Last week we spoke about FHA loans, how they work, and what is required to use an FHA loan to purchase a home. In my view, the FHA loan is a great way for anyone to get into a home, especially those with little down. The money you use as your down payment can even be a gift from a relative.  If you want to take advantage of low pricing in the housing market but just can’t get over the hump of the required down payment, an FHA loan and a relative with a little cash in their bank account may be your answer. But you may want to make your move sooner than later if you are serious about getting an FHA loan. Side note — if you are a local and looking to get a Utah FHA loan, let me know and I will email you the loan limits and other factors that you will want to consider.

The CATO Institute published a Briefing Paper today related to the challenges that are staring the Federal Housing Administration (or FHA) in the face in the next couple of years. I have written here before that the agency is nothing more than a mortgage insurance company that is part of the Federal Government. The money for your FHA loan still comes from the bank that is extending you the mortgage. When a homeowner defaults on a FHA loan, the government pays the bank for the deficiency amount.

During the housing boom, FHA loans were seen as most mortgage originators (including me) as the option for people with poor credit scores and little money down. As a result, many subprime loans were pushed into FHA loans. According to the report published by the CATO Institute, in 2007 61.73% of FHA loans were subprime. Luckily in 2010 that percentage has decreased to 16.09%. As a result, the FHA has been required to pay a ton of money out during the housing downturn. One cause of this was the low down payment that was required for FHA borrowers.

If the FHA experiences a cash crunch, the U.S. taxpayer is required to make up the difference, which means yes, another bailout. Most people are projecting that the bailout amount will total in the billions of dollars. The defaults are only part of the equation — the report also claims that the fees charged by the FHA do not cover the administrative cost of running the agency. If the fees for the administrative costs are passed on to the borrower, then FHA loans would be much more expensive. The challenge is that the FHA cannot continue on the financial path that it is currently following. Changes will be made in both underwriting guidelines and the amount it costs a borrower to close a FHA loan.

The report advocates the following changes to guidelines that will impact the borrower:

• Instead of 3.0% down, increase the required down payment to 5.0% for borrowers with a credit score of 680+ to decrease the default rate.
• Require a minimum credit score of 600 for all FHA borrowers. If you credit score is between 600 and 679, your required down payments will be 10.0%.
• Change the debt to income ratios to be more restrictive, meaning you will be eligible for less of a loan amount through FHA loans.
• Require pre-purchase counseling for borrowers with credit scores between 600 and 679.

The bottom line on all of these suggested changes is improve your credit score if you are looking to purchase a home anytime soon. The report also suggests the following policy changes that would impact the banks that extend you credit:

• Reduce the amount of mortgage insurance coverage from 100.0% of the loan value to 80.0% immediately. Over time, decrease that coverage to 50.0%.
• Require lenders to buy back any loans that default within the first six months of closing.
• Require the lender use FHA appraisal boards.

While I think some of these items are a good idea, they will change the structure of new FHA mortgages. Remember these are not changes being made by the FHA, just suggestions from a political think tank in Washington DC. But I do think they are part of the discussion at the FHA and warrant consideration as you are looking to time the purchase your new home. For my local readers, if you are looking to get a Utah FHA loan, you may think about making that purchase sooner than later. While the FHA is not bound to make changes suggest to them by the CATO Institute, they need to make changes to continue to survive financially. There will be changes in the next 12 months to guidelines that govern who can get an FHA loan and policy related to banks and lenders. You better believe that as the borrower, you will pay the price.

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Buy a Home in Utah
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