Increasing the minimum down payment required for a Federal Housing Administration (FHA) loan from 3.5 percent to 5 percent could be a double whammy, affecting both potential homebuyers and the economy as a whole according to David H. Stevens, FHA Commissioner. At the same time, a lower loan to value ratio (LTV) by itself is not a particularly good indicator of buyer risk. In a statement prepared for a hearing Thursday afternoon by the House Financial Services Subcommittee on Housing and Community Opportunity, the Commissioner said if the agency raised the minimum down payment to 5 percent "as some have suggested," it would adversely impact the housing market recovery.
The agency has conducted an evaluation of the loan files of a large sample of recent loans to identify homeowners who would have been able to come up with the necessary cash for a higher down payment and found that such a policy change would reduce the number of loans guaranteed by FHA by 40 percent or 300,000 buyers while only contributing $500 million in additional receipts to the FHA budget. Such a reduction of mostly first-time buyers, he said, would have a significant impact on the housing market "potentially forestalling the recovery of the housing market and potentially leading to a double-dip in housing prices by significantly curtailing demand."
Furthermore, Stevens said, the down payment alone is not the only factor that influences loan performance. He suggested that other changes proposed earlier by FHA are better predictors of risk. The combination of a higher down payment and a higher FICO score, for example, is a much better predictor of loan performance than either component alone. FHA recently announced that it was increasing the FICO score necessary for the 3.5 percent down payment to 580. In reality, most lenders have informally used much higher scores for some time.
Instead of increasing the down payment, FHA has decided to reduce the upfront mortgage insurance premium which is, in most cases, financed into the loan balance. The upfront premium was recently increased from 1.75 to 2.25 percent of the loan and FHA is awaiting Congressional approval to raise the annual premium which is now at its legislative ceiling. When that approval is received a portion of the upfront premium will be transferred to monthly payments thus reducing the loan amount and increasing the LTV.
Stevens stressed that, in spite of the fact that its secondary reserves had fallen below the required two percent level, FHA is not "the next subprime." Subprime delinquencies are 240 percent higher than FHA's because FHA stuck to the basics during the housing boom and had not dabbled in exotic mortgages and had insisted on verifying borrower income and employment. Stevens will restate changes that the agency is making to shore up the fund including the aforementioned increase in premiums, strengthening risks controls, and stepping up enforcement, and also by increasing staff and technology capacity and efficiency.
In his statement, the Commissioner says that, according to the Federal Home Financing Agency index, home prices have been rising steadily since last April. This was in spite of projections from many economists that prices would decline an additional 5 percent during 2009. Stevens said this contradiction is even more surprising since most of the forecasters had underestimated the rise in unemployment during the same period. Home equity has also stated to rise again, increasing by more than $900 billion by the end of September, an average of $12,000 per home.
Stevens cited the following accomplishments of his agency over the last year:
- FHA insured almost 30 percent of purchases and 20 percent of refinances.
- More than three-quarters of FHA's purchase-loans went to first time homebuyers and nearly half of all first-time buyers in the second quarter of 2009 used FHA to finance their homes.
- FHA financed 52 percent of African American homebuyers and 45 percent of Hispanic buyers, making it by far the largest source of loans for minority buyers.
- It has helped over 800,000 homeowners refinance into fixed-rate mortgages.
- The Home Equity Conversion Mortgage (HECM) program, a reverse mortgage for seniors, had a loan volume of $30.2 billion in FY 2009.
- The agency has taken fraud enforcement actions against more than six times as many lenders since FY2009 than the agency had brought during the entire period of FY2000-2008.
Stevens said that the FHA budget for FY 2011 represents a careful, calibrated balancing of the agency's responsibilities of providing homeownership opportunities, supporting the housing market, and ensuring the health of the FHA Mutual Mortgage Insurance (MMI) Fund. The agency is requesting $420 billion for new FHA loan commitments for the MMI and General and Special Risk Insurance funds, $88 million for Housing Counseling Assistance, and $20 million for its Mortgage Fraud initiative and implementation of the reforms to RESPA and the Secure and Fair Enforcement (SAFE) for Mortgage Licensing Act.
HERE are the prepared statements by panelists scheduled to speak at today's House Financial Services Committee hearing on FHA Reform.