Home Perspectives Realty Views: Tougher Loan Requirements Set

Realty Views: Tougher Loan Requirements Set

Two federal government agencies appear to have made a pre-emptive move in the event of another housing downturn by tightening some of the mortgage requirements for two very popular programs.

The Federal Housing Administration (FHA) and the Veterans Administration (VA) offer two of the lowest cost housing programs available with some of the best rates, easiest qualifying and highest loan-to-value (LTV) options in the marketplace – especially for cash-out refinances and owners looking to get funds for home improvements or other needs.

The Department of Housing and Urban Development (HUD) oversees the FHA program and Ginnie Mae, which does the same for the no-down programs that are offered to veterans through the VA. HUD recently announced the first changes in a decade to the LTV structure for cash-out refinances.

In 2009, well after the housing bubble had wreaked havoc on the lending industry, HUD changed the LTV on cash-out FHA loans to 15% from the previous 5% prior to the downturn.

Much of the blame for the rampant foreclosures that began in 2007-08 was directed towards borrowers who pulled too much cash out of their homes, got stuck in the economic downturn, and then found that they were underwater with the increased loans on their property. In turn, they couldn’t sell to get out from under the debt.

It appears this time that the HUD agencies are not going to wait until something happens and are reacting to a slowing housing market. Perhaps they want extra insurance that borrowers are going to have more “skin the game” with a higher equity position in case home values decline.

For FHA cash-out mortgages, the new requirements are 20% equity – up 5% from the standard 15% of the last 10 years. For VA cash-out loans, after November 1 there will be no 100% cash-out mortgages and 90% will be the required equity to qualify.

Refinances and cash outs have been popular this year with the decline in mortgage rates, but according to an August 1 letter issued by HUD, this change is being instituted to get ahead of potential problems.

The letter stated: “FHA last adjusted the maximum LTV on cash-out refinances from 95% to 85% in 2009 in response to the weakening housing market. Prior to FHA’s reduction of LTV requirements and similar changes by other market participants during the market downturn, the share of cash-out refinances had rapidly increased as housing prices increased through the mid-2000s. Subsequent studies have shown that a significant increase in foreclosures may have been the result of a high number of cash-out refinances completed prior to the collapse of the housing market. As the housing market has improved, the market has continued to monitor the risk associated with cash-out refinances and recently one of the Government Sponsored Enterprises [the VA program run by Ginnie Mae] has instituted changes to address this credit risk.

FHA’s data is again showing that an increasing amount of cash-out refinance transactions are occurring. Notably, the total number of FHA endorsements with cash-out refinance mortgages has increased 250.47% . . . in FY 2018. Consequently, FHA has concluded that this [most likely] would be a prudent measure in order to strengthen the equity position of cash-out refinances and reduce loss severities in the event of default, stay ahead of any potential future shift in the housing market and better support FHA’s mission of providing access to sustainable homeownership that builds equity.”

Although these moves in themselves will not prevent a housing downturn, they could help prevent a 30-50% drop in values, which occurred in the Great Recession. Another major benefit would be to help prevent a mass government bailout like we saw in 2008, when the underwater loans put a real strain on the nation’s lending infrastructure.

Right now, most economists are not seeing anything that catastrophic and are predicting only a stall in the upward pressure on pricing and sales.  But it is significant that these two giant government agencies are monitoring the market and instituting needed changes.

Terry Ross, the broker-owner of TR Properties, will answer any questions about today’s real estate market. E-mail questions to Realty Views at terryross1@cs.com or call (949) 457-4922.

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