Homeownership: FHA's Role in Helping People Obtain Home Mortgages
Published: 1996-08-13T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: Pursuant to a congressional request, GAO provided information on the Federal Housing Administration's (FHA) role in helping people to obtain home mortgages.
section_title: What GAO Found
paragraphs: GAO found that: (1) FHA and Department of Veterans Affairs (VA) programs allow borrowers to make smaller downpayments and accumulate higher total debt to income ratios than private mortgage insurers (PMI); (2) FHA programs finance closing costs as a part of the mortgage, insure loans up to $155,250, and provide full insurance coverage to lenders; (3) FHA insured 15 percent of the single-family housing market in 1994; (4) FHA insures low-income homebuyers with incomes no greater than 80 percent of the median income of the metropolitan statistical area; (5) FHA insures more home purchase mortgages than PMI or VA; (6) two-thirds of FHA approved loans would not have qualified for PMI; (7) the maximum loan amount for a FHA single-family home mortgage is the lesser of 95 percent of the median house price or 75 percent of the Federal Home Loan Mortgage Corporation's loan limit; (8) the federal government promotes affordable homeownership through several HUD and other Federal programs; (9) these programs require federal funds and assist homebuyers in combining their assistance with FHA mortgage insurance; and (10) FHA programs promote homeownership among home buyers that are typically underserved by other agencies and PMI.

section_title: Letter
paragraphs: This report responds to your request that we review the role of the Federal Housing Administration (FHA) in providing mortgage credit to home buyers. Specifically, the report discusses (1) the terms of the mortgage insurance offered by FHA, private mortgage insurers, and the U.S. Department of Veterans’ Affairs; (2) the characteristics of borrowers of insured mortgages and the overlap between FHA-insured mortgages and privately insured mortgages; and (3) other methods used by the federal government to promote affordable homeownership.
We are sending copies of this report to the Secretaries of Housing and Urban Development, Agriculture, and Veterans Affairs; the Chairman of the Federal Housing Finance Board; the Presidents of the Federal National Mortgage Association and Federal Home Loan Mortgage Corporation; and the President of the Mortgage Insurance Companies of America. We will make copies available to others on request.
Please call me at (202) 512-7631 if you or your staff have any questions. Major contributors to this report are listed in appendix VII.
subsections: section_title: Introduction
paragraphs: Purchasing a home is one of the greatest financial undertakings of most American families. In 1994, about 3.5 million families and individuals bought homes. Another 2.5 million families and individuals refinanced the mortgages on their existing homes. A variety of public- and private-sector institutions are involved in helping borrowers to obtain the mortgage credit they need to purchase homes. These institutions include mortgage insurers, who insure lenders against all or some losses on home mortgages. The primary mortgage insurers are private mortgage insurers (PMI), the Federal Housing Administration (FHA), and the U.S. Department of Veterans’ Affairs (VA).  Mortgage insurance is required primarily for borrowers with limited down payment funds.
subsections: section_title: Most Mortgages Are Not Insured
paragraphs: Of the approximately 6 million mortgages reported through the Home Mortgage Disclosure Act (HMDA) for purchasing homes and refinancing existing mortgages in 1994, most (4 million) were not insured. In fact, 55 percent or more of the mortgages originated annually in 1984 through 1994 were uninsured. Uninsured mortgages reached their peak level in 1992 at 80 percent of all mortgages originated, as shown in figure 1.1.
section_title: Many Home Purchase Mortgages in 1994 Were Insured
paragraphs: Many home buyers (42 percent) who financed the purchase of a home in 1994 required mortgage insurance. This percentage is substantially higher than the percentage of all mortgages taken out for refinancing in 1994 that were insured (19 percent). Mortgage insurance is generally used when a borrower makes a down payment of less than 20 percent of the value of the home (when the mortgage has a loan-to-value (LTV) ratio greater than 80 percent). If a borrower does not repay an insured mortgage loan as agreed, the lender may acquire the property through foreclosure and file a claim with the mortgage insurer for all or a portion of its total losses (the unpaid mortgage balance and interest, along with the costs of foreclosure and other expenses). If a borrower does not have mortgage insurance and fails to repay a mortgage, the lender may acquire the property through foreclosure and is responsible for the full amount of losses it incurs.
While FHA and VA are federal entities, PMIs are privately-owned companies regulated at the state level. FHA is a government corporation operated within the U.S. Department of Housing and Urban Development (HUD). However, its primary single-family mortgage insurance program, the Section 203(b) program, is supported by the Mutual Mortgage Insurance Fund, which requires no federal funds to operate. The Mutual Mortgage Insurance Fund is required by law to meet or endeavor to meet statutory capital ratio requirements; that is, it must contain sufficient reserves and funding to cover estimated future losses resulting from the payment of claims on defaulted mortgages and administrative costs. Cash flows into the fund from insurance premiums and from the sale of foreclosed property. The cash reserves in the fund have always been more than enough to cover the expenses incurred. In 1995, the fund had a negative credit subsidy of $309 million. Negative credit subsidies occur when the present value of estimated cash inflows to the government exceeds the present value of estimated cash outflows. However, if the fund were to deplete its reserves, the U.S. Treasury would have to directly cover lenders’ claims and administrative costs. VA’s single-family mortgage guaranty program does require federal funds each year. In 1995, this program received a credit subsidy of $684 million.
Many insured single-family mortgages are ultimately sold to investors through the secondary mortgage market. In 1995, virtually all FHA- and VA-insured mortgages were sold to investors with the help of the Government National Mortgage Association (Ginnie Mae), which, like FHA, is also a part of HUD. Ginnie Mae guarantees securities backed by pools of FHA- and VA-insured mortgages. Specifically, Ginnie Mae guarantees that investors in Ginnie Mae securities will receive timely principal and interest payments. Most privately insured mortgages are sold by lenders to the Federal National Mortgage Association (Fannie Mae) or the Federal Home Loan Mortgage Corporation (Freddie Mac)—two government-sponsored enterprises (GSE) that sell securities backed by pools of mortgages to investors and hold other mortgages as investments. Like Ginnie Mae, Fannie Mae and Freddie Mac guarantee investors in their securities that they will receive their expected principal and interest payments. Fannie Mae and Freddie Mac’s charters require that loans they purchase with LTV ratios greater than 80 percent have some form of credit enhancement. Private mortgage insurance is the most common enhancement used for these high LTV loans. For an insured loan they have purchased, Fannie Mae and Freddie Mac assume the responsibility for foreclosure losses, if any, that a lender incurs above the amount of the claim paid by the PMI.
Lenders use guidelines provided by the PMIs, FHA, and VA to determine whether a borrower is eligible for mortgage insurance through any of the insurers. These guidelines include maximum allowable LTV and qualifying ratios. Although some of the guidelines pertaining to FHA and VA mortgage insurance are set by the agencies, many are set by the Congress through legislation. Similarly, although some of the requirements for private mortgage insurance originate with the PMIs, others are set by Fannie Mae and Freddie Mac. When determining if a mortgage is eligible for private mortgage insurance, the requirements set by Fannie Mae and Freddie Mac are considered because many lenders want to sell insured mortgages through the secondary market. The requirements set by Fannie Mae and Freddie Mac include underwriting standards, insurance coverage requirements, and a maximum loan amount.
section_title: PMIs Followed FHA and VA’s Lead in Providing Mortgages With Very Low Down Payments
paragraphs: In 1994, PMIs joined FHA and VA in offering insurance for mortgages with LTV ratios greater than 95 percent by creating special “affordable” programs. The affordable programs are for loans with LTV ratios of up to 97 percent. Generally, these affordable programs have more flexible underwriting than the standard program. Some PMIs also offer products through very specialized programs, sometimes administered in conjunction with another player, such as a state housing finance agency (HFA), with even more flexible terms than those available through the companies’ affordable programs.
section_title: FHA’s Share of the Insured Market Has Varied
paragraphs: Between 1984 and 1994 (the latest year for which data are available), FHA’s share of all loans insured each year both for purchasing homes and refinancing existing mortgages has fluctuated between a low of 18 percent in 1984 and a high of 51 percent in 1987. PMIs’ share during the same period fluctuated between a low of 29 percent in 1987 to a high of 69 percent in 1984. VA’s share during this period stayed between 13 and 20 percent. The relative market shares of the mortgage insurers are shown in figure 1.2.
Between 1986 and 1990, FHA was the largest insurer. The factors contributing to FHA’s large market share during these years may include an increase in FHA’s maximum loan limit in 1988 and economic downturns in some areas of the country. Except for FHA’s loan limit, the terms, such as maximum LTV ratio, under which FHA and VA mortgage insurance is available do not generally vary across different geographic locations, according to program guidelines. However, PMI companies may change the conditions under which they will provide new insurance in a particular geographic area to reflect the increased risk of losses in an area experiencing economic hardship. By tightening up the terms of the insurance they would provide, PMIs may have decreased their share of the market in economically stressed regions of the country.
From 1990 through 1992, the share of the market insured by FHA fell. This decrease may be a result, in part, of increased premiums for FHA insurance implemented as a result of the Omnibus Budget Reconciliation Act of 1990 (P.L. 101-508). In 1992, the insurance premium for FHA mortgages decreased, which may have contributed to the rise in FHA’s market share that took place in 1992 through 1994. Throughout the period from 1991 through 1994, the PMIs had a greater share of all insured single-family mortgage originations than FHA or VA. In 1994, the PMIs’ share of all insured single-family mortgage originations was 48 percent, FHA’s was 35 percent, and VA’s was 17 percent.
section_title: Other Federal Homeownership Tools
paragraphs: The federal government uses a variety of tools to promote homeownership, in addition to providing mortgage insurance through FHA and VA. As mentioned above, the secondary market institutions (Ginnie Mae, Fannie Mae, and Freddie Mac) help make capital available for mortgage lending. The Federal Home Loan Bank (FHLB) system also helps provide liquidity for lenders. The federal government insures deposits and provides advances to the thrifts and savings institutions that are members of the Federal Home Loan Bank system.
Federal tax incentives, such as the home mortgage interest deduction that is available to homeowners of all income levels, also are designed to encourage homeownership. Federal programs and requirements that are designed to make homeownership affordable, particularly among households who may be underserved by the private market, are discussed in chapter 4.
section_title: Objectives, Scope, and Methodology
paragraphs: To obtain more information about the role of FHA’s single-family program in today’s housing finance system, the Chairman of the Subcommittee on Housing and Community Opportunity, House Committee on Banking and Financial Services, asked us to provide information on (1) the terms of products available through FHA’s Section 203(b) program in comparison with the terms of products available through the programs of the PMIs and VA; (2) FHA’s share of the home purchase mortgage market, the characteristics of home buyers using FHA mortgage insurance in comparison with other home buyers, and the portion of FHA borrowers who met certain qualifying ratios for private mortgage insurance; and (3) other federal programs and activities, besides FHA and VA, that promote affordable homeownership.
To compare the terms available through FHA’s Section 203(b) program with the terms offered by PMIs and VA, we reviewed FHA’s and VA’s program regulations, FHA’s mortgagee letters, and the underwriting guidelines and marketing materials published by the PMIs. Although the private mortgage insurance industry is composed of eight companies, we limited our review to the guidelines of the six companies that accounted for 97 percent of all new mortgages that were privately insured in 1994. We also collected information on the insurance offered by PMIs through interviews with officials from four PMIs and from the Mortgage Insurance Companies of America (MICA). Because we wanted to compare the terms of private mortgage insurance that are most similar to the terms of FHA mortgage insurance, we focused on the affordable programs administered by the PMIs that may be used for loans with LTV ratios as high as 97 percent. We restricted our review of the terms of FHA single-family mortgage insurance to the Section 203(b) program because it is FHA’s primary single-family mortgage insurance program.
We computed FHA’s share of the home purchase mortgage market and compared the home buyers using FHA insurance to other home buyers by using the following data sources: (1) data reported through the HMDA on the volume of mortgages made by lenders in 1994 and the income, race, and location of borrowers; (2) data reported by MICA on the volume of mortgages insured by PMIs in 1994 and the income, race, and location of borrowers; (3) data from the 1993 American Housing Survey (AHS) conducted by the U.S. Department of Commerce on the age of home buyers; (4) data from HUD on the LTV ratio of the loans insured by FHA in 1994; (5) data from the Monthly Interest Rate Survey conducted by the Federal Housing Finance Board on the LTV ratios of conventional loans made in 1994; (6) data from VA on the LTV ratios of loans insured by VA in 1994; and (7) data from the Mortgage Bankers’ Association (MBA) on first-time home buyers who took out mortgages in 1994. We used the data from the American Housing Survey, FHA, the Federal Housing Finance Board, VA, and the MBA because the HMDA and MICA data do not include data on the age of borrowers, LTV ratio, and first-time home buyers. We used 1993 and 1994 data because these were the most recent years for which data comparing FHA-insured loans with other types of loans were available. We did not attempt to examine trends over time in borrowers’ characteristics because our objective was limited to describing how FHA’s current clientele compares with other home buyers. We also limited our examination of borrowers’ characteristics to home purchase mortgages, excluding mortgages taken out to refinance existing mortgages.
The data we used that were collected through HMDA do not include every mortgage made in 1994 for several reasons. First, not all lenders are required to report under HMDA. A depository institution is required to report if it has an office in a metropolitan area and its assets are at least $10 million. A mortgage company is required to report if it processes 100 or more mortgage applications. Second, the HMDA data we used do not include any mortgages made by lenders who do not lend in a Metropolitan Statistical Area (MSA). Third, the data do not include mortgages for non-owner-occupied homes. According to a Federal Reserve official, the HMDA data for 1994 include 77 percent of all home purchase mortgage loans.
Single-family mortgages insured through FHA’s Section 203(b) program are not distinguished from mortgages insured through FHA’s other smaller single-family mortgage insurance programs in the HMDA data. However, 60 percent of all single-family loans insured through FHA in 1995 were made through FHA’s Section 203(b) program. Information on how FHA’s 203(b) mortgages compare to mortgages insured through the other FHA programs is presented in chapter 4.
The data from MICA that we used pertain to nearly all of the mortgages insured by PMIs in 1994 through both standard and affordable programs. Although the MICA data pertain only to privately insured loans, the HMDA data consist of FHA-insured loans and all others. To compare FHA-insured mortgages to those insured by PMIs and to uninsured mortgages, in some cases we subtracted the number of loans reported to MICA from the non-government-insured loans in the HMDA data to obtain information about those loans that were uninsured. To take into account underreporting in the HMDA data, we reduced the MICA data by 23 percent when comparing the relative shares of the market for privately insured, FHA-insured, and uninsured loans.
We also used AHS data, which were derived from a 1993 survey of approximately 65,000 households. The data we used are from the subset of these households that acquired a mortgage in 1993. We also reviewed existing studies conducted by officials at HUD, the Federal Reserve System, and the MBA.
We looked at borrowers’ income, race, and first-time home buyer status because these characteristics have been highlighted by studies showing that certain types of borrowers, such as low-income borrowers, have difficulty obtaining mortgage credit. In addition, we looked at LTV ratios to compare the types of loans insured by FHA and by the PMIs, given differences in maximum allowable LTV ratios and the associated risk. We also looked at the state in which the loan was insured to identify geographic differences in the use of mortgage insurance. We could not compare the claim rates or loss rates of FHA-insured loans with other loans because data for privately insured and uninsured loans were unavailable.
We determined how many of the loans that FHA insured would have met PMIs’ requirements through analysis of FHA home buyers’ characteristics and PMIs’ guidelines. Unlike the analyses described above for which 1994 and 1993 data were the most recent available, we were able to use 1995 data for this analysis because it only required information about FHA-insured mortgages. We asked FHA program staff to use their automated data to determine the percentage of 1995 FHA home buyers who reported on their loan application qualifying ratios and LTV ratios below the maximum levels generally allowed by PMIs (mortgages with LTV ratios no greater than 97 percent, total debt-to-income ratios no greater than 38 percent, and housing-expense-to-income ratios no greater than 33 percent).
We obtained most of our information on other ways in which the federal government helps to provide affordable homeownership opportunities by reviewing published information and by discussing program features with program officials at the various departments and agencies involved. We did not verify the accuracy or the completeness of the data provided by program officials. We also reviewed program regulations and budget submission information.
We provided a draft of this report to HUD, VA, Fannie Mae, Freddie Mac, and the MICA for their review and comment. We also provided excerpts from the draft report that pertained to their homeownership activities to the National Council of State Housing Agencies, the FHFB, the Neighborhood Reinvestment Corporation, and the U.S. Department of Agriculture’s Rural Housing Service. All nine agencies provided comments. We incorporated these comments, as appropriate, throughout the report.
Some specific comments from HUD, MICA, and the FHFB are discussed at the end of chapters 3 and 4. Comments from MICA, the National Council of State Housing Agencies, the FHFB, and the Neighborhood Reinvestment Corporation are reproduced in appendixes III-VI.
We performed our work from March 1995 through July 1996 in accordance with generally accepted government auditing standards.
section_title: Single-Family Mortgage Insurance Terms Offered by FHA, PMIs, and VA Are Different
paragraphs: The single-family mortgage insurance programs of FHA, PMIs, and VA protect private lenders against all or some of the losses that might result from foreclosure. However, the products offered by these organizations differ in terms of the (1) maximum mortgage amounts and LTV ratios allowed; (2) underwriting standards for borrowers, such as the income-to-expense qualifying ratio requirement; (3) funds required at loan closing for such items as down payment and closing costs; and (4) dollar amount or percent of loss that each organization will pay lenders to cover the losses associated with foreclosed loans.
While FHA’s maximum loan amount, effective January 1, 1996, is $155,250, PMIs can insure and VA can guarantee loans that exceed this amount. On the other hand, PMIs can insure loans with a maximum LTV ratio of 97 percent, while both FHA and VA can insure/guarantee loans with ratios exceeding 100-percent. In addition, both FHA and VA generally require borrowers to pay less cash at loan closing than PMIs require. Finally, FHA provides lenders with essentially 100 percent protection against losses from foreclosed loans, while both PMIs and VA protect against a portion of the losses. While this chapter does not discuss all of the differences that exist in the terms offered by the three organizations, the terms described were cited as the most significant by industry and FHA officials we interviewed.
FHA offers a number of specialized insurance programs; however, because almost 60 percent of its home purchase loans in 1995 were made under the Section 203(b) program, our analysis of FHA addresses only this program.
Similarly, PMIs insure loans under a variety of different programs. In general, PMIs insure mortgages using what they refer to as either standard or affordable housing loans. Affordable insurance programs differ from standard ones in that they offer more flexible underwriting guidelines than the PMIs’ standard programs in several areas such as LTV ratios, qualifying ratios, and reserve requirements. PMIs offer two types of affordable loans: (1) a maximum LTV ratio of 95 percent and (2) a maximum LTV ratio of 97 percent. The underwriting guidelines for the 97-percent LTV ratio are more restrictive than the 95-percent affordable program for things such as credit ratios. To compare the PMI programs that were most like FHA’s Section 203(b) program and VA’s loan guaranty program, we used the published underwriting guidelines for the PMI affordable loans and limited our review to the insurance terms for these loans.
While both FHA’s and PMIs’ programs can provide insurance to any borrowers who meet the programs’ underwriting guidelines, VA’s loan guaranty program is limited to qualified veterans and their survivors.
subsections: section_title: General Loan Requirements
paragraphs: When deciding whether to finance a home with a loan insured by FHA or a PMI, or guaranteed by VA, the prospective home buyer must consider both the amount of money needed to purchase the home and the amount of the down payment or other cash needs required by the lender. The three organizations differ in the maximum loan amounts and cash requirements for closing a loan.
subsections: section_title: Maximum Loan Amounts
paragraphs: While FHA is legislatively constrained by the dollar amount of loans it can insure, PMIs and VA are not. FHA’s maximum loan amount for a single family home is legislatively set at the lesser of 95 percent of the median house price in the area or 75 percent of the conforming loan limit for Freddie Mac. As of January 1, 1996, FHA’s maximum loan amount in the highest-cost areas was $155,250. Many areas are not at the highest cost; these areas’ maximum loan amounts range from $78,660 up to the high-cost limit.
While PMIs can insure loans of any size, they have established loan limits for loans insured under their affordable housing programs. This limit differs depending on the company. For loans with a 97 percent LTV ratio, four of the PMIs specified $203,150 as their maximum loan limit when this was the conforming loan limit; one stated that the limit was $250,000; and the remaining PMI did not specify a loan limit.
VA places no limit on the maximum loan that may be guaranteed, except that the mortgage may not exceed the home’s appraised value plus the VA funding fee, if it is financed. As a rule, however, lenders generally limit VA loans to four times the VA guaranty amount. Since the maximum VA guaranty is currently legislatively set at $50,750, VA loans will rarely exceed $203,000.
section_title: Maximum LTV Ratios
paragraphs: FHA, PMIs, and VA differ in terms of their maximum allowable LTV ratios and how they calculate this ratio. FHA and VA allow higher LTV ratios than PMIs. The LTV ratio represents the ratio of the unpaid principal balance of the loan to the lesser of the appraised value or the sales price of the property. LTV ratios are important because of the direct relationship that exists between the amount of equity a borrower has in his/her home and the likelihood or risk of default. The higher the LTV ratio, the less cash a borrower is required to pay out of his/her own funds. However, the higher the LTV ratio, the less cash the borrower will have invested in the home and the more likely it is that he/she may default on the mortgage obligations, especially during times of economic hardship. Thus, while FHA and VA’s higher LTV ratios allow a home buyer to purchase a higher-priced home with less money, these loans have a greater risk of defaulting than PMI loans.
The Omnibus Budget Reconciliation Act of 1990 (P.L. 101-508), enacted in November 1990, established LTV limits for FHA loans of 98.75 percent if the home value is $50,000 or less, or 97.75 percent if the home value is in excess of $50,000. However, because FHA allows financing of the up-front insurance premium, borrowers can in effect receive loans with LTV ratios that exceed 100 percent. The method of determining the maximum FHA mortgage amount requires two steps, as shown in table 2.1. The example assumes a home with a purchase price of $100,000 and closing costs of $2,300. We also assume that the purchase price is equal to or less than the appraised value of the property.
In the above example, the lesser of the two amounts, $97,685, becomes the maximum mortgage allowed. However, this is not the final mortgage amount if the borrower also finances the up-front, 2.25-percent insurance premium in the mortgage ($2,198 in the example above). The total mortgage in this case is $99,883 ($97,685 plus $2,198), or an LTV ratio of 99.9 percent of the purchase price.
PMIs, on the other hand, establish maximum LTV ratios for loans they insure, which means that any cost above this amount must be paid at closing. Essentially, all six of the PMIs allow LTV ratios up to a maximum of 97 percent. In general, loans having a maximum LTV of 97 percent fall under the PMIs’ affordable housing loan programs. The PMIs began to insure loans with a 97-percent LTV ratio in 1994. Loans with a 95-percent LTV ratio can be made under the affordable loan guidelines also, as well as under the companies’ regular loan programs.
For VA loans, the maximum LTV ratio is 100 percent of the lesser of the amounts shown on the “certificate of reasonable value” issued by VA, or the “notification of value” issued by the lender if processed under VA’s Lender Appraisal Processing Program, or the selling price, plus the VA funding fee. The certificate or notification is issued in response to an appraisal request for the determination of reasonable value from a veteran, lender, builder, or owner. The certificate or notification is used to notify the requester of the maximum amount VA will guarantee.
Table 2.2 illustrates how each entity calculates its LTV ratio and summarizes the LTV calculations for each of the three entities. The example assumes a $100,000 purchase price (appraisal value) and a 30-year fixed-rate loan at 7.5 percent interest.
As shown in table 2.2, the VA loan has an LTV ratio of 102 percent, the FHA loan has an LTV ratio of 99.9 percent, and the two PMI loans have LTV ratios of 95 percent and 97 percent—the lowest of the LTV ratios. These results reflect differences between the three organizations in their maximum allowable LTV ratios as well as their requirements for down payment and the financing of closing costs and insurance premiums.
section_title: Loan Underwriting Standards
paragraphs: When underwriting mortgage loans, FHA, PMIs, and VA all require that lenders examine a borrower’s ability and willingness to repay the mortgage debt by examining the borrower’s qualifying ratios and credit history. Differences exist in the qualifying ratios allowed among FHA, PMIs, and VA. However, differences in the written requirements for credit history examination among insurers were minimal.
subsections: section_title: Qualifying Ratios
paragraphs: Both FHA and PMIs use two qualifying ratios to determine whether a borrower will be able to meet the expenses involved in homeownership. The “housing-expense-to-income ratio” examines a borrower’s expected monthly housing expenses as a percentage of his or her monthly income; and the “total-debt-to-income ratio” looks at a borrower’s expected monthly housing expenses plus long-term debt as a percentage of his or her monthly income.
VA’s underwriting standards are different in that they use the total-debt-to-income ratio in combination with an estimate of adequate monthly “residual income” when determining borrowers’ qualifications for a home loan. VA defines residual income as gross monthly income less federal taxes and other monthly expenses. In qualifying a borrower, VA’s underwriting guidelines establish a maximum total-debt-payment-to-income ratio and a minimum monthly residual income requirement. The monthly debt-payment-to-income ratio for VA borrowers is set at 41 percent. To qualify a borrower under VA’s residual income method, housing (including mortgage payments) and other monthly payments are subtracted from the borrower’s net take-home pay. Net take-home pay is gross income less federal income taxes. The remaining value is the residual monthly income for family support. VA provides a table of residual monthly incomes by region based on the Department of Labor’s consumer expenditure surveys. VA provides the residual income tables as a guide to qualify borrowers; however, VA states that these figures should not automatically trigger approval or rejection of a loan.
Table 2.3 summarizes the housing-expense-to-income ratios and total debt-to-income ratios acceptable to the three organizations.
Each of the three organizations give examples of compensating factors, which may allow the borrower to exceed the maximum qualifying ratios or residual income figures in the case of VA. Examples of the compensating factors provided in the various underwriting guidelines include a large down payment; the demonstrated ability of the borrower to devote a greater portion of income to housing expense; substantial cash reserves; the borrower’s net worth is substantial enough to evidence an ability to repay the mortgage regardless of income; evidence of an acceptable credit history or limited credit use; less-than-maximum mortgage terms; funds provided by a health, welfare, or community service organization for unusual services, house repairs, etc.; and a decrease in monthly housing expenses.
section_title: Credit Standards
paragraphs: In addition to the use of qualifying ratios to determine a borrower’s ability to repay the mortgage debt, FHA, PMIs, and VA also require that a borrower’s credit history be evaluated to determine his or her willingness to handle financial obligations in a timely manner. For these organizations, past credit performance serves as the most useful guide in determining a borrower’s attitude toward credit. A borrower who has made payments on previous or current obligations in a timely manner represents reduced risk. Conversely, if the credit history, despite adequate income to support obligations, reflects continuous slow payments and delinquent accounts, the organizations require that strong offsetting factors should exist for the loan to be approved.
The guidelines of FHA, PMIs, and VA are very similar in their approach and requirements for determining satisfactory credit. For all three, it is the overall pattern of credit behavior that must be examined rather than isolated occurrences of unsatisfactory or slow payments. A period of financial difficulty in the past does not necessarily make the risk unacceptable if a good payment record has been maintained since. For any derogatory items found, the PMI or lender must determine whether the late payments were due to a disregard for, or an inability to manage financial obligations, or to factors beyond the control of the borrower. All three organizations allow a good deal of judgment and interpretation on the part of the underwriter in determining the creditworthiness of the prospective borrower.
The use of information from national credit reporting agencies is required by all three organizations. However, they also allow lenders to use alternative methods of establishing credit histories for borrowers who do not have the type of credit history that would appear on a credit report. Other types of information that can be used include histories on the payment of utilities and rent.
Given the similarity between the three entities’ credit standards and the fact that the standards are applied using judgment and interpretation, it was not possible, when comparing stated credit requirements, to determine which, if any, of these entities requirements are more, or less, stringent than the others. Such a determination would require a number of individual case studies to determine how specific borrowers would be judged when applying for a loan insured by a PMI versus FHA or VA.
section_title: Financing Loan Closing Costs
paragraphs: All three organizations require prospective home buyers to pay certain costs at the time of loan closing. Funds required to close a loan include down payment, closing costs, and premium/fee charges. In addition, five of the six PMIs require the home buyer to have cash reserves of 1 or 2 months’ principal-interest-taxes-insurance after loan closing if it is a 97-percent LTV ratio loan. These differences are important because the amount of cash needed by the borrower at loan closing, to meet either closing costs or reserve requirements, represents a major barrier to homeownership for lower-income and first-time home buyers.
Table 2.4 shows the money a borrower will need at closing, including reserves, if needed, to purchase a $100,000 home assuming $2,300 in closing costs and a minimum down payment. As can be seen, VA requires the least amount of cash at closing ($2,300) while a PMI 95 percent LTV loan requires the most ($7,362).
As stated earlier, the down payment needed for an FHA loan depends on the calculation of the maximum mortgage amount, which in our example discussed previously is $97,685. FHA allows the entire down payment to be a gift. In addition, up to 95 percent of the closing costs on an FHA loan can be financed through the mortgage.
Under their affordable programs, all of the PMIs require a minimum down payment of 3 percent from a borrower’s own funds. Additional funds to be used for a larger down payment or for closing costs can come from a variety of sources, such as gifts or grants from family members, nonprofit organizations or public agencies; unsecured loans; or secured loans.
VA does not require a down payment, and all of the closing costs must be paid in cash at closing. However, the borrower can include the VA funding fee in the mortgage.
subsections: section_title: Premiums/Fees
paragraphs: FHA, PMIs, and VA all charge the borrower an insurance premium, or guaranty fee, to cover potential losses on mortgage loans that go into foreclosure. These organizations differ in the amount of premiums they charge to borrowers, the type of premium plans they offer, and whether or not these costs can be financed in the mortgage. FHA charges both a single, up-front premium as well as an annual premium for all mortgages over 15 years. The up-front premium is equal to 2.25 percent of the maximum mortgage allowed. It also can be financed as part of the mortgage and is partially refunded if the loan is paid in full during the first 7 years. The annual premium is equal to .5 percent of the outstanding mortgage balance and is charged for a time period that depends on the LTV ratio of the loan.If the LTV calculation is less than 90 percent of the property’s assessed value, the annual premium is charged for 11 years. If the LTV exceeds 90 percent, the premium is charged for a full 30 years or the full length of the loan, whichever is less. FHA’s premium schedule was established by the Omnibus Budget Reconciliation Act of 1990.
PMIs charge different premiums to individual borrowers on the basis of the risk posed by that borrower. Premium rates will differ on the basis of factors such as the type of mortgage instrument that the borrower selects (i.e., fixed rate/adjustable rate), the purpose of the loan (i.e., home purchase/refinance), the LTV ratio, the length of the loan (30/25/15 years), and the amount of coverage that is required. PMIs also offer borrowers several different ways to pay premiums. However, PMI company representatives we interviewed stated that most borrowers choose to pay premiums under a monthly premium program because it allows them to pay less cash at closing. Under a monthly premium plan, only 1 month of the mortgage insurance premium is due at closing rather than for a year or more, as in other PMI plans. Since the PMI insurance premium is not paid up-front, there is no refund due if the insurance is canceled. On the other hand, FHA and VA borrowers pay an up-front premium. While the FHA mortgage insurance and VA loan guaranty remain in effect over the life of the mortgage, PMI mortgage insurance can be canceled if the unpaid principal balance of the mortgage has been paid down to either 80 percent of the original value of the property or 80 percent of the current appraised value of the property.
The amount of the funding fee charged by VA at loan origination depends on whether the veteran is a first-time or repeat borrower, the amount of the down payment, and whether or not the borrower is a reservist.
Currently, for first-time use, the fee for loans with less than 5 percent down is 2 percent; with at least 5 percent down, 1.5 percent; and with at least 10 percent down, 1.25 percent. For eligible reservists, 0.75 percent is added to the above amounts. Repeat borrowers must pay a 3-percent fee for loans with less than 5 percent down. In addition, borrowers must pay the entire funding fee at loan closing. However, the fee can be financed as part of the mortgage.
section_title: Reserves
paragraphs: Reserves represent the amount of monthly principal-interest-taxes-insurance that a borrower must have accumulated in savings at the time of loan closing. For loans with a 97-percent LTV ratio, the amount of reserves required by the PMIs differed, depending on the company. One PMI required 2 months reserves, four required 1 month, and one did not require any reserves. In addition, two of the PMI companies that required 1 month in reserves stated that these reserves could be waived under certain circumstances, such as if the property had a satisfactory mechanical and structural inspection and/or a homeowner’s warranty. For loans with a 95-percent LTV ratio, PMIs generally do not require any reserves. FHA does not require a reserve, and VA’s guidelines make no mention of them.
section_title: Insurance Coverage
paragraphs: FHA, PMIs, and VA differ in the amount of insurance or guaranty they provide to protect lenders against the losses associated with loans that go to foreclosure. Losses generally include the unpaid principal balance and delinquent interest due on the loan, legal expenses incurred during foreclosure, the expense of maintaining the home, and any advances the lender made to pay taxes or insurance.
While FHA essentially protects against almost 100 percent of the losses associated with a foreclosed loan, PMIs and VA protect only against a portion of the loss. For PMIs, the type and amount of coverage selected by the lender determine how much the private mortgage insurer will pay if the borrower defaults and the lender must foreclose. Typically, this amount is limited to between 20 percent and 30 percent of the losses but can go as high as 35 percent.
The amount that the VA guarantees against loss depends on the original loan amount, is set by law, and has been periodically increased by the Congress. Currently, the VA guaranty is as follows: (1) for loans up to $45,000, the VA will guarantee 50 percent of the loan; (2) for loans greater than $45,000, but not more than $56,250, the guaranty will not exceed $22,500; (3) for loans of more than $56,250 and not more than $144,000, the guaranty will be the lesser of 40 percent of the loan or $36,000; and (4) for loans of more than $144,000, the guaranty is the lesser of 25 percent of the loan or $50,750.
Table 2.5 illustrates the amount that FHA, PMIs, and VA would have to pay for a loan that is foreclosed on at the end of the fourth year of a mortgage. As shown in the table, FHA suffers a loss of $44,500 on the foreclosed loan as opposed to $36,000 for VA and $30,449 to $31,068 for PMIs. The differences in losses are primarily related to the limits on insurance or guaranty coverage provided by each organization. Those losses not incurred by the mortgage insurers become the responsibility of the lenders.
FHA’s additional losses of about $9,000 to $14,000 reflect the additional risk exposure that FHA assumes from insuring the lender for close to 100 percent of the loss.
section_title: Observations
paragraphs: PMIs have recently begun to offer a number of specialized or affordable housing programs with more flexible underwriting guidelines and higher LTV ratios than their standard mortgage insurance programs. However, the terms offered by FHA and VA still differ in important ways from those offered by PMIs. These differences affect the size of mortgage loans that borrowers can obtain, the amount of cash needed by borrowers at loan closing, and the exposure to risks assumed by these organizations.
PMIs can insure and VA can guarantee mortgage loans that exceed those that can be insured by FHA. More importantly, however, FHA’s and VA’s underwriting standards reduce the amount of cash needed to purchase a home to a greater extent than the PMIs’ new affordable standards. While the additional funds needed to purchase a PMI-insured home would not eliminate the borrower’s ability to purchase a home at some point in time, it can delay the purchase date substantially or require the borrower to purchase a less costly home. Primarily because PMIs and VA both limit their losses to a portion of the loss and FHA does not, losses on FHA-insured homes that enter foreclosure are greater than the losses experienced by VA and PMI on similar homes, all other things being equal. The additional loss for FHA reflects the additional risk exposure that it assumes from insuring the lender for close to 100 percent of the loss. It should be stressed, however, that under FHA’s Section 203(b) program, FHA borrowers’ premiums pay for these losses, not the U.S. Treasury.
section_title: FHA Has a Major Role in the Housing Market
paragraphs: FHA is a major participant in the housing market. It insured nearly 15 percent of all reported home purchase loans made in 1994 and 35 percent of the insured loans and fulfills a larger role in some specific market segments, particularly low-income, first-time home buyers and minorities. On the basis of the loan-to-value and qualifying ratios of the FHA loans made in 1995, most of the FHA-insured loans would probably not have been made by private mortgage insurance companies. However, the largest number of home purchase loans made during 1994, including the loans to low-income and minority borrowers, were not insured. More than twice as many uninsured loans were made to low-income and minority borrowers as were made by FHA.
This chapter compares the statistics for FHA, the PMIs, VA, and uninsured mortgages in the housing market. It provides information on FHA’s share of loans made to low-income, first-time home buyers and minority borrowers, as reported in the Home Mortgage Disclosure Act (HMDA) data. To the extent that data are available, a comparison of the characteristics of insured borrowers (FHA, PMIs, and VA) to uninsured borrowers in the housing market is also presented. Besides income, race, and first-time home buyers, the characteristics discussed include the borrowers’ age, the location of the home, and the LTV ratio of the loan. This discussion covers all single-family home purchase loans originated in 1994.
subsections: section_title: FHA Insured a Large Number of All Home Purchase Loans Made in 1994
paragraphs: FHA insured 14.7 percent (519,102) of all home purchase loans made in 1994 and included in the HMDA data. HMDA recorded 6.1 million loans made in 1994, including about 4.1 million loans that were not insured. A large portion of the 6.1 million loans made were refinanced loans (42 percent, or 2.5 million) and are not included in the analysis in this chapter because we wanted to focus on the characteristics of home purchase mortgage borrowers.
Figure 3.1 shows the type of insurance obtained on the 3.5 million home purchase loans included in the HMDA data. We estimate that the PMIs insured 20.5 percent, or 725,188, of these loans made in 1994. VA guaranteed another 6.2 percent of the mortgage market. Rural Housing Service (RHS) guaranteed less than 1 percent of home loans in 1994. The largest share of the home purchase loans, which we estimate to be about 58.5 percent or 2.1 million, was uninsured. (Table I.3 in app. I lists total home purchase loans reported by HMDA, by type of insurance.)
section_title: FHA Insured One-Fifth of All Home Purchase Loans Made to Low-Income Borrowers in 1994
paragraphs: We estimate that FHA insured about one-fifth of the approximately 1.1 million home purchase loans in the 1994 HMDA data made to low-income borrowers. We estimate that FHA insured more of these loans (20.1 percent) than the PMIs (16.2 percent) or VA (6.7 percent), as shown in figure 3.2. FHA’s share of home purchase loans made to low-income borrowers was higher than its 14.7 percent share of the housing market. However, more than half of the home purchase low-income borrowers were uninsured; the percentage of uninsured home purchase loans made to low-income borrowers is about the same as for all borrowers. (A break down of all loans made in 1994 by income classification is contained in table I.4 of app. I.)
Figure 3.3 shows the proportion of each insurer’s 1994 home purchase loans that were made to low-income borrowers. Forty-two percent of the home purchase loans that FHA made were to low-income borrowers. For PMIs, a smaller percentage (24.5 percent) of the home purchase loans they insured were for low-income borrowers. Thirty-four percent of VA home purchase loans and 30 percent of the uninsured home purchase loans were made to low-income borrowers.
As discussed previously, FHA generally does not insure loans over the FHA loan limit (maximum amounts were $151,725 for most of 1994 and $155,250 in 1996 for the areas with the highest housing costs), while PMIs and VA can insure higher-value loans. Consequently, it is useful to know how the PMIs would compare with FHA when facing similar constraints. When comparing the home purchase loans that the PMIs made under the FHA loan limit, the share of the PMIs’ business that is composed of low-income borrowers increases. According to data obtained from the Federal Reserve Board, in 1994, 33 percent of the PMI home purchase loans that were less than the FHA loan limit were to low-income borrowers. These data also indicate that 45 percent of FHA’s business in 1994 was to low-income borrowers, similar to the 42 percent we found in the HMDA data.
Figure 3.4 shows the percent of each insurer’s home purchase loans made at various borrowers’ income ranges. As shown, FHA and VA loans are more concentrated in the lower income ranges compared with PMI and uninsured loans. The Mortgage Bankers Association also reports that the average income of FHA borrowers for calendar year 1993 was lower than the average income of the PMIs’ borrowers. (Table I.5 in app. I lists the percentage of each group’s loans that fall within the listed income ranges.)
section_title: FHA Insured Nearly One-Fourth of All Loans Made to Minorities in 1994
paragraphs: According to GAO’s estimate of the HMDA data, about 613,550 home purchase loans were made to minorities in 1994. FHA insured more loans for minority borrowers in 1994 than the PMIs and substantially more than VA. FHA insured about 147,423 minority loans in 1994 compared with about 114,197 insured by PMIs. Figure 3.5 shows the relative share of the insured and uninsured minority market.
Although the majority (2.9 million, or 83 percent) of all home purchase loans made in 1994 were to white borrowers, FHA’s 1994 loans consisted of a larger share of minority loans than any other insurer. As shown in figure 3.6, 28 percent of FHA loans were to minorities. For the PMIs, 16 percent of their loans were to minorities, while of the VA loans made in 1994, 22 percent were to minorities. Even though only 15 percent (303,477) of 2.1 million uninsured loans were made to minority borrowers, 49 percent of all minority loans made were uninsured. (Table I.6 in app. I lists the number of minority and nonminority home purchase loans made, by insurance type.)
In addition, the Federal Reserve reported that in 1994, home purchase loans below the FHA loan limit made by PMIs were about 21 percent minority, while FHA home purchase loans were about 26 percent minority. When considering loans made under the FHA loan limit, FHA is still more concentrated with minority borrowers than the PMIs.
section_title: FHA Insured More Than One-Fifth of All First-Time Home Buyers in 1994
paragraphs: FHA insured a higher percentage of loans for first-time home buyers than its share of the market in 1994. However, non-FHA-loan providers made about four times as many loans (79 percent) as FHA (21 percent) to first-time home buyers in 1994. According to the Mortgage Bankers Association (MBA), in 1994, about 4.6 million home purchase mortgage loans were made in the home mortgage market. Of these loans, FHA insured 15 percent (686,487). Furthermore, MBA reported that about 2.2 million loans were made to first-time home buyers in 1994; FHA insured 21 percent of these loans (see fig. 3.7). The MBA report does not distinguish between private insured and uninsured mortgages. These are combined with VA loans and make up the Non-FHA group shown in figure 3.7. (Table I.7 in app. I lists the number of first-time home buyers for FHA and non-FHA home purchase mortgages.)
Compared with others in the home mortgage market, on average, FHA made a higher proportion of loans to first-time home buyers. MBA’s data show that about 67 percent of all 1994 FHA home purchase borrowers were first-time home buyers and 44 percent of non-FHA home purchase borrowers were first-time home buyers. Figure 3.8 shows the share of FHA and non-FHA loans made to first-time home buyers.
In addition to the study by MBA, HUD’s Policy Development and Research Division also analyzed the characteristics of loans. The HUD study reported that for the period 1989-91, 66 percent of FHA home purchase borrowers were first-time home buyers, while 56 percent of PMIs’ home purchase borrowers were first-time home buyers. They also report that 87 percent of FHA’s first-time home buyers are 40 years old or younger.
subsections: section_title: FHA Borrowers Are Younger Than Conventional Borrowers
paragraphs: According to GAO’s analysis of the 1993 American Housing Survey, FHA insured 9 percent of home purchase mortgages received in 1993 prior to the survey. This is lower than its 14.7 percent share of the home purchase mortgage market in 1994 in the HMDA database. The age distribution of borrowers, as indicated in the 1993 AHS data, shows that FHA borrowers tend to be younger than other borrowers. Sixty-two percent of FHA home purchase borrowers are less than 40 years old, while only 38 percent of the conventional home purchase loans were obtained by borrowers under 40. According to GAO’s analysis of the AHS data, of the 2.9 million home purchase loans made in 1993 prior to the survey, 41 percent were made to people under the age of 40 and 14 percent of them were insured by FHA. This is a larger share of this market segment than FHA’s share of the entire market for 1993. Conventional loans (private insurers and uninsured groups combined) had 82 percent of the younger-than-40 submarket, and VA provided the remaining 4 percent. (Table I.8 in app. I lists, by borrowers’ age, the number of FHA, VA, and conventional loans made prior to the 1993 AHS.)
section_title: FHA Was the Primary Insurer in at Least Nine States
paragraphs: FHA’s relative share of the insurance market varied from state to state. According to the HMDA data for 1994, although PMIs insured more home purchase loans than FHA, FHA made more home purchase loans than the six PMIs combined in at least nine states—Arkansas, Maryland, Minnesota, Montana, Nevada, North Dakota, Oklahoma, Tennessee, and Utah. In all except 4 of the 50 states, FHA’s share is between 20 and 50 percent. In Iowa, Massachusetts, and Wisconsin, FHA’s business was less than 20 percent of the market. VA’s share of the insured market was the highest only in the state of Alaska. Figure 3.9 shows which of the three insurers—FHA, PMIs, or VA—made the greatest number of home purchase loans in each state during 1994. (Table I.9 in app. I lists FHA’s relative share of the insurance market in each state.)
section_title: FHA Insured Nearly Half of All Loans With a Loan-To-Value Ratio Greater Than 90 Percent
paragraphs: Of all home purchase loans made in 1994 with an LTV ratio of at least 90 percent, FHA insured 43 percent of them. The PMIs insured 37 percent and VA guaranteed 19 percent. This occurred even though the PMIs made 49 percent of the insured home purchase loans in 1994, FHA made about 35 percent, and VA made only 15 percent. Generally, a borrower is required to have mortgage insurance if the LTV ratio is above 80 percent. The LTV ratios of uninsured loans are generally below 80 percent. Figure 3.10 compares FHA, PMI, and VA in the high LTV ratio market.
In addition to the number of loans made with high LTV ratios, there was also a difference between the proportion of such loans made by FHA and PMIs. This difference is demonstrated by figure 3.11, which shows that 88 percent of FHA’s loans had LTV ratios of at least 90 percent, compared with 55 percent of the PMI loans with such LTV ratios. In addition, up to 94 percent of VA loans guaranteed in 1994 had an LTV ratio greater than 91 percent.
Furthermore, as shown in figure 3.12, 65 percent of FHA-insured loans had LTV ratios of 95 percent or greater, while only about 8 percent of PMI loans had LTV ratios greater than 95 percent. VA, shown separately in figure 3.13, has the vast majority of its guaranteed loans concentrated in the greater than 97 percent LTV range. (Tables I.10 and I.11 in app. I list the percentage of FHA, VA, and PMI home purchase loans within selected income ranges.)
section_title: Most FHA-Insured Home Purchase Loans Would Not Have Been Insured by Private Mortgage Insurers
paragraphs: While some FHA-insured home purchase loans might qualify for private mortgage insurance, most might not have been written under the same terms by private mortgage insurers. Specifically, on the basis of the PMIs’ most liberal standards for (1) maximum LTV, (2) housing-expense-to-income, and (3) total-debt-to-income ratios alone, about two-thirds of FHA’s 1995 home purchase borrowers would not qualify for private mortgage insurance on the loans they received. That is, these borrowers had loans with LTV ratios greater than 97 percent, had housing-expense-to-income ratios greater than 33 percent, or had total-debt-to-income ratios greater than 38 percent.
Conversely, about one-third of FHA’s single-family home purchase borrowers met the most liberal private mortgage insurance guidelines for LTV and total-debt-to-income ratios. These borrowers had loans with LTV ratios of 97 percent or lower, had ratios of housing-expense-to-income of 33 percent or lower, and had total-debt-to-income ratios of 38 percent or lower. This potential overlap in FHA-insured borrowers that may qualify for private mortgage insurance is shown as the shaded area in figure 3.14. In addition, relatively fewer FHA first-time home buyers and borrowers with low incomes met all three of these ratios. That is, while 34.1 percent of all home purchase FHA borrowers met all three ratios, only 22.6 percent of FHA’s first-time home buyers and 14.5 percent of FHA’s low-income home purchase borrowers met all three ratios.
We cannot say with certainty that if an FHA borrower meets all three of the PMIs’ guidelines, a PMI would insure that borrower’s mortgage. Similarly, with the possible exception of LTV ratio, we cannot say categorically that an FHA borrower that does not meet any one ratio would not qualify for private mortgage insurance. Also, this analysis does not consider the credit history of a borrower, which lenders and insurers must consider when underwriting a loan. Furthermore, the process of underwriting mortgage insurance requires some judgment on the part of the lender and insurer, and the debt-to-income ratios we employ in this analysis may be exceeded if there are compensating factors.
Finally, there are other features of FHA and private mortgage insurance that may influence a borrower’s choice of mortgage insurance. A borrower may have sufficient financial resources to qualify for private mortgage insurance and choose FHA insurance instead so that he or she may invest the funds saved in an asset other than his or her home. Therefore, some FHA borrowers whom we have identified as not being able to qualify for private mortgage insurance on the loan they received may have been able to increase their down payment, thereby lowering their LTV and total-debt-to-income ratios and qualifying for private mortgage insurance on a smaller loan. In its October 1995 report, HUD’s Office of Policy and Development found that most of FHA’s loans would not have been insured by PMIs because of differences in LTV or noncredit factors, even before the companies considered differences in personal credit history.
About 68 percent of FHA borrowers in 1995 were within the most liberal PMIs’ guidelines for LTV ratio (had an LTV ratio less than 97). Conversely, about 32 percent of FHA borrowers in 1995 had LTV ratios that exceeded the maximum allowable LTV ratio under the PMIs’ most liberal guidelines. These borrowers with high LTV ratios may not have qualified for private mortgage insurance for the loans they received on the basis of their high LTV ratio alone. Under the PMIs’ recently initiated affordable programs, private mortgage insurers will insure loans with LTV ratios of up to 97 percent. Under their standard programs, private mortgage insurers will insure loans with LTV ratios of up to 95 percent. Only 37 percent of FHA borrowers in 1995 had LTV ratios of 95 percent or less, and an additional 31 percent had LTV ratios greater than 95 percent, but not greater than 97 percent. The share of FHA borrowers that had LTV ratios of 95 percent and below and 97 percent and below are shown by the shaded area in figure 3.15.
For the ratio of total-debt-to-income, about 60 percent of FHA borrowers in 1995 could meet the most liberal guidelines established by private mortgage insurers. That is, these borrowers had monthly payments for all debt that was not greater than 38 percent of their monthly income. The PMIs’ standard programs include guidelines of 36 percent for this ratio. Almost half of the mortgages insured by FHA in 1995 would have met this more restrictive ratio. The share of FHA-insured loans made in 1995 that went to borrowers with ratios of total-debt-to-income no greater than the maximums published by the PMIs is shown as the shaded areas in figure 3.16. As discussed previously, those FHA borrowers that did not meet the PMIs’ most liberal guideline for this ratio would not necessarily be precluded from obtaining private mortgage insurance.
Almost all borrowers that received an FHA-insured mortgage for the purchase of a house in 1995 had ratios of housing-expense-to-income that were within the published guidelines of private mortgage insurers. That is, under the affordable programs of the PMIs, a borrower may have a monthly housing debt up to 33 percent of his or her monthly income. Over 90 percent of FHA borrowers had housing debt that was within this guideline. Under their standard programs, the PMIs’ guidelines generally call for a ratio of housing-expense-to-income of no more than 28 percent. Three-quarters of FHA borrowers in 1995 met this guideline.
That nearly all FHA borrowers meet the PMIs’ guidelines for housing-expense-to-income is not surprising because the guidelines established by the PMI companies are nearly the same as or more liberal than those of FHA for this particular ratio. The shaded areas of figure 3.17 show those borrowers that received an FHA-insured mortgage in 1995 who would meet the ratio for housing-expense-to-income found in the guidelines of the PMIs. As with the ratio for total debt to income, those FHA borrowers who did not meet the PMIs’ most liberal guideline for housing-expense-to-income would not necessarily be precluded from obtaining private mortgage insurance.
section_title: Observations
paragraphs: FHA is a prominent player in the home mortgage loan market—particularly in certain market segments. The loans it insured in 1994 were concentrated to a greater extent on low-income and minority borrowers, first-time home buyers, and borrowers with high LTV ratios than the loans made by the PMIs. FHA was also the primary insurer in at least nine states. In addition, solely on the basis of the LTV and qualifying ratios of borrowers who obtained loans in 1995, most FHA borrowers might not have qualified for private mortgage insurance for the loans they received. Consequently, many FHA borrowers in 1995 may not have been able to obtain or could have been delayed in obtaining a home mortgage without the more lenient terms offered by FHA.
While FHA is a prominent participant in the home purchase mortgage loan market, it is not the major source of loans to home buyers, nor is it the major source of loans to low-income and minority home buyers. The uninsured market, with about three times the number of loans that FHA had, made about twice as many loans to such borrowers as FHA did in 1994.
section_title: Agency Comments
paragraphs: An official in HUD’s Office of Policy Development and Research suggested revising the methodology used for some of the analyses described in this chapter. In response, we adjusted our analyses of home purchase loans made in 1994, which used data from HMDA and MICA, to reflect that the HMDA data pertained to about 77 percent of all loans insured in 1994, while the MICA data pertained to all privately insured loans. We also adjusted our analyses to recognize that some loan records in the two data sets were missing geographical location codes and consequently were not being drawn into some analyses.
In response to comments from an Executive Vice President of MICA, we added explanations to this chapter about the federal liability associated with FHA’s Section 203(b) program and differences in the way FHA and private mortgage insurers calculate loan-to-value ratios. This official also commented that our report underestimates the (1) percentage of FHA borrowers who would qualify for a privately insured loan because compensating factors may enable a borrower to qualify even if he does not meet the ratios we considered and (2) importance of the role of Fannie Mae and Freddie Mac because it does not present those organizations’ criteria for purchasing loans. We disagree with these two comments. First, this chapter describes the limitations of the analyses presented on FHA borrowers who might qualify for private insurance. This analysis was not intended to determine with certainty how many of FHA’s borrowers would have qualified for a privately insured loan. To make such a determination would require considering many more factors than loan-to-value and qualifying ratios. Rather, as pointed out in this chapter, our analysis is intended to determine how many of FHA’s borrowers might have qualified for private mortgage insurance on the basis of the ratios alone. We point out further in this chapter that we cannot say definitively that an FHA borrower who does not meet all three private mortgage insurance guidelines would not qualify for private insurance. Similarly, if an FHA borrower meets all three private mortgage insurance guidelines, it cannot be said categorically that a private mortgage insurer would insure the borrower’s mortgage. In connection with the roles of Fannie Mae and Freddie Mac, we point out in this report that many guidelines pertaining to private mortgage insurance are set by the two secondary market institutions. We also point out that these requirements include underwriting standards, insurance coverage requirements, and maximum loan amount.
section_title: The Federal Government Promotes Affordable Homeownership in Many Ways
paragraphs: Besides the FHA Section 203(b) and VA single-family loan programs described in chapter 2, the federal government promotes affordable homeownership through a complex web of at least 10 programs, through the requirements that it places upon the lenders and purchasers of mortgages and through individual tax incentives. Although these tools differ in their scope and technique, the federal government uses these and other tools to promote homeownership. In comparison with FHA’s Section 203(b) program, over half of the other 10 programs require direct federal funds, all reach fewer persons, and they generally direct a greater proportion of assistance to low-income home buyers (income less than/equal to 80 percent of an area’s median income). These programs provide home buyers with grants, direct loans, guaranties, interest subsidies, and other assistance in financing a home purchase, and in some instances they rely heavily upon FHA for mortgage insurance. These homeownership programs are run by the Departments of Agriculture, Housing and Urban Development, and Veterans Affairs; the Federal Home Loan Banks; state housing agencies; the Neighborhood Reinvestment Corporation, a government-funded corporation; and Neighborhood Housing Services of America, a government-funded nonprofit organization.
The federal government also promotes affordable homeownership by placing upon certain lenders and the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac) special requirements for meeting housing finance needs. Specifically, the Community Reinvestment Act (CRA) encourages depository institutions and other lenders to meet the housing credit needs of the communities they serve, and the Federal Housing Enterprises Financial Safety and Soundness Act of 1992 places upon Fannie Mae and Freddie Mac numerical goals for the loans they purchase that are made to low- and moderate-income persons and are made in underserved areas. Because of the difficulties experienced in implementing the CRA and the relative newness of the goals set for Fannie Mae and Freddie Mac, it may be too soon to judge the effect of these special requirements.
Finally, through the mortgage interest deduction, one-time exclusion of capital gains, and other tax provisions, the federal government provides incentives for individuals to be homeowners. The Joint Committee on Taxation estimates that, for 1995, the mortgage interest deduction alone was the second largest tax expenditure that the government provides to individuals, totaling an estimated $53.5 billion—exceeding the total tax expenditures given to corporations.
This chapter describes the federal programs that promote affordable homeownership and the applicable requirements recently placed upon Fannie Mae, Freddie Mac, banks, and thrifts. An analysis of the impact on homeownership of making it affordable through tax incentives given to individuals is beyond the scope of this study. Also, this chapter does not describe efforts that support homeownership in general, such as those of the secondary market, the bank system, and the fair lending requirements.
subsections: section_title: Description of Affordable Homeownership Programs
paragraphs: In addition to the FHA and VA programs, many federal programs aim at affordable homeownership. The state housing finance agencies (HFA), through the use of tax-exempt mortgage revenue bonds (MRB), may provide subsidized financing for affordable homeownership. The Federal Home Loan Bank (FHLBank) System has its Community Investment Program (CIP) and Affordable Housing Program (AHP), which provide subsidies and subsidized or otherwise below-market-rate advances to member institutions to be used to fund affordable housing projects and loans to home buyers. The Department of Agriculture, through the Rural Housing Service (RHS), operates a subsidized direct loan program for low- and very-low income rural Americans and a guaranteed loan program for moderate-income rural Americans. The Department of Housing and Urban Development operates three grant programs—the Community Development Block Grant (CDBG) program, Home Investment Partnership Program (HOME), and Homeownership and Opportunity for People Everywhere that promote affordable homeownership. The Neighborhood Reinvestment Corporation (NRC), through its network of local  organizations (NWO) and its secondary market organization—Neighborhood Housing Services of America (NHSA)—promotes affordable homeownership primarily through second mortgages and home buyer education. (See app. II for detailed descriptions of each program included in our analysis.)
Even within FHA, there are homeownership programs other than the Section 203(b) program. For example, FHA also offers mortgages for individual condominium units under Section 234(c), rehabilitation mortgages under the Section 203(k) program, home equity conversion mortgages under Section 255, and homeownership counseling. The Section 203(b) program, however, is FHA’s principal means of promoting affordable single-family homeownership. In 1995, about 60 percent of all FHA single-family mortgages were made under the Section 203(b) program. For the purposes of this chapter, we provide data for all of the federal programs, including the FHA Section 203(b) program, which we use as a guide for describing the other programs.
subsections: section_title: Type of Assistance Provided by Federal Programs and Their Restrictions
paragraphs: These programs assist homeowners by providing loans, guarantees, interest subsidies, help with down payments and closing costs, or other forms of assistance. This assistance may go directly to the homeowner or through an intermediary, such as a local government or nonprofit organization. A homeowner may benefit from more than one program. For example, HOPE 3 funds may be used to help with closing costs on a loan made by a state HFA. The state HFA may obtain funding from MRBs as well as FHLB System advances. The loan may be insured by FHA and securitized by the Government National Mortgage Association (Ginnie Mae).
Each of the non-FHA/VA homeownership programs include some form of targeting—typically, the income of the borrower. In some cases, the programs also include restrictions on the location of the property, such as with rural loans, or repayment by the borrower of federal subsidies. Only the FHA, VA, and Rural Housing Service single-family loan programs are restricted by the size of the loans that may be insured/guaranteed/made.Table 4.1 describes the type of assistance provided to homeowners and the restrictions imposed by federal homeownership programs.
section_title: Funding Sources
paragraphs: Except for the programs of the Federal Home Loan Banks and the state HFAs—which, like FHA’s Section 203(b) loan program, require no direct federal funds—all of the other homeownership programs use federal funds. These federal funds are used to pay for the subsidies and assistance provided and the programs’ administration. For example, the VA received $684 million in budget authority for fiscal year 1995 for the subsidy and administrative costs of its direct and guaranteed loan programs. For the same year, the Congress appropriated $50 million for the HOPE programs, of which HUD allocated $20 million to HOPE 3. It appropriated $1.4 billion for the HOME program, of which about $238 million was used for homeownership activities. For the CDBG program, the Congress appropriated $4.8 billion; 70 percent of this amount is for the entitlement cities program. Of this, we estimate that seven-tenths of 1 percent, or about $24 million, may go toward homeownership assistance.
Even the exceptions listed above are not necessarily without costs to the federal government. For example, the AHP and CIP programs of the FHLBank System are paid for through the system’s earnings, and according to the Finance Board, no FHLBank has ever suffered losses on its advances. However, the federal government has paid for liquidating insolvent member institutions that had benefited from the use of system advances, and the cost of liquidation may have been higher where advances permitted a troubled institution to incur larger losses than it may have otherwise incurred. Furthermore, the government’s past willingness to assist troubled government-sponsored enterprises means that it may bear the costs of most of the losses that such enterprises may suffer in the future. Also, there is a cost to the federal government of the state HFAs’ mortgage revenue bond program if one considers the lost revenues resulting from the tax-exempt status of the securities issued by these organizations to fund housing activities. The Joint Committee on Taxation estimates that the tax expenditure for the tax-exempt mortgage revenue bonds for owner-occupied housing was $1.4 billion for fiscal year 1995.
Some of these programs also use nonfederal sources of funds. For example the Neighborhood Housing Services of America (NHSA) receives funding from private-sector, institutional investors through the sale of secondary market notes backed by loans purchased by NHSA. Both the HOME and HOPE 3 programs require matching contributions of 25 percent from nonfederal sources. Through 1995, the Federal Housing Finance Board (FHFB) has approved 23 state HFAs as nonmember mortgagees, which would allow them to obtain advances from the FHLBank System. The source of funds for each homeownership activity, including federal funds where appropriate, is shown in table 4.2.
section_title: Number of Home Buyers Assisted and Amount of Assistance
paragraphs: The amount of homeownership assistance provided by other federally supported programs varied widely between programs in terms of the dollars involved and the number of homeowners assisted. In all instances, FHA assisted a greater number of homeowners. In total, in a given year, these other programs may reach over 500,000 homeowners. In 1995, almost 570,000 homeowners received mortgage insurance through FHA insurance programs. During fiscal year 1995, 263,130 homeowners were assisted through the VA’s guaranteed loan program. The next greatest number of homeowners assisted was through the state HFAs, which made over 92,000 loans and issued almost 12,000 mortgage credit certificates in 1994, totaling over $9 billion. In contrast, Neighborhood Housing Services of America purchased 1,133 first and second mortgages in fiscal year 1995 totaling $47.7 million; and the HOPE 3 program had assisted 1,396 homeowners as of December 1995.
The characteristics of the home buyers who were assisted were not always available for each of the programs. In general, where data were available, these other programs were more heavily concentrated in assistance provided to homeowners who were low-income, minority, and first-time buyers than was the case for FHA, which balances its risk by insuring a broad range of borrowers and thereby operates without federal subsidies.
For example, 30 percent of the borrowers insured under FHA’s Section 203(b) program had incomes no greater than 80 percent of the area’s median income. Sixty-four percent of the homeowners assisted through state HFA mortgages and mortgage credit certificates and 69 percent of new homeowners assisted by the Neighborhood Reinvestment Corporation programs had low incomes. For the entitlement cities part of the Community Development Block Grant program and the HOME programs, the percentage of homeowners assisted who had low incomes was 94 and 100, respectively. For the Federal Home Loan Banks’ Affordable Housing Program and the HOPE 3 program, all homeowners assisted must have incomes no greater than 80 percent of the area’s median income. In connection with the race of the homeowners assisted through these various programs, all of the programs with available data served proportionately more minorities than did FHA, with the exception of the state and RHS programs. For example, while about 30 percent of the borrowers insured under the FHA Section 203(b) program were minorities, the state and RHS programs’ percentages were about 22 and 27, respectively, and the NRC, CDBG, HOME, and HOPE 3 programs’ percentages were 61, 65, 50, and 62, respectively.
There were very few data on the percentage of assisted homeowners who were first-time home buyers. With the exception of the VA program, the other programs for which data were available reported higher percentages of first-time home buyers. The NRC reported that 97 percent of the homeowners assisted by NWOs were first-time home buyers. For the HOPE 3 program, all assisted homeowners must be first-time home buyers, and for the state MRB/MCC programs, applicants may not have owned a home in the last 3 years. For FHA’s Section 203(b) program, about 61 percent of the borrowers insured were first-time home buyers. Just over half of VA borrowers were first-time home buyers. (See table 4.3)
section_title: Use of Mortgage Insurance
paragraphs: The extent to which each of the non-FHA programs utilizes mortgage insurance is not completely known. Three programs provide mortgage insurance or a similar enhancement: VA and the Rural Housing Service guarantee mortgages, and seven state HFAs self-insure mortgages. Loans made by state HFAs are almost always insured, mostly by FHA. In 1994, FHA insured over 55 percent of the loans made by state HFAs. VA accounted for over 8 percent. While there were no data on the extent to which homeowners assisted through the FHLBs’ AHP and CIP programs had mortgage insurance, because member institutions may keep loans in their portfolio, they may not require mortgage insurance on these loans. The use of mortgage insurance on individual loans made by NWOs was not known, but both GE Capital Mortgage Corporation and Mortgage Guaranty Insurance Corporation provide mortgage insurance on special loan products offered through the NeighborWorks Ownership that allow for higher LTV ratios. Furthermore, the PMI Mortgage Insurance Company, provides pool insurance for first loans purchased from the Neighborhood Housing Services of America by the World Savings and Loan Association. The use of mortgage insurance in relation to two of HUD’s grant programs—CDBG and HOME—is not known. For the HOPE 3 program, about 19 percent of home buyers financed their home purchases using FHA insurance.
section_title: Description of Requirements Placed on Major Housing Finance Participants
paragraphs: The Federal government also promotes affordable homeownership through requirements that it places upon lenders and purchasers of mortgages. Specifically, the Community Reinvestment Act encourages certain lenders to meet the credit needs of the areas that they serve, including low- and moderate-income areas; and the Federal Housing Enterprises Financial Safety and Soundness Act of 1992 contains provisions that require Fannie Mae and Freddie Mac to meet certain goals related to the purchase of mortgages made to low- and moderate-income borrowers and in areas of low- and moderate-income. Both the lenders and Fannie Mae and Freddie Mac have taken actions to better meet the credit needs of low- and moderate-income home purchasers. However, given the difficulties experienced in implementing the CRA, and the relative newness of the social goals, it may be too soon to judge the impact these requirements will have on affordable homeownership.
subsections: section_title: The CRA’s Requirements
paragraphs: The Congress in 1977 enacted the CRA to encourage banks to provide credit to their entire market areas, including low- and moderate-income areas. The CRA requires federal bank and thrift regulators—the Federal Reserve Board, the Office of the Comptroller of the Currency, the Federal Deposit Insurance Corporation, and the Office of Thrift Supervision—to evaluate during periodic examinations the extent to which banks are fulfilling their lending, investment, and service responsibilities to their areas. In connection with lending, the regulator evaluates a bank’s record of helping to meet the credit needs of its area through its lending activities by looking at such indicators as the geographic distribution of the bank’s loans, including the incomes of areas and borrowers and the extent to which the bank uses innovative or flexible lending practices. On the basis of the results of these assessments, the regulators assign the banks one of four overall CRA ratings, ranging from “outstanding” to “substantial noncompliance.” The CRA is limited to depository institutions, such as banks and thrifts. These institutions originated about 46 percent of all home mortgages made in 1994. Mortgage companies—the primary providers of mortgages for single-family homes in 1994—are not subject to the CRA.
An institution’s CRA rating may affect approval by the regulators of certain types of applications, an institution’s access to FHLB advances, and the public’s perception of the institution. The regulators are required to take a depository institution’s CRA rating into account when considering applications for expansions, such as mergers and acquisitions. In addition, a FHLBank System member’s access to the long-term advances used to finance residential mortgage lending is tied, in part, to its CRA rating. An institution’s CRA rating and related information must also be available to the public for review. Finally, the CRA affords community groups or other members of the public the opportunity to protest an institution’s application for establishing a deposit facility.
The CRA and the fair lending laws have related objectives. The primary purpose of the CRA was to prohibit “redlining”—arbitrarily failing to provide credit to low-and moderate-income neighborhoods. The Fair Housing Act and the Equal Credit Opportunity Act prohibit lending discrimination that is based on certain characteristics of the potential and actual borrowers. In addition, the Home Mortgage Disclosure Act (HMDA) provides regulators and the public with information on mortgage applications. In November 1995, we issued a report analyzing the implementation of the CRA.
section_title: Impact of the CRA
paragraphs: Because of difficulties in implementing the CRA and the relative newness of reforms intended to address these difficulties, it may be too soon to judge the impact of the CRA. Yet even with the disagreements over the implementation of the CRA, bank and thrift regulators report some actions taken to better meet the needs of underserved communities. In connection with difficulties in implementing the CRA, we reported in November 1995 that because of the concerns of those lenders subject to the CRA about the burden it presents and the concern of community groups about the enforcement of the CRA, the regulators responsible for enforcing the CRA undertook a series of public hearings in 1993 and revised the regulations for the CRA in May 1995. We reported that some of the difficulties that have hindered past efforts to implement the CRA—differences in examiners’ training and experience, insufficient information to assess institutions’ CRA performance, and insufficient time for examiners to complete their responsibilities—will likely continue to challenge the regulators as they implement the revised regulations.
According to bank and thrift regulators, despite the difficulties in implementing the CRA, it has played an increasingly important role in improving access to credit in communities, and many banks and thrifts, under the impetus of the CRA, have opened new branches, provided expanded services, and made substantial commitments to increase lending to all qualified borrowers within their areas. As we reported in November, some bankers may lower the relatively high transaction costs and perceived credit risks to individual institutions of community reinvestment loans by sharing those costs and risks through multi-institution programs. Regulators found that bankers who had effective CRA performance had undertaken initiatives such as borrower education and counseling, community outreach efforts, flexible underwriting standards or policies, and participation in government-sponsored lending programs. In addition, some major participants in the secondary markets have recently undertaken initiatives intended to make them more responsive to community development concerns, as discussed in the following section.
section_title: Government- Sponsored Enterprises Have Required Social Goals
paragraphs: The secondary mortgage market is the market in which mortgages and mortgage-backed securities are bought and sold. The Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation are government-sponsored enterprises that operate a secondary mortgage market in which they purchase mortgages from lenders in exchange for cash or mortgage-backed securities/participation certificates.
The mortgages that Fannie Mae and Freddie Mac may purchase are limited to those in amounts less than a legislative limit known as the conforming loan limit. This limit is adjusted on the basis of a formula; for 1996, the limit is $207,000 for single-unit, single-family residences. In addition, the GSEs are restricted to purchasing and securitizing only residential mortgages, are obligated to be active in the secondary market across the country at all times, and must comply with capital requirements and safety and soundness regulations issued by the Office of Federal Housing Enterprise Oversight. The GSEs face these restrictions on their activities for the benefits of their federal charter. An important indirect benefit is that investors perceive an implied federal guarantee on their obligations, which allows Fannie Mae and Freddie Mac to borrow at near-Treasury rates.Direct benefits include (1) $2.25 billion in conditional lines of credit with the Department of the Treasury, (2) exemptions from state and local corporate income taxes, and (3) exemptions from the Securities and Exchange Commission’s registration requirements for their securities. In addition to Fannie Mae and Freddie Mac, the secondary mortgage market is served by the Government National Mortgage Association (limited to securitizing federal government insured/guaranteed loans) and private conduits (private companies that purchase mortgages and sell mortgage-backed securities). In the first quarter of 1995, about 48 percent of outstanding single-family mortgage debt was held in mortgage pools. Fannie Mae and Freddie Mac accounted for about 62 percent this debt, Ginnie Mae for 27 percent, and private conduits for about 11 percent.
subsections: section_title: A Description of the Requirements
paragraphs: The Congress requires Fannie Mae and Freddie Mac to support mortgage lending for low- and moderate-income persons and for residents of areas where home loans may be difficult to obtain. Their charters charge the GSEs with providing ongoing assistance to the secondary market for home mortgages—including the market for mortgages for low-and moderate-income families. More recently, the Federal Housing Enterprises Financial Safety and Soundness Act of 1992 required the Secretary of HUD to establish housing goals for Fannie Mae’s and Freddie Mac’s purchases of mortgages for low- and moderate-income families; housing located in central cities, rural areas, and other underserved areas; and special affordable housing meeting the unaddressed housing needs of targeted families. The act established interim annual goals for the 2-year period beginning on January 1, 1993. These annual goals were that (1) 30 percent of the total number of dwelling units financed by the mortgage purchases of the enterprise shall be for low- and moderate-income families; (2) 30 percent of the total number of dwelling units financed by the mortgage purchases of the enterprise shall be mortgages on properties located in central cities; and (3) the mortgage purchases of Fannie Mae shall include not less than $2 billion ($1.5 billion for Freddie Mac) in “special affordable” mortgages, split evenly between mortgages on single-family and multifamily housing.
In October 1993, HUD published interim goals for the GSEs, setting the low- and moderate-income goal for Fannie Mae at 30 percent for 1993 and 1994.
The goal for Freddie Mac was 28 percent for 1993 and 30 percent for 1994. HUD set the central cities goal for 1993 at 28 percent for Fannie Mae and 26 percent for Freddie Mac. Both had a goal of 30 percent for 1994. The goals for 1995 were kept at the level for 1994. The goals for 1993, 1994, and 1995 are shown in table 4.4.
In February 1995, HUD proposed goals to increase Fannie Mae’s and Freddie Mac’s affordable housing purchase requirements. HUD issued the final regulations in December 1995, specifying, among other things, the goals for 1996. The goals for 1996 increased to 40 percent the portion of dwelling units for low- and moderate-income borrowers. The regulations set at 21 percent the central cities housing goal for 1996 and expanded the areas to be included in this goal to include rural and other underserved areas along with central cities. The special affordable housing goal for 1996 required that 12 percent of the total number of dwelling units financed by each GSE’s mortgage purchases are to be in mortgages for low-income families in low-income areas and very-low income families.Table 4.5 shows the affordable housing goals for 1996.
section_title: Impact of Social Goals
paragraphs: In terms of what loans the GSEs purchase, an increasing proportion were made to persons in targeted income groups and locations during the first 2 years of the social goals. However, it may be too soon to judge the impact that the social goals ultimately may have. According to HUD’s data, the GSEs purchased a greater proportion of loans made to low- and moderate-income persons in 1994 than they did in 1993—up 10 percentage points for Fannie Mae and 9 percentage points for Freddie Mac. The same is true for loans made in central cities—up 6 percentage points for Fannie Mae and 1 percentage point for Freddie Mac. HUD further reports that the increases made in these goals appear to have been made without significant adverse impact on the GSEs’ financial condition. With the exception of the 1993 goal for central cities, Fannie Mae has exceeded its goals for 1993 and 1994. Freddie Mac was unable to meet the central cities goal for both years and was unable to meet the special affordable housing goal for multifamily housing for the period 1993 through 1994. For 1995, Fannie Mae met or exceeded each of its housing goals, and Freddie Mac exceeded the low- and moderate-income and special affordable housing goals but did not meet the goal for loans in central cities.
In recent years, both GSEs have undertaken efforts to make more flexible their underwriting guidelines and develop new loan products that require less cash to obtain a home. For example, Fannie Mae’s Community Home Buyer’s Program allows borrowers to make a down payment of 5 percent from their own funds and to qualify with housing expense and total debt ratios of 33/38 (or higher with compensating factors). Fannie Mae recently added the Fannie 97 mortgage product to its community lending product line. Borrowers need only a 3 percent down payment from their own funds; family members, nonprofit groups, or government agencies are eligible to pay the closing costs. For a 30-year term, the qualifying ratios for a Fannie 97 mortgage product are the same as for the standard product—28/36. Freddie Mac’s Affordable Gold program provides for 95-percent LTV ratio loans with what is called a 3/2 option. Under this option, borrowers need only 3 percent of the value of the loan from their funds, with the remaining 2 percent from a gift, a grant, or an unsecured loan. In connection with qualifying ratios, Freddie Mac’s affordable program has no maximum housing expense ratio, and the total debt ratio is 38 to 40. Both GSEs require home buyer counseling for certain affordable products.
section_title: Relationship to Mortgage Insurance
paragraphs: A lender wishing to sell a loan to either of the GSEs must meet the GSEs’ underwriting standards. Those standards require credit enhancement—typically, mortgage insurance—for loans with LTV ratios greater than 80. The lender selects a mortgage insurer from those that are approved by the GSEs. Any of the loans with high LTV ratios that are part of the effort to reach low- and moderate-income borrowers and borrowers located in central cities and other underserved areas require mortgage insurance or other credit enhancement. However, as is the case with Fannie Mae’s portfolio in general, about two-thirds of the loans counted toward the social goals had LTV ratios of 80 percent or less and therefore generally would not require mortgage insurance. Specifically, Fannie Mae reports that for 1995, 65 percent of the dwelling units that counted toward the low- and moderate-income goal had LTV ratios of 80 percent or less. For the central city goal, the percentage was 64 percent, and for the special affordable goal, it was 64 percent. In comparison, about 65 percent of all mortgages acquired by Fannie Mae had LTV ratios of 80 percent or less. For Freddie Mac, the percentage of loans that counted toward the social goals varied; there were relatively more loans with LTVs below 80 percent and which therefore would not require mortgage insurance. Specifically, for Freddie Mac the percentage of units that counted toward the three goals in 1995 and had LTV ratios of 80 percent or less were 74, 67, and 79. The percentage of all mortgages acquired by Freddie Mac that had LTV ratios of 80 percent or below was 70 percent in 1995.
In comparison with the total mortgages acquired, Fannie Mae had relatively more of its loans that counted toward its social goals with LTV ratios above 90 percent, while Freddie Mac had relatively fewer for two of the social goals. Overall, 17.9 percent of single-family mortgages purchased by Fannie Mae in 1995 had LTV ratios above 90 percent. For Freddie Mac, the number was 13.5 percent. While Fannie Mae purchased in 1995 few loans with LTV ratios above 95 percent, relatively more of these loans counted toward the social goals. Specifically, while 2.2 percent of the loans Fannie Mae purchased in 1995 had LTV ratios greater than 95 percent, the proportion of loans that counted toward the low- and moderate-income, central cities, and special affordable housing goals and for which the LTV of the loan was greater than 95 percent, were 5.4, 2.9, and 6.1 percent, respectively. Freddie Mac purchased nearly no loans with LTV ratios above 95 percent in 1995; none were counted toward the social goals.
section_title: Observations
paragraphs: Of the programs used by the federal government to promote affordable homeownership, FHA’s Section 203(b) mortgage insurance program reaches more homeowners than does any other program; and in some instances, FHA’s insurance is used in conjunction with other programs. Where the use of mortgage insurance is known, two of the other programs used FHA mortgage insurance—in one instance for 60 percent of the loans made and in another instance for 19 percent of the buyers assisted. However, according to available data, FHA’s program in many instances is not as focused on low-income and minority homeowners and first-time home buyers as are the other nine programs. While the other programs are generally more targeted to these underserved borrowers, they often have a cost to the federal government. In contrast, the costs of FHA’s Section 203(b) program are paid by the program’s participants and not by the U.S. Treasury. In comparison with all of these programs, the requirements placed upon certain lenders and purchasers of mortgages may have the greatest potential for promoting affordable homeownership, although the extent to which these requirements affect lenders’ behavior is not clear. Finally, the most pervasive government incentive for homeownership—though not targeted to low-income home buyers—is the deduction of the interest on home mortgages from an individual’s taxable income.
section_title: Agency Comments
paragraphs: In response to comments from the Managing Director of the FHFB, we made a number of revisions, including clarifying our discussion of the potential federal government liability associated with advances provided by FHLB to member institutions. However, in contrast with the Managing Directors’ comments, we continue to believe that there is a potential federal cost associated with such advances because the federal government has paid for liquidating insolvent member institutions. Although the federal government has incurred no direct costs due to FHLB advances, the costs the federal government could incur for liquidating insolvent member institutions may be higher when member institutions have been provided additional resources for lending through the advances. In addition, government sponsorship of the FHLBank System creates potential liabilities for the federal government. For these reasons, we retained the discussion of this potential cost in our report.