Foreclosures rule the mortgage world. With home prices way down from where they were a few years ago, and  unemployment so much higher, foreclosures are still surging. The sad fact is that a record number of homeowners are in default and can’t pay their mortgages. A home foreclosure is a tragedy for the home owner and a problem for the community. The wave of foreclosures has also wreaked havoc in the mortgage industry. I don’t have much sympathy for the banks that made the loans because they knew what they were doing, or should have, and they made too many risky loans when the housing market was riding high. But the foreclosure wave has also had a big impact on the buyers who want to buy a home now, and it is effecting what they can afford and how they can qualify.

Everything moves in cycles, and if the pendulum swings too far in one direction, you can be sure it will swing too far back in the other direction. The fog the mirror underwriting of a few years ago has been replaced by underwriting where you need everything but a blood sample in order to qualify. Conventional financing just got another round of tightening with the release next week of DU 8.0, and it looks like FHA’s time is coming up soon. There has been a lot of press lately about how FHA has gone below its 2% reserve level and that the program is in trouble. I think we need a little perspective here. It wasn’t FHA loans which caused the economy to blow up, and all the big banks, as well as the big GSEs (Fannie and Freddie), have already either been taken over by the government or are only around because they took government TARP money. FHA still has billions in reserve, and is still supporting the housing industry.  

HUD Chief Sean Donovan talked about the future of FHA the other week, and came up with some possible ways to grow the FHA reserve fund.

Some of the ideas mentioned included:

• Increasing the down payment from 3.5% to 5%.
• Minimum credit score standards.
• Increasing the up-front mortgage insurance premium from 1.75% to 2.25%.
• Lowering the amount that sellers can contribute toward closing costs from 6% of the sales price down to 3%.

I doubt if raising the down payment a bit would have much of an impact, and even though FHA doesn’t have minimum credit scores, all the lenders that administer the program already do. The other ideas may make more sense (especially if the up-front mortgage insurance increase is based on risk). There is a lot of political pressure to do something, but they could raise the down payment to 20% and require perfect credit and foreclosures will still be a problem if the unemployment rate stays high (this is the problem with conventional loans). Without FHA financing available the housing market would be in a lot worse shape. There has to be a balance between keeping the reserve fund high and still keeping mortgage funds available for the average home buyer. If they tweak the program too hard, home sales and home values will go down, which will cause greater problems to our fragile recovery

I expect that FHA will tighten in some ways (hopefully not too much), but even if they do, FHA mortgages will still be the go-to program for a good portion of the home buying public.

Here are some reasons FHA financing will continue to be the best financing option for many home buyers:

• With FHA the down payment and all the funds needed to close can be a gift.
• FHA still has a common sense approach to credit, and past credit problems are not an obstacle if you can show you have put the problems behind you.
• Under the new rules, FHA offers more flexibility with condominium financing allowing buyers to purchase with minimum down financing units that can’t even be financed conventionally.
• FHA qualification ratios are more flexible than conventional, allowing more buyers to qualify.
• FHA allows non-occupant co-borrowers, so income can be blended in order to qualify.
• FHA offers better pricing for most borrowers with less than a 700 credit score.
• FHA offers better pricing for condos (with less than 25% down payment) and 2-4 unit buildings.

The mission of FHA is to make it possible for more people to afford homes. They may tighten the requirements some, but if they make it too hard, they are defeating their stated purpose. FHA will still be the best loan choice for many home buyers.

 

Peter Thompson 630-479-6424

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