Monday, November 23, 2009

Back to the FHA

Last week I wrote about the absurdity of the F.H.A's mortgage insurance - requiring only 3.5% down payments and insuring mortgages up to $739k!  CalculatedRisk followed up with a post titled "Possible Changes to FHA Insured Mortgages,"  where they summarize 4 possible changes, as outlined by the San Francisco Chronicle,  that may help shore up the FHA.  Let's focus on this one, emphasis mine:

"Currently, FHA charges an "up-front" mortgage insurance premium of 1.75 percent of the loan amount. Most borrowers roll that into their loan and finance it. FHA also charges an annual premium, paid in monthly installments, of either 0.5 percent or 0.55 percent, depending on the down payment. To rebuild reserves, FHA could ... raise the up-front premium to 2 percent or as high as the current statutory maximum of 2.25 percent. It could also raise the annual fee..."

Ummm  - the first thing the FHA could do, in lieu of raising the up-front premium, is actually CHARGE an up front premium!  There is no way that the lender (the bank) is paying this fee to the FHA up front, right?  If the FHA is charging an insurance fee that gets rolled into the mortgage which it itself is insuring, well then, they aren't going to collect that fee on defaults!  Plug it into Excel and you'll get a circular reference error.  Divide by zero.  Does not compute.   The borrowers are essentially paying the FHA with their own money!   I guess the FHA will make up for it in volume...

If the FHA doesn't want to actually charge this fee up front, then they will likely have to raise the insurance fee - as buyers who default will not end up paying the full fee.   Who am I kidding - they'll likely have to raise the insurance fee anyway, as their actual default results cannot be in line with what they expected!



Duff Samoa said...

I don't see why it matters if they collect that fee on defaults or not.

I think it is more important that the amount made by the premium on all good loans is roughly equal to the losses from defaults. Isn't that the purpose of the premium?

Where the premium money comes from should be moot provided the above holds.

Kid Dynamite said...

yes Duff - the key to insurance is that your premiums cover the claims.

there is something incredibly f'd up, though, about the FHA insuring a mortgage that has the insurance fee rolled/capitalized into it.