Lower FHA loan limits hindering efforts to reflate housing bubble
Borrowers face rising costs on FHA loans and the lower limits on what they can borrow, reducing the size of the borrower pool and increases the cost of debt. This will hinder efforts to reflate the housing bubble.
I recently reported on how the FHA lowered the boom on Coastal California housing markets. A lower FHA loan limit affects houses priced in the $650,000 to $800,000 price range because borrowers looking to borrower more than $625,500 must use jumbo financing, which usually requires at least 20% down and higher FICO scores. Previously, a potential buyer of a $765,000 home only needed a $35,250 down payment to complete the sale. Now that buyer must come up with $153,000, and they are subject to much more stringent qualification standards. Since tighter qualification standards and higher down payment requires will reduce the size of the buyer pool, the lower FHA loan limit will strongly impact the housing market.
… The lower loan limit could hurt buyers with small down payments and derail a nascent revival in the homebuilding sector.
“The timing is not good. We’re trying to get the market re-established, especially in Las Vegas, and to drop the limit now doesn’t make any sense,” said Dennis Smith, president and CEO of local analysis firm Home Builders Research. “We need to get as many housing sales and starts as we can to boost the economy.”
Do we need to build homes to boost the economy, or do we need to build homes because there is real demand for new homes? It makes a difference. We tried building homes we didn’t need back during the housing bubble, and it didn’t work out very well.
Here’s how the rule works: The Federal Housing Authority sets the maximum loan size it will guarantee based on a market’s typical asking price. The high is usually 115 percent of the median, though during the boom in 2005 and 2006, it went up to 125 percent of the median. In Las Vegas, thanks to a bubble-era median home value of nearly $300,000, that meant the authority would back loans worth as much as $417,000.
The government’s maximum historically varied year to year as median prices fluctuated, but the housing authority froze the ceiling in 2008 — until now. Not only did the authority adjust its limit based on 2013 prices, it also dropped its multiple from 125 percent back to 115 percent. With an overall median resale price hovering around $155,000 and a single-family median of about $185,000, that translates into a new federal loan limit of $287,500 — a drop of more than 31 percent.
That’s a large drop, and those above the new limit will be able to get GSE loans up to $417,00, in places like Las Vegas, but those borrowers will now have to put 5% down, and be subject to more stringent FICO score requirements.
“The formula is not anything new. But they put a freeze on it for five years, so we all forgot about it. In a normal world, I can’t complain about the way they calculate it,” said Nat Hodgson, executive director of the Southern Nevada Home Builders Association. “Going from $417,000 to $287,500 is a bit much given how hard-hit some markets were. We’re still devastated here. We’re finally just getting off the ground.”
Throw in new federal rules on qualified mortgages, which cap fees lenders can charge borrowers and require banks to document a homeowner’s ability to pay back a loan, and you have a big potential drag on the market, Smith said.
If the demand comes from qualified buyers making good wages and real jobs, the lower limit will not be a big problem. It will make loans harder to qualify for, so it will reduce the size of the buyer pool.
“There are a lot of people here who have good credit except for a house investment they made at the wrong time,” Hodgson said. If federal backing isn’t an option for them, they may not have anywhere else to turn.
He’s right, they won’t have anywhere else to turn.
… there is no alternative to the FHA for the low-credit-score borrowers. While commercial banks and government-sponsored entities such as Fannie and Freddie cater to high-income, high-FICO score, prime borrowers, the FHA is the only game in town for the rest of the market. Close to half of all FHA loans originated in 2013 were for FICO scores of 620 to 679, about a quarter of the loans were for 680 to 719 and roughly a quarter were for 720 and higher, according to data from the FHA.
[Edward J. Pinto said,] “To avoid future housing bubbles, we must ensure that prime loans comprise the lion’s share of the mortgage market. Thus, the [Qualified Residential Mortgage] must be reworked to incorporate the impact of the four key components of a quality mortgage: demonstrated credit, a significant down payment, the capacity to make payments over the life of the loan, and loan purpose (home purchase, non-cash out from a refinance, and cash out from a refinance).”
He is correct. That’s exactly what must happen. The idea of giving loans only to qualified borrowers under terms they can reasonably repay is common sense — it can’t be reasonably argued against.[dfads params=’groups=165&limit=1′]
Sadly, the experts at AEI and others in Washington fail to appreciate that government regulation has already accomplished the goal of excluding millions of Americans from the mortgage markets. The poisonous combination of Dodd-Frank legislation, the mortgage foreclosure settlement by the state attorneys general and the Basel III capital rules prevents commercial banks from making anything but prime loans. Add to this the end of the safe harbor for “true sales” of asset-backed securities by the Federal Deposit Insurance Corp. in 2010 and you can virtually guarantee that no FDIC-insured commercial bank will underwrite a nonprime, non-QRM loan or securitization ever again.
Good. Despite his derisive language, I think it’s great that banks long longer make bad loans. Does he think they should?
Despite the rhetoric about the return of private residential mortgage-backed securities, the fact is that there is virtually no private market for below-prime loans in the U.S. today. How many times have we heard acting Federal Housing Finance Agency head Ed DeMarco comment that raising guarantee fees for Fannie and Freddie will stimulate private sector interest in the mortgage market?
Not only have higher fees and loan limits for the FHA and the GSEs failed to spark investor interest in holding private mortgages, but these statements suggest that government officials are either delusional or just plain ignorant with respect to how the capital markets view private label, nonagency loan production today. The market for nonagency RMBS is running off and there is virtually no new production to replace it.
If mortgage interest rates were higher, there would be a market. Apparently, prices aren’t high enough yet to compensate investors for the risk. We here from economists about the excess of capital floating around the financial system keeping rates low, yet none of this will blow into mortgage-backed securities. Why is that? It can’t be from lack of desire to find a return on investment. Investors are putting money into all forms of stupid, reckless investments in their quest for yield. If the price were right, this money would flow back into mortgages, but since the federal reserve crushed yields on mortgage-backed securities by overpaying for several years now, the yield is simply too low to attract capital to this space.
For millions of Americans, there is no alternative to the FHA when it comes to getting a mortgage.
Thankfully Stevens, a former FHA Commissioner, pointed out to the Times the agency’s recent tightening of underwriting standards and its improved portfolio quality, illustrated by a recent Congressional Budget Office study.
“The data clearly shows that the loans being made today by FHA are the highest-quality loans in its history, with extremely low default rates,” Stevens told the paper.
Observers inside and outside the mortgage market need to accept that government regulation, investor reticence and other factors make FHA the only available source of mortgage credit for below-prime borrowers.
The FHA is the only viable alternative to subprime borrowers. It’s the only way those with low credit scores and scant down payment savings can obtain a house. With the high fees on these loans, these borrowers are paying subprime prices, as they should. Eventually, private money will compete with the FHA for these customers — when the yield compensates them for the risk.
The rising costs of FHA loans and the lower limits on what they can borrow will reduce the FHA footprint further. Since this reduces the size of the borrower pool and increases the cost of debt, it will hinder efforts to reflate the housing bubble.
That’s a good thing.
249 VIA BALLENA San Clemente, CA 92672
$388,500 …….. Asking Price
$265,000 ………. Purchase Price
7/7/1999 ………. Purchase Date
$123,500 ………. Gross Gain (Loss)
($31,080) ………… Commissions and Costs at 8%
$92,420 ………. Net Gain (Loss)
46.6% ………. Gross Percent Change
34.9% ………. Net Percent Change
2.6% ………… Annual Appreciation
Cost of Home Ownership
$388,500 …….. Asking Price
$13,598 ………… 3.5% Down FHA Financing
4.41% …………. Mortgage Interest Rate
30 ……………… Number of Years
$374,903 …….. Mortgage
$106,374 ………. Income Requirement
$1,880 ………… Monthly Mortgage Payment
$337 ………… Property Tax at 1.04%
$0 ………… Mello Roos & Special Taxes
$81 ………… Homeowners Insurance at 0.25%
$422 ………… Private Mortgage Insurance
$29 ………… Homeowners Association Fees
$2,748 ………. Monthly Cash Outlays
($419) ………. Tax Savings
($502) ………. Principal Amortization
$22 ………….. Opportunity Cost of Down Payment
$69 ………….. Maintenance and Replacement Reserves
$1,918 ………. Monthly Cost of Ownership
Cash Acquisition Demands
$5,385 ………… Furnishing and Move-In Costs at 1% + $1,500
$5,385 ………… Closing Costs at 1% + $1,500
$3,749 ………… Interest Points at 1%
$13,598 ………… Down Payment
$28,117 ………. Total Cash Costs
$29,300 ………. Emergency Cash Reserves
$57,417 ………. Total Savings Needed