Changes Aim to Shore Up FHA, But Bailout Still A Possibility
Homeowners aren't the only ones feeling the pain from the troubled housing market. The Federal Housing Administration has seen a loss of 45 percent in its reserves over the course of a single year, exposed in a recent audit by Integrated Financial Engineering, Inc. of Rockville, Maryland. Down from $4.7 billion in 2010, FHA reserves stood at $2.6 billion in 2011 -- a veritable drop in the bucket considering that loan exposure is just over $1 trillion.
In fact, FHA reserves fell to 0.24 percent in 2011, well below the Congressionally mandated 2 percent minimum. Furthermore, the White House's Office of Management and Budget several months ago projected the FHA would run through remaining reserves in 2012 and be forced, for the first time in its history, to pull almost $700 million from the Treasury – in other words, from taxpayers’ pockets -- to cover the shortfall.
However, things could be looking up for the government agency. A $1 billion cash infusion from a major mortgage settlement nearly one year ago relieved some pressure on FHA reserves, and recently implemented premium increases are designed to build reserves on an ongoing basis. But will it be enough to save the ailing agency and prevent a taxpayer bailout?
Changes to the mortgage insurance premium structure affect both new loans and refinances:
- The upfront mortgage insurance premium on new FHA loans has increased by 0.75 percent to 1.75 percent.
- The annual mortgage insurance premium on new loans is increased from 1.15 percent to 1.25 percent for homes valued less than $625,500.
- Homeowners who purchased on or before May 31, 2009 and refinance through the Streamline Refinance Program pay an upfront mortgage insurance premium (UFMIP) of 0.01 percent -- down from 1 percent -- and an annual mortgage insurance premium of 0.55 percent.
- Homeowners who refinance and purchased after May 31, 2009 will pay a much higher upfront mortgage premium of 1.75 percent, and higher annual mortgage insurance premiums: 1.20 percent or 1.25 percent for a loan term, depending on the loan-to-value ratio.
- Current homeowners are not affected by the new premiums unless they choose to refinance their mortgage.
Homeowners with FHA mortgages that originated on or before May 31, 2009 are the clear winners here. Those who refinance will pay a marginal 0.01 percent upfront mortgage premium and a low annual mortgage premium of 0.55 percent. That, combined with historically low interest rates, will translate into thousands of dollars of savings on an annual basis. Plus, the Streamline Refinance Program uses the home's original purchase price to determine a loan-to-value ratio, which means many homeowners who are upside-down in their mortgages will qualify.
The FHA benefits because homeowners who refinance are less likely to default. And because the upfront mortgage insurance premium can be financed, it is not likely to be a deterrent to new homeowners, who tend to be more concerned with monthly payment over loan amount.
However, the refinance program is unlikely to reduce near-term foreclosures, as a 12-month clean payment history is required for homeowners to refinance. The ability of new homeowners to finance the upfront mortgage insurance premium throws that risk back on FHA because it insures the loan. In fact, the FHA must expose itself to additional risk in the first place -- in the form of new loans -- in order to benefit from upfront mortgage insurance premiums.
Will It Work?
The FHA says the program will work, but the FHA is already looking to raise the upfront mortgage premium further to 2.05 percent. In fact, a bill that would allow the measure has already passed the committee stage in the House with unanimous support. Secretary of Housing and Urban Development Shaun Donovan has stated that, over the next year, the most important element in shoring up the reserve fund is housing prices. In other words, the most important element is not the measures the FHA takes to shore up the fund.
And yet, by 2014, according to a recent actuarial review, the FHA expects to reach the 2 percent reserve minimum.
Simply put, it just doesn't add up:
- The move to further raise the upfront mortgage premium suggests that the current rise to 1.75 percent isn't nearly enough to offset the FHA's ongoing and expected liabilities.
- The Streamline Refinance Program isn't built to mitigate near-term foreclosures.
- The viability of the reserve fund depends on a housing market recovery.
- The FHA has received bipartisan support to increase premiums further.
It looks unlikely that the reserve minimum will be reached by 2014, short of a housing market recovery, and the FHA will likely continue to flounder in the short-term.
But no worries: The FHA will come through in the end. They have the Treasury to bail them out in the event of a deficit -- and the Treasury has us.