As private mortgage lending all but dried up over the past year, the federal government swooped in and repositioned the Federal Housing Administration’s (FHA) insured-mortgage program to pick up a lot of slack. For those who aren’t familiar, the FHA program allows folks with middling credit scores and little down payment to qualify for a loan. However, borrowers must pay an upfront mortgage insurance fee of about 1.5% of the loan amount as well as an ongoing annual fee of 0.5% each month.
Over the past year more than one-third of new mortgages are FHA-insured loans, compared to less than 3% at the peak of the real estate bubble. Moreover, in recent Senate testimony the inspector general for Housing and Urban Development said FHA-insured mortgages accounted for about 70% of loan biz in the first quarter. One of the big drivers of the increased FHA presence is the move that raised FHA-insured loan limits to as high as $729,750 in certain high cost markets. That made the program a viable option for plenty more borrowers.
But rather than a glowing example of how the federal government can step in and boost an ailing financial market, there’s growing concern that the massive role taken by FHA to buoy the ailing mortgage market, could in fact lead to yet another taxpayer bailout.
It turns out that a whole lot of borrowers getting FHA-insured loans can’t make the payments. At the end of February about 7.5% of FHA loans were “seriously delinquent;” up from 6.2% a year ago. (Seriously delinquent = 90 or more days overdue.) Not surprisingly, the reserve fund FHA keeps handy to cover bad loans has been seriously eaten into over the past year: it is down to about $13 billion today, compared to $21 billion a year ago.
This past Thursday, HUD inspector general Kenneth Donohue conceded that the trend is not encouraging. Asked about the prospect of a taxpayer bailout, Donohue sidestepped making a prediction but did say: “Based on the numbers we’re seeing, I think it’s going in the wrong direction,” he said.
And it’s not too hard to see why. In theory-and in practice for many years-the FHA program helps folks who wouldn’t otherwise be able to afford a home, make the purchase. But the very structure of FHA-insured loans makes them a potential landmine in a economy where job security and home values are sinking. You can have a crappy credit score of just 600 or so and qualify for an FHA-insured loan at the same low interest rate that private lenders typically reserve for borrowers packing 740+ scores. And you need only a 3.5% down payment for an FHA-insured loan.
While that’s slightly more than the zero-down loans pushed by sub-prime lenders during the bubble, it’s nowhere near the 10%-20% private lenders are now requiring as insurance that borrowers have enough skin in the game to stay in the game amid declining home values. Add in the fact that the new higher loan limits make FHA-backed loans a suddenly viable option in many pricier regions and you’ve got yourself a potentially toxic brew. And as we all know, when it comes to toxic assets, it’s the taxpayer who ends up paying.
– Carla Fried
Correction: An earlier version of this post said the ongoing fee was 0.5% each month; it is an annual fee.