FHA Will Take on Subprime Loans Shunned by Lenders (Update1)
By Bob Ivry
Oct. 6 (Bloomberg) -- The Federal Housing Administration has grown so large that by the end of the year it will guarantee mortgages for three in 10 U.S. borrowers, many of whom have bad credit or loans that required no verification of income.
Congress wants FHA to do more. The Hope for Homeowners program, unveiled Oct. 1, authorizes the agency, part of the cabinet-level Department of Housing and Urban Development, to guarantee up to $300 billion of 30-year, fixed rate home loans for struggling borrowers over the next three years. The Congressional Budget Office estimates that 400,000 households will get FHA-insured loans and about one-third of those will fall behind again on their new loans.
Hope for Homeowners is one way the U.S. government is trying to prevent further losses in the worst housing decline since the Great Depression of the 1930s. The rewritten mortgages may not be enough to stem rising defaults, said David Olson, a 40-year veteran of the U.S. mortgage industry.
``FHA has completely replaced subprime and Alt-A,'' said Olson, former director of market research at Freddie Mac, the second-biggest mortgage buyer, who now runs Wholesale Access Mortgage Research & Consulting Inc. in Columbia, Maryland. ``I hope it's not setting them up for another crackup. There have been so many crackups.''
Subprime mortgages are given to people with bad or limited credit histories. Alt-A home loans typically require little or no documentation of a borrower's income.
More Delinquencies
FHA will be able to recover about 60 percent of the mortgage amounts from the estimated 133,000 defaults under the program, the Congressional Budget Office said.
Borrowers with subprime mortgages were more than 90 days late with their monthly payments at seven times the rate of prime homeowners in the second quarter, according to the Washington-based Mortgage Bankers Association.
As demand for mortgage-backed securities dried up, subprime lending plummeted to $4 billion in the second quarter, compared with $56 billion in the same period a year earlier, according to trade publication Inside Mortgage Finance. Issuance of subprime mortgages peaked at $625 billion in 2005, the newsletter said.
In a legal settlement with 11 states, Countrywide Financial Corp., the home mortgage lender bought by Bank of America Corp., will provide $8.4 billion in distressed borrower relief, including interest rate and loan principal reductions, to settle consumer fraud complaints. The measure is expected to affect about 400,000 homeowners, according to Attorneys General Lisa Madigan of Illinois and Edmund G. ``Jerry'' Brown of California.
Fannie Mae
As lenders such as Countrywide fueled the housing boom, from 2002 to 2006, by issuing more subprime loans, FHA's market share fell to 2.7 percent, according to Inside Mortgage Finance. FHA required a 3 percent down payment and 1.5 percent annual mortgage insurance premiums. Many subprime lenders did not.
``Half the people who got subprime loans should have gotten FHA, and the other half shouldn't have gotten a loan at all,'' said Dennis Lykins of Allied Home Mortgage Capital Corp., an FHA lender in
St. Joseph, Missouri.
Now only Washington-based Fannie Mae, the biggest U.S. mortgage finance company that was nationalized last month, is involved in a higher percentage of U.S. mortgages.
FHA's growth mirrors the explosion in mortgage lending during the housing boom, with the same dangers, said Henry Savage, president of PMC Mortgage Corp. in Alexandria, Virginia, which offers FHA loans.
Bailout
``If you lend money, even though the rates are good, better than subprime rates, to people with a history of not paying their bills on time or not at all, you're going to have a higher default rate,'' Savage said.
Home prices in 20 U.S. cities fell 16.3 percent in July from a year earlier, the fastest pace on record, according to the S&P/Case-Shiller Home Price Index.
``Does it make sense to make 3 percent down payment mortgages in this climate?'' said Guy Cecala, publisher of Bethesda, Maryland-based Inside Mortgage Finance, who argues that homeowners who bought houses in most parts of the country three months ago with 3 percent down would already owe more than their houses are worth.
``Will there need to be an FHA bailout two or three years from now?'' Cecala said.
Skeptical
FHA Commissioner Brian Montgomery was among the skeptics when Congress considered the Housing and Economic Recovery Act, which includes Hope for Homeowners. In prepared remarks to a National Press Club luncheon in Washington on June 9, he said the legislation could weaken the agency and endanger the housing market.
Expanding the FHA's portfolio to include ``problematic, high-risk loans'' could turn the agency into ``a less stable, less solvent, more bureaucratic entity,'' Montgomery said.
The FHA ``is not designed to become the federal lender of last resort,'' he said.
HUD spokesman Stephen O'Halloran said Montgomery was unavailable for comment for this story.
On July 8, Montgomery said at a conference in Arlington, Virginia, hosted by the Federal Deposit Insurance Corp., that some members of Congress want to turn FHA into a ``mega-mortgage agency, in effect federalizing the mortgage market.''
``Some want to dump bad loans on us, many that never should have been made in the first place,'' Montgomery said.
Sharon Price, director of policy at the National Housing Conference, a group that advocates for affordable housing, said Montgomery is well-respected and has tried to make the program work since the legislation was signed by President George W. Bush on July 30.
``He didn't come with a lot of housing background but he seems to be a good partner from what we see,'' Price said. ``It's gotten to be a more complicated job than it was a few months ago.''
To contact the reporter on this story: Bob Ivry in New York at
bivry@bloomberg.net.
