FHA Risk Study Critical of Streamline Refinance Program

by Karen Lawson
March 18th, 2010

Last week, New York University and the Federal Reserve Bank of New York released a study critical of FHA audit results indicating that the agency won’t need a taxpayer bailout due to high mortgage default and foreclosure rates. Professor Andrew Caplin of NYU and a co-author of the study, asserts that the FHA audit failed to consider the risks created by FHA borrowers who owed more on their mortgages than their homes were worth, and who were allowed to refinance to new FHA loans.

This is likely a reference to the FHA streamline refinance program, which provides FHA to FHA refinancing, and permits  unlimited combined loan-to-value ratios (CLTV) for new financing when secondary mortgage lenders remain in place with subordination agreements.  The combined effect of home equity financing and dramatic losses in home value have left FHA with little choice but to take on high CLTV refinance mortgages, or risk acquiring more properties through foreclosure.

FHA Mortgage Loans:  To Foreclose, or Not to Foreclose…

The streamline refinance program assists borrowers who cannot otherwise refinance their mortgage loans due to loss of home value; the FHA streamline refinancing program is only available to borrowers who have existing FHA loans. Which would be better–taking a risk on streamline refinancing to prevent foreclosure or just saying “no” and letting borrowers walk away? The consequences of foreclosing mortgage loans go far beyond ruining homeowner credit ratings:

  • Foreclosed homes lose value, and bring down neighborhood home values
  • Vacant foreclosed homes add blight and can attract crime
  • Too many foreclosures in one area can cause increased vacancies and lost tax revenue

Bearing this vicious cycle in mind, FHA efforts to prevent foreclosures through streamline refinancing is not a bad idea. As far as the study is concerned, it’s not possible to compare refinancing results for underwater FHA loans to similar non-FHA loans, as conventional lenders don’t refinance underwater mortgages at all; conventional borrowers typically need to have at least 10 to 20 percent home equity to qualify for refinancing.

While it’s true that FHA borrowers generally have less invested in their homes due to low down payments, the housing crisis has seen home values in some areas tumble to the extent that conventional borrowers who started off with 20 percent home equity have seen it disappear. Although bailout weary legislators and taxpayers are watching falling FHA reserves closely, it’s likely that the wave of foreclosures resulting from tightening streamline refinance CLTV requirements would cause an outcry in neighborhoods impacted by higher foreclosure rates.  Providing refinancing to distressed homeowners at current FHA mortgage rates may make the difference between keeping a home or becoming a foreclosure statistic.

It’s undeniable that taxpayers include underwater homeowners, their neighbors and communities. FHA is performing yet while managing risk and accommodating the needs of homeowners and their communities through reducing foreclosures.

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3 Responses to “FHA Risk Study Critical of Streamline Refinance Program”

  1. Andrew Caplin Says:


    Unfortunately, you open with a mis-statement, which makes the article bizarre. In fact, Caplin, Freeman, and Tracy [1997] is an article that proposed the streamline policy well before FHA adopted it. The problem is not the policy, but the unbelievably poor account keeping and analysis. Please read the relevant articles,
    Andrew Caplin

  2. Karen Lawson Says:

    Professor Caplin, Thank you for reading this article and for clarifying your position concerning the study cited in this post. I apoligize for any misinterpretation of your work.

  3. Gina Pogol Says:

    I think I see how the confusion came about. A Washington Post article makes an almost identical statement to Karen’s. “Caplin said the audit ignored the risks posed by FHA borrowers who owe far more than their homes are worth and yet managed to refinance into new FHA-backed loans.” If that was the source of her information it’s pretty easy to see how the meaning was twisted.

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