Tax, insurance stress add to pressure as delinquencies rise

Late payments in the third quarter rebounded from a survey-record low, adding to signs the credit cycle is turning, according to the Mortgage Bankers Association.

The numbers, which are seasonally adjusted and don’t include foreclosures, show the one-to four-family delinquency rate rose 25 basis points on a consecutive-quarter basis from where it bottomed out to 3.62%. It’s also up 17 basis points from a year ago.

Loans just 30-to-60 days late drove the upward trend. Later-stage arrears actually dropped to a low last seen in the first quarter of 2020.

Nevertheless, loan performance is under enough pressure that it could test the protection that high home prices, foreclosure prevention policies and relatively high employment rates have afforded it so far, particularly for more recent and second-lien borrowers with less equity.

“The delinquency rate went up this quarter but it’s near the record lows…it’s not going to stay like that,” Marina Walsh, vice president of industry analysis at the Mortgage Bankers Association, told attendees at an Information Management Network conference in New York.

“My concern is we’re going to see a change before things turn around on the production side,” Walsh added, referring to lags that can impair the ability of lending and servicing to naturally hedge each other. 

“We have to expect that delinquencies are going up from where we are now,” she said.

Loan stress to date has largely stemmed from economic trends like inflation and higher rates coupled with slightly higher unemployment and a wage gap, but escrow concerns are increasingly coming into play as well, speakers on another panel at the conference said.

Price gains from tight housing supply relative to demand have been catching up with tax bills and insurance rates are soaring in states like Florida where disaster risk has risen and the rate environment has limited insurers’ capital markets options.

“There are locations where the escrow costs are going to be materially higher,” Ashwin Agarwal, CEO, Advocate Technologies, said at Information Management Network’s Mortgage Servicing RIghts Forum.”It’s not just climate change … it’s also fundamentally linked to higher interest rates.”

The surge in the costs related to consumer taxes and insurance this year has been dramatic, said Cornerstone Servicing President Toby Wells, another panelist, in an interview.

Wells said he expected an increase due to the typical lag in incorporating home prices into property taxes and insurers leaving certain markets like the Sunshine State and California. The magnitude still surprised him.

“We haven’t seen payment change adjustments like what we’ve seen over the past year since the crisis,” said Wells, noting that there have been insurance problems in other states as well. For example, there are hail insurance issues in Colorado and Texas has new wind policies, he said.

Under a particular amount of stress are borrowers who experience escrow shock after buying new-build homes that have made up a growing share of sales in the current market. They may see changes in land value due to construction, he added.

Borrowers with low rates from the period where they bottomed out may have payments higher than the principal and interest they pay on their mortgages, Wells said, noting that he’s one of them. He estimated that for people with increased principal, interest, taxes and insurance, the average uptick is 30%

Wells expects the trend could put more upward pressure on delinquencies by the second quarter of next year.

Cornerstone has been leveraging automation to identify changes in escrow above a certain threshold and be proactive about informing and working with borrowers to address the issue. 

Depending on jurisdictional rules related to handling consumer funds, MSR investors can view the ability to hold borrower money for charges ahead of time as advantageous. But servicers also have to advance funds or get force-placed insurance when payments get disrupted

As current circumstances illustrate, escrow can come “with a lot of cost, it’s not all float,” Wells said.