Big changes are in store for borrowers with Federal Housing Administration mortgages, as well as those who have been hoping to take advantage of the FHA program’s lower down payment options. FHA Commissioner Carol Galante has announced a series of changes to bolster the program’s financial health, but it will mean extra costs for most borrowers.
The main changes that will affect new borrowers — and some who refinance — are higher monthly mortgage insurance premiums that will now last for the life of the loan.
FHA mortgage programs are popular due to their more lenient down payment and qualifying guidelines. The major “trade-off” versus conventional mortgages lies in the area of mortgage insurance.
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The mortgage insurance premium (MIP) is basically an extra charge that borrowers pay each month as insurance in case they default. MIP will increase for most new mortgages by 10 basis points. A basis point is 1/100th of a percent, which means a 10 basis point increase equals a rate increase of .10 percent. The rate for jumbo mortgages ($625,500+) will go up by 5 basis points or 0.05 percent.
That may not sound like a lot, but it is on top of a previous increase. In April 2012, the highest mortgage insurance premium on FHA mortgages rose to 125 basis points from 115 basis points, dramatically higher than the 55 basis points charged until October 2010. Now it will rise to 135 basis points.
Essentially this is like adding an extra 1.35 percent to the interest rate that borrowers using an FHA mortgage are required to pay, compared to someone who does not have to pay mortgage insurance.
For example: 135 basis points on a $200,000 mortgage is $225 per month. In a high-cost area like California, it would mean $562.50 added to the monthly cost of a $500,000 loan. See how much this increase can cost you here.
But where it really adds up is over the life of the loan, and that’s changing too.
Under previous rules in effect since 2001, the FHA automatically canceled MIP on loans when the outstanding principal balance reached 78 percent of the original loan balance. Under the new rules, FHA remains responsible for insuring 100 percent of the outstanding loan balance throughout the entire life of the loan, and that means homeowners will pay for this premium until the loan is paid off or refinanced with another loan. MIP can cost borrowers tens of thousands of dollars over the life of a 30-year loan.
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This loan program has been very popular for borrowers who haven’t saved for large down payments, or who have decent, but not always stellar, credit scores. (That includes borrowers who haven’t established a strong credit history, not just those with blemishes.) That should continue, though the FHA is demanding greater scrutiny of loan applications with credit scores below 620 and debt-to-income ratios of 43 percent or higher, as well as loans to those who have been through foreclosure in the past few years.
What can you do with this news? The FHA has announced that the lifelong MIP requirement will be effective for loans with case numbers assigned on or after June 3, 2013 while the increase in MIP will be effective for loans with case numbers on or after April 1, 2013. Joe Kelly, president of Arcloan.com, warns that you need to act quickly if you want to take advantage of the current program requirements. He advises:
- If you have an existing FHA loan, find out whether you can refinance now and secure a lower rate without the higher MIP that may apply. (Certain FHA loans, in particular the Enhanced Streamline Refinance, will not be affected by this change.) Lenders expect to be very busy once homeowners realize they may have a limited time to take advantage of the current MIP rates.
- If you are buying a home and hope to take advantage of the current FHA program, get your application in as soon as possible. Again, mortgage companies were slammed when the Home Affordable Refinance Program 2.0 was announced, and the same is likely to happen when prospective homeowners realize what’s happening.
- Consider all your options. Work with a knowledgeable loan officer to determine if there are better loan options for you than an FHA loan. “While other loans may require you to pay for private mortgage insurance (PMI), the amounts charged can be significantly less — as much as 60 percent less per month,” says Kelly. “And unlike the new FHA, you may be able to cancel traditional private mortgage insurance when your loan balance declines or your equity in your home increases.”
Even with these changes, the FHA program will still be around to help certain borrowers. But for those hoping to take advantage of the FHA mortgage program, acting sooner rather than later could mean significant benefits. The government has raised the insurance premiums on these loans four times since 2010, and there is no telling how high they can go.
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