, however they can give aview of business and in some cases are needed


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Fannie Mae 1084/Freddie Mac 91Both Analyze Tax Return’s by Examining Cash Flow:

It would be rare to have entries on all the lines

Many line items have a “+” and “- “.

This allows for addition of allowable incomeand expenses and subtraction of non-recurring incoming and expenses


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IRS 4506-T Allows lenders to obtain transcripts of tax returns

Once signed usually good for 120 days

Fannie and Freddie require the form to be signedat applications and again at closing if it was notexecuted

Lenders use their discretion as far as executing,however it is highly recommended

Verify: Name, Address & Social Security #


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Review Wages/W2 Reported Line 7

Alimony Received Line 11

Schedule C Income/Loss Reported Line 12

Schedule D Capital Gains/Losses Reported Lines 13 & 14

Schedule E Rental, K-1 1065, K-1 1120S, Trust Income/Losses Reported Line 17

Schedule F Farm Income/Loss Reported Line 18

Unemployment Compensation Received Line 19

Alimony Paid Line 31a

Schedule A Itemized Deductions

Mortgage Interest Paid - Real Estate Tax Deduction - 2106 Expenses


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QUIZOnce you have completed the Quiz for this “Boot Camp 360” Webcast Training, that is included in the workbook, the Answer Key along with your Certificate of Completion have also been provided for you records.If you have questions or need assistance please email [email protected]

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Understanding Appendix Q & Basic Underwritingfic-webinars.s3.amazonaws.com/bc360-16-Handouts.pdf ·...

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