No documentation loan

Definition: A loan which does not require the borrower to document (ie, prove) his income, how much money he has saved up, or other information that would normally be required before a bank would give him a mortgage (ie, agree to loan him money). The trade-off for the borrower is that he must pay a higher rate of interest when borrowing than a person who can prove he can pay back the loan.Example: Arthur is a contractor who renovates kitchens and baths. It’s great to be the owner of his own business, but Arthur’s income is unsteady. Sometimes business is great and he rakes in the money. At other times, its slow and he spends more than he takes in. He doesn’t want to tell the story about his ups and downs to the bank, so he asks if they’ll give him a loan based solely on his “good credit” (ie, proven habit of paying his bills).

Investeach explains: During the housing boom of the mid-2000’s, lenders would do just about anything to keep the good times rolling. They had to figure out a way to keep issuing more loans. With this type of loan, a person with a great credit score, but unimpressive or unsteady income, could be lent money. Banks thought they were covering themselves for the added risk of not really knowing the borrower’s income by charging greater interest. Due to banks getting burned badly when large numbers of borrowers with this type of loans stopped making payments, many lenders no longer offer this type of loan.

Riddle me this:

1. Why might a person want to take out this type of loan?
2. If the borrower isn’t proving his income and reasonable living expenses, what does the bank rely on when deciding whether to issue a potential borrower a mortgage?
3. What is the trade-off with taking out a no doc loan?
4. Why is this type of loan so hard to come by these days?

Also known as: No doc loan, Liar’s loan

Related terms: Ability to pay, Credit score.

2017-10-01T19:06:17+00:00