One big reason: Over the past six years, FHA has been the turnaround champ of residential real estate, offering down payments as low as 3.5 percent despite the recession and housing bust, growing its market share from 3 percent to 25 percent-plus. The program is now financing 40 percent or more of all new-home purchases in some metropolitan areas and is a crucial resource for first-time buyers and moderate-income families, especially minorities. With a maximum loan limit of $729,750 in high-cost areas, it is also a force in some of the country’s most expensive markets: California, Washington, D.C., New York and parts of New England.
But during the same span of rapid growth, FHA’s insurance fund capital reserves have steadily deteriorated; they’re now far below congressionally mandated levels. Delinquencies have been increasing. According to the latest quarterly survey by the Mortgage Bankers Association, FHA delinquencies rose to 12.4 percent, compared with a 4.1 percent average for prime (Fannie Mae-Freddie Mac) conventional fixed-rate mortgages and 6.6 percent for VA loans.
As a result, FHA is under the gun — from Congress and from within the Obama administration — to get its house in order, cut insurance claims and rebuild its reserves. The coming squeeze on seller contributions and bumps in premiums are steps in this direction, but may not be the last.
The seller-contribution cutbacks could be painful, particularly in places where closing costs and home prices are relatively high.
Here’s what’s involved: Traditionally FHA has been uniquely generous in allowing home sellers — including builders marketing new construction — to sweeten the pot for purchasers by chipping in money to defray closing costs. FHA currently allows sellers to pay up to 6 percent of the price of the house toward their buyers’ settlement expenses. Fannie Mae and Freddie Mac, by comparison, cap contributions at 3 percent. VA’s ceiling is 4 percent.
Under newly proposed rules, the FHA cap would drop to the greater of 3 percent of the home price or $6,000. In sales involving houses priced at $100,000 or below, this wouldn’t change anything ($6,000 equals 6 percent of $100,000). But on all sales above this threshold, the squeeze would get progressively tighter. On a $200,000 home, a buyer could today ask the seller to pay for $12,000 of a long list of settlement charges, including all prepaid loan expenses, discount points on the loan, interest rate buy-downs and upfront FHA insurance premiums, among others. Under the proposed cutback, the maximum amount of closing-cost help for that $200,000 house would be slashed in half. On many transactions, the reduction would force sellers to lower their prices to enable cash-short buyers to get through the closing. In other cases, sales might simply be too much of a stretch for some purchasers.
The proposed cuts are open to public comment through the end of this month but are highly likely to be adopted in approximately their current form soon afterward.
FHA also is restricting the types of closing costs that sellers can pay. For example, advance payment of six months’ or a year’s worth of interest payments or homeowner association dues no longer will be permitted, a serious blow to many builders who use these as financial carrots.
Beyond these changes, FHA also plans significant increases in insurance premiums: from 1 percent to 1.75 percent on its upfront premiums, effective April 1, and 0.1 percentage-point increases in annual premiums on all loans under $625,000 and 0.35 percentage point on mortgage amounts above that, effective June 1.
William McCue, president of McCue Mortgage Co. in New Britain, Conn., which does a sizable percentage of its business with FHA, said the cumulative impact of all these increases “will not just crowd first-time buyers out of the FHA market. It will prevent them from owning a home that absent these new costs would be affordable.”
Bottom line: Nail down your FHA money and seller-contribution negotiations as soon as you can, because later looks as though it could be a lot more expensive.
Ken Harney’s e-mail address is email@example.com.