Reminder: Higher Mortgage Fees Start Tomorrow

Home buyers who purchase a home next month may encounter higher fees on their mortgage loans. Starting on March 1, 2011, Freddie Mac will increase the mortgage fees for home loans it is willing to buy. Mortgage lenders must pay the fee for all loans they sell to Freddie Mac. Lenders can choose how they want to offset the additional cost. Some will absorb it, while others will pass the expense along to borrowers in the form of higher interest or extra closing costs.

Currently, Freddie’s risk-based fees range from 0.25% to 3% of the loan amount. The exact fee will depend on the borrower’s FICO credit score and the loan-to-value (LTV) ratio for the mortgage loan. Starting in March 2011, these fees will go up by a quarter to half a percentage point.

Fannie Mae will increase their mortgage fees as well, but not until April 2011.

Officials at Freddie Mac call it risk-based pricing. Critics of the mortgage giant call it a blatant attempt to make more money. Both sides are right. Freddie Mac needs to earn more money for the loans it buys, since it’s already costing taxpayers billions of dollars (as much as $169 billion by 2012).

Freddie Mac’s Role in the Mortgage Market

Fannie Mae and Freddie Mac do not make loans directly to consumers. Instead, they buy the mortgage loans made by lenders in the primary market. This gives lenders access to more funding, which (in theory) allows them to make more loans. Fannie and Freddie sell many of these purchased mortgages into the secondary mortgage market, via Wall Street. Both of these organizations are currently in conservatorship, which means they’re run by the government and supported with tax dollars.

The future of Fannie Mae and Freddie Mac is uncertain. The Obama administration and Treasury Secretary Tim Geithner recently sent three proposals to Congress for reducing the government’s role in housing. These proposals signal the administration’s desire to “wind down” Freddie Mac and Fannie Mae, thus reducing the government’s footprint in the mortgage market.

But for now, the two mortgage giants still have plenty of influence over lending standards. The additional mortgage fees are the latest example of how their policies trickle down to home buyers in the primary mortgage market. They also influence down-payment requirements, the availability of long-term loans, and many other aspects of the mortgage industry.

Excellent Credit Doesn’t Make You Immune

In the past, having a high credit score usually meant you could avoid most of the risk-based mortgage fees. But not this time. While the fees are higher for those with lower credit scores, they will still be applied to borrowers with excellent credit. In the past, Fannie Mae and Freddie Mac never imposed any risk fees for borrowers with credit scores of 720 or higher. But that all changes starting in March 2011. Fannie’s mortgage fee increases won’t take effect until April.

Going forward, borrowers with credit scores of 720 or higher who put less than 25% down on the loan will face mortgage fees of 0.25% – 0.5% of the loan value. For a $250,000 loan, this would mean an extra $625 – $1,250. Keep in mind that this fee gets paid by the lender, before they can sell the loan to Freddie Mac. You can expect most lenders to pass this cost along to the borrower in some way.

Borrowers with scores below 720 will face even larger fees. Generally speaking, the lower the credit score and the higher the loan-to-value ratio, the larger the mortgage fee.

In related news, you can expect higher mortgage insurance premiums for FHA loans, starting in April 2011. This is being done to bolster the FHA’s capital reserves (the money they use to cover insurance losses resulting from borrower default).

A lot has changed in the mortgage market over the last few months. To summarize it all for you, I’m working on a “Definitive Guide to the 2011 Mortgage Market.” It will be posted here within the next few days.