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Cascade: No. 69, Fall 2008

Credit Crunch Leads to a Boom For FHA’s Refinance Programs

The Federal Housing Administration (FHA) was founded in 1934 at the height of the Great Depression, a time of foreclosures and declining home values. By insuring lenders against loss in the event of foreclosure, the FHA helped stabilize the mortgage finance market. Over the years, its fortunes have waxed and waned based on economic conditions and other factors in the market. The FHA was created to play this counter-cyclical role, and it is not surprising that in the current subprime and foreclosure crisis lenders and borrowers are once again turning to the FHA.

Up until midway through 2007, the FHA had experienced some lean years. The go-go mortgage market offered borrowers a dizzying array of new mortgage products — subprime, Alt-A, interest only, 80-20, payment option, no doc, stated income, and more — for both purchases and refinances. Seemingly, there was a loan for everybody. The FHA, with its 3 percent cash investment requirement for purchases and full documentation requirement for most loans, was not most borrowers’ first option. Excluding the Home Equity Conversion Mortgage (HECM) program, the FHA’s reverse mortgage program for senior citizens, the FHA’s loan volume in Pennsylvania, New Jersey, and Delaware fell 40.5 percent in 2004, 44.1 percent in 2005, and 3.8 percent in 2006.

In 2007 the FHA started to rebound, with non-HECM or “forward” loans increasing 30.3 percent over 2006 levels in Pennsylvania, New Jersey, and Delaware, and that trend has accelerated. Through July 31, 2008, the FHA had already exceeded its loan volume in this tri-state area for all of 2007 by 43.6 percent. With a full third of the calendar year remaining, the FHA expects to double its 2007 loan volume. This increase is being fueled by increases in purchase loans, the FHA’s traditional bread-and-butter program, but even more by refinance loans. Unlike previous boom years for refinances, however, the increases in 2008 are coming from the refinancing of non- FHA loans — subprime, conventional, and others — to FHA loans.

The FHA offers both cash-out and rate and term refinances for both current FHA loans and non-FHA loans. As the scope of the subprime crisis became apparent during the second half of 2007, the FHA began to look for ways to tweak its refinance programs to meet the needs of those homeowners in financial distress. In September 2007, the President announced the first results of that effort: FHASecure. FHASecure was partly a rebranding of the FHA’s traditional rate and term refinance program for non-FHA loans, but it also included some important new features.

In a change from its previous policy, the FHA allowed unlimited subordinate financing. Previously, the FHA restricted the FHA first mortgage and any subordinate financing to the maximum loan-to-value ratios set in the National Housing Act. In Pennsylvania, New Jersey, and Delaware this meant 97.75 percent of value. Under FHASecure, the FHA first mortgage is capped at 97.75 percent of value, but there is no cap on the combined loan-to-value ratio. The subordinate financing could involve the re-subordination of existing financing or the establishment of new subordinate financing.

The FHA envisioned that borrowers who found themselves “upside down” or “underwater” on their mortgages because of declining home values might negotiate new secondary financing to make up the difference between the FHA first mortgage based on current value and their outstanding indebtedness. The total financing is restricted only by the borrower’s ability to make the combined monthly payments. The FHA also permitted the borrower to add new nonoccupying co-borrowers. For borrowers who had experienced financial problems, this improved their chances of qualifying for the new FHA loan. The FHA also advised underwriters that they could take into account circumstances where borrowers became delinquent on some credit lines in order to keep their mortgage current, as in the case of resets of adjustable-rate mortgages.

The biggest change that came with FHASecure, however, was the authorization to refinance certain borrowers who were delinquent on their existing non-FHA mortgages. Where borrowers had an adjustable-rate mortgage that had reset to a higher rate, and this reset caused a default, borrowers could still refinance to an FHA mortgage provided they had been current for at least six months prior to the reset. The FHA later expanded eligibility to those borrowers who had no more than three late payments on their mortgage in the 12 months prior to the reset.

The results of the new initiative became apparent almost right away. A combination of the publicity surrounding the FHASecure initiative and the disappearance from the market of most subprime and Alt-A mortgage products made FHASecure a popular refinancing option. Through July 31, 2008, the FHA had insured 20,222 FHASecure loans in Pennsylvania, New Jersey, and Delaware totaling $4,299,472,542 in the not quite 11 months since the President announced the program.* These loans represented 51 percent of all FHA refinance loans and over 65 percent of non-FHA to FHA refinance loans in Pennsylvania, New Jersey, and Delaware. By contrast, in 2005 and 2006 combined, the FHA refinanced only 7,454 non-FHA mortgages in the tri-state area. The FHA does not track in its systems what kind of non-FHA loan was refinanced into an FHA loan, and most of these borrowers would likely have qualified for an FHA refinance without the special FHASecure provisions. However, through borrower and lender feedback and spot checks of loan files, it is clear that many if not most of the loans refinanced were high cost loans and adjustablerate mortgages scheduled to reset soon. Thousands of borrowers are saving significant amounts of money each month in payments on their new FHA-insured mortgages.

The top FHASecure lenders in the tri-state area during the brief history of the program are Wells Fargo, Countrywide Bank, National City, Allied Home, and Gateway, but over 500 different lenders have made FHASecure loans. While not only because of FHASecure, the FHA has experienced a significant increase in the number of lenders seeking to become FHA-approved and in the number of already approved lenders substantially increasing their origination of FHA loans.

There is no question, then, that FHASecure does work. Thousands of homeowners in the tri-state area have exchanged expensive loans for the reduced interest rates and security of an FHA loan. Borrowers with sufficient equity remaining in their properties are finding the FHA to be an attractive means to avoid interest rate resets, prepayment penalties, and other restrictive loan terms. Beyond the savings in their monthly payment, these new FHA borrowers will find additional security with an FHA loan should they encounter financial problems in the future.

The percentage of FHA loans that are seriously delinquent (90 or more days past due) has remained within a fairly narrow range over the most recent seven quarters. According to the Mortgage Bankers Association’s most recent National Delinquency Survey, covering the first quarter of 2008, 3.65 percent of FHA loans in New Jersey, 2.75 percent of FHA loans in Pennsylvania, and 3.12 percent of FHA loans in Delaware were seriously delinquent. The comparable figures for subprime loans in these states were 5.04, 5.61, and 4.83 percent. The differences are even more pronounced, however, when looking at foreclosure rates. The Mortgage Bankers Association reported that 3.09 percent of FHA loans in New Jersey, 2.47 percent of FHA loans in Pennsylvania, and 1.85 percent of FHA loans in Delaware were in foreclosure as of March 31, 2008. The comparable foreclosure rates for subprime loans were 11.53, 7.58, and 7.62 percent. The difference is in the FHA’s loan servicing. The FHA provides for a variety of loan servicing tools that lenders must use to prevent foreclosure, and the success rate for these activities is very high.

In addition to outstanding loan servicing, the FHA supports housing counseling both financially and with public events. In 2007 the FHA awarded 32 grants to housing counseling agencies in New Jersey, Pennsylvania, and Delaware totaling $1,407,166. The FHA also conducted two successful “foreclosure clinics,” in Philadelphia and in Newark, N.J., and has participated in numerous other such clinics in all three states. Hundreds of homeowners attended seminars at the Philadelphia and Newark clinics on FHASecure, how to avoid foreclosure, and other topics. Additionally, housing counselors and servicing lenders were on-site to provide one-on-one counseling and to enter into loan workouts to prevent foreclosure. The FHA is also partnering with the Federal Reserve, Freddie Mac, Fannie Mae, and many of the largest mortgage servicers in the HOPE NOW Coalition. HOPE NOW offers homeowners a nationwide 24/7 single point of contact to obtain help with mortgage defaults: 1-888-995-HOPE.

The success of FHASecure and other foreclosure prevention activities notwithstanding, it is equally clear that FHASecure is not reaching significant numbers of the non-FHA borrowers most in distress, those who are delinquent, in foreclosure, or whose indebtedness exceeds the current value of their homes. Through July 31, 2008, lenders identified only 317 borrowers in Pennsylvania, New Jersey, and Delaware as having been delinquent on their non-FHA mortgage at the time they refinanced to FHASecure. Only 10 borrowers in this tri-state area were reported as relying on secondary financing as part of their refinance transaction. Too few borrowers in real financial distress — especially those in foreclosure — can meet even the somewhat relaxed underwriting standards of FHASecure. Nor is there any evidence to suggest that most existing lien-holders, especially subordinate ones, are willing to compromise, re-subordinate, or allow new subordinate financing.

FHA-Insured Loans by Calendar Year
Total 14,004 13,550 1,218 28,772
Home Equity Conv. Mort.* 1,215 1,595 98 2,908
Forward 12,789 11,955 1,120 25,864
 Purchases 9,916 6,115 846 16,877
 Refinances 2,873 5,840 274 8,987
  Non-FHA to FHA 407 1,969 80 2,456
   FHASecure 0 0 0 0
  FHA to FHA 2,466 3,871 194 6,531
Total 16,043 12,576 1,549 30,168
Home Equity Conv. Mort. 2,242 2,852 198 5,292
Forward 13,801 9,724 1,351 24,876
 Purchases 11,345 4,909 1,029 17,283
 Refinances 2,456 4,815 322 7,593
  Non-FHA to FHA 1,383 3,382 233 4,998
   FHASecure 0 0 0 0
  FHA to FHA 1,073 1,433 89 2,595
Total 20,322 17,933 2,131 40,386
Home Equity Conv. Mort. 3,766 3,801 413 7,980
Forward 16,556 14,312 1,718 32,406
 Purchases 11,654 6,016 998 18,668
 Refinances 4,902 8,116 720 13,738
  Non-FHA to FHA 4,069 6,410 624 11,103
   FHASecure 3,172 4,903 460 8,535
  FHA to FHA 833 1,706 96 2,635
Total 26,047 22,666 2,932 51,645
Home Equity Conv. Mort. 2.472 2,298 343 5,113
Forward 23,575 20,368 2,589 46,532
 Purchases 12,764 6,771 1,066 20,601
 Refinances 10,811 13,597 1,523 25,931
  Non-FHA to FHA 8,884 9,718 1,241 19,843
   FHASecure 5,571 5,422 694 11,687
  FHA to FHA 1,927 3,879 282 6,088

* Home equity conversion mortgage (reverse mortgage)
** Through July 31

For these borrowers with seriously impaired credit who are facing foreclosure or whose property values no longer support their loans, the new Hope for Homeowners program may offer a better alternative. Part of the Housing and Economic Recovery Act of 2008 that was signed by the President on July 30, 2008, Hope for Homeowners is an attempt to reach farther into the pool of distressed homeowners than FHASecure. The new FHA refinance program will become effective on October 1, 2008, and will remain available until September 30, 2011. It can serve an estimated 400,000 homeowners. While detailed underwriting guidelines and operating policies must be developed under the auspices of a board composed of the secretaries of HUD and Treasury, and the chairpersons of the FDIC and the Federal Reserve System, it is expected that many more homeowners in foreclosure will be able to qualify. In recognition of the greater risk that these loans will represent, a special insurance fund is established under the Hope for Homeowners legislation to cover any losses that the FHA may incur. Losses on FHASecure loans must be covered by the FHA under its existing insurance funds.

To participate in the program, homeowners must reside in their home and have no ownership interest in any other homes. They must be paying in excess of 31 percent of their monthly income in mortgage payments on a loan that was originated on or before January 1, 2008. Borrowers must also agree to share a portion of any future increases in equity with the FHA. For the lenders, participation is strictly voluntary. They must agree to waive all late fees and other penalties and to accept the proceeds of the new FHA loan as full payment for all outstanding indebtedness. The new FHA loan cannot exceed 90 percent of the current value of the property and must be at a fixed rate with a 30-year term.

The FHA, the mortgage industry, Congress, and others will be watching the Hope for Homeowners program closely. At the very least, it will provide borrowers with one more option to use to try to save their homes.

For more information on FHASecure, Hope for Homeowners, and housing counseling, visit www.fha.gov External Link or call 1-800-CALLFHA.

  • * The total insured mortgage amount for all non-FHA to FHA loans was $6,552,660,225 for an average loan of $211,745. The FHASecure average was slightly higher at $212,614.

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