Loan Modification

Will The FHA Spigot Be Closed Off?

By Peter G. Miller

Will borrowers be denied FHA loans because of changing lender standards? Not FHA standards, but instead the standards used by lenders who are then insured by the FHA when they originate mortgages.

Nathan Reynolds writes and says that “when my office began offering low ?fixed? rate FHA mortgages we successfully provided relief to 100?s of homeowners. I know this for a fact because by tracking the loans we have originated, there is less than a 3% default rate for a period of almost 3 years now.

“March 15th 2008 almost every lender started requiring Fico scores of a minimum of 580. And now that has minimum score requirement has risen to a 620 Fico score and even this score comes with risk based hits to the yield spread premium thus making the lowest rates unattainable.

“I recently spoke at a Foreclosure Education Summit and had the opportunity to speak with a representative from HUD who informed me she wouldn?t be surprised if lenders increased the minimum to a 680 Fico before years end!”

Judging from various email and comments I have read, I suspect that other loan officers have seen the same trend, the idea that basic FHA requirements are increasingly deemed inadequate by lenders, thus resulting in the denial of loans to otherwise-qualified borrowers.

If you think about this you can see an oddity here: Under the FHA program lenders have no real risk — if a borrower defaults the lender’s loss on the principal is fully covered. For this reason you could say that lenders have no reason to tighten the standards beyond FHA minimums.

The catch is that lenders do have risk if it is found out that they originated FHA loans that did not actually meet FHA requirements. In May, for example, HUD announced that it had taken ”actions against more than 120 lenders for violating FHA requirements. Violations range from failure to conduct sufficient quality control, to failure to continue to meet FHA recertification requirements, to falsifying loan documents.”

Among the lenders cited, HUD says that “102 lenders had their FHA approval withdrawn, five lenders agreed to make indemnification payments to FHA totaling more than $500,000, and 24 lenders were accessed fines or administrative costs totaling more than $1.2 million.”

In other words, one reason why lenders may be looking for higher FICO scores beyond FHA loan guidelines is not because they want to make things harder for borrowers, not because they want to raise interest rates, but because they want to make sure that loan officers and underwriters follow FHA standards.

In today’s world, if you’re a lender and you’re dumped from the FHA program you have lost the ability to offer one of the most appealing and successful loan products now available. That makes it a lot tougher to be a lender.

Are lenders right to tighten standards? The answer is yes given the abuses seen in the private sector during past decade.  Unfortunately, borrowers — as usual — as the ones who will suffer.

Full post as published by FHA Mortgage Guide on July 06, 2009 (boomark / email).