FHA Raises the Insurance Premium on New Loans
The FHA has to navigate the waters between qualifying enough borrowers to absorb the foreclosure inventory and qualifying too many borrowers who fail to make their payments and end up as foreclosures. If they error to the conservative, house prices fall because demand is curtailed. If they error to the permissive, the government is going to pay for a huge bailout.
The FHA stabilized the housing market by providing low-interest and low down payment loans to buyers when private institutions were unable and unwilling to do so. The FHA’s market share typically runs from 8%-10% of the market, but it fell to 2% during the housing bubble as asset-backed security (ABS) loans took its market share. In the aftermath of the credit crunch and the withdrawal of private investment from unbacked mrtgages, the FHA’s market share has climbed to over one-third of the mortgage loan market. The FHA and the GSEs insure over 95% of mortgage loans in the United States.
Since the down payments on FHA loans are only 3.5%, there is no real equity cushion for borrowers. After transaction costs, borrowers are 2.5% underwater when they leave the closing table. The lack of equity contributes to strategic default, particularly in markets that have continued to decline since FHA loans became prevalent.
To combat the problem of losses on FHA loans, Congress just passed an increase in the FHA insurance premium to help head off a government bailout. I have my doubts about how successful they will be — or if anyone in government really cares.
The Senate approved its versions of HR 5872 and HR 5981, which would respectively raise the Federal Housing Administration‘s (FHA) multifamily commitment authority and allow it to hike its annual premiums for its single-family program.
Both bills now travel to the desk of President Barack Obama to be signed into law.
HR 5981, which also passed the House of Representatives last week, would allow the FHA to raise its annual premiums for the single-family program, raising the statutory cap rate to 1.55% from 0.55% — a flexibility that could ultimately reduce the cost of credit insured by the FHA, according to the Mortgage Bankers Association (MBA).
“While premium increases are never ideal, this bill was necessary to help improve the strength and stability of FHA’s single family programs,” said MBA chairman Robert Story Jr. “We are encouraged that FHA Commissioner [David] Stevens has indicated he may not need to raise premiums to the maximum, and we believe that that a small increase in the annual premium, coupled with a decrease in FHA’s upfront premium [calculated in the chart below, from the FHA], will help stabilize FHA while lowering closing costs for many borrowers.”
The annual premium raise will provide approximately $300m of additional insurance per month to the FHA’s Mutual Mortgage Insurance (MMI) Fund, according to Stevens.
“I thank Congress for giving FHA the flexibility to adjust its annual premium at a time when our reserves are perilously low,” he said. “With this authority, FHA is in a better position to address the increased demands of the marketplace and return the MMI fund to its congressionally mandated level without disruption to the housing market.”
Stevens added: “While we appreciate and applaud this recent action, there is still work to be done. [The US Department of Housing and Urban Development] remains steadfast in its commitment to comprehensive FHA reform legislation, similar to the FHA Reform Act passed earlier this year by the House, which would further enhance FHA’s lender enforcement capabilities and risk management efforts.”
The MBA noted that the broader FHA Reform Act passed the House in June but has yet to be considered by the Senate.
HR 5872, which passed the House of Representatives last week, increases FHA’s commitment authority for its multifamily insurance programs by $5bn for the remainder of the fiscal year — which ends at the end of September.
Without the increase, the FHA would have exhausted its current authority sometime in mid-August, according to the MBA.
I have advised people to Use FHA Financing: Loan Assumption is the Appreciation of the Twenty-Teens. Of course, the ability to assume a loan and only put 3.5% down comes at a price. As that price continues to go up, the advice may become less valid.
The advantage and value of assumability becomes greater the more interest rates go up. If five or ten years from now we are back at 9% interest rates, an assumable 4.5% interest rate will have significant value. If we are still in the 5% to 6% range, assumablity won’t make a significant difference.
By Jessica Holzer — Thursday, 5 August 2010
… The FHA doesn’t make loans; it backs mortgages for borrowers who pay a minimum 3.5% downpayment and meet the agency’s other standards.
People often misunderstand the role the FHA plays. It does not actually make loans, it merely provides insurance to loans underwritten to a certain standard. IMO, this is the ultimate fate of the GSEs — if they survive at all.
“I remain cautious because the big uncertainty is what house prices are going to do,” Stevens said.
The FHA’s business has ballooned during the housing bust as home buyers have struggled to get conventional financing. The agency’s market share rose to about one-third of the mortgage market last year, up from 2% in 2006. Together, the FHA and government-run mortgage insurers Fannie Mae (FNMA) and Freddie Mac (FMCC) are providing backing for more than 95% of new U.S. mortgages.
In an effort to shore up its finances, the FHA has expelled more than a thousand lenders from its program in recent months and tightened its credit standards. For example, it now requires borrowers with down payments of less than 10% to have credit scores of at least 580.
A 580 FICO score is not a particularly high standard.
Still, many critics argue the agency needs to go much further if it wants to avoid a taxpayer bailout. House Republicans pushed unsuccessfully earlier this year to raise the minimum FHA downpayment to 5%.
The reason the increase to 5% was defeated was due to the fact such and increase would have dramatically diminished an already depleted buyer pool. Most FHA loans have the bare minimum 3.5% down payment because so few people have saved any more than that.
Stevens said the higher premiums are “a significant step” for attracting private capital back to the mortgage market because private mortgage insurers were having difficulty competing with the government’s pricing.
Do we really need a large private mortgage insurance market? Is there something wrong with the FHA standard? Call me a socialist if you like, but I don’t have a problem with the government providing insurance that crowds out the private sector. If the government does a good job, the insurance is much less expensive, and if it doesn’t do a good job, the private insurers can fill in the gaps.
But he acknowledged that, in the current environment, the private sector doesn’t have much appetite for mortgage risk.
According to Mortgage Bankers Association Senior Vice President Steve O’Connor, “The FHA is still going to be the only game in town in the near term for lower-income and cash-strapped borrowers.”
In other words, the FHA is the only game in town. After the huge debt orgy we witnessed during the bubble and the ugly recession that followed, everyone is cash-strapped.