Senate Scales Back Risk Retention for Bundled Mortgages

Senators unanimously approved an amendment to the financial reform package that would exempt ""qualified mortgages"" from the 5 percent risk retention requirement on loans bundled and sold to investors as securities.

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The amendment, sponsored by Sens. ""Johnny Isakson"":http://isakson.senate.gov (R-Georgia) and ""Mary Landrieu"":http://landrieu.senate.gov (D-Louisiana), requires regulators to establish a category of well-underwritten loans called ""Qualified Residential Mortgages."" These loans would be not be subject to the risk retention provision already included in the Senate's reform bill.

Isakson explained that to define a ""Qualified Residential Mortgage,"" regulators would use back-to-basics underwriting and product features proven to reduce consumer defaults, such as income documentation and established payment-to-income ratios.

Such risky loan features as negative amortization would not qualify for the exemption. Originators stepping outside the qualified-mortgage guidelines would be required to hold 5 percent of the loan on their own books rather than pass it all off to secondary market investors.

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By creating a regulatory ""gold standard"" for well-underwritten mortgages, Isakson believes the qualified-mortgage amendment will help to strengthen sound lending behavior within the primary market, while discouraging excessive risk taking.

The Senate’s version of the reform bill did not previously provide an exemption for mortgages that are safely securitized. Without an explicit exclusion for well-underwritten mortgages, Isakson argued that the bill’s one-size-fits-all requirements would have reduced consumer choices for home loans and increased the cost of credit.

“Risk retention is not the cure-all to good lending. Underwriting is,” said Isakson, who spent more than three decades in the real estate industry. “We're not going back to making zero down, interest-only, reverse amortization loans anymore. But we are going back to the good old days where there is a downpayment, where there's skin in the game, where there's an income-to-debt ratio and where the borrower is qualified to borrow the money that they're borrowing.”

The amendment was endorsed by a number of industry trade groups, including the ""Mortgage Bankers Association"":http://www.mortgagebankers.org (MBA).

Upon news of the amendment’s passage, Robert E. Story, Jr., chairman of the MBA, said, ""Mortgage originators already have significant 'skin in the game' in the form of representations and warranties that they make to their investors. Mandating additional one-size-fits-all risk retention would have only further destabilized the already fragile real estate markets.”