The Federal Housing Administration (FHA) was born in the most challenging of economic times. Established in 1934 to combat the rising foreclosure rates of the Great Depression, FHA is experiencing newfound relevance in the turbulence of today’s mortgage crisis. The 21st century goal of FHA, as it was in the 1930s, is to help bring about economic change and offer a more secure future for homeownership. However, this is not your grandfather’s FHA.
 
FHA–A BRIEF HISTORY
FHA was established by the National Housing Act of 1934. In its role as an insuring agency, FHA allowed lower-income households to purchase homes for little money down and provided lenders with sufficient mortgage insurance to reduce the rising foreclosure rates of the Great Depression. In the 1960s, when FHA became part of the Department of Housing and Urban Development (HUD), FHA began subsidizing interest rates and created rent supplement programs. During times of inflation in the 1970s, FHA played a key role in the survival of the private apartment industry.

In recent years, however, the market has seen a decline in FHA residential lending. Between 2000 and 2004, FHA’s market share decreased and conventional and subprime shares increased. FHA’s share of total outstanding mortgage debt dropped from 20 percent to nine percent between 2000 and 2004, while the conventional loan share increased from 69 percent to 76 percent, and the subprime share increased from two percent to 11 percent. FHA’s market share loss is attributed to a number of factors: a loosening of conventional underwriting guidelines, an increase in subprime lending, inflexibility in FHA products, such as the lack of a zero-down program, and cumbersome FHA processing requirements–some of the very characteristics held to blame for the nation’s current credit woes.

During the past two years, the United States has experienced a major meltdown in the mortgage industry, particularly in the subprime lending arena. Once again, Americans are faced with the uncertainty experienced during the 1930s, and Congress is looking to FHA to assist in the recovery. This article highlights some of the legislation enacted during the past two years and the changes that FHA has made in an effort to achieve these objectives.

INITIAL FORECLOSURE PREVENTION EFFORTS

Between 2007 and 2009, an estimated 2.3 million adjustable rate mortgages (ARMs) will reset, substantially increasing repayment requirements and almost certainly resulting in mass mortgage delinquency and foreclosure. On August 31, 2007, President Bush issued a statement on homeownership financing. He urged Congress to modernize and improve FHA and announced that FHA would be introducing a new program called FHASecure. He also spoke about federal tax code reforms to make it easier for homeowners to refinance, a new foreclosure avoidance initiative and improved disclosures for consumers through stronger regulation. The Mortgage Forgiveness Debt Relief Act of 2007 was later passed in an effort to help homeowners avoid foreclosure by protecting them from taxes on debt forgiveness income created by a modification or refinance of certain debts on their primary residence from January 1, 2007 to January 1, 2010. Further progress was made when, pursuant to the Economic Stimulus Act of 2008, FHA was authorized to temporarily raise loan limits through the end of 2008, thus allowing more homeowners to purchase and refinance their homes.  Loan limits were raised again on a permanent basis, effective January 1, 2009, with the passage of the FHA Modernization Act of 2008, which was part of the Housing and Economic Recovery Act of 2008 (HERA).

 

On September 5, 2007, FHA issued Mortgagee Letter 2007-11 announcing the details of the FHASecure initiative. This temporary program was designed to assist non-FHA borrowers who became delinquent as a result of their ARMs resetting to a higher interest rate/payment.  Through FHASecure, qualified borrowers are given the opportunity to refinance into a prime-rate FHA mortgage. The program requires that interest rates must have or will reset between June and December of 2008. Borrowers must meet the normal underwriting criteria and have sufficient employment history and income to be able to make the new loan payment. If there is not enough equity to pay off the existing liens and costs, the lender can provide secondary financing to pay the difference as long as the borrower qualifies for both payments.  The combined new liens may exceed the loan-to-value (LTV) ratio and geographical maximum mortgage amount. On May 7, 2008, FHA issued Mortgagee Letter 2008-13 expanding FHASecure to allow certain delinquent payments prior to reset due to extenuating circumstances. The expansion is effective for case numbers assigned from July 14, 2008 to December 31, 2008; however, HUD is working with the White House budget office to extend the program beyond 2008.  Originally, FHA estimated that FHASecure would benefit 240,000 borrowers. According to HUD Commissioner Brian Montgomery, the program has helped 375,000 borrowers to date.

The following options may be available for borrowers who do not have enough equity to refinance through the FHASecure program: the existing lien holder may agree to write off a portion of the debt; secondary financing may be available to pay the difference; the lien holder may agree to modify or re-subordinate an existing lien; or the borrower may be able to utilize nonprofit state or local rescue programs. 

Beyond FHASecure, on August 14, 2008, FHA issued Mortgagee Letter 2008-21 announcing the following changes to its existing loss mitigation program to further assist borrowers facing foreclosure:

1. Mortgagees may use the Treasury 10-year constant maturity as a basis for calculating the maximum mortgage amount for a loan modification. 

2. Legal fees and foreclosure costs related to a canceled foreclosure action can be incorporated into the loan modification or partial claim under certain conditions. 

3. When establishing a loan modification, mortgagees may include all payments due plus one additional month’s payment.

In Mortgagee Letter 2008-27, FHA reminded mortgagees that failure to engage in loss mitigation efforts could result in an assessment of treble damages in civil money penalties.  Information was provided on HUD’s National Servicing Center, which assists mortgagees in complying with loss mitigation evaluation. In order to avoid treble damages, mortgagees must:

1. Ensure that the loss mitigation evaluations are completed for all delinquent mortgages before four full monthly installments are due and unpaid;

2. Ensure that the appropriate action is taken based on the evaluations; and

3. Maintain documentation of all initial and subsequent loss mitigation evaluations and actions taken.

THE RISK-BASED PRICING SAGA

With the goals of better serving previously underserved borrowers and protecting its future financial soundness, in 2008 FHA announced a risk-based mortgage insurance premium (RBP) structure.  This proved to be a short-lived change; later in 2008, HERA imposed a moratorium on RBP pricing. 

The RBP structure was announced in Mortgagee Letter 2008-16 on May 13, 2008, with an effective date of July 14, 2008. Prior to this, the Upfront Mortgage Insurance Premium (UFMIP) was 1.50 percent with a 0.50 percent annual renewal premium for most programs.  FHA contended that the historical one-size-fits-all structure was no longer sustainable, because it penalized lower-risk borrowers (those with higher credit scores and lower LTV ratios) while allowing higher-risk borrowers (those with lower credit scores and higher LTV ratios) to pay a lower premium relative to risk. They reasoned that if a larger number of higher-risk borrowers were able to obtain financing through FHA, those borrowers would not need to resort to subprime financing. The cost of FHA financing, even at the higher premium, would still be less than other alternatives. FHA would be able to serve a larger market base and the declining housing market would benefit.

Under the RBP structure, lower-risk borrowers with a LTV ratio equal to or less than 90 percent were charged 1.25 percent UFMIP with annual renewals of .50 percent.  Higher-risk borrowers with an LTV equal to or less than 90 percent were charged up to 1.75 percent UFMIP with annual renewals of .50 percent. Changes were allowed on an annual basis effective the following year. 

 

HERA was signed into law on July 30, 2008, and included comprehensive reforms to address the declining housing market. Notably, under Section B Title 1 of the FHA Modernization Act of 2008 (part of HERA); FHA was prohibited from continuing the RBP program for 12 months beginning October 1, 2008. RBPs based on the borrower’s credit score were also prohibited.  Suspension was deemed appropriate as opponents had argued that it placed too great a burden on lower-income borrowers, which would undermine other efforts to promote FHA lending. HUD issued a Notice on September 3, 2008, along with Mortgagee Letter 2008-22 on September 4, 2008, announcing a moratorium on RBPs in accordance with this legislation.  Instead of going back to the previous premium structure (the one in effect prior to July 14, 2008), however, UFMIP is now calculated based on the following:

1. Purchase Money Mortgages and Full-Credit Qualifying Refinances: 1.75 percent

2. All Streamline Refinances: 1.5 percent

3. Delinquent FHASecure Mortgages: 3 percent

The annual premium is either .50 percent or .55 percent depending on LTV and mortgage term. Borrowers with decision scores less than 500 must have an LTV less than 90 percent to qualify for financing. For complete pricing information, refer to FHA Mortgagee Letter 2008-22. FHA will issue another notice at the end of the moratorium with the structure that needs to be implemented at that time.



NEW CALCULATION REQUIREMENTS

The FHA Loan Underwriting and Transmittal Summary (form HUD-92900-LT) was released on May 22, 2008, through Mortgagee Letter 2008-15. The new form replaces the Mortgage Credit Analysis Worksheets (MCAW), forms HUD 92900-WS and HUD 92900-PUR. Lenders must still calculate and document the maximum mortgage amount.  The FHA Modernization Act of 2008 changed the minimum down payment amount from 3 percent to 3.5 percent and prohibited seller-funded contributions, or contributions from any other person or entity that financially benefits from the transaction, as of October 1, 2008. As a result of the minimum down payment change, traditional maximum mortgage calculations (as found on the MCAWs) became obsolete. FHA issued guidance on revised down payment and maximum mortgage requirements. The following stipulations apply as of January 1, 2009:

1. Closing costs cannot be included in the 3.5 percent down payment calculation on purchases.

2. The total LTV on purchases is 96.5 percent of the lesser of the appraised value or adjusted sales price, and excludes UFMIP.

3. Government subordinate liens combined with an FHA first mortgage are not limited to a CLTV of 100 percent.

4. On refinance and FHASecure transactions, the LTV is calculated by dividing the loan amount, before adding UFMIP, by the appraised value.  The result must not exceed 100 percent of the appraised value.

Despite these changes and the FHA guidance, there is great confusion in the industry about the new down payment and maximum mortgage requirements. FHA is aware of this and has agreed to issue another mortgagee letter to clarify these calculations. Additional changes may be made at that time, so watch for these important developments.

HOPE FOR HOMEOWNERS

Hope for Homeowners (H4H) is a temporary and voluntary FHA program that was introduced in HERA. The purpose of H4H is to strengthen and stabilize the mortgage industry and assist homeowners in avoiding foreclosure by reducing their principal balance and interest rate.  Congress set aside $300 billion to be used for the program. FHA is authorized to insure H4H loans from October 1, 2008-September 30, 2011, and estimates being able to help 400,000 homeowners avoid foreclosure. The Board of Directors of the H4H Program created requirements and established standards through Final Rule 73 FR 58417 on October 6, 2008, and on October 1, 2008, FHA issued Mortgagee Letters 2008-29 and 2008-30.

 

Through H4H, eligible homeowners can obtain a 30-year, fixed rate FHA mortgage at 90 percent of the appraised value, not to exceed the current national maximum mortgage limit of $550,440.  Any outstanding mortgages are voluntarily written off by the lien holder(s). The UFMIP is set at 3 percent of the base loan amount with an annual premium of 1.5 percent paid on a monthly basis. The closing costs can be paid by the following:

• The borrower;

• The servicer, lender, and/or a third party (such as a state or local government program);

• Premium pricing charged by the lender; or

• Financing it in the loan.

The borrower cannot take out any subordinate financing for five years unless it is for property maintenance under certain criteria. The borrower must agree to share a portion of the initial equity with HUD and up to 50 percent of any future appreciation when the property is sold or disposed. Subordinate lien holders who have written off more than $2,500 are eligible to receive a share of HUD’s future appreciation interest. Success of the H4H program will depend on the willingness of lenders to take loss in order to avoid foreclosure and REO costs.

 

HOPE FOR HOMEOWNER’S BASIC BORROWER ELIGIBILITY CRITERIA

1. Eligible homeowners must have not intentionally defaulted on their mortgage or other debt, and must have made at least 6 monthly payments during the life of the existing senior mortgage.

2. The property must be the borrower’s primary residence and they may not have ownership interest in other residential real estate.

 

3. The borrower cannot have been convicted of fraud in the past ten years, and they must certify that they did not knowingly or willfully provide material false information.

4. As of March 1, 2008, the borrower’s monthly debt-to-income ratio on all existing mortgages must be greater than 31percent.  The new debt-to-income ratios include a 31 percent housing ratio and a 43 percent total debt ratio.

5. If there is a 3-month trial modification period prior to the loan application, extended ratios of 38 percent housing and 50 percent total debt can be used.

6. The mortgage being refinanced must have been originated before January 1, 2008.

7. The senior and subordinate lien holders must be willing to waive prepayment penalties and late fees, and be willing to release the outstanding mortgage liens.

SUMMARY

The subprime mortgage crisis (which grew into the wider credit and liquidity crises) and subsequent decline in the housing market has prompted Congress to once again look to FHA to help stabilize the housing industry and assist homeowners who are facing foreclosure.  Legislation has been enacted to protect homeowners from paying taxes on mortgage debt forgiveness, raise FHA lending limits, promote loss mitigation through FHASecure and the Hope for Homeowners Program, and to limit any negative effects of proposed risk-based pricing of UPMIP during this volatile time. According to the Mortgage Bankers Association, mortgage applications for government-insured loans (primarily FHA loans) have tripled in the past year, going from 8.4 percent in July 2007 to 29.1 percent in July 2008. All of these developments present new opportunities for lenders to engage in FHA lending.

 

A return to the FHA’s traditional lending standards is not nostalgic. It is a necessary response to keep the life blood of our markets–credit–moving. In this sense, the FHA will play a pivotal role in our economic recovery, just as it did during the Great Depression.

 

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