FHA Risk-Based Premiums
June 8, 2006
Real Estate Finance Committee
HousingOpportunity Committee
Federal Issues Committee
The following is for study only and has NOT been approved by the Board of Directors.
Issue: In May, 2006, C.A.R. leadership supported the recommended position from the Real Estate Finance Committee’s leadership, that C.A.R. “SUPPORT” legislation to allow the Federal Housing Administration (FHA) to set their mortgage insurance premiums using risk-based pricing, so long as the legislation includes:
-- Increasing the FHA loan limits to 100% of the conforming loan limit
-- Insuring zero down mortgages, and
-- Insuring 40 year mortgages.
Because NAR’s Federal Housing Policy Committee was scheduled to take policy on this issue at the NAR May business meetings, C.A.R. leadership felt it was important for C.A.R.’s NAR Directors to have clear direction prior to those meetings. Action: Due to the timing of the new issue, policy was taken between C.A.R.’s regular business meetings and without discussion by the full Real Estate Finance Committee’s membership. This paper is intended to notify, inform, and allow the full Committee to discuss the issue and the policy taken by C.A.R.’s leadership and the NAR Board of Directors.Options:
1. Accept policy taken by REF Committee leadership and C.A.R. leadership.
2. Take an “OPPOSE” position.
3. Take a “NEUTRAL” position.
4. Take a “Not Real Estate Related” position.Background: Representative Robert Ney (R-OH) has introduced H.R. 5121, the Expanding American Homeownership Act, to reform the FHA mortgage insurance program. The FHA was created in 1934 as a way to ensure that lenders wouldsupply the home buying market with capital. The FHA helped to expand homeownership to low- and moderate-income home buyers and has since insured over 33 million properties. The FHA is a self-sustaining program in thatit charges a premium to cover its risks and operating expenses. The FHA’s current portfolio is comprised of 79% first-time home buyers, 35% of which are minorities.Status/Summary: In 1999, the FHA insured approximately 127,000 homes bought in California. In 2005 that number dropped to roughly 5,000. H.R. 5121 would significantly reform FHA insurance to stop the hemorrhaging of market share, not just in California, but across the country. Additionally, the bill will attempt to expand the FHA’s reach into the subprime market. The reforms proposed include:
-- Increasing the FHA insurable limits. Currently, the FHA insures 95% of an area’s median home price with a ceiling of 87% of the conforming loan limit ($362,790) and a floor of 48% of the conforming loan limit (not applicable in California). The legislation would increase the FHA limit to 100% of an area’s median home price capped at 100% of the conforming loan limit ($417,000), with a floor of 65% of the conforming loan limit ($271,050).
-- Making it so that condos are insured in the same manner as single-family homes.
-- Allowing for the coverage of zero-down loans. Currently, the FHA may only insure loans with a minimum of three percent down.
-- Allowing the FHA to insure 40-year mortgages.Lastly, H.R. 5121 will allow the FHA to set its insurance premiums by risk. Under current law the FHA is limited to 2.25% upfront and .5% annual renewal premiums (the annual renewal premium is added to the monthly mortgage payment of the home buyer). The FHA currently charges a 1.5% upfront premium and .5% annual renewal premium. Under H.R. 5121, the FHA will balance the mortgage terms and borrower’s finances when calculating the upfront and monthly premiums. This means taking into consideration the income, assets and financial profile of the borrower aswell as the loan-to-value (LTV), loan period, fees and amortization schedule of the loan product. Presumably, this should allow the FHA to tailor products to borrowers’ specific financial circumstances. An example is a borrower with a small amount of cash to put down on a mortgage, but shows a strong monthly income. For this home buyer, the FHA may charge a lower upfront premium but with a higher annual renewal.Arguments in favorof risk-based pricing:
-- Will bring the FHA up to date.
-- Will allow the FHA to reach borrowers it can’t presently serve.
-- Will lower the cost on home buyers with good credit, reducing their risk of default.
-- Will reduce costly 80/20 loans.
-- Will increase competition and lower prices by allowing the FHA into areas of the market presently dominated by private mortgage insurance (PMI).
-- The legislation allows the premiums to be adjusted during the loan, so as borrowers increase their equity and show a history of on time payments, premiums may be reduced.
-- These changes will allow the FHA to insure home buyers who would otherwise only be able to get a sub-prime loan. This will potentially save home buyers thousands of dollars over the life of a loan.
-- The FHA will be able to take advantage of the existing PMI market which uses risk-based premiums to ensure it sets appropriate levels to cover its risk.
-- Because the FHA has no shareholders or growth requirements, it can take more risk and cover borrowers for less then PMIs.
-- Risk-based pricing will help the FHA to compete and increase its market share to traditional levels. This will ensure the FHA’s continued viability and role in America’s housing market.Arguments against risk-based pricing:
-- Under the current FHA system, borrowers with poor credit pay the same premium as borrowers with better credit. This allows the FHA to share the risk evenly among all borrowers and allows borrowers with poor credit to pay a lower premium than they normally would. Under the proposed legislation borrowers with poor credit will have to pay more, thus reducing their purchasing power and increasing their rate of defaults.
-- Borrowers with lowerdown payments will likely be priced higher.
-- The FHA could wind up mirroring the private market instead of focusing to help the low- and moderate-income home buying market. This could raise the cost of buying a home for people who can least afford it.
-- In theory, HUD would have the authority to raise premiums to predatory levels without any statutory limits.
FHA Comparative Example of Risk-based Pricing
Mortgage
Comparison | Prime
Conventional
Standard MI
(660 FICO | FHA Risk
Based
Premium
(-575 FICO) | Sub prime
High Cost
(-575 FICO) |
| Purchase Price | $225,000 | $225,000 | $225,000 |
| Mortgage Amount | $200,000 | $206,000 | $200,000 |
| Mortgage Interest Rate (Fixed) | 6.500% | 6.500% | 9.500% |
Upfront Mortgage Insurance
Premium (MIP) | NA | 3.000% | NA |
| Annual MIP | 0.520% | 0.750% | NA |
Monthly Principal, Interest, and
MIP Payment | $1,351 | $1,427 | $1,682 |
NAR Chart
Home
Price |
FHA loan
|
Down
Paymt
|
FHA
fee
| Other
closing fee | Cash
at
closing |
Loan
amount
|
Mrtg
rate
|
Monthly Mrtg
|
Lifetime
Interest
| Lifetime
total
payment |
$200k | old | 6,000 | $3,000 | $3,000 | $12,000 | $194,000 | 6.50% | $1,226 | $241,436 | $441,436 |
$200k | high risk 30-year | $0 | $4,500 | $3,000 | $0 | $207,500 | 7.00% | $1,381 | $296,981 | $496,981 |
$200k | high risk 40-year | $0 | $4,500 | $3,000 | $0 | $207,500 | 7.00% | $1,289 | $418,946 | $618,946 |
$200k | med risk 30-year | $0 | $3,000 | $3,000 | $0 | $206,000 | 6.75% | $1,336 | $281,000 | $481,000 |
$200k | med risk 40-year | $0 | $3,000 | $3,000 | $0 | $206,000 | 6.75% | $1,243 | $396,599 | $596,599 |
$200k | low risk 30-year | $0 | $1,500 | $3,000 | $0 | $204,500 | 6.50% | $1,293 | $265,328 | $465,328 |
| $200k | low risk 40-year | $0 | $1,500 | $3,000 | $0 | $195,00 | 6.50% | $1,197 | $374,684 | $574,684 |
$200k | subprime 5% down | $5,000 | $0 | $3,000 | $8,000 | $195,000 | 9.50% | $1,640 | $587,040 | $787,040 |
$200k | Subprime no down | $0 | $0 | $3,000 | $0 | $203,000 | 9.50% | $1,707 | $619,328 | $819,328 |
proposed risk-based pricing was Stella Adams from the National Community Reinvestment Coalition.While there is very little time left during this session of Congress, Secretary of HUD Alphonso Jackson has statedhe will put his full weight behind ensuring H.R. 5121
passes prior to the end of this Session.NAR Position: At NAR’s May Business Meeting, the Federal Housing Policy Committee took the following position, “That NAR support risk-based pricing for the FHA mortgage insurance program.”C.A.R. Policy: C.A.R.’s leadership and Real Estate Finance Committee leadership have taken the position, That C.A.R. “SUPPORT” legislation to allow the Federal Housing Administration (FHA) to set their mortgage insurance premiums using risk-based pricing, so long as the legislation includes:- Increasing the FHA loan limits to 100% of the conforming loan limit,
- Insuring zero down mortgages, and
- Insuring 40 year mortgages.
