Combining stated income with a non-traditional mortgage product is an example of what?

Combining stated income with a non-traditional mortgage product exemplifies risk layering because it involves the stacking of multiple risks in a financial product. Stated income loans often rely on the borrower's self-reported income rather than traditional documentation like pay stubs or tax returns. When these types of loans are combined with non-traditional mortgage products, such as interest-only loans or adjustable-rate mortgages, the lender takes on additional risks related to the borrower’s income verification and the structure of the mortgage.

In this scenario, risk layering occurs because the mortgage does not solely rely on one risk factor; it accounts for multiple, potentially riskier elements. Lenders might be keen on this practice to extend credit to borrowers who may not fit standard loan criteria, thereby creating a layer of complexity and uncertainty regarding repayment. This approach can lead to increased exposure to default risk, particularly if housing markets were to fluctuate or if borrowers faced financial difficulties.

Understanding risk layering is essential in the context of mortgage lending, as it underscores the importance of careful risk assessment to ensure that financial products align with borrowers' capacities to repay their loans. By recognizing how different risk factors interact, both lenders and borrowers can make more informed decisions in the mortgage process.