FHA Guidelines Toughen — For Lenders

by Peter G. Miller
April 12th, 2010

As part of its effort to reduce risk and cut claims, the government wants to toughen standards for lenders who make FHA mortgages. At first this may not seem like much of a concern for borrowers, but in fact if you need a loan you may well be impacted.

As FHA Commission David H. Stevens explains, the government wants FHA-approved lenders to have more capital. “Since 1993,” says Stevens, the “FHA has required approved lenders to have a net worth of at least $250,000. To ensure that FHA lenders are sufficiently capitalized to meet potential need, effective immediately, all new lender applicants for FHA programs must now possess a minimum net worth of $1 million.” There will be an exception for current FHA-approved small business lenders, they’ll need a minimum net worth of $500,000.

Okay, so lenders will need more capital. What does this mean?

It means that lenders — especially smaller FHA lenders — will have a very keen interest in getting loan documents right. The reason is that the FHA can force lenders to buy back loans which are improperly underwritten. If you’re a smaller lender and the FHA wants you to buy back three or four loans at $300,000 each it can pretty much ruin your day.

Lenders in such situations face some difficult choices. If they don’t buy back the loans they’re out of the FHA program and that greatly limits their ability to compete for borrowers. Alternatively, smaller firms with that $250,000 in capital may not have the cash to buy back the mortgages, meaning they’re out of business.

In effect, the FHA is forcing lenders to have more risk — if they screw around with loan documents, underwriting standards, verifications and appraisals. Alternatively, if lenders follow the rules and a loan fails it’s not a problem for the lender if the procedures were correctly followed.

In three years the rules get tougher — Stevens says “approved lenders and applicants to FHA single-family programs must have a net worth of $1 million plus 1% of total loan volume in excess of $25 million.”

In effect, the capital requirement goes up for big lenders. This is good in the sense of more protection for the FHA mortgage program and also in the sense that standards for smaller lenders will not become tougher.

In practice we want as many lenders as possible offering FHA loans — and complying with FHA guidelines and FHA qualification standards. More lenders mean more competition and that’s good for borrowers.

For our purposes when financing or refinancing we don’t care if the FHA lender is big or small, we only care that the lender is delivering the right loan product — cheaply. The best way to assure that FHA loans with the lowest possible cost are available is to let lots of small lenders compete.

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