FHA loans: not subprime and not unnecessary

by Peter G. Miller
December 6th, 2010

The FHA program continues to be a political football, though why I don’t especially understand. If you think the real estate market is lousy today, imagine what it would be like without FHA mortgages.

Writing for the American Enterprise Institute, Peter Wallison and Edward Pinto explain that “while everyone has been watching Fannie and Freddie, the administration has quietly shifted most federal high-risk mortgage initiatives to FHA, the government’s original subprime lender. Along with two other federal agencies, FHA now accounts for about 60 percent of all U.S. home purchase mortgage originations. This amounts to more than $1 trillion and is rising rapidly. The administration justifies this policy by saying it is necessary to support the mortgage market, yet borrowers are once again receiving high-risk loans.”

Gee, this sounds pretty spooky and scary, but then maybe not.

No Compulsion

It’s perfectly true that Fannie Mae, Freddie Mac and the FHA have a large involvement with the mortgage marketplace. But so what? Fannie Mae and Freddie Mac constitute much of the “secondary” market — they buy loans from local lenders, package the loans, and then sell the loans by issuing securities which are bought by investors worldwide. Having the sold loans, lenders can use the cash they receive from the secondary market to fund new loans, sell those loans, etc. etc.

So what’s the problem with this system? Well, there are also private players in the secondary and they no doubt would like a bigger share. Those who worry about government influence would also like to see a bigger percentage of the business in the secondary market go to private companies.

But to describe the FHA program as the “government’s original subprime lender” is nonsense. First, the FHA is not a lending program, it insures private lenders. If lenders do not want to make mortgages which meet FHA guidelines that’s perfectly fine. For instance, the hugely-successful Hudson City Bancorp makes almost no FHA loans.

Moreover, no one is forcing any lender to sell a single loan to Fannie Mae or Freddie Mac. Lenders can keep the loans they make in portfolio, as does ING Direct.

The idea that FHA loans are associated with subprime financing in any material way is ridiculous. As of October 2010, the average FHA FICO score was 702.

It was the private sector that screwed up the lending system when long-time dreams of less regulation came true. Think about it: There is no FHA option ARM. There is no interest-only FHA loan. No one at the FHA is getting millions of dollars in bonuses. If you want to get a new FHA loan you have to verify your income and employment.

So here’s an idea: Let’s allow the free market to keep working. If lenders don’t like the FHA or Fannie Mae or Freddie Mac then surely they can make — and keep — loans that meet their own standards.

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This entry was posted on Monday, December 6th, 2010 at 12:31 am and is filed under . You can follow any responses to this entry through the RSS 2.0 feed. You can skip to the end and leave a response. Pinging is currently not allowed.

2 Responses to “FHA loans: not subprime and not unnecessary”

  1. Jacob Strumwasser Says:

    This piece is totally arrogant in its dismissive nature. Peter Miller should take a look at the FHA rates to insure mortgages and compare that to private industry rate to insure mortgage…he will realize tax payers are subsidizing a perfectly well functioning market … one that did not need a bailout – mortgage insurers received not one dollar of direct bailout money.

  2. s2kreno Says:

    As a mortgage lender I can tell you firsthand that FHA has never been subprime and certainly isn’t now. What took subprimers down was layering of risk, bad credit plus no down payment plus no income verification equals default. FHA was abandoned then because it required so much documentation. Today’s FHA underwriting is what used to be called “common sense” back in the day. You didn’t just look at scores, you looked at the reasons behind them and at circumstances both mitigating and aggravating. FHA borrowers today are stronger than yesterday’s “prime” borrowers. And in some cases FHA insurance costs more than conventional insurance. It depends on the circumstances.

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