If you have not been following all of the preparation for the implementation of the Dodd-Frank legislation then you may have missed the warning whistle. There is a train headed your way and it is poised to make borrowing a lot more expensive. Real estate investors who are making plans for their 2014 purchases are going to find a different lending landscape. Not all of the rules are bad and some are absolutely needed. But real estate investing will be different and investors need to be aware of the changes coming.
Regulations and Rules could put squeeze on real estate investors
When the new legislation is fully in-acted, many expect that smaller lending institutions, you know, the companies that have picked up the slack over the last few years and made borrowing possible for many real estate investors, are going to have difficulty with all of the new compliance. If they are not able to keep up with and meet the new compliance standards, they will no longer be in business.
Those that are able to meet the new standards are being forced to do so at a very high cost and that cost is going to be passed onto consumers. At the same time, compliance will come at a costly price for the lenders themselves as they will not be subject to private lawsuits on loans that go bad if they by-pass rules as well as required minimum 'cash on hand' accounts against their lending portfolios. When you combine these new guidelines with the tightening of lending rules on those banks and institutions that are still standing, 2014 looks like a tough year for borrowing.
New rules are set to go in place early next year that set the maximum debt to income ratio at 43% for anyone looking to purchase or refinance a home. One major change in that ratio is what debt now gets included in the calculation. Some taxes, fees, points and even student-loan debt are now included in the ratio, which is going to make it much harder for buyers. It is expected that when the new Consumer Financial Protection Bureau rules go into effect, anywhere from 10% to 50% of borrowers who currently qualify for loans, will be rejected.
As an investor, I am not saying that these rules are all bad or even that the idea that we would tighten lending standards is a bad one. But I think it would be smart to consider the fact that mortgage originations right now are 1/3 of the volume they were before the housing crisis. Getting a home loan is 8 times harder today than it was before the housing crisis and if you choose to believe that we have come out of the housing crisis, then the best you could describe the housing market would be - anemic.
Consumer Debt Defaults Improve
Consider one more point. The new rules are obviously being put in place as a response to the last housing market crash. No one will dispute that lending got way out of hand. But the new rules are very black and white which is what the Dodd-Frank legislation called for. Unfortunately, they do not take into account other factors which lenders can look at when considering making loans. At a time when consumer debt default is at or near all-time lows for a normal market, we are writing rules that do not allow lenders to take this into consideration. Consumers are doing a better job than ever at responsibly using debt and yet, that is not going to matter.
The hardest hit segment of buyers are going to be:
- first-time home buyers
- those that had financial difficulty in the housing and economic crisis
- self-employed business owners
- seasonal workers
- elderly and retirees
- those living in high-priced markets
We will see what happens to the market in 2014, but these rules are definitely going to make it harder for real estate investors. We are waiting to hear whether rental income is going to be calculated into the debt to income ratios. That will be a big factor in exactly HOW difficult 2014 will be for real estate investors.