In 2007, just before the Great Recession, traditional banks issued the lion's share of mortgages. By 2016, nearly half (48%) of all mortgage loans were issued by non-bank mortgage lenders like Quicken Loans, LoanDepot, PennyMac Financial, and Freedom Mortgage Company. These non-bank lenders do not offer services typically associated with banks, like checking and savings accounts. Here we'll discuss what sets non-bank lenders apart and what else you should know.
After the Great Recession, there was a crackdown on traditional mortgage lenders and the way they conduct business. New regulations were implemented, designed to prevent a repeat of the housing market meltdown. Non-bank lenders were spared many of the new rules, although they did not escape notice entirely. Today, federal regulators are concerned that non-bank lenders have fewer rules to follow than traditional lenders.
This has given non-bank lenders a leg up on the competition. The time and expense that goes into mortgages have proven too much for some traditional lenders. They have either gotten out of the mortgage business or minimized the number of mortgages they write. Non-bank lenders moved into that void and continue to grow their market share.
Non-bank lenders are more likely to lend money to borrowers who might be rejected by traditional banks. For example, a borrower with a low credit score or someone hoping to purchase a home that will require a lot of renovation is more likely to be approved by a non-bank lender.
Non-banks tend to issue more government-backed loans such as VA and FHA mortgages which are aimed at higher-risk borrowers.
Non-bank lenders were among the first to streamline the loan process, allowing borrowers to do nearly everything online. Other lenders have joined the online revolution, but non-bank lenders tend to be ahead of the game. For example, potential homebuyers can answer some online questions with Quicken's Rocket Mortgage and receive a speedy loan approval or rejection.
Where do non-bank lenders get the money?
Non-bank lenders can't take funds from customer deposits to make mortgage loans as they don't offer checking and savings accounts. Instead, they borrow the money on a line of credit and sell mortgages on to investors. Once they have sold your mortgage, the non-bank lender is not necessarily out of the picture. Many will continue to collect your mortgage payment each month and receive a fee from the investor to whom they sold the mortgage note.
What to look out for
Finding the right mortgage takes effort. As you consider non-bank mortgage lenders, keep your eye on these potential issues:
Higher interest rates and fees
Highly qualified buyers will find the interest rates competitive, but loans to less-qualified borrowers still come at a price. If your qualifications aren't stellar, you may find you'll be offered a higher-than-average interest rate. That's because lenders need to minimize their risks. Maximizing the fees they charge and raising the interest rate on your loan helps offset the risk of default.
If your credit score is your primary concern, be sure to include credit unions in your rate shopping. Credit unions are member-owned and operate as non-profit businesses. This means that you are both a member and owner and that the money the union earns goes back into the business. As such, they can often offer highly competitive interest rates and loan terms, even if your credit score has a few dings.
Concerns for the future
Experts are concerned about what might happen to non-bank lenders when the next financial crisis hits. Non-bank lenders were hit hard during the Great Recession and analysts fear it could happen again.
According to the Brookings Institution, the danger is that non-bank lenders depend on short-term credit to finance their loans. Markets usually tighten in times of financial crisis. If they do, short-term credit may become prohibitively expensive, and interest rates are likely to spike.
The fear is that in troubled economic times, non-bank lenders may not be able to survive. The impact would be primarily felt by minority, low-income, and credit-challenged Americans. In fact, lenders are already tightening their loan requirements in the current climate. The knock-on effect could be this: Fewer Americans will be able to purchase homes, so more sellers will be stuck with properties they can't sell. In that scenario, home values will fall because supply is greater than demand.
Still, there is no reason to believe that non-bank lenders are going anywhere soon. As traditional lenders continue to cut back on the number of mortgages they write, non-bank lenders will be there to pick up the new business.
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