Can The FHA Sustain Itself Without Stricter Guidelines?

by Heindrick So
December 8th, 2008

A Self-Sufficient FHA
Since 1934, the FHA has managed to support itself without relying on public money to cover any of its mortgage losses. So far, the FHA has been able to rely on the insurance premiums paid by FHA borrowers to cover the costs of loan defaults and foreclosures. 

Unfortunately, the FHA insurance fund has been estimated to be at $12.9 billion – a 39% decrease from last year’s estimate of $21.2 billion. One of the most serious concerns is that taxpayers money may used if this insurance fund continues to drop. Currently, the $12.9 billion roughly represents about 3 percent of total mortgages insured by the FHA. If the insurance fund fails to cover the required 2 percent by law, taxpayers could be the ones footing the bill for the insurance fund deficiency.

Higher FHA Insurance Premiums and Down Payment Requirements
Since October 1st, the FHA has already raised the up front mortgage insurance premiums to 1.75% from the usual 1.5%. Meanwhile, the annual insurance premiums for FHA borrowers is around .5% of the principal loan balance. As for the down payment requirements, the FHA has already announced that the current 3% requirement will be raised to 3.5% next year.

FHA Loans Struggle Against Falling Home Values
With home values still falling across the nation, a 3% (or 3.5%) down payment just doesn’t give FHA homeowners a whole lot of breathing room. Just last month, I asked if 3.5% in home equity was too risky for the FHA. Unfortunately, when homeowners get stuck owing more on the loan than the house is worth (negative equity), the chances of refinancing or selling becomes much more difficult. As a result, the chance of loan delinquency and foreclosure increase as well.

If the numbers from the insurance fund stay consistent with its current trend, we could easily see FHA tighten up their loan guidelines even further. Unless the option of an FHA bailout through taxpayer’s money is considered, the FHA will likely have to make changes to deal with their increasing risk. For FHA borrowers and homeowners, this translates into tighter lending standards and increased loan requirements.

Based on past experience, the FHA is a little slow when it comes to updating it’s loan guidelines, so those currently considering FHA loans still have time to evaluate their options. In the meantime, it’ll probably be wise to keep an eye on that insurance fund as a strong indicator of any possible FHA changes in the future.

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