How Intuition and Caring for Foster Children Led to a Transformative Mortgage Product
“I just stumbled onto it,” insists Fannie Mae economist Walt Scott. Scott is referring to his crucial research on extended income families which has helped to form the basis of a new mortgage product, HomeReady.
But Walt Scott is not just being humble. He doesn’t always take the linear route to get from points A to B.
In fact, he came to Fannie Mae in 1995 to work in information technology as a system performance engineer and later a software architect. His day job, among other things, involved helping to design the infrastructure to keep the company’s underwriting, servicing, investor reporting, and Home Affordable Modification Program (HAMP) administration systems running.
He enjoyed his job, but by the mid-2000s was ready for a change.
In 2007, he learned that American University (AU) was offering a part-time PhD economics program, and that he could continue working at Fannie Mae and take night classes at AU, just down the street in Northwest Washington DC.
“The AU program was a perfect fit because they focus a lot on applying economic theory to the real world, and they advocate a cross-disciplinary approach in which you take into account social, institutional and psychological factors to a situation,” says Scott, who is finishing his dissertation on the 1890s housing boom and bust.
“I used nearly every term paper assignment as an opportunity to study the housing market including causes of the bubble and the financial crisis and income inequality. And I started to get familiar with public data sources like the [Census Bureau and HUD] American Housing Survey.”
In 2012, he switched career gears and embarked on a new path as an economist in Fannie Mae’s Credit Portfolio Management (CPM) group. He went from developing software programs for HAMP to studying and analyzing the economic impacts of HAMP and other mortgage modification programs. Two of his research papers were published on the U.S. Treasury Department’s website.
As he was diving into those assignments, he stumbled on to what would become a personal passion: Studying extended income households (EIHs)—those in which members other than the homeowner or spouse have substantial income—and thinking about how changes in the way American families live might impact the mortgage industry.
Solving the Equation
Fannie Mae announced the HomeReadyTM mortgage in August 2015, calling it “an innovative lending option aimed at helping creditworthy borrowers with lower and moderate incomes have access to an affordable, sustainable mortgage.” HomeReady replaced MyCommunityMortgage®, with added flexibilities for lenders such as allowing them to consider income from a non-borrower household member as a compensating factor in determining an applicable debt-to-income ratio for a loan. That feature, Fannie Mae says in a press release, could help more multigenerational and EIHs qualify for affordable mortgages.
Nothing as important as changing mortgage rules is done without careful consideration, including years of meticulous research and analysis of the micro- and macro-impacts of such changes. HomeReady was no exception. It was Scott’s research on EIHs that supports HomeReady’s debt-to-income flexibility.
Scott, along with colleagues in Fannie Mae’s Economic and Strategic Research Group, had tracked and analyzed mountains of demographic data from the American Housing Survey to understand how households were changing and whether mortgage lending rules should be adjusted to address those changes.
What they found, in short, was that there were a growing number of households that derived a large portion of their income from additional adults sharing space with the homeowners or head of household. These type of EIHs — a term Scott essentially created — were more prevalent among minority and low-income households.
Many of those households were at a disadvantage because traditional mortgage lending didn’t consider non-borrower income, “and so the applicant may face a [debt-to-income] ceiling that does not reflect their actual resources.”
But the real nugget was this: Scott’s research, examining households between 2005 and 2013, showed that EIHs were better able to withstand negative shocks to borrowers’ income and were more likely to stay in their homes when facing financial difficulty than non-EIH households.
These research results spoke directly to the issue of risk—an incredibly sensitive subject in the wake of the 2008 recession, which many economists believe was caused in part by lax credit standards that put too many mortgages in the hands of high-risk borrowers.
“These results imply that lenders could qualify borrowers in EIHs for larger mortgage loans without incurring credit risk beyond that for otherwise comparable borrowers,” Scott wrote in the report. “This could potentially expand opportunities for underserved communities.”
In December, Scott released his report titled “Mortgage Lending and Non-Borrower Household Income: A Fannie Mae Housing Working Paper” and presented it to the Urban Institute (UI).
UI’s Sheryl Pardo reported positively on Scott’s report and presentation in UI’s Urban Wire blog on Dec. 22: “Fannie Mae’s new program, HomeReady is an attempt to put this research into action by allowing lenders to consider some amount of this non-borrower income in making a mortgage decision. This and other innovative programs will be required to ensure that these increasingly diverse households continue to benefit from homeownership.”
Jonathan Lawless, Fannie Mae’s Vice President of Underwriting, Pricing, and Capital Markets, said of Scott: “Walt’s work not only showed us how important and common extended household income is, but it also gave us the confidence that it could be leveraged safely in the lending process.”
In a recent FM Commentary, Lawless, himself the product of an EIH, lays out the implications, noting that “Among all households with a mortgage (based on 2013 data — the most recent available), 14 percent are EIHs. This share is 25 percent of Hispanic, 20 percent of African-American, and 17 percent of Asian households with a mortgage.” He continues: “Based on our research, Fannie Mae believes that allowing the existence of non-borrower income to be considered when qualifying the borrower for a HomeReady mortgage helps to expand access to mortgage credit for creditworthy borrowers without adding incremental risk.”
Anne McCulloch, Fannie Mae’s Senior Vice President, Credit and Housing Access, notes, “This is an example of how Fannie Mae employees bring their industry-leading expertise and their commitment to serving American families to developing innovative solutions.”
Opening His Home
Now, back to Scott’s assertion that he “stumbled on” in his EIH research…Bearded and bespectacled and looking straight out of central casting for a PhD economist, the 49-year-old Scott lays out his story like this:
Several years ago, he and his then-wife who were living in Rockville, MD, took in young foster siblings — a boy and girl, ages 3 and 1, respectively. The children came from a struggling family, whose father was an immigrant from El Salvador. Scott and his wife cared for them for a few months before they returned to their family. But they stayed in touch with the family over the years, buying Christmas presents, helping with school supplies and other needs. When the children first came to Scott and his wife, their family was living in poverty. The children’s father was a day laborer working to make ends meet, and their mother had chronic health problems and later died.
But over the years, the father’s financial circumstances began to improve. He got a job at a construction company and began to work his way up the ladder. He was able to buy a home. And over the years, that home became an “anchor” for siblings and other immigrant family members. Many of those family members pitched in — not just financially but also with child care, household chores, and other duties, all of which had a stabilizing and strengthening effect on the family.
It was, as Scott describes it, a bustling environment, where everyone pitched in to help raise the kids. The help the father got from other family members inside the home allowed him to focus on work and making the family financially stable. What Scott realized is that even when family members weren’t directly contributing to payment of the mortgage, they were helping stabilize the household.
“You see a lot of strength in that model of how they live,” says Scott, now divorced and engaged to Crescent Martin, a former CPM economist. “It was because I had this other model in my head about how families live and work in today’s America that I began thinking about this.”
One of the things Scott discovered in his research is that through the economic downturn of the late 2000s, while EIH families struggled just like more traditional households, they were able to withstand the economic shocks better. His theory: Non-borrower household members see themselves as having personally invested, and they buckle down and increase their financial contributions to avoid delinquency, foreclosure, or other negative outcomes.
“I had been looking at Fannie Mae’s policies on boarder income — renting, formal leases, etc. — when I realized that there’s this whole other category of extended family that’s not even on our radar,” Scott says. “It hasn’t been thought about. That is what motivated me to go look at the public census data from the American Housing Survey and confirm my intuition that this was happening on a widespread basis.”
“This is a real phenomenon that’s not just a college kid living in his parent’s basement playing video games, but sometimes it was siblings or other family members doubling up and taking care of a home.”