Reforming real estate finance

Think tank: FHA is not supposed to be 'clearinghouse'

By Inman News Feed
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Think tank: FHA is not supposed to be 'clearinghouse'

Tom Kelly
Inman News™

Every few years, some members of Congress say they would like to see the functions of the Federal Housing Administration taken out of the Department of Housing and Urban Development and put into the private sector.

The historical HUD response has been that privatization would dramatically constrain the helpful programs that meet the needs of first-time homebuyers, low- and moderate-income families, and minorities. The FHA's reason for being is to make housing more available through loan guarantee and insurance programs.

A study presented last week in the nation's capital takes the concept even further. It proposes taking the government out of all housing finance, including the elimination of the government-sponsored enterprises (GSEs) such as Fannie Mae and Freddie Mac.

In a recent white paper, "Taking the Government Out of Housing Finance: Principles for Reforming the Housing Finance Market," conservative think tank American Enterprise Institute, based in Washington, D.C., said it believes the U.S. housing system fails because government support of funds encourages overbuilding and speculation and relieves investors of risk through guarantees, making it possible for mortgage originators to offer zero- or low-down-payment loans with little or no documentation.

The study suggests that there would be plenty of "prime" funds available without Fannie and Freddie if proper down payments were made and if other criteria were met to ensure credit risk.

The study also states that special "subprime" category loans (such as those insured by FHA) be limited to those borrowers who truly fit the category. It calls for FHA-type financing to stop being a clearinghouse for all loans and go back to serving the needs of first-time homebuyers, low- and moderate-income families, and minorities. When the mortgage meltdown occurred in 2008, FHA became the go-to player for all loans.

Historically, when government accepted responsibility for providing low-income housing, it was at the local level, particularly by county government. With the collapse of the banking system in 1929, the federal government was forced to produce solutions to what quickly became a national housing crisis. Most home loans then were short-term, non-amortizing deals financed by local investors or local banks. Most of these loans forced homebuyers to refinance their homes every few years at the prevailing interest rate.

The Roosevelt administration began a number of initiatives directed at stabilizing the nation's housing stock, encouraging home construction and promoting homeownership. The first of these programs was the Federal Home Loan Bank System that established a complex system of government support for home mortgages.

The Housing Act of 1934 created the Federal Housing Administration (FHA), which served as a review committee for banks and other loan institutions to make loans to low-income families.

The study calls for FHA-type benefits to be limited to low-income borrowers who are demonstrably unable to meet prime lending standards. FHA insures loans so that if the borrower defaults, the lender is guaranteed to receive the outstanding mortgage amount. For 60 years, FHA had been the primary low-down-payment option for home buyers.

"It is important to ensure that the FHA is fulfilling its social policy purposes rather than becoming a backdoor way for people who could otherwise meet prime lending standards to obtain mortgages at government-backed rates," the AEI report states.

The depth of "social policy purposes" also needs to be explored. While any sweeping changes would take years to implement, the inclusion of special programs other than those for first-time and low-income buyers (FHA-type programs) need to be considered.

For example, FHA insures the nation's most popular reverse mortgage program. While some private funds have been available in the past, most of those dried up during the recent crisis.

A reverse mortgage historically has enabled senior homeowners to convert part of the equity in their homes into tax-free income without having to sell the home, give up title, or take on a new monthly mortgage payment. Reverse mortgages are available to individuals 62 or older who own their home. Funds obtained from the reverse mortgage are tax-free.

FHA also has a home improvement loan program that has come in handy for folks who need cash and can't get a home equity loan due to already high loan amounts or slumping home values. FHA Title 1 loans of up to $25,000 are available to owner-occupants and investors who want to repair or improve their property. Up to $15,000 can be obtained regardless of home value.

We do need to return to a home finance system where those people who intend to buy a home have "skin in the game" and have the means to afford a mortgage, taxes, insurance and monthly essentials. However, if the government were removed from home financing, special category loans would need to be included in any new system. We simply have to remember that special, by definition, means the minority, not the majority.

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