Imagine the scene if the Catholic Church tried to get rid of the Vatican, the enterprise that some say efficiently administers a worldwide organization but others call artificial, archaic and corrupt. In a 32-page white paper it released this morning, the White House proposed a similar remodel of the country's mortgage infrastructure, which would eliminate the similarly controversial and Vatican-esque institutions Fannie Mae and Freddie Mac over the next 5-7 years, almost certainly resulting in higher mortgage interest rates and fees, tighter lending guidelines and fewer mortgage options for home buyers and refinancers.
Fannie and Freddie are the Government Sponsored Enterprises (GSEs) that, along with the Federal Housing Administration, back over 90% of the home loans originated by America's lenders, freeing up the lenders' assets so they can continue to make loans and insuring mortgage investors when borrowers default.They were hit so hard by the housing crash, though, that the federal government now not only sponsors them, but for the last 2 years has actually controlled Fannie and Freddie under a $130 billion (and counting) bailout arrangement that ascribes their liabilities, but no decision-making power, to the government and, indirectly, the taxpayers.
The new proposal, which already has early seeds of favor on Capitol Hill, would slowly, but dramatically, reduce the government's involvement in the mortgage market entirely and very likely result in a new era of (hopefully) better-regulated, mortgage-backed securities.
To reduce, then eliminate, Fannie and Freddie without Congressional approval, the Administration proposes the following baby steps, all of which could impact you if you plan to be in the market for a mortgage over the next few years:
1. Increasing Down Payment Requirements to 10%.
Currently, Fannie and Freddie loan guidelines allow for lower down payments if the borrower pays for private mortgage insurance. Under the Administration's proposal, a 10% minimum down payment would be required. In the short term, FHA loans could still be available at their current 3.5% down payment requirement, but FHA loans have also been trending to tighten lending restrictions. The paper also issues a number of recommendations around returning FHA to its pre-crash role of providing affordable home loans for low-income and moderate-income borrowers by decreasing the FHA loan limits and increasing their costs, with the plan of rolling FHA's share of the mortgage market back to its historical rate of about 10% to 15% of all mortgages from its current 3% market share.
The upshot? The required down payment on many loans will increase to 10%, and if you're planning to put less down, plan on paying even higher interest and fees. Homeowners will also have to put -- or keep -- more skin in the game, under the paper's recommendation of "more conservative underwriting standards that require homeowners to hold more equity in their homes."
As we all are now well aware, whatever the bank's pay, their consumers (that's you and me!) eventually pay. The goal of this is to level the playing field, so that federally backed loans are no more advantageous to banks than other loans, which will eventually decrease the market's dependence on the government. The upshot? It will also increase home loan interest rates, fees and closing costs to consumers, raising the bar to entry to the housing market.
3. Allowing Current Loan Limit Increases to Expire This Year
In 2008, Fannie and Freddie loan limits were hiked up to make sure affordable home loans were available to buyers, to promote the absorption of all the homes that are on the market. After the mortgage market crash, without Fannie and Freddie stepping in, few mortgages would have been available. This new proposal recommends letting these inflated loan limits expire in October of 2011, rather than be renewed, although the white paper does suggest that Congress will be consulted about appropriate cost-of-living related loan-limit increases on an area-by-area basis. The upshot? Loans will get much more expensive and harder to get, especially over the $417,000 conforming loan limit.
The Administration understands it's walking on very thin housing-market ice with this and any other proposal that would make mortgages more difficult to come by. Treasury Secretary Timothy Geithner calls the proposal "a plan for fundamental reform of the housing market," explaining that "we're going to proceed on this path of reform very carefully."
It remains to be seen which, if any, of the multiple proposals for new or revised mortgage-related government agencies that were proposed in the plan will eventually gain momentum on the Hill. However, housing consumers can -- and should =- count on mortgages getting more expensive and harder to come by over the next 5-7 years, as the mortgage market Vaticans Fannie Mae and Freddie Mac get scaled back or eliminated entirely.
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