Expect tougher FHA mortgage loans due to rising risk of default

a sign advertising FHA home loans

FHA mortgage insurance will get more expensive because rising delinquencies and foreclosures have depleted FHA reserves. The TruthAbout/Flickr photo.

Federal Housing Administration mortgages saved the housing market from total collapse when the housing crisis emerged in 2007. The FHA virtually eliminated barriers to entry into the housing market to keep mortgage lending from completely drying up. FHA mortgages became so popular that today they make up nearly a third of the mortgage market. But risks and delinquencies from those loans are rising. And The FHA’s reserve funds used to cover losses when borrowers default or go into foreclosure are shrinking. To protect those reserves, the easy terms of an FHA mortgage are about to change.

FHA mortgage insurance takes a big hit

FHA mortgages weren’t a factor in the housing crisis, but its lax standards for mortgage insurance are a problem now. The Real Estate Channel reports that the FHA said 6.2 percent (about 360,000 loans) of the entire insured FHA mortgage portfolio had been issued to homebuyers with FICO scores lower than 500. More than 37 percent of these loans are now at least 60 days delinquent, in foreclosure or in bankruptcy. During the housing crisis, the FHA helped 450,000 families keep their homes out of foreclosure in fiscal year 2009. In the first quarter of 2010, the FHA helped another 122,000 families. The Office of Comptroller of the Currency and the Office of Thrift Supervision said 67 percent of these modified FHA mortgages were in default again within 12 months. The number of FHA mortgages delinquent more than 90 days climbed to 555,000 in May 2010.

Depleted FHA reserves force tougher terms

Because of soaring loan delinquencies and defaults, the FHA is taking actions to protect its Capital Reserve Account, which had dwindled to $3.5 billion by 2009, compared to a $19.3 billion balance on Sept. 30, 2008. SmartMoney.com reports that last week the Senate passed a bill that allows the annual insurance premium to increase on FHA mortgages. The FHA is also considering a minimum credit score of 580 to qualify for the 3.5 percent down payment. Borrowers with a credit score between 500 and 580 will have to make a down payment of at least 10 percent.

New FHA mortgage loan requirements

New FHA mortgage loan requirements will go into effect in Sept. 2010. Chicago77 reports that they may place home ownership out of reach for buyers who just squeak by. Under the new structure, FHA requires a borrower to pay an upfront mortgage insurance premium calculated at 1 percent of the loan amount. The good news is that this is down from the 2.25 percent currently required. The bad news is that the monthly figure will increase from 0.55 percent annually to 0.90 percent annually. As an example, Chicago77 examines a $150,000 home purchase:

Before Sept. 7 2010

Upfront Premium (2.25 percent): $3,256.88
Monthly payment including mortgage insurance: $793.93

On or after Sept. 7 2010

Upfront Premium (1.00 percent): $1,447.50
Monthly payment including mortgage insurance: $826.93

Net changes

Upfront cost: Decreased by $1,809.38
Monthly cost: Increased by $33.00

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