Mortgages: February 2008 Archives

This is a temporary program, launched by President Bush and Congress a few months ago. Its goal is to prevent as many homeowners as is reasonable from losing their homes through foreclosure. It won't help you if you bought a property that was far beyond your real means, but it is likely to help a lot if didn't stretch very much.

In order to qualify for FHA secure, you need to have a non FHA ARM that has "reset," which is lender talk for "passed the end of the fixed period, if there was one." FHA Secure probably isn't going to help you anyway if you already have a fixed rate mortgage. The limit on the loan is the current conforming limit, which is $417,000 nationwide (except Alaska and Hawaii) as I type this. We're expecting information in the next few weeks that details how big the loans the FHA will actually insure in a given area are likely to be due to Congress mandating raising their loan limit. Them being a government agency, they have to do what Congress says, but it does take time to implement these things.

FHA Secure mortgages are not like those "free magazine - take one!" offers. You do have to qualify for the mortgage under the normal FHA rules. This means full documentation of income on a fully amortizing loan with a debt to income ratio of 41% in the textbook case. They also have Loan to Value limits of 97.15%

The ONLY "normal" mortgage qualification that the FHA Secure is willing to overlook is whether you were current on your loan after it hit the adjustable period. You must have been current on your existing mortgage for six months before it hit the adjustable period, but if you made late payments or no payments after the loan hit the adjustable period, FHA is willing to waive the usual requirements to have your loan current. They're even willing to consider your loan if you are currently in default.

Another way that FHA Secure mortgages are different from most FHA mortgages is that there is no CLTV limit, and the FHA will allow secondary financing for FHA Secure loans. The primary form this takes is second mortgages carried by previous lenders for amounts over the FHA limits, either in terms of Loan to Value or absolute dollar value. Be aware that in some states, this is going to change your loan from a non-recourse loan into a full recourse loan.The protections given by non-recourse loans are generally over-rated, but it's something you should be aware of. Since the FHA normally funds up to 97% Loan to Value ratio, and conventional lenders and second mortgage holders don't want to go that high right now, they are not going to agree to fund the difference unless they understand the choice they have is between funding the difference and going straight into foreclosure. For example, let's say you've got a $500,000 loan on a property that you purchased for $500,000 with 100% financing on an interest only 2/28. You still owe $500,000, but the property may only be worth $440,000, and the FHA will only fund to $417,000 until the new limits are implemented. This leaves $83,000 (at a minimum) that the new loan is short. If the prior lender can be convinced that it's a choice between write a loan contract for that $83,000 and go straight to foreclosure, where they'll lose a lot more than $83,000, they may agree to carry that second mortgage. Of course, they also may not. It's their money and their choice, and there's no way to compel them if they won't listen to logic.

FHA Secure is otherwise similar to "regular" FHA loans, and it's not free. There's a funding fee of 1.5% charged up front, and an annualized half a percent charged on a monthly basis. The FHA's "Naughty List" also applies.

FHA Secure is not any kind of a cure-all. You do have to qualify for it as regards both Debt to Income Ratio and Loan to Value Ratio. If you stretched way too far beyond your real means - as evidenced by income documentable by tax returns and W-2 forms - this program is not going to help you. If you were late on your mortgage even before it hit reset, this program is not going to help you. If you're a member of that group that's always with us, people who have lost their jobs, careers, or otherwise seen a decline in income, it may not help you even if you originally qualified full documentation. It's also not going to help you if your loan was for $900,000, which is way over any FHA limit currently being contemplated. But if you're a middle class borrower who only stretched a little, figured you'd be okay with a hybrid ARM because of it, and now you're not, this may be the program that saves you.

Caveat Emptor

UPDATE 9/25/2008 I have written how I think an expansion of this program could help the macroeconomic situation immensely in A Highly Leveraged Way to Ameliorate the Financial Crisis

Article UPDATED here

I want to state that I am in no way shape or form an FHA loan guru. But with the new developments in the market rapidly transforming FHA loans into being the most likely savior of the market, I invested in a class to learn some more about them. Between my general knowledge of loans and this information from someone who is an FHA guru, I think I can make some sense on the subject. Besides, one of the best ways to understand something better is trying to explain it to someone else.

FHA will guarantee loans up to 97% of the purchase value, not 100%. This means that you do need a minimum of 3% down from some source. The FHA will allow seller paid closing costs only of up of 6%, and the really cute thing is that they will also allow the down payment component to be a gift from family members or non-profits (provided they are not otherwise involved in the transaction), which opens up some interesting possibilities I'll write more about in another article. FHA loans can also be interfaced with some types of locally based first time buyer programs, although whether there is money in the budget at the time you apply for those programs is subject to funding, which usually goes quickly.

The first thing you need to understand about FHA loans is that they are intended to enable people to transition from renting to ownership of a primary residence. They are not intended to help anyone grow a real estate empire. For this reason, they will not work with investment property except in the case of non-profits. Second homes are only allowed where you already own a home elsewhere and can show an employment related need. Vacation homes are not allowed.

Refinancing is possible for existing FHA loans, up to a maximum of 85% 95% (see Mortgagee Letter 2005-43) loan to value ratio, provided it was purchased via FHA owner occupied loan. The only exception allowing FHA refinance of non FHA loans is the FHA Secure plan, which I'll write about in another article. There is no prepayment penalty on FHA loans, and they can be refinanced into conventional loans anytime you can qualify for conventional financing. Most folks do refinance FHA loans into a conventional conforming loans as soon as they can, because FHA rates aren't as good as conforming and conforming loans don't carry financing insurance. It's something to be decided on a case by case basis, on the basis of what is best for a given homeowner.

I did say conforming loans. FHA has loan limits which has mostly precluded them being a big player in most areas for the past several years. With the decrease in housing prices that has hit many areas and new legislation raising the conforming and FHA loan limits (which we're still waiting for hard numbers on), they are likely to be what saves the market as traditional lenders are seemingly more fearful of high loan to value ratio loans every day. Truthfully, I anticipate FHA loans as being what saves the bacon of traditional lenders and provides the upwards impetus to the market that will cause traditional lenders' fears to ease and relax their restrictions.

With loan limits preventing them from lending upon most single family residences these past few years, you'd think FHA would be friendlier to condominiums. Unfortunately, government bureaucracy being what it is, condos have to be approved by the FHA before they will fund loans upon them. Since relatively few developers care to do that, that means that most developments don't have blanket approval from the FHA.

Just because the FHA hasn't issued blanket approval to a condominium development doesn't mean that you can't get spot approval, however. The requirements, in addition to the usual ones, are no ongoing class action suits open or pending, and 60% or more owner occupancy for the complex. This last tends to be the most difficult requirement, as it's a little unusual that a particular complex has 60% owner occupancy.

Like all government programs, FHA loans require full documentation of sufficient income to afford the loan. No stated income or lesser loans will be funded. This is another reason they've been unpopular in recent years, as mortgage products for those with eyes bigger than their wallets proliferated, and agents and loan officers became accustomed to qualifying people for properties and loans far beyond their means. Now that that's all over and we're back to solid fundamentals as far as loan qualification, you can decide to stay within the budget for a loan you can prove you can afford, you can put a significantly larger down payment on the property to qualify for conventional financing, or you can do without buying any property at all. But FHA does not do stated income loans.

Matter of fact, the FHA doesn't do "interest only" financing, either. All FHA loans are fully amortized. However, the FHA does accept some hybrid ARMs as well as fixed rate financing. But no interest only, no stated income, no negative amortization. You must qualify for an FHA loan based upon the fully amortized payment and full documentation of income only, which eliminates most of the ways that people were being qualified for loans beyond their means in recent years, and is one more reason why the FHA has not been a major provider of loans in recent years.

Allowable debt to income ratios are 29% 31% front end and 41% 43% back end, according to the written guidelines. However, the 29% front end can be gotten around and the 41% can be subject to increase in the case of strong credit , high reserves, or a stable job. For instance, owner of a stable business of long standing. Nobody fires owners. Large amounts of money in retirement accounts is one that the instructor specifically mentioned as being a possible reason to get the debt to income ratio increased. The range of 45-49% is supposed to be reasonably possible to get the FHA to approve. Beyond that, exceptions are fewer and significantly harder to get.

There is no requirement for reserves with an FHA loan at all. With that said, however, having reserves can be a major point in your favor, particularly above 41% back end ratio. People with hundreds of thousands of dollars in retirement accounts that they could fall back upon if they had to is something the FHA will consider while traditional lenders would not. They'll even allow non-monetary reserves, the example given being a collector of old motorcycles which could be sold. Jewelry, automobiles, and other non-liquid assets may be considered. Of course, it's a very good idea to source and season every dollar you're using to justify the transaction, but the FHA has even been known to accept "mattress money" for down payments (not generally reserves), which is unheard of in other loans.

Here's the really cool part about an FHA loan: It's not FICO driven. You don't even have to have a credit score in order to be approved. With that said, however, I'm told that below a 600 credit score things do get tougher to get approved, and below the equivalent of about a 575 it's not likely to be approved. You can also use alternative credit , of which utility bills are probably the best example. Especially in some cultures, credit can be a thing that people aren't accustomed to having or using, so these capabilities are very helpful. You don't even have to be a citizen, but you do have to have the right to work in the United States.

Prior bankruptcy is allowable. Chapter 7 with two years of seasoning and re-established credit, chapter 13 with one year payment history and court approval.

Even prior foreclosure is not an automatic disqualification from an FHA loan. They will, however, require documentation of extenuating circumstances such as major illness. Job transfer is explicitly disallowed as an acceptable extenuating circumstance, so people who walk away from properties thinking they're going to get an FHA loan are going to be disappointed. What the FHA really seems to be looking for is debilitating illness, either one which you personally went through, or one where you had to care for an immediate family member.

For how easy they are to work with for individuals, however, loan providers find themselves with many additional requirements, which is yet another reason FHA loans have been less popular of late. In addition to everything else, in order to originate FHA loans, originators have got to go though an annual audit with an accountant who's specially certified FHA auditor. This audit costs a minimum of about $5000 just for the auditor, never mind the cost of the originator's own time or that of anyone else they may have to pay. The FHA does not permit an agent to hang their license with one broker for real estate and another for loans, either. If your broker does both, however, it may be permitted. The extensive paperwork means fewer providers - especially discount providers - are interested due to the increased costs, which drives things exactly opposite to what you'd expect the government to want - it drives prices of FHA loans up, by restricting the supply of those willing to do them. It is hoped by many that FHA modernization will change some aspects of this, but that has been stalled in Congress for over a year. It's pointless to speculate as to what will and will not be included in FHA modernization until Congress sends an actual bill to the president.

One thing not likely to change is the FHA's blacklist. It's not called that, but that's what it is. Once a real estate agent or loan provider is on their list, they are on it for life, and the FHA scrutinizes all transactions for anybody affiliated with it being on their "no way" list. If someone should default on an FHA loan, the insurer is going to look for a reason not to pay the guarantee, which insures that every FHA foreclosure gets scrutinized for fraud and a number of other offenses. If the agent or loan officer was involved in such an offense, onto The List they go, and they are forever barred from transactions involving an FHA loan. For this reason, it's probably a good idea for consumers to ask about this in their first meeting with a prospective loan officer or real estate agent - on the phone would be better. Just say that you're going to be needing an FHA loan, so if they're on the FHA's "naughty" list, they might as well tell you now, because they're going to be wasting their time. If they try and talk you out of an FHA loan, well, that should tell you everything you need to know. FHA loans are superior to anything that isn't conforming A paper, and if you haven't got the qualifications for that, FHA beats A minus, beats Alt A, and beats subprime like a drum (OK, so the VA is a better deal than FHA as well).

The FHA does not normally permit secondary financing, either in the form of second trust deeds or seller carrybacks. The one exception to this is in the FHA Secure program, which will have to be another article.

One final thing: FHA loans aren't free. There is an upfront cost of 1.5 points to fund the loan. This is over and above all other loan related fees. This pays for an insurance policy that insures the lender against loss, much like private mortgage insurance on conventional loans. In addition, there's an annualized cost of half a percent on top of principal, interest, taxes, insurance, etcetera - and this is included in debt to income ratio calculations. This will continue until the loan to value ratio is 78% or less, and if the loan period is over 15 years, cannot be removed for five years. If the loan period is 15 years or less and the loan to value ratio is initially less than 90%, there will be no continuing (i.e. the annual component) mortgage insurance charged, but the only way to elude the 1.5 point initial charge is by having a loan to value ratio of 80% or less. Since in any of these cases, it's overwhelmingly likely there will be better choices available to the consumer, essentially all FHA loans are going to have this financing insurance. The continuing cost is one of the main reasons people refinance to non-FHA mortgages, incidentally.

With lenders becoming increasingly fearful about the state of the market (far too late to avoid damage), FHA loans are an excellent way to qualify someone for financing that's at least close to 100%, and legal avenues do exist that can enable FHA financing to be essentially 100% financing. Given the state of the housing market, particularly the starter market, and the recently passed legislation which will enable FHA limits to be raised, the FHA loan is likely to be a very powerful force for market stabilization, leading to market recovery. It's a good alternative for consumers who cannot currently qualify for conventional loan financing.

Caveat Emptor

Article UPDATED here

FYI, I attended a class on FHA mortgages, FHA Secure and down payment assistance programs this morning. I'll probably have two or possibly three articles in the next week or so. In the meantime, if I can help with a loan in California, please Contact me.

We still do not have hard numbers on what the new FHA and conforming loan limits will be. I've heard estimates that say anywhere from another week to another eight weeks before all of that information is available. In the meantime, I must point out that, as I said in Conforming Loan Limits and the Economic Stimulus Package, the enabling legislation says that the limit can be up to 125% of the median sales value in your MSA most recent information here in pdf), up to a limit of $729,750. In other words, it will not be more, but it very well could be less. Nobody knows until Fannie and Freddie, and the FHA separately, publish their new guidelines. There is no safe harbor guess, no matter where you live, and all speculation will do in advance of publication of the actual numbers is get people mad or disappointed when the actual numbers hit.

If you live in California and want some strategies that make sense for you in a purchase or loan, Contact me. Otherwise, we all need to wait for official announcements from Fannie, Freddie, and the FHA, and I am planning at least two articles out of this morning's information.

Rates move up and down constantly. This is one of the strongest reasons both Intelligent consumers and intelligent loan officers love zero cost loans. Every time rates drop, I call or send an e-mail to those clients who signed up for low cost loans since the last time rates dropped this low, and voila, I'm saving them money for basically nothing.

A streamline refinance is a refinance where there is no cash out by Fannie and Freddie's definition. The rate must be lower, the payment must be lower, and the equity situation must qualify for at least the same program the borrowers had last time. If you roll the expenses into the balance cannot be higher than what was approved last time. Most streamline refinances are with the same lender, but there are a very few lenders who will or have in the past allowed streamline refinancing of another lender's loan.

Here's how and why it works. There is always a tradeoff between rate and cost. Rates have actually come back up considerably since a month ago, but that's good fodder for an example. I'm going to assume a $400,000 current loan. Closing costs on that loan are $2815 including appraisal, escrow, and title insurance. Usually, appraisals are not required for streamline refinances, but right now, lenders are in panic mode, so they are. Those who have the gold make the rules for lending it out. The A paper rates for the day I'm writing this (no longer available by the time you're reading this) are a thirty year fixed rate loan at 5.875% for two points, 6.25 for one point (actually about 3 tenths), or 6.375 for zero points. Here's a table listing new rate, new balance, monthly interest cost, and how long it takes to recover the cost for the loan via lowered cost of interest in months as opposed to the 6.75% loan that I can do for no cost to the borrower at all.

Now once you've paid those costs, they're sunk into the loan. Furthermore, your rate is locked into concrete. Just because better rates come along does not mean the lender is automatically going to lower your rate, any more than they can raise it if rates go up. That Note is a binding contract on both sides. So if you want to refinance before you've broken even, any money you haven't recovered yet is just gone. The alternative is not to refinance at all, and keep your old loan, horrible though it may be by the standards of a later time. And if you do want to refinance again, it doesn't matter what your current rate is - you're going through the entire qualification process anew, and you have to pay closing costs again as well as, if you want them, discount points to buy the rate down.

Let's say it's a year from today, and rates drop to where they were a month ago. 5.25 for two points, 5.5 for one, 5.75 for zero points, and 6 percent even for zero cost. Let me stress for the hard of understanding who may be reading this that this is a purely hypothetical supposition. Depending upon the loan you chose today, here's your situation in twelve months:

At our hypothetical rates one year from now, the person who chose 5.875% today cannot be helped without spending some money. In fact, I can move anyone who chose a loan costing one point or less down to a rate almost as good as what you spent $11,000 to get for absolutely zero cost. So their balances stay exactly the same, and here's the new situation

Notice that the person who chose that zero cost loan in the first place has a monthly cost of interest that's $8 to $17 lower than anyone else - and he owes thousands of dollars less on his loan! The people who spent money buying the rate down will literally never catch up to him! Even though the interest for the guy who keeps the initial 5.875% interest rate is a little lower, with thousands of dollars difference on the balance, you're still talking fifteen years or so for him to break even with the people who initially spent less to buy the rate down, straight line computation, never mind time value of money!

This isn't magic, and it isn't totally hypothetical. This is almost predictable. A few years ago the median age of mortgages was down to sixteen months. I can't seem to find it in the current Statistical Abstract, but I've heard it's all the way up to 28 months - still less time than it takes to break even for the costs of the expensive loan above, and pretty much the same as the break even for the loans where you spent some money to get the loan. Why in the name of whatever divinity you worship would you want to spend money that most people are never going to get back?

Now, considering this information, there's another loan that actually makes even more sense for most folks - a hybrid ARM. This is a thirty year loan with an interest rate that is initially fixed by the loan contract for a certain number of years, after which it will become an adjustable rate mortgage. For about 15 years, I've been doing 5/1 ARMs for myself. Even when the rates on thirty year fixed rate loans were ten percent, I've always been able to get a 5/1 ARM around six percent or less. For the last couple of years, the rates on 5/1 ARMs have been essentially the same as for thirty year fixed rate loans - meaning there's no real reason not to buy thirty years of insurance that your rate won't change. Why not, when it's been cheaper than 5 years worth of the same insurance? But ARMs are now diverging significantly below the rate/cost tradeoff of thirty year fixed rate loans, so now we're getting back to the normal situation, where people willing to relax just a little bit on a mental requirement for a thirty year fixed rate loan can reap substantial rewards. A month ago, a 5/1 ARM at zero cost was at 5.75%. Now it's around 6.125. So for the same zero cost of a 6.75% thirty year fixed rate loan, you can get a five years of fixed rate at 6.125%. On a $400,000 loan, this saves you $2500 per year - more than a full month of interest on the thirty year fixed rate loan. Furthermore, we've already covered the fact that the vast majority of people aren't going to keep their loan long enough for a 5/1 ARM to turn adjustable anyway. If you're among those 95% of all real estate borrowers who aren't going to keep the loan five years, there isn't any practical difference between a thirty year fixed rate loan and a 5/1 ARM except that you pay five eighths of a percent less interest - slightly over $200 per month saved in this instance. You can pay the same as a thirty year fixed rate loan and apply the interest savings to principal - which means you'll owe $14,000 less at the end of five years, assuming you keep it that long, and that rates don't drop so you can refinance at a lower rate, again for free. Another alternative is that you can invest the difference, in which case you'll have over $15,000 extra in an investment account, assuming an average 10% return per year. Who cares if you then need to spend $3000 of it refinancing if the rates never get this low in that period? Okay, I care, but since I'm still $11,000 or so ahead after I spend it, if I need to spend it, that is one heck of a good investment!

Some people prefer other ARMs. I see people encouraging the 10/1 and 7/1 for people who think the 5/1 isn't long enough. And if you're one of those folks who is going to lie awake every night for five years because you don't have a thirty year fixed rate loan, the difference between a 5/1 ARM and a thirty year fixed rate loan makes a difference of about $6 interest per night. Split two ways, for you and your significant other, that's $3 each for a good night's sleep. A good night's sleep is worth $3 to me, it's worth $3 for my wife, and I presume your sleep worth $3 per night to you, also. There's nothing explicitly wrong with choosing a 7/1 or a 10/1 as opposed to a 5/1, either. It's mostly a mental comfort issue. Most folks don't keep their loans 5 years anyway, so if I'm one of that huge majority of homeowners, why would I want to buy seven or ten years worth of insurance that my rate won't change? The only answer that makes any sense other than mental comfort is if the rate/cost tradeoff for those loans is cheaper, and that is only rarely the case. At today's rates, you're giving away three eighths of a percent for the same zero cost loan on a 10/1 basis - 60% of your savings, although the 7/1 is almost exactly the same cost as the 5/1, so that's a good choice. Most folks won't use the two extra years, but if it's essentially free, why not take it in case you do? For the 3/1 ARM, on the other hand, it's actually slightly more expensive at the zero cost level we're considering today, and even if it was cheaper, you're getting down closer to average holding period, so perhaps a third of the people who got it might want to hold it longer than the fixed period. Furthermore, I don't think I've ever seen a zero cost 3/1 more than an eighth of a percent lower rate than a 5/1 at the same cost. Let's say you could get one at 6% today for that loan, instead of 6.25. You save $41 extra per month - $241 over the thirty year fixed - but you've only got a maximum of 36 months of savings. $241 times 36 is only $8676, as opposed to $200 times 60 months, which is $12,000, not to mention more ability for compounding to have an effect in the case of the 5/1 ARM, and that the idea is refinancing to a favorable rate before the end of the fixed period. For all of these reasons, I can't really see choosing a 3/1 for any set of circumstances I can remember seeing any time in the last fifteen years or so.

To summarize, rate/cost tradeoffs between loans go up and down constantly - the rates for A paper change every business day, at a minimum. Nobody can predict exactly when they will rise or drop again, but that they will vary over a given range is pretty much axiomatic. Furthermore, there is always a tradeoff between rate and cost for any given loan type at any time, and if you choose a loan with low rates but comparatively high costs, it will be years before you have recovered your initial investment via cost of interest. Since by that point it is very probable that rates will have fallen below today's rates, and you will have wanted to refinance, this is only rarely a good investment. A better way to cut your cost of interest is to choose a hybrid ARM with a fixed period likely to cover the period of time you will keep a given loan in effect.

Caveat Emptor

Article UPDATED here

(NOTICE: This article was written in response to President Bush's 2008 stimulus package. I have written another article About President Obama's 2009 Help for Homeowners package. You might want to keep this window open, as how well I did on predicting this one should inform your opinion on how well I'm likely to do on predicting the effects of the current bill)

Sometime today, February 13, 2008, President Bush is scheduled to sign the Economic Stimulus Package into law. Maybe it's already happened by the time this publishes. I've made my opposition plain from the time it was first proposed, but it's going to be law effective today.

Ever since it was proposed, people have been going crazy with suppositions on what the increase in the conforming loan limit is going to mean. Except that Fannie Mae and Freddie Mac, who buy conforming A paper loans, are mostly private corporations. In fact, the limit of how big the loans they want to buy is what really determines a "conforming loan", as in "Conforming to the underwriting requirements imposed jointly by Fannie Mae and Freddie Mac." How big the loans they want to buy is really up to them, and it's only been a couple of months since they decided not to raise their conforming loan limit for 2008.

Here's some text excerpted from an e-mail I got February 12 from one of the biggest lenders in the business:

As you are likely aware, the House and Senate recently passed the Economic Stimulus Package, which includes increases to standard GSE (Fannie Mae and Freddie Mac) loan limits and Federal Housing Authority (FHA) loan limits.

It is likely that the bill will be signed into law by the President as early as tomorrow, Feb. 13. We would like to let you know what to expect from DELETED once the bill is officially signed into law. We will follow up with additional messaging as we learn more from the GSEs and FHA about timing and availability.

Several steps must occur before DELETED can accept applications with the higher loan amounts in the bill, including:

• First, the GSEs and FHA must assess their internal impacts to determine the delivery approach they will require of mortgage lenders and investors.

• Second, GSEs and FHA must communicate their requirements to mortgage lenders and investors.

• Third, DELETED will work to identify impacts and implement the changes as quickly as possible.

Due to these necessary steps, the higher loan limits offered by the GSEs and FHA as a result of this bill will not be immediately available to our clients (higher loan limits are available through our non-conforming product offerings). (emphasis mine)

High-level Details of the Stimulus Package

Details of the GSE/FHA requirements are not finalized; however, outlined below is some information regarding what is expected as a result of the new law:

Overall

• The increases are a temporary solution for some high-cost areas based on Metropolitan Statistical Areas (MSAs).

• The higher loan limits will not be immediately available. (emphasis mine)

• Changes related to FHA Modernization were not included in the Economic Stimulus Package.
GSE Loan Limits

• Loan limits may be as high as $729,750; however, $729,750 will not be the nationwide loan limit (emphasis mine).

Increases will be available in high-cost areas based on the median area sales prices and will follow the standard HUD mortgage limit calculation process.

• To determine high-cost areas, the calculation factor will increase to 125% of the area median sales price (emphasis mine).

• The increase applies to loans originated from July 1, 2007, through Dec. 31, 2008.

FHA

• Loan limits in high-cost areas may increase to as much as $729,750.

• To determine high-cost areas, the calculation factor will increase to 125% of the area median sales price.

• The increase applies to loans with a credit approval issued prior to Dec. 31, 2008.

Please watch for more detail in the near future as we learn more about timing and availability.

In short, it's temporary, and it's based upon the median sales price in your MSA. In order to hit the $729,750 limit, the median sales price in your Metropolitan Statistical Area has to be $583,800. San Diego just barely makes it, and the Bay area blows it away. Orange County makes it handily. LA just barely makes it. Honolulu is the only area outside California I see that makes it to the maximum. I don't see any others on the list that make it (Manhattan is only a small part of the New York MSA).

Furthermore, as the email said and I've been explaining to people for weeks, just because Congress raised the conforming loan limit doesn't mean Fannie and Freddie have to buy them. FHA yes - that's a federal agency. But Fannie and Freddie are mostly private corporations these days. They're certainly going to give weight to what Congress has indicated it wants them to do, but they're not going to completely ignore actuarial concerns, and the bigger the loan, the worse the consequences if it should default. I'd expect Fannie and Freddie to raise their limits, but until they say that their limits have been raised, all of the lenders have to keep the old conforming limit of $417,000.

Want more information, or hard information for your area? here is a .pdf of the most recent data available by MSA. 125% of those numbers is the maximum, and this should get pretty close. For hard numbers, we're going to have to wait for the FHA, Fannie, and Freddie to release them to us. They're the ones who have to apply the law, and tell us what they will and will not fund.

Caveat Emptor

UPDATE: (March 6th) FHA has now announced their new conforming loan limits. I expect Fannie and Freddie to follow as quickly as they can.

I knew that people, particularly first time buyers, were going to be forced into condominiums in San Diego, I just didn't know how soon.

Most people, particularly first time buyers, want 100% financing. Actually, most first time buyers don't have a down payment and couldn't put a significant down payment (5% or more) if they had to. And since 5% of $400,000 is $20,000, and 10% is $40,000, that's a significant chunk of change. Especially when you think in terms of lifespan to save: a family that makes San Diego area median income ($69,700 per year) and manages to save a full 10% of their gross salary - $580 per month - takes almost three years to save a $20,000 down payment, and 69 months to save $40,000! Never mind closing costs, which can be anywhere from another $4000 on up, depending upon how many points you want to buy the rate down. Considering the psychology of the average American, these time estimates are hopelessly optimistic.

For at least the last ten years, 100% financing has been available, and the means to qualify for it have been routine. Since the vast majority of all buyers need a loan, this availability has been priced into the market. Indeed, it was one of the early factors that led to a run-up in prices in many areas. Nor is there anything wrong with 100% financing, per se. When you look at fully amortized fixed rate loans done on a full documentation basis, the levels of default and lender loss are not significantly higher than the most hidebound "traditional" loan standards.

It was only when the standards became so relaxed that this was too much to ask for that everybody got into trouble. There is a reason why less sustainable loan types - interest only, short term hybrid ARMs, and negative amortization loans had always required a much larger down payment - greater risk of default! Lenders with an eye on selling the loans to Wall Street figured there was no down side to loosening loan standards until even "fog a mirror" was asking a little bit much. The assumption was that prices had gone up several years in a row, so "of course" they were going to keep going up forever - and ignored anyone who tried to tell them otherwise.

Well, we all know by now how that one turned out. Unfortunately, everybody in positions of responsibility at various lenders is now in full blown damage control mode - by which I mean playing CYA by slamming the barn door after all the horses have departed. For good measure, they're locking the doors to all the other buildings as well - even the ones that never held horses. Among these are full documentation 100% loans.

The best and cheapest way to get 100% financing was split the amount into two loans - a first for 80% of the value and a second for the remaining 20%. Unfortunately, as I reported a little over six months ago, second mortgage holders found out that they were the ones really holding the sack for all of this, and stopped approving anything over ninety percent of value. As I said then, this made things worse, especially for everyone trying to get out of unsustainable loans and those who lent to them.

The second way to get 100% financing was with Private Mortgage Insurance. PMI rates had gotten very cheap when they were competing with another option for 100% financing. It was still more expensive than splitting the amount borrowed into two loans, but it was possible, and if the debt to income ratio was lower for A paper, it only made a marginal difference on qualification of approximately 10%. Even when PMI rates suddenly jumped, things were still manageable. The decline we had already had here in San Diego more than covered it.

But now lenders have withdrawn all 100% financing programs except the ones backed by government or quasi-governmental entities - FHA, Fannie Mae, Freddie Mac. And here's the rub: The income necessary to qualify for the base purchase amount plus PMI on properties bumps up against the maximum income limit of $97,800 for those programs (assuming a rate of 5.75%) at around the current conforming limit, and that's assuming no other debts whatsoever. The increase in the conforming loan limit isn't going to help 100% purchasers at all.

So what happens when 100% financing suddenly isn't available? People who could have bought and were willing to buy suddenly cannot. This constricts demand for housing, as there are fewer people able to qualify for the loans. Prices fall, when they would have been stable otherwise. Because of this, people are unable to refinance. Whether it's because they cannot refinance or there was just no way they could really afford the property in the first place, people who sell are unable to sell for enough to pay lenders in full, and those lenders, predictably enough, lose money they otherwise would not have. Poetic justice to a degree, but the lenders aren't the only ones paying. Just like when things were going crazy, This is all a vicious cycle - except in the other direction

Furthermore, even if you are able to qualify, via one of the governmental or quasi-governmental programs, the added cost constricts what you can afford. If your family makes area median income ($69,700 in 2008), you can't afford a $300,000 property at 6%, even if you have no other debt. About $270,000 is the absolute limit.

Who are the big winners? Two sorts of folks, and for either one this is a real buying opportunity, the sort where if you buy now, you will be very happy in a few years. The first is people eligible for a VA loan. That's the only 100% financing program available right now without PMI or its equivalent. Since PMI for 100% financing is more expensive than property taxes, it makes a big difference. Furthermore, there are ways to leverage it for a property of up to about $600,000, instead of the current conforming limit of $417,000. Someone eligible for a VA loan making area median income can stretch to about $330,000, and I don't know of any income limits on VA loans. Assuming the new limits come in, a family making $100,000 per year will qualify for $500,000 with no money down on a VA loan. When you can qualify and other people can't, that's negotiations leverage. The current owners can keep waiting and hoping for a prospective purchaser in the who makes $120,000 or more per year, but that's about two more standard deviations. Look up the normal probability distribution - at $100,000 per year you're already looking for about one family in 10,000 who might qualify, and most of those already have the property they want.

The other winners are people who have cash for a down payment. All this stuff about PMI doesn't constrict people who don't need PMI, or who at least have enough so that they don't need 100% PMI. If you get up to 10% down payment, now you've got the possibility of a second mortgage, and once again, PMI goes away. So if you have a 10% down payment on a $400,000 property, not only are you only borrowing $360,000, but there's no PMI on that money, either. This saves you $480 per month on your first mortgage, $453 per month on PMI, and if it costs you about $293 for a second mortgage, you're still saving $640 per month, meaning you can qualify as if you were a purchaser who makes an extra $1420 or more per month - $17,000 per year!

Suppose you don't fall into one of these two categories? There are about four alternatives. First, you can "settle" for a lesser property, which is probably the smartest alternative for most folks. The best way to save for a down payment on the property you really want is to buy something less expensive now. Second, you can wait until you have saved the difference, fighting against leverage the whole time. Most folks never save enough to make the property more affordable. Third, you can find an owner with enough equity to carry back a large part of the transaction, a consideration for which they are going to demand a much higher price. For one thing, that money is their down payment for the move up property. To say this is not a good way to get a bargain may be the understatement of the year. Finally, you can do completely without - in other words, stay a renter until the situation changes. Now every time I write one of these articles, I get some clueless watchers of immediate cash flow who have no understanding of leverage, real estate markets, or the fact that the crashing of the market is putting significant upwards pressure on rents, for two reasons. First, the people who have lost property have no choices except renting and homelessness for at least two years. Second, the leverage that was working in the landlord's favor these last ten years, encouraging them to keep rents relatively cheap, has disappeared with the housing bubble. Locally, I've seen the average rental price in the areas I work jump by $150 per month or so just in the last year, and this is just the leading edge of the adjustment. Paying attention to only the cash flow as it exists now is a way to make a bad decision - you need to look at the entire situation as it is going to be for the rest of your life.

Property values are going to come back. For one thing, as soon as prices stabilize, expect 100% financing alternatives to become more available again. Since their absence had a negative effect on the markets, what's going to happen when they become available again? If you answered, "A one time shift back upwards in property values," give yourself a pat on the back. If you followed it with, "Which will have the further psychological effect of causing everyone who's been putting off purchasing to rush back into the market for fear of getting priced out again, putting further demand and causing another shift upwards in pricing," then you have some memory of how the general population chases last year's returns and the effects thereon. Fear and Greed, just like last time. Some people never learn. But if you buy before the great mass of humanity gets their fear and greed up, that will amount to a nice large chunk of change in your pocket, especially if you then want to move up. I expect San Diego to at least recover most of what we've lost very quickly once the average person gets it into their head that current price levels are unsustainably low, which they are.

Caveat Emptor

Article UPDATED here

One of the things I keep getting told by people is that my loans are the same as everybody else's. I quoted a 5.625% with no points a few days ago, and got told, "That's the same rate someone else quoted me!"

Rate, yes, but what's the cost of getting that loan? There's always a tradeoff between rate and cost, and focusing only on the rate ignores half of that very important equation.

It turned out that they other folks wanted to charge him more than a point for the exact same loan I was able to do for no points. Seeing as this was a $340,000 balance payoff, it was the difference between a new balance of $343,000, with a payment of $1974.50 and monthly cost of interest of $1607.81, versus about $346,500 with a payment of $1994.64 and monthly cost of interest of $1624.22. Don't think that's a lot? Then consider the difference of $3500 in what you owe and $16.41 per month in cost of interest, every month you keep the loan.

I've heard similar things from people I was offering a lower rate to, for less money. For instance, that was a 5.375% loan with a bit less than a point at that time. So for actually a bit less than a balance of $346,500, he could have had an interest rate of 5.375. In the interest of keeping things simple, I'll even use the same balance when it would have been a little less. That drops the payments to $1940.30 and the monthly cost of interest drops to $1552.03, saving over $70 per month! If you keep it a statistical average 28 months, that saves you $1960! If you keep it the full 30 years, that's a difference of over $19,000! But I can't tell you how many times I've heard, "Is that all you can save me?" Hello! Do you really need a better reason than thousands of dollars?

It just doesn't seem like all that much, because people think in terms of payment. Clever salesfolk will seize upon this as a method of selling inferior loans to people who don't know any better. Salesfolk, after all, get the difference in pay for the loan right away. Therefore, they understand in their bones what a big difference those small differences make over time. If you multiply it out, you should understand as well. This is all real money coming out of your pocket!

Far and away the biggest component of any new loan is what you already owe, or what you've agreed to pay to acquire the property. This can make differences seem small, but I guarantee it wouldn't seem small if someone was asking you for $3500 cash out of your pocket! .I've said this before, but don't let cash make you stupid. $70 per month is $70 per month, every month for as long as you keep the loan, and money added to what you owe with this loan will quite likely still be there when you sell or refinance, converting it into a strict liability. That's money you won't have, and additional interest you'll pay because you don't have it!

The differences may appear to be marginal, but they're not. Would you rather add $3500 to what you owe, where you'll pay interest on it, or keep it in your pocket, or at least out of your mortgage balance? No, it's not paying off your mortgage entirely, but it is saving you money. Over time - and most people will have mortgages for the rest of their working lives - it makes a substantial difference. If you refinance every three years, this makes a difference of $35,000 over thirty years. Would you like that money in your pocket? If not, why don't you hit my tip jar up there on the right? If you're not getting any use out of the money, I certainly can.

Caveat Emptor

Article UPDATED here