With changes ahead for FHA down payments, private mortgage insurers seek inroads

April 21, 2011

Is the Federal Housing Administration losing some of its post-boom, post-bust oomph? Is the Obama administration’s plan to gradually throttle back the FHA’s home mortgage insurance volume already having effects? And if so, what might this mean to you as a buyer? There are definitely signs that something’s brewing:

l Total applications for FHA-insured single-family mortgages are down 30 percent year to year through March, according to the agency’s data. Applications from prospective home purchasers are down 35 percent. The FHA’s popularity with buyers previously had sustained its high origination volumes.

l The FHA put its second premium increase in six months into effect Monday. Higher premiums mean higher monthly payments for buyers and could have the effect of squeezing some consumers with tight budgets out of the market entirely.

l The private mortgage insurance industry, which competes with the FHA for borrowers who make low down payments, is touting its newly resurgent conventional mortgage products, which may offer significant monthly savings when compared with the FHA’s.

l Some of the agency’s long-standing advocates are wondering aloud whether the administration’s policy tilt toward more private-sector involvement in the mortgage arena may be hurting first-time buyers who can’t bring large cash resources or high credit scores to the table.

For example, Mario Yeaman, senior loan officer for Milestone Mortgage in Manhattan Beach, Calif., says, “Here you have our last refuge for ordinary people to buy a home, and the government is making it tougher to qualify” by raising insurance premiums.

Brian Chappelle, a principal of Potomac Partners, a District-based mortgage banking industry consulting firm, says he worries about the direction the FHA has begun pursuing: “FHA’s role was designed to be the first rung on the homeownership ladder. If you raise fees, increase down payments and lower mortgage limits, it would be a serious impediment for future buyers and the economy.”

Chappelle’s concern about higher down payments stems from the Obama administration’s February “white paper” on housing reform in which policymakers called for higher down payments across the board, including at the FHA. To date, no increases have been proposed by the agency, but some analysts believe that a move to a 5 percent minimum down — up from the current 3.5 percent — would not be surprising in the months ahead. The FHA’s maximum loan amounts might also drop significantly this October if Congress does not renew the current economic recovery law ceilings, which now top out in high-cost areas at $729,750.

Given these developments, how does the FHA financing stack up against rivals in the low-down-payment space right now? Private mortgage insurers have a quick response: They say their lower monthly costs already are winning back some of the business they lost to the FHA during the rough times of the recession.

For instance, Radian Guaranty, a major home loan insurer, claims that in the wake of the FHA’s premium increases, a conventional low-down-payment mortgage carrying its insurance coverage now requires monthly payments 15 percent lower than FHA-insured mortgages for borrowers with FICO credit scores above 720.

Radian provided this cost-comparison example to illustrate: Say you’ve got FICO scores above 720 and you need a $285,000, 30-year loan with 5 percent down at a 5 percent interest rate.

The FHA mortgage would cost $1,806 in principal and interest per month. The same loan insured by Radian would cost anywhere from $1,530 a month to $1,753, depending on the type of premium payment plan you choose. The cheaper alternative would involve an upfront cash payment of the insurance premium; the higher-cost alternative would involve standard monthly payments of the premium.

Brien McMahon, chief franchise officer with Radian, said in an interview that, as a general rule, private insurance on low-down-payment loans will now beat the FHA whenever the buyer puts down 5 percent and has a FICO score of 720 or higher or puts down 10 percent and has at least a 680 FICO score.

So does this mean that all buyers with low down payments should now abandon the FHA and switch to conventional loans? Hardly.

David Van Waldick of Western Realty Finance in Carlsbad, Calif., says the majority of FHA users can’t fit into the private insurers’ high-FICO, strict underwriting model, so those vaunted savings may be illusory. The FHA, by contrast, continues to offer much higher and more flexible maximum debt-to-income ratios, far more generous underwriting and lower down payments, and will accept FICO scores that conventional lenders and private insurers won’t touch.

If you’re purchasing a home with a small down payment, check out both the FHA and the private alternative with your loan officer. It’s true that the FHA has just gotten a little more expensive, but it may still have the total package you need to do the deal.

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