The Department of Housing and Urban Development has published a notice in the Federal Register to provide guidance for the upcoming moratorium on risk based mortgage insurance premiums. The moratorium on risk based premiums (RBPs) is in accordance with Section 2133 of H.R. 3221 otherwise known as the FHA Modernization Act which is part of the Housing and Economic Recovery Act of 2008. This act was signed by the President on July 30, 2008 making it public law # 110-289. To view the HUD notice [Docket No. FR-5171-N-03] signed by HUD Assistant Secretary and FHA Commissioner Brian Montgomery, click here.
In addition to instructions for transitioning from risk based premiums, the notice provides for a change in mortgage insurance premiums during the moratorium period which applies to loans with case numbers issued between October 1, 2008 and September 30, 2009. The new premiums are an increase to the premiums that were in effect prior to the implementation of risk based premiums (RBPs), and are also an increase for high credit score borrowers under existing RBPs. However, the premiums are lower than current risk based premiums for low or no score borrowers, and are substantially less than authorized under Section 2114 of the Housing and Economic Recovery Act of 2008.
The new upfront premiums are 1.75% for purchases and fully qualifying refinances, 1.5% for streamline refinances, and 3.0% for FHA Secure. The annual premiums, which are paid monthly, are .55% for loans with amortization periods over 15 years and loan to values over 95%. Loans with amortization periods over 15 years, and loan to values at or below 95% will have a .50% annual premium. For 15 year loans with a loan to value over 90%, annual premiums will be .25%. There will not be annual premiums for 15 year loans with LTVs at or under 90%. FHA Secure annual premiums will be .55% for loan to values over 95% and .50% for loan to values at or under 95%. Note: for premium purposes, the loan to value must be calculated to two decimal places- meaning that 95.01% is over 95%.
Prior to the implementation of risk based premiums on July 14, 2008, premiums were 1.5% upfront for all loans, and .50% annually for loans with amortization periods over 15 years. The annual premium for loan terms of 15 years or less was .25%, and no premiums annual premiums were required for LTVs below 90%. Click here for more information.
In contrast, current risk based premiums for loan terms exceeding 15 years range from 1.25% to 2.25% upfront and .50% to .55% annually depending on loan to value and credit score. The premiums for loan terms at or below 15 years range from 1.00% to 2.00% upfront and 0-25% annually, again, depending on credit score and loan to value. Click here for more information on risk based premiums.
The Risk Based Premium Debate:
The moratorium on risk based mortgage insurance premiums (RBPs) provides a welcome sigh of relief for many in the mortgage and real estate industry who oppose credit score based premiums. Because credit scores only encompass one area of underwriting and aren’t always reliable, they are poor determiners of actual risk. Considering that mortgage risk is based on a variety of factors, such as: debt to income ratios, savings history, reserves, amount of debt, credit usage, employment and income stability, increase to monthly payment (known as housing shock), source and amount of down payment, loan purpose and loan type/amortization, credit scores do little in the way of assessing overall risk. By basing risk premiums exclusively on credit score, loan to value, and amortization, actual risk is concealed resulting in lower premiums on higher risk loans. As an example, a 97% loan with a gifted down payment to a borrower with a 680 score who is a heavy credit user, has minimal savings, short term employment, large increase to housing expense, high debt to income ratios, and no reserves would only have to pay 1.25% upfront and .55% annually. Yet a borrower who saved 5% down, has no or minimal debt, long term employment, ample reserves, minimal increase to housing, and a low debt to income ratio but has a low or no credit score (despite sufficient alternative credit) would be charged 2% upfront and .55% annual.
Although high credit score loans outperform low credit score loans, it is because borrowers with good credit pay better than those with bad credit regardless of score. Where scores become problematic is when they are relied upon too heavily and are used to justify a layering of underwriting flexibilities. When underwriting risks are layered, it negates the benefit of higher credit scores and creates an overall risk that is on par with weaker credit borrowers. Hence, the reduced premiums for high-risk, high-score borrowers represents an unacceptable risk to the FHA program.
Ironically, before the ink from the President’s signature on H.R. 3221 was even dry, the so-called “non profit” seller funded down payment assistance providers encouraged members of the House of Representatives to introduce H.R. 6994 which uses risk based premiums as a tool for preserving their seller funded down payment grant schemes. Click here to view a copy of H.R. 6994 that was released by Ameridream a day after the President signed H.R. 3221 into law.
While risk based premiums have been curtailed for now, borrowers with decision credit scores under 500 (regardless of reason or error) are still limited to 90% loan to value without exception. In the case of multiple borrowers, the borrower with the lowest credit score will be used even if they only have one score. This is especially problematic for borrowers with minimal or no traditional credit or borrowers with substantial inaccuracies on their credit report. This also creates a barrier for socioeconomically challenged borrowers that do not use traditional credit or who have suffered from a bona fide economic hardship. For these borrowers, a better approach would be to provide manual underwriting that considers all facts and circumstances and/or mandatory financial counseling. As is current FHA policy, all borrowers with credit scores must be scored by FHA TOTAL Scorecard.
Whether you are opposed or for risk based premiums, one thing is certain: FHA mortgage insurance remains cheap. Consider that some of us remember when premiums were 3.8% upfront.
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