FHA Mortgage, Interest Rates and Marketing

While reviewing our neighborhood watch data,   I did some digging into the national data by loan purpose.  Historically FHA Refinances had the lowest default rate in the portfolio, but these are not historical times.

By actually breaking the data down by the types of transactions we are able to identify riskier loans in our portfolio and change our guidelines as needed.

While we have always looked at refinances as a lower risk loan, declining home values and all of the media about “giving homes back when you are upside down” have caused defaults on refinance to rise rapidly.

At the end of 2008 FHA data stood as follows:

And now in 2010:

The default rates for Existing Home Purchases has increased very little while the default rates for New Construction/New Homes and Refinances both increased significantly.

I think HUD is taking some great steps toward curbing the high default rates with the new initiatives to target underwriting lenders with neighborhood watch.   FHA will continue to tighten their guidelines, but nothing will help more than terminating the lenders with high default rates.  This will force self governance into the remaining lenders under fear of termination.  For years there were no consequences for making “Bad” FHA loans,  when the loans defaulted HUD paid the claim and the lender did not suffer.  This lead many lenders to disregard prudent lending practices.

When ever I see a lender “advertising” that they will make loans no one else will, its a red flag.   Months before LendAmerica was terminated I had a case transfer request from one of their loan officers for a loan we had declined.  The loan officer mentioned that if we had any other loans “we couldn’t get done” that we should send them to him, because his company was “very good at manually underwriting loans.”

I saw similar postings from Topdot who was also shut down, I think they used that same term “very good at manually underwriting loans”.  I think this has become industry code for “we approve any loan we think we can get away with”.

Most recently I saw a lender advertise that they would take Debt To Income Ratios of 57% on a manual underwrite.  This comes at the same time that many lenders are limiting Debt To Income Ratios to only 50% of income regardless of a TOTAL Scorecard approval from HUDs computer system (which will often approve loans in the high 50’s).

So if all brokers and loan officers now send this 1 particular lender all of the loans over a 50% DTI, because they are advertising they will take loans up to 57%, whats going to happen?  They will make a lot of money in the short term due to the influx of business and then HUD will shut them down under the new neighborhood watch initiatives after a few months of these loans defaulting (and they will default).

Without these new initiatives this lender would have no consequence for taking these loans.   Under the previous Neighborhood Watch rules, HUD only held the originator responsible,  not the underwriting lender.

I watch the moves made by lenders like Chase, BB&T, Suntrust, and Wells.  They see thousands of more loans than I do so they can see trends developing before I can.  If they are all making moves to limit the DTI to 50% it means they have seen a jump in defaults for these loans.

Many smaller lenders look at this as a market opportunity – if the big lenders don’t want these loans anymore there won’t be any competition on them.  This is true,  LendAmerica carved out a niche just like this when the big lenders cut off loans below a 620 credit score and LendAmerica continued to approve loans down to the mid 500’s.  They were able to make many loans with no competition that fell in this bracket.

At this point he message is clear, although many lender still are not listening – If you have high defaults, HUD will shut you down.  I think when the first round of terminations under the new neighborhood watch initiative happen in late April, Lenders will start to listen.

Its a numbers games, if you have more than 2 times as many defaults as your peers you will be shut down.  If your peers are all limiting credit scores to 620+ and DTIs to 50% or less, what do you think will happen if you don’t?

The Federal Government is having to perform an interesting balancing act to attempt to stabilize the economy but defend against mounting mortgage losses.  In the past month both FHA and FNMA have announced tightening guidelines.  Some of these changes will make it more difficult for many homeowners to qualify for a much needed refinance or to buy a new home.

The actual changes for FNMA have been announced, while FHA has only announced that changes are on the way.  The FNMA changes took effect with the release of their most recent software update, Desktop Underwriter 8.0.

Prior to the changes FNMA’s Desktop Underwriter would routinely accept Debt to Income Ratios as high as 64.99%.  This would mean that a family earning $4,000 PRE TAX could have monthly debts that total $2,599 monthly.  While this allowed many homeowners to purchase larger houses or accumulate considerable debt, it wasn’t ever in the homeowners best interest.

The fact that FNMA uses pre tax income means that with 64.99% going toward debt, it wouldn’t be possible to live.  Let’s take a look at the numbers.

The Debt Counted by FNMA does not include many of the costs of home-ownership and survival.  It only counts mortgage payment, property taxes, hazard insurance, and loans.  This does not include car insurance, electric bill, water bill, food, health care, phone service, or any other expenses of living.

So with our remaining $901 lets assume $200 monthly for Electric, $30 monthly for Water/Sewer, $40 for Phone (Cell or Home, but not both), and Car Insurance $180.

So a homeowner would now have $451 left without ever leaving the house, or eating!  We’ll budget another $300 per month for food and $100 for Gas leaving the homeowner with $51. This doesn’t leave money for cable, oil changes, clothes, home repairs, entertainment, savings, or anything else. 

Why would an agency like FNMA set their computer underwriting system to allow a homeowner to take on so much debt.  Before the computer system was released the maximum debt to income ratio was set around 41% but with the release of DU back in the late 90’s the system has routinely allowed 64.99% of a homeowners income to be spent on debt.  This most recent release sets the maximum back down to 45% which is a much more realistic percentage of income to be spent on debt.

My issue is not with the 45%, I think its a much smarter guidelines.  My issue is all of the homeowners who were allowed to purchase homes using 64% of their income and now if they want to refinance to take advantage of today’s low interest rates they will not qualify.

Additionally, FNMA has raised their minimum credit score to 620, which I think was a smart move.  Most of the large lending institutions had already set a minimum score of 620.  This allowed a group of smaller lenders and brokers to continue offering loans between 580 and 620 with almost no competition. They used this as leverage to prey on homeowners and home buyers and charge exorbitant rates and fees.  With these added fees and higher rates, these homeowners were again set up for failure.

Although FHA has not yet released the actual changes they will make, they have announced that they will be increasing minimum credit scores, increasing down payments, and increasing the monthly cost of FHA Mortgage Insurance Premiums.  Once the new guidelines are released, I will be posting them here.

-With the upcoming HUD changes that may no longer require mortgage brokers to seek approval directly from the FHA, it will become more important for borrowers to independently verify the credibility of any lender they do business with. 

For those of us that meet the new HUD Net-worth Requirements (1,000,000 as of 12/31/2010 and 2,500,000 as of 12/31/2012) we will retain our FHA approval.  Based on the numbers released from HUD only 500 – 600 of the current 13,000+ FHA Approved entities will be able to meet these requirements.  We will still appear on FHA’s website as approved institutions – RP Funding FHA Listing or the new more attractive listing – RP Funding FHA Approval.

Additionally, approval by the Better Business Bureau may become more important.  The BBB maintains a rating for all accredited business that can be viewed online.  You can see RP Funding BBB Rating by visiting the website.

Other factors may include memberships to organizations like MERS, the Mortgage Electronic Registration System, they also publish a profile of the member lenders.  MERS Profile – RP Funding.

As default rates on FHA Loans continue to soar, most lenders have once again raised credit score requirements.  Last year we saw FHA minimum scores set at 580, and now they have been raised to 620.  I think its important to note that FHA is not setting these minimum scores, but the lenders who make the FHA Insured Mortgage Loans.

According to the March 2009 HUD Neighborhood Watch Data, 8.16% of FHA Loans Originated in Florida over the last 2 years are 90 days past due as of December 2008.  This is up from only 1.81% in June of 2006, a 4 and 1/2 times increase.

An additional 11.63% of all FHA Loans in Florida are currently 30 or 60 days past due, but have not yet hit 90 days to be considered “in default”.   

The major FHA Servicers are taking serious steps to try and get defaults under control.  In addition to the new 620 credit score requirements, many have cut off loans originated by mortgage brokers.  We have also seen restrictions on borrowers with no credit scores, reduction in cash out loan to values and restrictions on higher debt to income ratios.

 I am sure there are a few lenders left out there taking FHA Loans under 620 score, but expect to pay a higher rate and jump through a lot of extra hoops to obtain an approval.  If you have a 580 credit score and are trying to buy a home or refinance with an FHA Loan, your best bet is take steps to try and improve your credit score.