Government Shutdown Increases Mortgage Lender Risk

As the partial government shutdown drags on and 800,000 federal workers remain unpaid, experts at Moody’s Investors Service issued a note of caution to mortgage lenders of all types, warning of an increase in mortgage delivery risk.

The group explained that disruptions caused by the partial shutdown could potentially lead to modest strains on the balance sheets for non-bank lenders, as well as an increased risk of making bad loans for all lenders.

The report states that the shutdown is negative for all residential mortgage lenders.  The lenders face an increased risk of missing red flags on borrower quality, lapses that could lead to loans with higher risk of losses. To replace origination processes that are out of commission or at reduced capacity during the shutdown, lenders will need to create more cumbersome or manual workarounds that may result in errors or, in the extreme case, instances of fraud.

“Risks will rise if the shutdown persists and the start of the spring home buying season approaches,” said Moody’s.

The experts cautioned that lenders may need to develop workarounds to validate Social Security numbers rather than use the government. They also suggested that lenders request tax transcripts from borrowers instead of the Internal Revenue Service, stating that despite the IRS reopening and processing requests as of Jan. 7, there is a backlog and a delay in staff.

Furthermore, the National Flood Insurance Program (NFIP) and other government offerings are at risk of being shut down if the current situation continues indefinitely.  In such an event, lenders may need to obtain flood insurance from alternative private lenders, a switch that could result in higher costs or, in some cases, the lack of insurance.

The shutdown is also negative for non-bank lenders, which currently make up approximately 60% of mortgage originations, because they will be unable to sell a small percentage of their loans (such as loans to federal workers because of the inability to verify their employment) during the shutdown to certain investors such as Fannie Mae and Freddie Mac.

Source:  Moody’s Investors Services, Housing Wire, National Mortgage Professional Magazine