Dangerous Lending Practices could Kill Deals and Cause Lawsuits

In today's turbulent market, lender's and banks are being forced to tighten down, requiring larger down payments, more reserves, and more documentation that it had previously. In most ways, it's a step forward in preventing unqualified borrowers from purchasing homes they can't or won't be able to afford in the future. However one of these restrictions, if not implemented correctly, can potentially lead to lost deals and even lawsuits.

Lenders have always relied on appraisals to determine the market value of a property. However, in today's market, appraisers also provide information on whether a market is soft or stable. If a particular market area is determined to be soft, a lender will require an additional 5-10% down payment and possibly additional documentation. While this may sound reasonable in theory, in practice it becomes a problem when banks issue approvals before they do a full review of the appraisal.

In one case this month, the bank approved a client's loan well ahead of the contigency removal date. Thinking the loan was approved, she removed all contingencies, including the loan contingency, which would put her deposit at risk if she were to back out. However, a week before closing when she ordered loan documents, the bank required her to put an extra 5% down, which in her case amounted to over $30,000. She had already put all her money into the purchase and was not only unable to proceed with the purchase but would risk losing her deposit of $20,000 if she backed out. In this case, the lender should have notified the buyer of the additional 5% before providing an approval that the client relied on to remove contingencies.

This problem is not only limited to regular buyers, it has even spread to high-end purchasers. In an almost $2 million deal earlier this month, the buyer put 25% down, earned half a million in income the year before and provided full documentation of his assets and income. Again, a week before closing the bank reviewed the two appraisals it ordered, one of which included a declining market comment. The lender decided to reduce the amount it would borrow by almost $150,000. After  two extensions, days of negotiations and struggle, the buyer was finally able to borrow the additional money to close.

This issue not only affects people interested in purchasing San Gabriel Valley real estate, but is a national issue with all lenders, large or small. While tightening lending standards is a step forward, the standards must be integrated properly into loan processing procedure so that traditional rules and timelines are not broken. Otherwise, lenders are opening themselves and all other parties involved to complaints and even lawsuits.

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