Outlook: FHA Rates Fall by 20 Basis Points, Unlikely to Hit 5% This Year

We have made previous mortgage predictions stating that 30-year FHA loan rates would likely hit 5% before the end of 2013. Recent developments have prompted us to revise that outlook.

Our previous forecast for FHA mortgage rates was based on the assumption that the Federal Reserve would have started tapering their stimulus program by now. The Fed’s Federal Open Market Committee (FOMC) met on the 17th and 18th of this month, after which they surprised most economists and analysts by keeping their foot on the stimulus pedal.

Many Fed watchers, myself included, expected them to announce they would begin scaling back their monthly purchase of Treasury and mortgage-backed securities (MBS), collectively known as QE3. But that did not happen. Instead, the FOMC said they would continue purchasing $85 billion dollars worth of bonds and securities each month, to inject liquidity into the market.

FHA Rates Fall 20 Basis Points in Our Latest Lender Survey

Partly as a result of the Fed’s announcement, FHA loan rates actually dropped last week. Here are the latest numbers and trends from our weekly survey of 35 FHA-approved mortgage lenders across the U.S.
FHA logo

  • September 12: Average rate for a 30-year FHA loan was 4.55%
  • September 19: Average rate fell six basis points (0.6%) to 4.49%
  • September 26: Average drops another 20 basis points (0.20%) to land at 4.29%

The FOMC meets again on October 29 – 30. But it’s not clear whether investors will get a Halloween trick or treat. Fed officials are typically tight-lipped and vague about their plans, even though they know them in advance of the FOMC meetings. For now, it’s the same old refrain: “If the economy shows signs of sustained improvement, the Fed could begin scaling back its purchase…”

Jeffrey Lacker, president of the Federal Reserve Bank of Richmond, echoed this statement recently. “I don’t see any reason why we couldn’t [begin tapering] in December,” he said, “or potentially in October depending on what the data looks like.”

But wait. We’re talking about FHA loan rates here. Let’s connect the dots. When the Fed finally does scale back its stimulus measures, we will likely see a rise in mortgage rates across the board — especially the longer term loans, such as the 30-year fixed-rate FHA and conventional mortgages. It will mark the beginning of the end for “artificial suppression” of interest rates, which we have seen since the Fed began its quantitative easing policy in late 2008.

It’s not a question of if, but when. And that brings me to my key point.

Even if the Federal Reserve begins tapering in October (and you can flip a coin on that one), it probably won’t happen right away. Additionally, they will likely start the taper by reducing their purchase of Treasury bonds, while maintaining the current level of MBS purchases. After all, the last thing Ben Bernanke wants is to send long-term interest rates skyrocketing at a time when the housing recovery is still fragile.

Given all of these factors, it’s time for a revised prediction for FHA loans. It is unlikely that the average rate for a 30-year government-insured mortgage will rise to 5% by the end of 2013, as predicted in our previous forecast. (See disclaimer below.)

Chart: 30-Year Mortgages Ease in Recent Weeks

When it comes to mortgage rate trends, a picture is worth a thousand words. Or a chart, in this case. Here is the latest chart from Freddie Mac showing one-year trends for all four primary loan categories. The blue line shows average rates for the benchmark 30-year fixed mortgage, dating back to September 2012. FHA loan rates closely mirror these trends, as proven by our own weekly survey.

Freddie Mac chart, September 26, 2013

Fed officials first began talking about a taper in early May of this year. You can see the effects of their comments in the mortgage chart above. Rates started surging upward in early May and didn’t level off until several weeks later. This created a sense of urgency among home buyers and even yielded a few milestones, like FHA rates hitting a two-year high.

But if you move to the far-right side of the mortgage chart, you’ll see a period of easing. Since August 22, 2013, the benchmark 30-year rate has fallen by 26 basis points, or 0.26%. Home buyers, you may now breathe a collective sigh of relief.

Disclaimer: This story contains predictions and forecasts for mortgage rates in general, and FHA loans in particular. This information has been provided for educational purposes only and does not constitute a guarantee of future conditions within the lending market. No one can predict the future of interest rates with complete accuracy (as we have just shown).

VA, FHA Loans Accounted for 45% of Purchase Volume in 2012, According to Fed

Summary: Mortgage lenders generated more loans in 2012 than in 2011, according to a report published recently by federal regulators. FHA loans and VA loans, in particular, remain popular among home buyers, accounting for nearly 45% of purchase loans last year.

It turns out 2012 was a good year for mortgage lenders. A recent report published by the Federal Reserve showed that mortgage loan volume was up 38% last year, compared to 2011. The gain was largely driven by a surge in refinancing activity.

Mortgage interest rates hovered at or near record lows for much of 2012, resulting in a spike of refinance loans. Homeowners rushed to refinance their homes while rates were low, boosting total loan volume and lender profits.

But rates have risen by more than a full percentage point since May of this year, and could rise further between now and next year (especially if the Federal Reserve begins tapering its stimulus program, as expected). In recent weeks, rising interest rates have reduced lending volume, prompting some lenders to ease their standards in order to boost origination.

New rules taking effect in 2014 could reduce the pace of mortgage lending, compared to this year and last. One set of rules, the qualified mortgage (QM) and ability-to-repay (ATR) rules, will stiffen documentation requirements for borrowers. They will also prevent lenders from generating loans with features that have been deemed risky, such as balloon payments and interest-only loans. These rules are scheduled to take effect in January 2014.

FHA and VA Still Popular Among Home Buyers

FHA and VA loans continue to be a popular option among home buyers. The market share of these government-backed loans has increased significantly since the housing market tanked. According to the Federal Reserve report:

“Government-backed loans originated under programs such as the Federal Housing Administration (FHA) mortgage insurance program and the Department of Veterans Affairs (VA) loan guarantee program continue to play a major role, accounting for nearly 45 percent of first-lien, owner-occupant home-purchase loans.”

For those who aren’t familiar with these two programs:

  • An FHA loan is a mortgage that is originated by a lender in the private sector, but insured by the government through the Federal Housing Administration. FHA loans offer financing of up to 96.5% for qualified borrowers. Inversely, this means home buyers can make a down payment as low as 3.5%. This is primarily what makes the program so popular among borrowers, especially first-time buyers.
  • The VA loan program works similarly, only in this case it’s the Veterans Administration that insures part of the mortgage. VA loans are generally limited to military service members and their families. This type of mortgage offers 100% financing to eligible borrowers, which allows the borrower to purchase a home with no down payment whatsoever.

These days, most conventional mortgages require down payments of 5% or more. This accounts for the popularity of FHA and VA loans. They offer lower down-payment requirements, and they are generally easier to qualify for when compared to a conventional or “regular” home loan.

Where to Learn More About These Programs

Interested in an FHA-insured mortgage? Here’s the latest news from our blog relating to this program:

FHA loans after foreclosure, short sale, bankruptcy
Millions of homeowners have endured bankruptcies and distressed real estate sales over the past few years. The housing crisis saw to that. So it should come as welcome news that HUD is shortening the ‘waiting period’ for getting an FHA mortgage after such a negative event. Borrowers can now qualify for the program in as little as 12 months after the event, if it was caused by factors beyond their control.

Official FHA guide outlines the 7 steps to closing
HUD Handbook 4155.1 contains thousands of pages of useful information about FHA loans and how to obtain them. But you’re a busy person, and that’s a lot of reading material. So we have created a simplified guide to the application and approval process, based on the official handbook.

FHA eligibility rules at a glance
Chapter 4 of the aforementioned HUD handbook explains the minimum eligibility criteria for FHA borrowers. Anyone planning to use a government-backed home loan to buy a house should peruse this chapter. We’ve created a simplified version of those requirements, to serve as a jumping-off point for your continued research.

Interested in the VA loan program? If so, your next stop should be the home loan section of the Department of Veterans Affairs website. There you’ll find all of the information you need about eligibility requirements and application procedures.

New Rules for FHA Loan After Foreclosure, Short Sale, Bankruptcy: 2014 Update

The Department of Housing and Urban Development (HUD) recently announced a rule change for borrowers who have been through foreclosure, short sale, deed in lieu of foreclosure, or bankruptcy in the past.

Previously, such borrowers had to wait at least three years before they could qualify for an FHA loan, with a few exceptions. The revised rule for 2014 creates a set of extenuating circumstances that could allow borrowers to get an FHA loan one year after a bankruptcy or foreclosure-related event.

This is a significant change in policy that could affect a large number of borrowers. It will likely lead to an increase in the FHA’s market share, which has already increased significantly since the housing crisis.

All of the pertinent details can be found in HUD Mortgagee Letter 2013-26, dated August 15, 2013. Here’s an overview of the 2014 requirements and restrictions for using an FHA loan after bankruptcy or foreclosure.

Introduction: The Rise of Bankruptcy, Foreclosure and Short Sales

The recession put millions of homeowners in a situation where they could no longer afford their mortgage payments. As a result, foreclosures, short sales and bankruptcies rose sharply during the recession years.

The Federal Housing Administration (FHA) realizes that many people in this situation are generally responsible with their finances. They were victims of a once-in-a-lifetime economic catastrophe that was largely beyond their control. Their foreclosures, short sales and bankruptcies were isolated events.

To that end, FHA is changing the rules for borrowers who want to use an FHA loan after a bankruptcy, short sale, foreclosure, or deed in lieu of foreclosure. In 2014, borrowers who can show that the negative event was due to income losses beyond their control could be eligible for an FHA loan within one year of the event. This is a major change over the previous three-year rule for bankruptcies and foreclosures.

Related: Can I get a mortgage with a foreclosure on my credit?

New Rule for 2014: Getting an FHA Loan After a Negative Event

Borrowers who are ineligible for an FHA loan due to the existing waiting period for short sales, foreclosures, deeds-in-lieu and bankruptcies may qualify for the program in 2014, under the following conditions:

  1. The borrower can provide documentation to show that the delinquencies or default were the result of an ‘Economic Event’ beyond their control. See definition of Economic Event below.
  2. The borrower has completed an approved counseling program. See requirements below.
  3. The borrower meets all of HUD’s other guidelines for FHA loan eligibility.

Applicants who meet these criteria could qualify for an FHA loan in as little as 12 months after bankruptcy, short sale, foreclosure, or deed in lieu of foreclosure.

Definition of an ‘Economic Event’

In this context, an Economic Event is something beyond the borrower’s control that results in income loss, job loss or both. The Economic Event must have reduced the borrower’s household income by 20% or more for at least six months. To qualify for an FHA loan, borrowers must have re-established Satisfactory Credit for at least 12 months.

Definition of ‘Satisfactory Credit’

Borrowers who wish to use an FHA loan after a foreclosure, deed in lieu, short sale or bankruptcy in 2014 must be able to demonstrate Satisfactory Credit after the Economic Event (loss of job / income). Here’s how HUD defines ‘Satisfactory Credit’:

  • The borrower’s credit report does not show any late payments on mortgage or revolving credit accounts.
  • Mortgages must be current with a history of at least 12 months of satisfactory payments.
  • Temporary and permanent loan modifications are acceptable, as long as the payments have been documented and made on time in accordance with the modification agreement.
  • The borrower meets all other requirements outlined in HUD Mortgagee Letter 2013-26.

Lender Verification and Documentation Requirements

Lenders must obtain and verify documents that show the borrower’s household income was reduced by 20% or more for at least six months, as a result of the Economic Event. Lenders can use a variety of documents for this purpose, including: Verification of Employment (VOE) documents, termination notices, business closure notices, tax returns, and W-2 forms.

The key to all of this: Lenders must review the borrower’s credit history to ensure (A) the derogatory credit was the result of an isolated Economic Event, and (B) the borrower has a history of Satisfactory Credit before and after the event. In other words, the derogatory credit must have occurred after the onset of the Economic Event, and the borrower must have returned to a pattern of responsible payments for a minimum of 12 months.

In 2014, borrowers who wish to qualify for an FHA loan after bankruptcy, foreclosure, short sale, deed in lieu of foreclosure, or other derogatory events must reestablish Satisfactory Credit for at least 12 months. Lenders must verify that this minimum time frame has been bet.

In most cases, the requirement is that 12 months have elapsed since the date of the event (foreclosure, short sale, deed in lieu). Bankruptcies are a bit different:

  • For Chapter 7 Bankruptcy, 12 months must have elapsed since the date on which the bankruptcy was discharged.
  • For Chapter 13, the requirement is that the bankruptcy was “discharged prior to loan application and all required bankruptcy payments were made on-time, or a minimum of 12 months of the pay-out period under the bankruptcy has elapsed and all required bankruptcy payments were made on time.”

Counseling for FHA Borrowers With Bankruptcies, Foreclosures, etc.

The revised FHA rule also has an educational component. To be approved for an FHA loan after a foreclosure, deed in lieu of foreclosure, short sale or bankruptcy, borrowers must also undergo housing counseling. Such counseling is designed to help borrowers understand their mortgage options, create a housing budget, avoid common scams and more. Here are the minimum requirements:

  • Borrowers must receive at least one hour of one-on-one counseling from a HUD-approved counseling agency.
  • The counseling must address the cause of the foreclosure, short sale or bankruptcy, as well as actions that can be taken to reduce the chance of it happening again.
  • Counseling must be completed at least 30 days, but not more than six months, before the loan application is submitted.
  • Counseling may be conducted online, via Skype, over the phone, in person, or through other HUD-approved methods.

This is a simplified overview of the revised rule. Borrowers who wish to qualify for an FHA-insured mortgage after a foreclosure, short sale or bankruptcy in 2014 should refer to Mortgagee Letter 2013-26 for more information. Borrowers can also call the FHA Resource Center at 1-800-CALLFHA (1-800-225-5342).

New Guide to the FHA Loan Process: 7 Steps to Closing

The Department of Housing and Urban Development (HUD) has updated portions of their handbook relating to FHA loans. Among other things, this handbook explains the seven key stages of the FHA loan process, from application to closing.

Home buyers who plan to use a government-insured mortgage to buy a house will benefit from perusing HUD Handbook 4155.2, which explains the FHA loan process in detail. But you’re a busy person, and it’s a large document. So we’ve broken out the key points below.

Overview of the FHA Approval Process

The HUD handbook outlines 11 steps in the FHA application, underwriting and approval process. But the last four steps only pertain to mortgage lenders. So as far as home buyers are concerned, there are seven stages to the FHA loan process. (Unless, of course, the borrower is disqualified, in which case there may only be two or three steps. But let’s stay positive.) Here are the seven key steps along the path to approval.

Step 1 – Lender Identification
As a borrower, you must contact a HUD-approved mortgage lender to find out if you’re eligible for the program. Most lenders offer these government-backed home loans, because they’re in high demand these days. All of the major lenders offer FHA mortgages (Bank of America, Wells Fargo, Citi, etc.). Many smaller and regional lenders participate in the program, as well. For your convenience, you’ll find a list of approved lenders on the HUD website. You can even search by city and state.

Step 2 – Loan Application
If the lender determines you are eligible for an FHA loan, you will complete a standard loan application (Fannie Mae form 1003), along with an addendum specific to this program (HUD form 92900-A). The loan officer will also request a variety of financial documents. These include IRS W-2 forms, bank statements, tax returns, pay stubs and the like. All of this goes into your application package. To learn more about this stage of the FHA process, refer to HUD Handbook 4155.1, Chapter 1, Section B, “Documentation Requirements.”

Step 3 – FHA Case Number
Every FHA mortgage has a case number assigned to it. This is a unique number that identifies the individual loan and borrower. Think of it as a serial number for home loans. There’s not much for the borrower to do in this step. But it had to be included for continuity purposes, and also to reflect the seven steps of the FHA process outlined in the HUD handbook.

Step 4 – Property Appraisal
This is a key step in the FHA process because it determines whether or not your loan will move forward. The mortgage lender must conduct a property appraisal through a licensed appraiser to determine the current market value of the home you are buying. The appraiser will also ensure that the house meets all of HUD’s property requirements. To determine the market value of the home, the appraiser will look at recent and comparable sales in the area. To learn more about the FHA appraisal process, refer to HUD Handbook 4155.2, Chapter 4, “Property Valuation and Appraisals.”

Step 5 – Mortgage Underwriting
Underwriting is a “make-or-break” step in the FHA loan process. If you clear the underwriting stage, there’s a 99% chance you’ll reach the finish line. But many obstacles can arise in the underwriting stage. The underwriter will review your file in accordance with HUD’s mortgage credit-analysis guidelines. It’s the underwriter’s job to determine if you have the “ability and willingness to repay the mortgage debt.” He or she does this by evaluating your credit history, credit score, employment situation, income stability, and debt-to-income ratio, among other factors. To learn more about the FHA underwriting process, refer to HUD Handbook 4155.1 Chapter 4, Section C, “Borrower Credit Analysis.”

Step 6 – Underwriting Decision
Once the underwriter has reviewed your file, he/she will either approve or reject it. If the file is approved, you are “clear to close” and will move on to step seven below. If the underwriter rejects the file for some reason, you’ve reached the end of the road. In the case of rejection, the lender will notify you of the underwriter’s decision and may even explain why he/she came to that decision. Let’s assume you get a green light from the underwriter and move on to the final step in the FHA process.

Step 7 – Closing Process
If your loan is approved by the underwriter, you’ll proceed to the final step in the FHA approval process, which is closing. This is where the lender “closes” the loan by having all documents signed, and by ensuring that all monies are distributed to receiving parties. Your job, as the borrower, is to carefully review all of the loan documents to ensure accuracy. You’ll also have to present a check to cover all of your closing costs (appraisal fee, document preparation fee, loan origination fee, etc.). To learn more about the FHA closing process, refer to HUD Handbook 4155.2, Chapter 6, Section A, “Loan Closing Policies.”

This article explains the seven basic steps of the FHA mortgage process. We have included the relevant sections of various HUD handbooks, where applicable. If you would like to learn more about the application, underwriting and approval process, we encourage you to read those supporting documents for additional information.

Rule Breakers: How to Qualify for an FHA Loan With Excessive Debt

Guidelines issued by the Department of Housing and Urban Development (HUD) state that borrowers need to have debt ratios below a certain limit, in order to qualify for an FHA loan. But there are little-known exceptions to these rules.

Lenders can still approve borrowers with high debt-to-income ratios, as long as they find and document some kind of compensating factors. Those factors are outlined below.

Why Debt Is a Deal-Breaker for Some Borrowers

FHA loans are popular among home buyers because they allow for a down payment as low as 3.5%. This makes them especially popular among first-time home buyers, who often lack the funds needed for a larger down payment.

But these loans have become harder to obtain in the last few years, due to a series of program changes. One of those changes has to do with debt-to-income (DTI) ratios. In short, borrowers with too much debt may find it difficult, if not impossible, to qualify for an FHA loan.

Borrowers with DTI ratios above the FHA minimums may still qualify for the program, if they are well-qualified in other areas.

Lenders use DTI ratios as a risk-assessment tool. Statistically speaking, borrowers with higher debt levels are more likely to default on their mortgages down the road.

So lenders look at things like credit scores and debt ratios to measure the risk level of each individual loan applicant. Borrowers with higher debt levels may find it harder to qualify for an FHA loan.

I’ve been speaking in general terms. Let’s get specific. Here is what HUD Handbook 4155.1 says about the two types of debt ratios:

  • Front end: “The relationship of the mortgage payment to income [known as the front-end debt-to-income ratio] is considered acceptable if the total mortgage payment does not exceed 31% of the gross effective income.”
  • Back end: “The relationship of total obligations to income [known as the back-end debt-to-income ratio] is considered acceptable if the total mortgage payment and all recurring monthly obligations do not exceed 43% of the gross effective income.”

Source: HUD Handbook 4155.1, Chapter 4, Section F, “Borrower Qualifying Ratios”

So according to these rules, a borrower’s mortgage payment should not use any more than 31% of his or her gross monthly income. Additionally, total recurring monthly debts (including the mortgage) cannot exceed 43% of monthly income. Borrowers with higher debt levels may be unable to qualify for an FHA loan.

But there are exceptions to both of these rules. Lenders are intimately familiar with these exceptions, but few borrowers know about them. The HUD handbook goes on to state that lenders can approve borrowers with debt levels above these limits if “significant compensating factors are documented and recorded.”

In other words, borrowers with DTI ratios above the FHA minimums may still qualify for the program, if they are well-qualified in other areas.

You May Still Qualify for FHA: A List of ‘Compensating Factors’

Borrowers with higher-than-average debt levels may still qualify for an FHA loan, if the lender can document one or more of the following compensating factors.

  • Payment history: If, within the last year or two, the borrower has been able to handle mortgage payments equal to or greater than the estimated payments on the FHA loan, he or she may still qualify for the program.
  • Down payment: The minimum down payment for an FHA loan is 3.5%. But a larger down payment could create an exception to the debt rules mentioned above. Borrowers who make down payments of 10% or more may still qualify for a government-insured mortgage, even if their DTI ratios are higher than the stated limits.
  • Savings: Borrowers who have demonstrated a “conservative attitude toward using credit” in the past, and have the ability to accumulate savings, may also be given an exception.
  • Good credit: The borrower’s credit history can be used as a compensating factor, if it shows that he or she is likely able to afford a larger mortgage payment. The higher the credit score, the better.
  • Minimal increase: If the new loan will only result in a minimal increase in housing expense, compared to the borrower’s current housing expense, he or she may still qualify for an FHA loan.
  • Cash reserves: Exceptions can also be made for borrowers with substantial cash reserves in the bank. In this context, “substantial” means at least three months worth of mortgage payments will be left over after closing. The lender must verify and document these cash reserves, if they are to be used as a compensating factor. Additionally, the funds must be liquid or readily convertible to cash.
  • Pay raise: If the borrower has the potential for higher earnings due to verifiable job training or other professional advancement, he or she may still qualify for an FHA loan, even with higher-than-average debt levels.

Borrowers do not necessarily need to have all of these compensating factors. One or more may be sufficient for FHA qualification purposes. To learn more about these rule exceptions, refer to Chapter 4 of HUD Handbook 4155.1, which is available online.

FHA Mortgage Rates Ease Slightly Following a Six-Week Upward Trend

Today’s FHA mortgage rates are slightly lower than last week’s average, putting an end to a six-week climb that unnerved rate watchers everywhere. This is according to the weekly lender survey conducted by the Home Buying Institute.

This should come as welcomed news to home buyers, seeing as how FHA rates hit a one-year high only a week ago.

Here are the latest numbers from our weekly survey:

  • The average rate for a 30-year fixed FHA loan dropped to 3.91% this week. That was a decline of 5 basis points, or 0.05%, over the previous week’s average of 3.96%.
  • The average rate for a 15-year fixed FHA loan fell slightly to 3.03% this week.
  • The 5/1 ARM loan remained unchanged with an average of 2.75%.
  • Learn more about our survey

The downward turn should ease concerns of an ongoing rate spike. Many analysts feared that mortgage rates would continue rising steadily, as they did during the six consecutive weeks of May 2 to June 13. The biggest concern was that rising rates would put a damper on the nascent recovery within the housing market, by decreasing affordability and keeping buyers on the sidelines.

FHA Rates Will Benefit from Latest Fed Policy

Since September of last year, the Federal Reserve has been buying mortgage-backed securities and other bonds in massive quantities — upward of $80 billion per month. They’ve also kept the federal funds rate (the rate at which banks lend money to each other) near zero for many months. It’s all part of a stimulus program designed to suppress borrowing costs and spur the economy toward growth.

Quantitative easing, as it is known, has held FHA mortgage rates near record lows for some time. But that stability slipped away recently when rates rose for six weeks in a row, from the beginning of May to the middle of June. Many analysts were surprised by the six-week climb, given the Fed’s massive efforts to suppress them. (It’s worth noting at this point that the Federal Reserve cannot truly control mortgage rates, but can only influence them with their policy decisions).

On June 18 – 19, key Fed officials met for their regularly scheduled Federal Open Market Committee, or FOMC. This policy meeting takes place eight times a year, and is closely watched by economists, investors and mortgage analysts. The announcements that follow these meetings have a large influence on the stock market and other aspects of the economy, including FHA mortgage rates.

The biggest question going into this meeting was whether or not the Fed would begin to scale back on its stimulus measures. A tapering of the quantitative easing program would almost certainly lead to a further rise in FHA mortgage rates, and interest rates in general.

As it turns out, Fed officials are not ready to hit the brakes just yet. In fact, they don’t expect the job market to reach their target threshold for recovery until the end of 2014. So we can expect a continuation of their current, stimulus-heavy policies for now.

What does this mean for FHA mortgage rates? More stability and less volatility, for one. At least in the short term. While rates could certainly climb again in the coming weeks, they probably won’t go far. We expect the average rate for a 30-year fixed FHA loan to hover just above or below 4% for the next couple of months, and possibly through the end of the year.

Disclaimer: This story contains forward-looking statements about the economy in general, and FHA mortgage rates in particular. These statements were based on ever-changing data and trends. As a result, they should not be viewed as facts or financial advice. Our predictions and projections are intended to give you a broad sense of what is happening within the mortgage market. We make no guarantees about the future movements of interest rates.

An Update on the FHA Short Refinance Program for Homeowners With Negative Equity

Rising home prices and low mortgage rates are putting many homeowners in a great position to refinance their homes.

At the same time, millions of homeowners are still underwater, meaning they owe more on their mortgages than their homes are currently worth. According to Zillow’s Negative Equity Report, about 13 million homeowners with a mortgage were underwater at the end of Q1, 2013. This is largely the result of equity losses suffered during the housing crisis.

For many of these homeowners, refinancing is simply not possible. But a refinancing program offered by the Federal Housing Administration may enable some underwater homeowners to refinance their homes. The official name of this program is the FHA Refinance of Borrowers in Negative Equity Positions. It is more commonly known as the FHA Short Refinance.

This program is currently being offered to select borrowers who are currently underwater in their mortgage loans. The program was expanded last year to accommodate an even broader range of homeowners.

Last summer, the Department of Housing and Urban Development (HUD) published a consumer fact sheet with rules and requirements for the FHA Short Refinance program. The guidelines below are current as of May 29, 2013. These guidelines apply to refi loans with case numbers assigned through December 31, 2014.

Who Is Eligible for FHA Short Refinance?

This special refinancing program is reserved for borrowers who owe more on their mortgages than their homes are currently worth. In other words, it’s limited to the underwater homeowners we spoke of earlier.

Additional eligibility guidelines:

  • In order to qualify for the program, you must be current on your existing mortgage. This means you have kept up with your monthly payments. Borrowers can also qualify for FHA Short Refinance if they have successfully completed a three-month trial payment plan. To learn more about trial payments plans, refer to HUD Mortgagee Letter 12-5 (Google it).
  • The home you are refinancing must be your primary residence. FHA Short Refinance is not available for second homes, vacation homes or investment properties. You must live in the house.
  • You must have a credit score of 500 or higher on the FICO scoring scale, at the time you apply for the program.
  • You must meet all of the FHA’s standard criteria for borrowers. An overview of these requirements can be found in our eligibility guide. For a complete list of eligibility guidelines, refer to HUD Handbook 4155.1 (Google it).
  • You can’t be a crook. Borrowers who have been convicted of theft, forgery, fraud, felony larceny, tax evasion or money laundering within the last ten years are not eligible for FHA Short Refinance.

Basic Loan Requirements

  • Your existing mortgage must not be an FHA-insured loan. This often confuses homeowners. The name of the program can be misleading. This program allows homeowners to refinance their conventional mortgages into FHA loans.
  • The primary lien holder on your existing mortgage must agree to write off at least 10% of your unpaid principal balance. Be aware that some lenders are unwilling to do this. They cannot be forced to write down the principal. They must do it willingly.
  • If you have a second lien on the property, it must be “re-subordinated” or extinguished with the approval of the first lien holder.
  • Your new loan, after refinancing, must have a loan-to-value (LTV) ratio no greater than 97.75% of your current home value. The maximum combined LTV ratio is 115% of the property value.

What Are the Benefits of an FHA Short Refi?

The biggest and most obvious benefit to the FHA Short Refinance program is that it gives underwater homeowners a shot at refinancing their existing mortgages. Without this program, most of these homeowners would have no options at all. This is particularly beneficial for homeowners with mortgage rates that are much higher than today’s low rates.

FHA Short Refinance can also result in a lower principal balance. This reduces the borrower’s monthly payments, as well as the total amount paid over the long term. The mortgage debt will be more closely aligned with the home’s current value.

Lenders and borrowers both benefit from the stability of this program, since it is insured by the federal government.

How to Apply for the Program

To find out if you’re eligible for an FHA Short Refinance loan, start by contacting the lender that is currently servicing your mortgage. You can also request information from any FHA-approved lender. You will find a list of these lenders on the official HUD website.

FHA Loans Offer Benefits, But New MIP Cancellation Policy is Costly

FHA loans offer several key benefits to borrowers. The biggest advantage, and thus the biggest lure, is the 3.5% down payment option. Borrowers with credit scores above 580 who meet all other program requirements can put down as little as 3.5% of the purchase price, when using an FHA loan. These mortgages are typically easier to obtain as well, when compared to conventional (non-government-backed) mortgages.

But borrowers are paying a higher price for the ‘privilege’ of using an FHA loan. Future changes announced by the Department of Housing and Urban Development (HUD) will increase those costs even more. Here’s an update on the latest policy changes.

New Rules for Cancellation of FHA MIP

HUD has made numerous changes to the FHA loan program in recent months. Among other things, they have increased insurance premiums and implemented new rules for credit scores and debt ratios.

Another, more significant, change will take effect in June 2013. It pertains to the cancellation of the annual mortgage insurance premium charged on all government-insured loans.

Borrowers who use an FHA loan to buy a home must pay for two different types of insurance. There is an upfront mortgage insurance premium (MIP) that equals 1.75% of the loan amount, as well as an annual MIP that is typically paid 12 times per year as part of the monthly mortgage payment.

Currently, borrowers are able to cancel their annual MIP once their loan-to-value (LTV) ratio falls to 78% or less. But this will soon change. After June 3, 2013, some borrowers will have to pay their annual premium for the life of the loan — or up to 30 years.

Here’s an overview of the original policy and the changes that will take effect in June 2013.

Original Policy
The original policy regarding the cancellation of MIP was introduced in 2000. HUD Mortgagee Letter 2000-46, released on December 20, 2000, states the following: “FHA’s annual mortgage insurance premium will automatically be canceled-once the unpaid principal balance, excluding the upfront MIP, reaches 78 percent of the lower of the initial sales price or appraised value…”

Revised Policy
The new rules for cancelling the annual MIP are outlined in HUD Mortgagee Letter 2013-04, which was released on January 31, 2013. That policy letter states: “For any mortgage … with an LTV greater than 90%, FHA will assess the annual MIP until the end of the mortgage term or for the first 30 years of the term, whichever occurs first.” Loans with an LTV less than or equal to 90% must carry mortgage insurance until the end of the term, or for the first 11 years of the term, whichever occurs first.

* Title I home improvements loans and Home Equity Conversion Mortgages (HECM) are exempt from the new rules, and therefore will not be affected by them.

The table below shows the relationship between loan term, LTV, and the earliest opportunity for cancellation of MIP:

FHA MIP cancellation rules

Agency Reacting to Claims-Related Losses

The Federal Housing Administration is a governmental insurer. They provide insurance to approved mortgage lenders that protects them from losses resulting from borrower default. When insurers suffer major financial losses resulting from an unusually high volume of claims, they change their policies to protect themselves from further losses. This is precisely what the FHA is doing.

The agency has suffered tremendous financial losses over the last few years, resulting from a tidal wave of bad mortgages and the resulting insurance claims from lenders. Historically, the FHA has been a self-sustaining agency with no need for tax dollars. In the past, they’ve been able to cover their losses (claims) from the funds generated by insurance premiums. But the housing crisis changed all of that. It created a scenario where there were too many claims in too short a period of time.

Today, there is even talk of a bailout. According to Jeb Hensarling, chairman of the House Financial Services Committee: “We now know for certain that the FHA is not just broke, the FHA is bailout broke.”

Others argue that the agency is not that bad off. In a recent article for U.S. News & World Report, Jason Gold of the Progressive Policy Institute said that “recent estimates suggest the agency’s balance sheet doesn’t look nearly as bad as many analysts expected.”

But most agree the Federal Housing Administration’s current model is unsustainable. Hence the changes we are seeing. The new policy regarding the cancellation of MIP is yet another reminder of the agency’s desperate financial situation, and its need to shield itself from further losses.

As mentioned earlier, HUD also increased the annual MIP rates charged on most FHA loans. This change took effect last month. Here are the revised rates for loans with case numbers assigned after April 1, 20113.

Loan Term more than 15 Yrs
Base Loan Amount $625,500 or less Base Loan Amount above $625,500
LTV 95.01% or more 1.35%
LTV 95.00% or less 1.30%
LTV 95.01% or more = 1.55%
LTV 95.00% or less = 1.50%
Loan Term 15 Yrs or less
Base Loan Amount $625,500 or less Base Loan Amount above $625,500
LTV 90.01% or more = .70%
LTV 78.01% to 90.00 % = .45%
LTV 78.00% or less = 0.00%
LTV 90.01% or more = .95%
LTV 78.01% to 90.00 % = .70%
LTV 78.00% or less = 0.00%

Note: The percentages shown above apply to the amount being borrowed. For instance, a 1.5% annual premium on a $200,000 loan would come to $3,000. That’s what the borrower would pay each year for the added cost of mortgage insurance.

If you’re planning to use an FHA loan to buy a home, you might want to do it sooner rather than latter. There is still time to avoid the added costs associated with the new MIP cancellation policy. Loans with a case number assigned before June 3, 2013 will not be affected by the change.

MBA: FHA Loan Tool of Choice for Borrowers Seeking a Low Down Payment

The FHA loan program has become increasingly popular among home buyers with limited funds for a down payment. In fact, it is now the tool of choice for such borrowers. This is according to a statement by David Stevens, president of the Mortgage Bankers Association (MBA).

In an article for American Banker, Stevens said: “Today, the FHA is the dominant source of mortgage financing for borrowers with low down payments … Many of these are first-time homebuyers.”

FHA Lowest Down Payment, Aside from VA and USDA

So, how low is the down payment on an FHA loan? Current guidelines require a minimum down payment of 3.5% of the purchase price, for a maximum loan-to-value (LTV) ratio of 96.5%. But this depends on the borrower’s credit score.

HUD Mortgagee Letter 10-29 states the following:

  • Borrowers with a “decision credit score” of 580 or higher are eligible for maximum financing (96.5% LTV).
  • Borrowers with scores between 500 and 579 must make a down payment of 10% (90% LTV).
  • Borrowers with scores below 500 are not eligible for the FHA loan program.

This rule was introduced by the aforementioned HUD letter in September 2010, and it still holds true today. Granted, most mortgage lenders require higher scores than the HUD minimums. But that’s another story entirely.

In addition to the down-payment requirements, borrowers must meet the FHA’s other eligibility requirements as well.

Conventional, or non-government-backed, mortgages generally require a minimum down payment of 5%. Less-qualified borrowers may even be required to put 10% or 20% down for conventional financing. That’s why FHA is the tool of choice for home buyers seeking a low down payment.

Currently, the only loan programs that offer 100% financing are VA loans for military service members and their families, and USDA loans for low-income rural borrowers.

Agency’s Primary Mission: Insure Mortgages

The Federal Housing Administration was created by congress in 1934, in response to the economic devastation caused by the Great Depression. The agency was rolled into the Department of Housing and Urban Development (HUD) in 1965.

While its marching orders have changed over the years, the FHA’s core mission remains the same. It strives to make homeownership available to more Americans by insuring mortgage loans. This insurance protects lenders from losses resulting from borrower default.

What is an FHA loan, and how do I get one?

The FHA’s popularity rose significantly in the wake of the housing crisis. The agency’s share of the mortgage market was only about 3% in 2005 – 2006. Those dates are noteworthy — they were during the boom years. In those days, almost anyone could qualify for a mortgage loan. And forget about low down payments. Back then, you could get a home loan with no money down whatsoever. Of course, we know the rest of this story. Reckless lending and rampant speculation eventually drove the economy into the ground.

FHA’s share of the mortgage market, 2003 – 2012

The FHA’s market share has risen sharply in the years since the housing crash. Since 2008, the FHA has insured more than 25% of all U.S. mortgages. This is according to data collected by the Department of Housing and Urban Development.

Low down payments on mortgages, combined with easier qualification criteria, will ensure the popularity of this program for the foreseeable future.

2013 FHA Eligibility Rules: Who Is Eligible for Government Insured Loans?

The Department of Housing and Urban Development (HUD) has made more changes to the FHA loan program in the last two years than the previous ten years combined. For the most part, these changes are a direct result of the housing and mortgage crisis that began in 2008. Long story short: the FHA’s capital reserves were wiped out by massive insurance payouts resulting from bad loans. Today, the agency is struggling to restore its reserves while preventing further losses.

What does all of this have to do with FHA eligibility? Everything. Borrowers who may have been eligible for FHA loans in the past might not be qualified under current guidelines.

As a result of all of the changes, we felt it was time to publish a revised list of basic FHA eligibility guidelines. The information below is based on HUD Handbook 4155.1, Chapter 4, Section A. If you would like to learn more about anything covered below, please refer to this handbook. It is available on the HUD website and can be found with a quick Google search.

Who Is Eligible for an FHA Loan?

Let me start by saying these loans are not limited to first-time home buyers. This is a common misconception. Any borrower who meets the FHA’s basic eligibility requirements can apply for a government-insured loan. This is true even for borrowers who have owned multiple homes in the past.

  • There is currently no maximum age limit for borrowers. The minimum age limit for FHA financing will depend on the state in which you reside. According to the Department of Housing and Urban Development, the minimum age for an FHA-insured mortgage loan is “the age for which a mortgage note can be legally enforced in the state … where the property is located.” In most states, this minimum age is 18. Refer to your state’s specific mortgage requirements for more information.
  • To be eligible for an FHA loan, borrowers must have a credit score of at least 500. This is the minimum score required by HUD for program eligibility. To qualify for the 3.5% down-payment option, you must have a score of 580 or higher.
  • Most lenders impose their own credit guidelines on top of those issued by HUD. This is known as an overlay. So ultimately, the minimum credit-score cutoff is up to the lender. Learn more here.
  • Borrowers and co-borrowers are both required to sign all mortgage-related documents leading up to, and during, the settlement process. Co-borrowers must also meet minimum FHA eligibility requirements. Both the borrower and the co-borrower are responsible for repaying the mortgage debt.
  • Cosigners, on the other hand, are not responsible for repaying the debt. Note the distinction here between a co-borrower and a cosigner. The cosigner must sign all of the documents just like a co-borrower would. But the cosigner is not legally responsible for repaying the debt.
  • If you have defaulted on any type of government-insured mortgage in the past, or have been delinquent on an FHA-insured loan, you must wait three years before obtaining another FHA loan. You will not meet minimum FHA eligibility requirements until three years have passed from the delinquency or default.
  • Borrowers do not need to be U.S. citizens to be eligible for an FHA loan. But the mortgage lender must be able to determine the applicant’s residency status. They do this by obtaining and verifying certain documents relating to residency.
  • Lenders are required to calculate the borrowers debt-to-income (DTI) ratio. As the name indicates, this is a comparison between the amount of money you earn and the amount you pay each month on recurring debts.
  • When calculating the DTI ratio, lenders must include the borrower’s monthly housing expense (mortgage payments, property taxes, homeowners insurance, etc.), as well as all “additional recurring charges extending 10 months or more.” This includes such things as credit cards and other revolving accounts, installment loans, child support, alimony, etc.
  • Chapter 4, Section F of the aforementioned HUD handbook states that “the relationship of the mortgage payment to income is considered acceptable if the total mortgage payment does not exceed 31% of the gross effect of income.” With that being said, a borrower in this category could still be eligible for FHA if the mortgage underwriter identifies “significant compensating factors.” One example of a compensating factor would be that the borrower has a long history of making payments on time, and/or has significant savings in the bank.
  • FHA eligibility guidelines also state that the total debt-to-income ratio (including mortgage payments and all other forms of recurring debt) should not exceed 43% of gross effective income. But here again, exceptions can be made if the underwriter can find compensating factors.
  • In 2013, most mortgage lenders are limiting the total or “back-end” debt-to-income ratio to 45% for FHA loans. Some lenders may allow borrowers to have higher ratios, while others set the bar even lower than 45%. It varies from one lender to the next. But the current standard seems to be 45%.
  • In order to be used for mortgage qualification, the borrower’s income must be fully verified by the lender. Income cannot be used if it comes from a source that “cannot be verified, is not stable, or will not continue.”
  • Currently, FHA does not impose a minimum length of time for employment. But lenders are still required to verify the borrower’s employment for the last two years. Borrowers must explain any gaps in employment that are longer than one month. To learn more about income-related eligibility requirements, refer to HUD Handbook 4155.1, Chapter 4, Section D.

While it’s not an eligibility requirement, I should at least mention a new rule regarding credit scores and debt ratios. Some borrowers with scores below 620 will have to undergo additional scrutiny during the application and approval process. Specifically, borrowers with credit scores below 620 and total debt-to-income ratios above 43% must undergo manual underwriting. These borrowers could still be eligible for an FHA loan. But the underwriter must find some kind of compensating factors to offset the unfavorable credit/debt situation. Learn more here.

This is a very basic overview of FHA’s minimum eligibility requirements, as of April 2013. If you are considering using this mortgage program, I highly recommend reading Chapter 4 of HUD Handbook 4155.1. This chapter is entitled “Borrower Eligibility and Credit Analysis.” The name says it all. This is the “bible” used by mortgage underwriters when reviewing applicants. Granted, the lender can impose its own guidelines on top of the FHA’s. But it all starts with the minimum eligibility requirements outlined in this handbook.

Disclaimer: This article provides an overview of minimum eligibility requirements for the Federal Housing Administration’s loan program. It answers the question: Who is eligible for an FHA mortgage? This information has been adapted from loan guidelines published by the Department of Housing and Urban Development. We would like to stress that this is a basic overview of program eligibility. There are literally hundreds of pages of HUD documentation on this subject. HUD frequently changes the minimum guidelines for the FHA program. As a result, there is a chance that some of the information above may become outdated over time. We encourage you to visit the official HUD website for more information.