Liar Loan

What Is a Liar Loan?

A liar loan is a category of mortgage loan that requires little or no documentation of income. Because the lender does not verify income and assets by looking at W-2 forms, income tax returns and other records, such loans are said to be "liar loans" because lenders simply take the borrower at their word.

How a Liar Loan Works

For certain low-documentation loans, such as stated income/stated asset mortgages (SISA), income and assets are simply noted on the loan application. On the other hand, with no income/no asset mortgages (NINA), the lender doesn't even require the borrower to disclose income and assets at all.

Some liar loans take the form of NINJA loans, an acronym that means the borrower has "no income, no job, and no assets." These loan programs open the door for unethical behavior by unscrupulous borrowers and lenders, and have been historically abused.

Low-documentation and no-documentation loans were originally designed for borrowers who have a hard time producing paperwork to verify their income and assets, such as prior tax returns. Or else they might derive income from untraditional sources where such documentation is unavailable, such as tips or a personal business.

Low-doc and no-doc loans were meant to give individuals and households with nontraditional income sources the opportunity to become homeowners. For example, self-employed individuals tend to not receive monthly pay stubs and might not have a consistent salary.

Low-documentation mortgages usually fall into the Alt-A category of mortgage lending. Alt-A lending depends heavily on a borrower's credit score and the mortgage's loan-to-value ratio as tools to determine the borrower's ability to repay.

Liar loans offer people with nontraditional income the opportunity to own property, but they have been historically abused.

How Borrowers and Brokers Use Liar Loans

Low-doc and no-doc loans are called liar loans because they open the door for abuse when borrowers, their mortgage brokers, or loan officers overstate income or assets in order to qualify the borrower for a larger mortgage. Borrowers or brokers might do this in order to secure mortgages that would otherwise not be authorized.

The proliferation of liar loans was a contributing factor in the 2007-2008 Financial Crisis and housing bubble. One research paper estimated that liar loans accounted for $100 billion in losses, or 20% of total losses, registered during the crisis.

Borrowers received approvals on mortgages that exceeded their ability to repay. Some mortgage brokers pushed these loans, particularly prior to 2008, because the overall real estate market saw a significant run-up in valuations. In effect, over-speculation led to unscrupulous behavior. Often, individuals who had no intention of repaying their mortgages were allowed to come into ownership of a residence.

After the financial crisis, regulatory reforms such as the Dodd-Frank Wall Street Reform and Consumer Protection Act put new constraints in place to deter and prevent such activity going forward. The reforms required lenders to make a reasonable and good faith determination of a borrower's ability to repay any loan secured by a dwelling.