FHA home financing has played a crucial role in helping Americans become homeowners and they have been offering mortgage products since the Great Depression.  Today, FHA home loan programs support almost 35% of the home financing market. FHA is the home financing arm of the Housing and Urban Development Department. It oversees Fannie, Freddie, FHLB and other mortgage lenders and provides mortgage insurance on loans made by the FHA lenders for lower-income and first-time buyers.

Is FHA Home Financing Getting Better?

FHA now insures about 5.4 million 1-family mortgage loans at a combined value of $675 billion, making it the world’s largest insurer of mortgage loans.  HUD continues to offer FHA refinance and purchase loans in all 50 states.

Together with Fannie and Freddie, the FHA backs 90% of new American home loans. FHA mortgage programs have received a lot of criticism recently, because of the depleted FHA loan reserves and increased foreclosures but the agency was the only financing company that stepped up to fill the void when the subprime mortgage market crashed in 2006.  FHA again stepped up in 2008 when conventional mortgage lenders and private insurers were squeezed by the credit crunch.  FHA lenders remained focuse on improving the housing markets by providing better FHA home loans in 2011.

Once again this week, FHA loan rates fall to record levels.  Qualified borrowers can qualify for a 30-year fixed rate at 4.25%. Yet, HUD is considering even more changes to FHA guidelines for purchase mortgages and FHA refinance options. HUD has been talking about implementing a minimum credit score requirement of 500 for FHA mortgage loans.  In regards to FHA purchase loans, borrowers with credit scores below 580 would be required to make a down-payment of at least 10% rather than the 3.5%.  Many FHA lenders have already taken steps like these with minimum credit scores and higher down-payments.  In regards to FHA refinancing, many lenders have been requesting more home equity in situations when the borrower’s credit is in question.  FHA credit has always been paramount to FHA lending.

Will a Minimum Credit Score Requirement Hinder the Ability for Americans to Refinance with an FHA Mortgage?

Over the years, FHA credit has been a great alternative to subprime lending because FHA would consider borrowers with low credit scores if they had compensating factors.  These types of FHA loans were manually underwritten and in most cases would be required to have cash reserves equal to at least one monthly mortgage payment.  Rumor has it that HUD is considering reducing the ability for FHA refinance opportunities if the mortgage balance is greater than the home values.

HUD is set to roll out a few new policies that could significantly affect the way some FHA lenders originate mortgages nationally.  FHA invited public comment on several of these policy changes in an effort to bolster FHA loan reserves.   According to FHA Commissioner David Stevens, “Striking the right balance between managing the FHA’s risk, continuing to provide access to underserved communities, and supporting the nation’s economic recovery is critically important ” to FHA’s success.

What was at one time a green light for bad credit mortgages may be at risk as HUD considers incorporating minimum fico requirements for FHA home loan programs for both purchase and refinance products.  HUD contends that their oversight committee will implement a minimum credit score requirement of at least 500 for FHA loan approvals.   Borrowers who are plagued with bad credit would likely be hindered by HUD’s policy mandate of applicants to have credit scores higher than 500 for FHA-home loan requirements.  Believe it or not, FHA has never had credit score requirements factored into the FHA underwriting guidelines.  According to Michael Fratantoni, of the Mortgage Bankers Association “It really is just reforming what FHA lenders and FHA loan guidelines have been doing for quite a while.”  FHA lenders had instituted their own minimum credit score requirement and many loan professionals did not know that Fico score restrictions did not come from The Federal Housing Administration. 

FHA has implemented several changes in regards to FHA requirements for mortgage companies to be approved to offer FHA loan programs.  This government finance giant has tightened FHA loan guidelines and made significant initiatives in an effort to reduce the risk of FHA loan defaults and home foreclosures across the nation.

According to HUD Commissioner David Stevens, they have made a concerted effort to enhance the public perception for responsible lending while also boosting FHA loan reserves that act as insurance for non-performing mortgage loans.  It is clear that the HUD Commissioner believes that the entity can carry out their plan to protect the FHA loan reserves that the likelihood of FHA to continue to offer affordable home financing programs is good.  FHA has been helping first time home buyers become homeowners with affordable low rate FHA loans since 1934.  It is no secret that HUD has been concerned that the FHA loan programs was in jeopardy of becoming extinct because of poor loan performance and loan companies pushing their subprime mortgage candidates to the FHA loan products.  A few years ago, FHA loan delinquencies started to increase, but so have defaults for nearly all types of home loan products.  Conventional, jumbo, home equity and even VA loan defaults have all risen over the last few years.  FHA loan policies continued to play an important role in helping our economy rebound as they remain the biggest advocate for affordable home financing and fair lending.

Congress granted the FHA loan program an exemption that could put the federal mortgage loans at risk. The American Banker reported that the FHA loan volume could see increased market-share boost from regulatory reform, because of exemptions that are tied to FHA mortgage loans.  FHA home mortgages are insured by the government and are fully exempt from the recent landmark legislation risk-retention requirement.  The mortgage reform bill was finalized by the conference committee last week requires mortgage originators to retain at least 5% of the credit risk in loans they securitize unless the assets meet a “qualified mortgage” test. All loans backed by the FHA, the Department of Veterans Affairs or the Rural Housing Service will automatically meet that test.  Senior director of industry relations for IMARC David Kittle said, “FHA loan programs gets a pass.”  Kittle continued, “Does it give them an advantage? Well, sure. Anytime you are carved out of something that can be onerous for everybody else, then certainly you benefit.”

Most home mortgages securitized through Fannie Mae and Freddie Mac will also be eligible for securitization without risk retention. Seeing that Fannie and Freddie are holding over 95% of the mortgage notes in America, this hardly seems like reform.  Glen Corso, managing director of the Community Mortgage Banking Project said “I believe chances are very good that in the future almost every mortgage that Fannie and Freddie either buy or securitize will be qualified mortgages under the risk-retention provision.”   Without an exemption, mortgage companies will have more obstacles when they sell home loans to Fannie or Freddie. Clearly this gives FHA lenders an advantage but doesn’t this make FHA home loans more of a risk?  FHA mortgage rates are at record lows and the FHA defaults have been decreasing, so why Congress would give the Federal Housing Administration a pass on risk is beyond me.  If the FHA loans fail, the American taxpayers are on the hook, thus jeopardizing the FHA loan program.

The FHA loan defaults have been rising the last few years and the FHA reserves have dipped to dangerous levels.  The FHA refinance loans continue to play a major role in helping borrowers with adjustable rate mortgages convert to a fixed interest rate loan that provides a more affordable monthly payment.  A lot of work has been done to improve FHA home loan programs and reduce the FHA foreclosures.  The Federal Housing Administration have worked with FHA lenders and it appears they have made the necessary changes in the FHA loan programs to reduce the risky FHA mortgage loans and get back on the path for a healthier financial outlook for this government run mortgage program.  Last fall industry analysts had forecasted weak performance for FHA loans in 2010, but the portfolio performance has been much better.  The Housing and Urban Development Secretary Shaun Donovan made these comments as the Obama administration renewed their commitment to stabilize the housing market.

Notable Changes to FHA Loan Programs

• FHA Streamline Refinance – FHA changed the streamline guidelines to not allow borrowers to refinance lender closing costs.  If borrowers want the FHA streamline, they will have to pay for closing costs out of their pocket.
• FHA Home Loan – FHA increased the down-payment requirements from 3% to 3.5%.
• FHA Cash Out Refinance –FHA reduced the LTV from 95% to 85%, so borrowers who want to receive cash in their refinance must have at least 15% home equity left after the refinance loan.
• FHA 203K – Home Improvement Financing has been expanded for home rehabilitation and energy efficient initiatives.

Delinquencies on FHA-backed loans did increase to 12.4% in May from 11.7% in April, but were lower than the13.6% from the previous year.  Donovan said, “Overall FHA loan performance is somewhat better than was predicted when the actuarial review was completed” in the fall of 2009.” However, the Home Affordable Modification Program (HAMP), offers incentives to FHA lenders to modify loans for distressed homeowners, has been widely criticized because the results have been so poor. The recent HAMP statistics released Monday show that slightly more than 10% of eligible borrowers received a loan modification that became permanent.

Have you heard of the “Green Mortgage Loans” that FHA is offering borrowers?  FHA offers an energy efficient home loan that enables borrowers to finance home improvements in an effort to promote environmentally friendly appliances and energy systems in the home.  These loans also can be used in conjunction with the FHA 203k rehabilitation loan insured by FHA. These energy efficient mortgages encourage home buyers or homeowners seeking a refinance to modernize their house by financing the improvements into their home loan.  

The energy efficient home mortgage loan is available to borrowers who don’t necessarily need to refinance, but just need help financing some repairs in the home.  HUD insures the FHA loan for loss on any improvements the homeowner makes. This unique FHA mortgage can be as small as $7,500, or as large as $25,000. While this home improvement financing option is helpful to many Americans, it is not for everyone.  These FHA loan programs pose a higher risk to the FHA lender, so in most cases they will require a higher credit score than other FHA home loan products.

FHA home loans have been an icon for first time home buying since 1934.  This government home financing initiative has been bolstering homeownership for decades with low FHA mortgage rates and fair lending criteria for all Americans.  The Wall Street Journal reported that the Federal Housing Administration is in serious talks with HUD to raise the insurance premium in an effort to raise the dwindling FHA loan reserves.  After FHA loan defaults have dropped for three straight months for FHA mortgage loans.  If that trend holds, the agency could avoid burning through the FHA reserves, which are estimated to fall sharply over the coming years. Still, the FHA’s commissioner, David Stevens, says “there’s plenty of room for caution.”  Clearly, FHA mortgage financing has not recovered enough to not be concerned about it’s future.

Are FHA Loan Programs at Risk?

As the economy continues to weaken, FHA will likely see more FHA defaults that could drain the FHA reserves even more.  I would expect FHA loan requirements to continue the trend of tightening.  This will limit the number of eligible borrowers to qualify for a FHA refinance that would lower their monthly mortgage payment and prevent home foreclosures for thousands of distressed homeowners.

Most industry insiders are forecasting additional losses because it has a much bigger exposure to housing today than it did when the housing market tanked three years ago.  Even if the HUD continues to amend FHA loan guidelines to stem the FHA defaults, it is likely that the annual audit will uncover the fact that that the Federal Housing Administration continues to operate on low reserves.  Let’s face it, if this great loan program was managed by the private sector the FHA loan program would be shut down.  One bright spot is that the FHA’s finances are performing better than anticipated.  In the last six months, FHA reserves have covered $6 billion that came from the loan defaults, but they had forecasted to pay $8.7 billion for loan defaults. Should we cheer because the FHA loan program is preforming better than anticipated or be critical of a federal loan program that is failing in a failing economy?