No Pay Stub? No Problem. Unconventional Mortgages Make a Comeback

Inside Subprime: Feb 18, 2019

By Aubrey Sitler

Picture this: You’re ready to buy a house, you have the money and assets to pay for it, but you don’t have pay stubs or tax documentation to prove your income to a traditional mortgage lender. What would you do?

Aryanna Hering, a nursing student with a part-time job caring for children and senior citizens, was in this situation recently. She was seeking a loan to buy her grandfather’s house outright–a home she had jointly inherited with some other relatives.

Fortunately for Hering, a company offered her an unconventional mortgage, allowing her to pay out her relatives’ shares and keep the house. That is, they lent her roughly $610,000 after verifying 12 months of her bank statements and reviewing letters from clients. She is able to make about a third of her $4,300 in monthly mortgage payments from her work income, and she covers the rest through having roommates and renting out rooms in her home to Airbnb guests.

Hering is not the only one seeking these kinds of loans targeted to buyers who are unable to prove their income in a conventional way. According to Inside Mortgage Finance, $34 billion of the $1.3 trillion mortgage originations from the first three quarters of 2018 were unconventional mortgages like this. This constitutes 3% of the total industry, but it marks a 24% increase in the total unconventional mortgages issued from the same time period in 2017. All the while, traditional home loans have declined and are expected to continue to decrease.

But is this type of mortgage healthy for the larger economy and housing market, or do unconventional mortgages harken back too closely and too dangerously to the 2008 mortgage crisis?

Some might remember the “liar loans” issued in the lead-up to the 2008 financial crisis. In those cases, lenders were making unconventional loans to people without pay documentation, but they failed to verify what borrowers’ actual incomes were, thus setting them up to default. Today’s unconventional loans still don’t meet criteria to be backed by Fannie Mae or Freddie Mac. This could be due to a number of reasons. Many are high-risk for their size relative to borrowers’ incomes, others have payback periods that exceed 30 years, and others are made to people who don’t have pay stubs due to income derived from self-employment or retirement.

Many industry leaders conceive of today’s unconventional mortgages as safer than those issued a decade ago; they seem to believe that lenders learned from the 2008 market crash.

However, others, including Scott Astrada of the Center for Responsible Lending, are concerned that these loans still carry high and undue risks to borrowers: “While they might not be as toxic as some of the loans precrisis, you still have a host of affordability concerns.”

For borrowers like Hering, unconventional mortgages may make more sense and be less nefarious. Hering, who graduates soon and plans to start working full-time immediately, will refinance her unconventional mortgage into a traditional loan with an interest rate below her current 6% rate.

But only time will tell whether increasing overall market share of loans like these will have a positive or negative impact on borrowers or the housing market as a whole.

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