Loan Modification

FHA ? Not The Only Game In Town

By Peter G. Miller

There’s an ongoing thought that the best way to operate the FHA loan program is to eliminate it, shrink the government, and allow the private sector to exclusively offer mortgage insurance.

This sounds — in theory — great. In the real world, however, the government and private companies have differing levels of risk tolerance.

Some private-sector lenders concocted loan formats during the past decade which lead directly to the mortgage meltdown — can anyone say option ARM, interest-only financing or no-doc loan application? The FHA, being smart, offered no such loans or application options. The result is that the FHA has been able to step in where the private sector faulted.

At the same time, it’s also true that elements of the private sector were equally cautious. Community banks and credit unions rarely offered toxic loans. Private mortgage insurance companies — private sector competitors with the FHA — directly avoided coverage for toxic loans, though some subsidiaries were not. The MI companies actually had a good story to tell; unfortunately their well-respected chief spokesman, Jeff Lubar, passed away this summer.

To see the differences between the FHA loan program and what MI companies can offer, it’s interesting to compare the latest insurance product from the PMI company, a leading and well-regarded private mortgage insurance company.

Since the end of September borrowers have been able to purchase with as little as 3 percent down under a program announced by PMI. That’s less than the 3.5 percent down required at closing by FHA loan guidelines.

The lower down payment will no doubt be attractive to some borrowers, however there are a few caveats to consider.

First, you need a credit score of 720 or above. In comparison, the typical FHA borrower had a credit score of 697 in August — meaning more than half of all FHA borrowers would not qualify for the private product.

Second, a larger percentage of FHA loans are originated to refinance properties. In August, 86,569 FHA loans were used to purchase real estate while 104,652 went for refinancing. However, the PMI product is restricted to new home purchases.

Third, you can get an FHA mortgage anywhere — even in the middle of the worst foreclosure ZIP code you can find. The PMI program is restricted, however, and allows underwriting in “non-distressed markets only.”

Fourth, and last, with the FHA program you can get financing for a property with one to four units, providing that one is owner-occupied. The PMI program is limited to individual units.

While the PMI program offers a lower downpayment in some circumstances, the program is limited. Large numbers of FHA borrowers would not qualify.

You can see this is in several ways:

___ PMI is entirely right to have program standards which limit risk. That’s the right approach for an insurance plan.

___ Those who yammer about privatizing the FHA should explain to the public that many potential borrowers will no longer qualify for mortgage insurance.

___ If the housing market continues to be troubled then some of the standards established with the PMI 97 percent program might well be adopted by the FHA.

Full post as published by FHA Mortgage Guide on October 06, 2010 (boomark / email).