FHA short refi program on the rocks

by Peter G. Miller
July 11th, 2011

As we have long predicted, the FHA’s short refi program continues to be dead in the water. Despite a big announcement introducing the program last August, the marketplace reaction has been ho-hum.

Is this fair? Is there anything in the short refi program which might redeem the concept?

The latest numbers from Housing and Urban Development (HUD) tell us that since Oct. 1. a total of 535 applications have been submitted for the program and, of these, just 195 have been

approved so far. As of May just 65 applications were in the pipeline, suggesting that very large numbers of applications have fallen through.

Where are the applications going?

When the program was first introduced, then-FHA Commissioner David H. Stevens said “we’re throwing a life line out to those families who are current on their mortgage and are experiencing financial hardships because property values in their community have declined. This is another tool to help overcome the negative equity problem facing many responsible homeowners who are looking to refinance into a safer, more secure mortgage product.”

To get a short refi a borrower would have to have a good credit record, a property that was financially underwater and a lender who was willing to write-off at least 10 percent of the debt.

So, for example, imagine that a borrower owes $350,000 for a property that’s now worth $300,000. If he does a short refi the FHA will provide a new loan equal to 97.75 percent of $300,000. That’s financing worth just $293,250. That’s also $56,750 the lender is being asked to write off.

Lenders, of course, are not interested in reducing principal amounts.


The Treasury Department tells us that through May the government successfully modified more than 730,000 mortgages. And how many involved principal reductions? That would be 4,911 loans. Or, roughly, about one out of every 150 modifications.

The weird aspect of the short refi program is that in some areas the market declines have been so substantial that the FHA mortgage program just might make sense.

Go back to the example with the $350,000. It’s awful that the lender is being asked to shed $57,000 in principal, not just for the lender but because you can also bet that every house in the neighborhood is equally devalued.

In fact, in some markets the actual loss is likely to be far worse. Think of our major foreclosure centers. In such cases it may be worthwhile for both borrowers and lenders to do the math and take the FHA short re-fi. It’s not a great option, but it may be better than a short sale or foreclosure.

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