Loan Modification

It?s time to lower FHA loan limits

By Peter G. Miller

FHA loans remain available in a super-sized format, an effort to help housing sales in high-cost areas. The intent is good, but big mortgages are not the core purpose of the FHA program — and they represent excess risk.

According to the FHA’s own history, The FHA Story In Summary, an original purpose of the program was to provide “mutual mortgage insurance on homes and low-cost housing. This was the heart of the program. It was intended to be permanent. Government insurance was offered to attract money into the field of home financing. The mortgages insured were to be made on realistic terms — loan-value ratios up to 80 percent, maturities up to 20 years, amortization by monthly payments.”

In addition, the FHA also said this about its origins:

“The FHA was not set up to protect lenders by insuring transactions too risky for conventional loans. On the contrary, its mission was to lead the way in placing home financing on a sound basis. Only first mortgages would be insured. The insurable amount would be related to an adequate appraisal of the property but could not exceed $16,000. The loan would be amortized by periodic payments within the borrower’s reasonable ability to pay. Interest could be not more than 5 percent, or up to 6 percent if the market demanded it.”

While the ideas about interest seem right — at least for the moment — loans sizes and the concept of risk have changed. The result is a need for change.

For 2011 FHA loan limit for a single-family house in a higher-cost area is $729,750. Financing for as much as $1,403,400 is available for a property with four units provided the borrower lives in one.

Meanwhile, the typical house sold for $168,800 in December according to the National Association of Realtors. The Federal Housing Finance Agency says in November the typical home value nationwide was “14.9 percent below its April 2007 peak and roughly the same as the August 2004 index level.”

The higher FHA loan limits established at the end of 2008 are effectively a benefit aimed largely toward the upper-class in big cities.

That’s fine and not necessarily something evil or bad. The problem is that the FHA is an insurance program and the home values before the mortgage meltdown do not seem to be returning with any speed in most markets. Lower values, in turn, are a real threat to any mortgage insurance program.

What to do?

Lowering the loan limit is not an attractive option. However, a somewhat higher FHA mortgage insurance premium for coverage above $417,000 for a single-family home seems well justified.

Private-sector lenders should love this idea because it makes them more competitive at the high-end of the marketplace. No less important, the FHA should love this idea, a way to increase premium income while sticking with the historic intent of the program.

Full post as published by FHA Mortgage Guide on February 02, 2011 (boomark / email).