Things are getting nasty in the mortgage world. Former Fannie Mae executive vice president and chief credit officer Edward Pinto slammed the FHA in an op-ed piece on the American Enterprise Institute (AEI) website today.
He opened his assault with a definition of predatory lending, which the FDIC defines as “imposing unfair and abusive loan terms on borrowers” and “taking advantage of borrowers’ lack of understanding of complicated transactions.”
This is often done through “aggressive sales tactics” and “outright deception.” Pinto then points out that the FHA’s mortgage insurance program qualifies as “predatory” under that definition.
Pinto Claims the FHA Overcharges Lower-Risk Borrowers
His first argument is that the FHA overcharges lower-risk applicants. He notes that hundreds of thousands of borrowers have been steered into FHA loans instead of cheaper conventional loans.
In fiscal year 2013, he claims roughly 200,000 home buyers that opted for FHA loans could have saved nearly $4,000 over the life of their loans, or $710 million collectively.
Additionally, Pinto points out that FHA premiums add up to 10% of the initial mortgage amount over the life of the loan. And because it doesn’t charge for credit risk, low-risk borrowers essentially pay to subsidize rates for high-risk borrowers.
He further explains that when the FHA was established back in the 1930s, cross-subsidization was “explicitly prohibited,” yet the average low-risk borrower with a $150,000 loan amount is paying an extra $9,000.
Finally, he likens the cross-subsidies to offering what he calls “abusive loan insurance” to scores of high-risk applicants.
He uses a typical FHA loan scenario, which involves a 600 FICO score (below subprime), a 98% loan-to-value ratio (barely any skin in the game), and a 43% DTI ratio (high-end of typical range).
These borrowers apparently have a one in four chance of losing their home to foreclosure, based on the FHA’s own actuarial study.
He Offers Up Strange Solutions to Fix the Predatory FHA
First, Pinto believes the FHA should provide private-government comparisons so borrowers know when and if a conventional loan might make more sense than an FHA loan.
Second, he thinks FHA borrowers should receive a disclosure both three days after loan application and three days before loan closing detailing their estimated risk of foreclosure, based on their loan characteristics. (This would be amazing by the way.)
And if HUD Secretary Shaun Donovan won’t enact such measures, he’s calling on Congress to take matters into their own hands.
This is a pretty intense salvo, and one that seems a bit ill-timed. Over the past year and change, the FHA has made a number of changes to clean things up.
The most notable change was imposing a minimum credit score, and upping the credit score required for a 3.5% down mortgage.
At the same time, the FHA has increased mortgage insurance costs significantly to steer borrowers away from the agency and into conventional loans.
That’s the irony of this whole thing. The FHA has intentionally made itself less attractive to reduce the government’s role in housing, but this has made them “predatory” at the same time.
Ultimately, if a borrower doesn’t have at least 5% to put down on a home, they’ll likely turn to the FHA. And an otherwise low-risk borrower will essentially overpay for mortgage insurance. But perhaps that’s the “cost” of such a convenience.
If a conventional loan product with 3% down isn’t available, you can’t really get an apples-to-apples comparison.
(photo: Allan Lee)