Under a proposal released by the Federal Reserve on Tuesday lenders will be required to make certain that prospective borrowers have the ability to repay their mortgages before giving them a loan.
This new rule is intended to tighten lending standards and halt home lending abuses that contributed to the financial crisis from 2007-2009.
There will be minimum underwriting standards for most mortgages and lenders can be sued by the borrower if the lender does not take the proper steps to ensure that the borrower has the ability to repay the loan.
Furthermore, this law also provides additional protections from this type of liability as long as the loan meets the specific standards that are part of a qualified mortgage. However, the Fed is still trying to define what a qualified mortgage is under two definitions.
The first definition would be that the loan would not include interest-only payments, a balloon payment and regular payments cannot increase the principle of the loan.
The second definition would be that the loan would have to meet all the standards laid out under the first option as well as meeting additional requirements such as having the lender verify a borrower's debt obligations, employment status and income.
One exception would be that mortgage originators who serve rural and underserved areas; they would be allowed to provide loans with balloon payments.
In a statement released by the Fed said, "This option is meant to preserve access to credit for consumers located in rural or underserved areas where creditors may originate balloon loans to hedge against interest rate risk for loans held in portfolio."
Currently, the Fed is seeking comments on this proposal now through July 22 and the final rule will be implemented by the Consumer Financial Protection Bureau, which will open its doors on July 21.