Mortgage Lending
Floor Speech
Mr. ISAKSON. Madam President, I rise at a propitious time because the majority and minority leaders addressed the pending bill that is coming out of the Banking Committee and their desire for the bill to be one that is amendable and debatable.
I am here to talk specifically about one facet of the financial crisis and one improvement that is to be made by this bill that needs to be carefully addressed to make sure we don't repeat a mistake made in the 1990s with the failure of the S&L industry.
I have a chart with me. We have heard a lot about mortgages. We all know if it weren't for FHA, if it weren't for VA insurance, if it weren't for the Fed doing Freddie and Fannie a favor, there would not be much mortgage money available right now. It has all run away from the United States because of the subprime crisis and, in fact, because people are nervous about what happened in the financial markets with subprime securities. During this crisis we have been in, beginning in 2005 and going on until now, in my State of Georgia--these numbers are specific to Georgia, but Georgia is the tenth largest State--we see here that of the mortgages in default, totally in default or in foreclosure, it got as high as 8.2 percent on what I refer to as qualified mortgages. Those are mortgages that were made to creditworthy people who had good underwriting standards. Those were good mortgages. Up to 8.2 percent or 1 in 10 of those, at its apex, were either delinquent or pending foreclosure. But 24.7 percent were what is known as subprime or nonqualified loans and were either in mortgage delinquency or in default, 3 to 1.
The reason I show this chart is it demonstrates where the problem happened, not just on Wall Street but on Main Street; that is, in chasing higher yields, in pushing toward a desire for greater home ownership, credit standards got lax, and loans became nonqualified loans that carried a higher interest rate but a much higher risk. It is acknowledged by me and by most, in terms of the housing crisis we have been in, that the largest precipitating factor was shoddy underwriting, loose credit, and subprime mortgages. The legislation coming out of the Banking Committee is going to create something known as shared risk or lender liability in terms of the making of mortgage loans. I will be the first to tell my colleagues, I am not on the Banking Committee. I haven't seen the final draft. What I will address is what I hope will happen, not what I know will happen.
What I hope the committee will understand is, in its requirement for shared risk, being that the maker of a mortgage retain 25 percent of that mortgage for its lifetime or until it is paid, is the significant amount of capital that is asked for an institution to reserve and a possible amount for a mortgage broker or a mortgage banker but not for an institutional lender. The problem is, there are no institutional lenders like savings and loans anymore. One should revisit what happened with the savings and loan crisis, the Resolution Trust Corporation, and the failure that took place in the late 1980s and late 1990s. In America in the 1970s and 1980s, most of the mortgages made were made by lenders who didn't share the risk. They had 100 percent of the risk. They were savings and loan associations that took deposits, paid a preferential rate of interest over banks by regulatory design to attract the capital, and they held the mortgage in portfolio until it was paid. That is not shared risk. That is total risk.
What were our foreclosure rates in the 1970s and 1980s up until the end of the 1990s? Very marginal, 1 to 2 percent, certainly not 8.2 percent, certainly not 24.7. What happened, though, in the savings and loan industry is, No. 1, the Federal Government took away the interest preference to pay between banks and S&Ls so capital flowed out of the S&Ls. No. 2, because S&Ls then needed to make more money on the internal portfolio, the government allowed savings and loans to create service corporations, which were subsidiaries, to deviate from their original charter and, instead of just making home loans, allowed them to make commercial loans and, in fact, become developers.
What happened? What happened is history. We got off our mission, because we got off the risk. Because we took our eye off the ball, the savings and loan industry across America failed. Congress had to create the Resolution Trust Corporation to dispose of the bad assets around the country and we went through, up until now, the most severe recession we have ever been through. But this one is worse. This one is more pervasive. This one was caused by a lot of financial irregularities and poor oversight on our part, as well as greed on the part of many lenders. My hope is, when we start fixing things with regard to mortgages, we will recognize that shared risk is not going to solve any problem, if 100 percent risk didn't solve it in the late 1980s. What is going to solve the problem is for us to have reasonable standards of required underwriting that are an insulator from institutions making bad loans unless they take the risk.
I am suggesting that we define what is a qualified loan that would not be subject to shared risk and what is a loan that would be subject to it. For example, what would a qualified mortgage be? I was in this business for a long time. When I started in the business in the 1960s through mid-1980s, you could not borrow twice your annual income. You couldn't have a monthly payment higher than 25 percent of your take-home pay, and your total debts a year or longer could not exceed 33 percent of your gross income. That was reasonable underwriting. What were our foreclosure rates then: 2, 1.5, a high of 2.8 percent in the mid-1980s, but certainly not anything such as what we have in the 24.7 and the 8.2 percent.
What is a qualified loan is one that requires full documentation so you do have to have a job, so your boss verifies your job, so the credit agency actually verifies your credit so you actually have a downpayment, you don't have downpayment assistance or some ``now you see it, now you don't'' program--no interest-only loans. Everybody knows, you are not making an investment if you are not paying the debt service and only paying the principal. Interest-only loans were a bad idea whose time came and it went. It may be good for certain forms of commercial investment but not for residential.
No balloon payments. One of the biggest problems with these foreclosures was good people were loaned money with shoddy underwriting that had balloon payments in 3, 5, or 7 years. People didn't know what a balloon payment was. They thought it was something that flew in the air. A balloon payment is when the whole principle comes due all at once and you are subject to the ability to refinance. That is not a qualified loan; that is a high-risk game.
No negative amortization. That was a bad idea whose times came and went. Negative amortization meant you borrowed $100,000, but you made payments so at the end of the year you owed more, not less. That is a bad idea. That was predicated on rapid inflation or rapid appreciation which isn't always going to happen. And then requiring people to carry private mortgage insurance on their loans if they exceed 80 percent of the loan to value of the house, a normal underwriting standard until we got into the loosy-goosy time of the late 1990s and the decade of 2000 to 2010.
If we adopted in this legislation those parameters, to exempt lenders from shared participation, we would attract all the money like the good old days, then put the shared risk retention on those loans that are not well underwritten; make the mortgage broker or the investment banker hold 5 percent of an investment they sell because it didn't meet these qualifications, what would happen? They wouldn't do it, because they wouldn't hold the money. It would have prevented what has been alleged one of the brokerage houses did already. They would never short something and bet on it failing if they had a piece of it. They would only do it if you had a piece of it and they didn't.
It is important, when we get into this regulation or reregulation of the financial industry, that we also recognize we have some obligation to correct some of the mistakes the government made itself in the past that caused the problem in the S&Ls in the 1980s and with nonqualified mortgages in the 1990s.
What I am suggesting simply is, let's take those things that are tried and true, not things we think will work but things we know will work. Let's make them the gold standard. Let's make them the qualification for the attraction of money in mortgages to fund the homes of the American people. Then let's say to those who want to take a risky loan, let's say to those who want to have shoddy underwriting, let's say to those who want to make a quick return and get out before the dollar comes due, they will have to take the risk. Shared responsibility or shared risk is precisely right as an insurance policy to protect against that. But the unintended consequence of shared risk on a qualified, well underwritten loan is a higher interest rate for the consumer and less attraction of capital for individuals who form those loans to fund the housing purchases, which ultimately leads the government to do with Freddie and Fannie what it did before--force them to make loans they should not, force the government and taxpayers to be at risk in part on those loans and bring us back to another period like the S&L collapse or, later, like the financial market collapse of the last couple years. There will be another one in the future if we don't recognize the need to make qualified loans, well underwritten, do it as we did in the good old days when America flourished, foreclosure rates were low, and home ownership was within reach of 70 percent of the American people.
I yield the floor.
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