Just 11 days before leaving office, Obama administration officials ordered a cut in the monthly cost of government-backed FHA mortgages. President Trump reversed the edict within hours of being sworn in on Jan. 20, unleashing a barrage of criticism.
For example, the National Association of Realtors estimated at least three-quarter of a million homeowners will "face higher costs" as a result of the reversal. The Mortgage Bankers Association cautioned about the need to "minimize disruption" to lenders and borrowers while implementing the policy, as if dramatic changes were underway. Not true. Nothing has changed, and there's no sign anything will.
Arguing Over (Almost) Nothing
So why the outcry? Cutting the monthly Mortgage Insurance Premium (MIP) on FHA loans from 0.85 percent to 0.60 percent would save $500 annually for a homeowner with a $200,000 mortgage. FHA borrowers on the coasts could expect to save even more. Losing out on those savings was bound to incite some critics, especially when you consider how the outgoing administration positioned the cut, which would have gone into effect on Jan. 27.
“After four straight years of growth and with sufficient reserves on hand to meet future claims, it’s time for FHA to pass along some modest savings to working families,” said FHA Secretary Julian Castro said in a Jan. 9 press release. “This is a fiscally responsible measure to price our mortgage insurance in a way that protects our insurance fund while preserving the dream of homeownership for credit-qualified borrowers.”
How the Government Helps Homeowners
Neither Castro's statement nor the follow-ups from the National Association of Realtors and the Mortgage Bankers Association will make sense unless you know how FHA mortgages differ from conventional mortgages, and why mortgage insurance is such a big part of the product.
Let's start with the differences. Whereas conventional borrowers can avoid Private Mortgage Insurance (PMI) by putting down 20 percent of the purchase price on a home, FHA borrowers need put down just 3.5 percent of the balance to secure a home. FHA lending standards are also looser and therefore better suited to first-time and low-income homebuyers. In exchange, the government requires requires the vast majority of FHA borrowers to pay MIP for a minimum of 11 years.
Those payments are deposited into a fund which guarantees FHA mortgages against default. Collecting too much burdens consumers; collecting too little leaves the federal government vulnerable to an expensive bailout. Toeing the line isn't easy. In 2013, lawmakers authorized a $1.7 billion bailout. Holding off on cuts now means more money for the fund to protect against defaults later.
Or at least that's how it is today. Next month could see Trump administration officials announcing their own cuts to the MIP, or perhaps an increase. Recent history is filled with these sorts of fluctuations. In fact, monthly FHA mortgage insurance rates have changed five times since the fall of 2010—rising from 0.55 percent to 0.90 percent, 1.15, 1.25, and 1.35 before dropping to the current rate, again 0.85 percent, in Jan. of 2015.
Two More Reasons FHA Mortgages Continue to Be a Great Deal
None of that volatility has kept consumers from taking advantage of FHA mortgages. To this day, they account for just under 20 percent of the financing for new and existing home sales. Most of the customers we deal with at American Financing cite the lower down payment requirement as a key reason they prefer the FHA mortgage, but that's not their only reason. Here are two more:
1. Federal backing makes it easier to lend to first-time and low-income buyers. Getting a good deal on a conventional mortgage usually requires a credit score of 740 or above. FHA mortgages aren't as demanding. Government backing allows lenders to serve consumers with below-average credit—even those who've suffered a bankruptcy. Low-income and first-time home buyers with little capital and a limited credit history need the sort of financial lifeline the FHA mortgage offers.
2. Greater options for taking cash should keep refinancings coming. Whereas lenders on a conventional refinance will generally restrict borrowers to cashing out no more than 80 percent of their home's total equity value, lenders following FHA guidelines may be able to get borrowers to 85 percent of their home's value. Having those funds can be crucial for those planning to upgrade and stay in an older home for a long period.
So forget the headlines and hand-wringing over this non-move. The FHA mortgage remains as good an option for first-time and low-income homebuyers today as it was just a few months ago.
Tim Beyers is a mortgage analyst for American Financing, a national company employing salary-based mortgage consultants dedicated to helping homeowners make smart mortgage decisions that align with their unique financial goals.
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