Mortgage Banking
June 2008
FHA's top official discusses the need for Congress to enact FHA modernization legislation, the surge in FHASecure refinancings, higher loan limits and the ins and outs of the RESPA proposed rule.
By Robert Stowe England
Brian D. Montgomery has served as assistant secretary for housing-federal housing commissioner since 2005. As head of the Federal Housing Administration (FHA), he oversees the nearly $400 billion FHA insurance portfolio. He also oversees the Department of Housing and Urban Development's (HUD's) regulatory responsibilities in the areas of the Real Estate Settlement Procedures Act (RESPA), the housing mission of the government-sponsored enterprises (GSEs) and the manufactured-housing industry.
One of the commissioner's primary initiatives has been the development and promotion of legislation designed to modernize FHA. The first effort at a modernization bill, which originally passed the House of Representatives back in June 2006, is primarily focused on increasing borrower flexibility through both policy and programmatic changes. Proposed changes include increased loan limits, updated down-payment-assistance options and a risk-based premium structure.
Montgomery came to HUD from the Executive Office of the President, where he served as deputy assistant to the president and Cabinet secretary from January 2003 until April 2005. While serving in the White House, he contributed to the policy process on a wide range of issues, including the administration's efforts to boost homeownership, increase access to affordable housing and reform RESPA and the oversight of the GSEs.
In early May, he received the prestigious Robert J. Corletta Award for Achievement in Affordable Housing. The award, presented by the National Association of Home Builders (NAHB), Washington, D.C., recognized Montgomery for his commitment to creating more affordable housing opportunities and solutions.
He also served as deputy assistant to the president and director of advance from January 2001 until June 2004. Montgomery headed up a White House working group to monitor all facets of the Space Shuttle Columbia accident investigation. Mortgage Banking caught up with Montgomery at his HUD office in Southwest Washington, B.C., in late April.
Q : The most important recent event for FHA is the temporary increase in the loan limits. We are now seeing the initial results of that. From where you sit, can you tell us how this is affecting volume? What is the potential for expanded market share for FHA for 2008?
A : The mortgagee letter went out [in mid-March]. But, as you know, lenders have their internal systems and [information technology (IT)] systems, and it takes a while to stand it up and get it into play. So, I think we're just now seeing a lot of those [early] loans closing. You did touch on a good point-the loan [limits]. While the high-cost states get a lot of publicity, because FHA was barely a blip on the radar screen [in those states], the stimulus [legislation] did float all the boats. It raised the loan limits even in states like Missouri and Texas and Georgia to $271,050. [Previously the floor for loan limits in the great majority of markets was set at $200,160.]
If you look at the market as a whole-roughly 3,300 counties in the country-only 75 counties are at the highest limit, which is $729,750. There are roughly 600 to 650 counties that are somewhere between $271,160 and $729,750. For the vast majority-almost 2,600 of the 3,300 counties-[the loan limit is set at] $271,050. So that's a long way of saying [that while] we are, of course, seeing a spike in numbers [of loan applications] across the spectrum ... we continue to see more in our traditional counties, in the South and the Midwest.
Q : Will the higher loan limits help in states with high housing costs?
A: If you talk to lenders in California, [the Washington, D.C., area], New York and Connecticut, FHA was almost an afterthought to them. [In these markets, the higher loan limits will] have an appreciable impact. But remember where we were. FHA percentage of loans [in California, for example] had dropped to as low as 3 [percent] to 3.5 percent. [As for] market share, we don't view it in a sense that we are a business, [where the thinking is] 'Hey, we're selling Fords; they're selling Chevrolets.' I strike that contrast because we always look [at which type of loan will be in] the best interests of the borrower [rather than trying to grow market share). If it's a conventional loan, [that's] great. If it's an FHA-insured loan, [that's] great, too.
Q: What types of loan refinancing are available for strapped borrowers? Many have little or no equity in their homes and they can't get mortgage refinancing elsewhere, so they are coming to FHA.
A: All along with FHASecure, we said we would be making improvements. But it's key for everybody to understand that we have to balance policy against actuarial soundness. We're a self-sustaining insurance fund. If you want to improve something or expand its reach, we have to run modeling-actuarial modeling-and we have to see how it will perform. We have a wonderful database of 35 million loans or so. So we can model how just about anything is going to behave, although certainly it's not an exact science. We thought the original FHASecure was good, in that, OK, you had six months current up until the reset and then you fell behind. But [we] got a flurry of publicity around FHA [last September, leading to far more demand for FHASecure than we originally expected].
Q : What did you expect in terms of refis, and how many of the troubled borrowers did you expect to be delinquent by the time they came to FHA-given that the program was available to those who were delinquent after the rate reset, but who had not been delinquent before the rate reset?
A: Originally, we estimated that we would do about 240,000 refis by the end of this fiscal year [which ends Sept. 30, 2008], and about 60,000 of those would be delinquent. Now we've done about 170,000 so far [through mid-April 2008], but only about 3,000 have been delinquent.
Now, again, I think a good bit of the ones [where we insured the refinancing] were borrowers headed toward delinquency [who acted proactively to prevent themselves from falling behind]. The good news is, with the improvements I announced at the House Financial Services Committee hearing [on April 9], we think that's another good step to move the fence line out, if you will, [to cover more troubled borrowers, including those delinquent on loans before they reset].
We did hear that borrowers-guess what-they didn't have the perfect payment history before the reset. They might have been 30 days [late]. They might have been 60 days late. Yes, we can, with some flexible [risk-based] pricing, assist those [borrowers].
Q : What about borrowers whose outstanding mortgage balance is now greater than the value of their house?
A: Now, for the underwater borrowers, we are going to change our LTV [loan-to-value ratio] requirement for those who are [30 to 90] days delinquent [to insure] 90 percent of that loan balance. The good news is, [with the expanded availability of FHASecure announced April 9], we think that by the end of the fiscal year there will be close to 400,000 people helped with FHASecure. And we think that number could get close to 500,000 by the end of the calendar year. Those are big numbers.
Q : The refinancing under the FHASecure program is probably helping prevent some of the anticipated foreclosures.
A: You are probably right. But we said all along that some of these loans never should have been made in the first place. There's no doubt about this, [especially] some of these stated-income, stated-asset-my favorite was the NINJA, or no income/no job/no asset. [While] we're extremely sympathetic to the predicament they are in, [FHA is] an insurance fund. There's a limit to what we can do. So, there are some of those loans that never should have been made in the first place-they may not be able to get through our rigorous underwriting.
Q : What changes need to occur in an underwater loan for FHA to be able to insure 90 percent of the market value of the house? Does the lender assume the risk for the principal writedown and the 10 percent? How do they work that out?
A: Well, let's take the case of a $120,000 mortgage. Let's say the home is now worth $100,000. We weren't part of that original transaction. If the lender [or servicer] wants to put a soft second of $30,000 [and provide the borrower with a new $90,000 loan, FHA can insure the entire value of the new loan of $90,000.) Or the lender can write down [the $120,000 loan] to $100,000 [and] maybe put 10 percent as a soft second. [The arrangement is between the lender and the borrower, and can be set up in any number of ways].
All we are saying is that, going forward on the new mortgage, FHA is only insuring 90 percent of [the value of the house] and will be in a first-lien position, as we always are. So, in fact, we are now defining the flooralthough there will be people losing money on this; there's no doubt about it. But the way we're coming at it, we think if nothing else, it helps define the floor-but more importantly now, here's a way we can prevent some foreclosures.
Q:Does this help people in places like California?
A: It will, once the loan limits are fully on board and [in] everybody's systems.
Q : Will there be restrictions on borrowers who can take advantage of the expanded FHASecure program?
A: There's a requirement that the borrowers [be currently occupying their home and that they] stay in their home a given period of time-we're still working on that. But all we're saying is that we want to avoid the ripple effect of foreclosure, most importantly for those foreclosures that can be prevented. We think this is the role of the Federal Housing Administration.
Q: How do you expect these loans to perform for FHA?
A: It's a small percentage of our loans, because our traditional loan is 97 percent LTV. But the 90 percent loans [insured by FHA] perform fairly well for us.
Q : There are a lot of people out there, where the house is probably worth just a little bit more than the mortgage now. You can still help them as you have in the past?
A: Yes, absolutely-[no matter whether] they're current or delinquent.
Q: Is there any limit on how much you can do in terms of total volume of business?
A: Well, Congress gives us a loan allocation amount every year. I've been here about three years. And every year it's been around $185 billion, and we've gotten nowhere near it [in our volume of insured loans]. Well, this year we're going to exceed that. That's across all FHA programs. [The loan allocation is] $185 billion this fiscal year. We expect [we will do $235 billion in business by Sept. 30]. When we get to 75 percent of $185 billion, we have to notify Congress.
Q: Not that many years ago, FHA's insurance program was not that secure itself. Having put itself in better financial shape, [is FHA now] in a position to respond to the current needs of borrowers unable to find financing elsewhere due to the collapse of the private-label market and the wholesale retrenchment from subprime lending by portfolio lenders?
A: We're still making improvements. We need [information technology] improvements. We need more personnel. [A large number of employees are reaching retirement age and are expected to retire]; we need to hire about 400 people this year [just to keep up with retirements]. Through no fault of our own, we're a little bit behind on that. But ultimately, we'll get them all hired before the end of the year.
[Getting back to our IT needs,] the average age of our systems here is almost 18 years. Our oldest system is about 25 years. Again, we've told Congress we need systems upgrades beyond the personnel needs. We need brand-new systems, and we often laugh about Fortran [language] programmers. For those of us who took Fortran [classes] 30 years ago, some of our programs still run on a Fortran platform. Yes, we do need some upgrades. GAO [the Government Accountability Office] took us off its high-risk list for the first time last year. Last year's audit-we have an IT annual audit-found no material weaknesses.
Q: Are there any concerns about loan performance in any segment of your business?
A: I've been sounding the alarm on the proliferation of seller-funded down-payment-assistance [loans]. That continues be a grave concern for us, because we're their only customer now [as other players have left the market]. Those loans, on average, have a claim rate three times our other FHA loans that don't use that type of so-called assistance.
Q: How much of your insured business is composed of loans that involve seller-funded down payments?
A: It's now 33 percent of our portfolio. [Years ago, it was 6 percent.] And since we are in an insurance company, to liken it to drivers, we're getting too many 18-year-old drivers with 10 speeding tickets. We need more 55-year-old drivers with no traffic tickets.
The IRS [Internal Revenue Service] put [all the seller-funded down-payment organizations] on notice a few years ago, [saying that the circular financial arrangement where the seller provides the funding that the nonprofit transfers to the buyer] runs contrary to the 5oi(c)3 [tax] code. [The 1RS notice] also touched on the detached and disinterested generosity issue. Remember, these are charities-or at least they are identified as such now. [If one is providing a grant as part of its charitable work, there should be] no expectation on your part you are going to get anything in return. Here, there's clearly an expectation [by] all parties.
Q: Has the volume of seller-funded down-payment assistance declined since the 1RS issued its ruling?
A: Look, everybody's due their day with the 1RS. I assume there's a reason they're going slow, and I can understand that. But two years past the day of the revenue ruling, you'd think they would have a determination at some point. Now, there are 300 or 400 of these types of organizations, but I think the top five probably make up 60 percent or so of the market.
Q: I understand lenders are charging hefty fees for FHAinsured jumbo loans, just as lenders have raised interest rates very high on jumbo loans they expect to hold in portfolio.
A: They are higher, [but] I do think at the end of the day it will shake itself out. But we're watching it very carefully to make sure those fees aren't too high. Congress and the administration worked together to pass the stimulus [legislation] and they fully expect to see [that], across the country, families have an opportunity to refinance or use us or the [GSEs-Fannie Mae and Freddie Mac] or a lender to purchase a first home. I don't think they did so envisioning that these excessive fees would be put on. For example, FHA products are pretty much money in the bank, absent fraud or anything of that nature. We're watching that very carefully.
Q: Obviously, there remains a need for FHA reform-a cause you have championed.
A: [Within a few days of my arrival in June 2005, the senior staff and I discussed the decline in] the percentage of lower-income borrowers using FHA. [That sharp decline] should cause a lot of people some concern.
Q : Subprime borrowers should be able to get a better rate with FHA, wouldn't you agree?
A: [True, but subprime borrowers were going elsewhere to get a mortgage because] as others told me, [they were focused] on what the initial monthly payment was-not what the interest rate was [and what the payment might be later]. So, we looked at the Home Mortgage Disclosure Act [HMDA] data and we could see right away that a lot of people were paying too much for their loans. And we were particularly struck by the fact that African Americans and Latinos were paying too much for their loans.Some studies in early 2006 estimated that as much as 40 [percent] to 45 percent of African Americans were paying up to 300 basis points [more] for their loans [than they would pay for a prime rate conventional/conforming loan loan]. For Latinos, upward of 30 percent were paying similarly high levels.FHA is the largest mortgage entity for minorities in the country. We've talked a lot about the president's homeownership initiative. But I could see right away [this was] not what we had in mind.
Because of the color of your skin, you were paying abnormally high amounts of money for your loan. So, in early January of 2006, to any congressmen or staff person who would listen to us, we'd say we've got to reform FHA. [This was not an issue of getting greater market share.] Again, we're a not-for-profit organization. It's just our traditional borrower had been steered toward or chose a higher-cost product. . . .The good news is that we had a lot of [members of Congress] on both sides of the aisle who heard the message [and wanted to do something about it back in early 2006, when Congress was still under Republican control]-including Michael Oxley [R-Ohio], Pat Teaberry [R-Ohio], Barney Frank [D-Massachusetts] and Maxine Waters [D-California]. So, [we put together an administration-sponsored FHA reform] bill . . . and again we found a very willing bipartisan audience up there [on Capitol HiIl].
I can remember sitting in a House chamber late one evening with Barney Frank, and I think Mike Oxley was at that meeting, and sort of hashing this out. Within days we had a bill that passed [the House by a hefty] 415 to 7 [votes]. That was, I believe, in June of 2006. You had to almost go back to the renaming of a post office or highway to get that sort of bipartisan [agreement].
Q: In the new Congress, the Mortgage Reform and AntiPredatory Lending Act of 2007, sponsored by, among others, House Financial Services Chairman Barney Frank, passed the House last September by 348 to 72 while a different FHA reform bill-the Federal Housing Administration Modernization Act of 2007-passed the Senate by a lopsided 03 to 1 vote in December, but there's still no agreement between the House and Senate [on reconciling the differences in those bills]. What are your thoughts on that?
A: We got part of what we needed with the loan limits [in the economic stimulus package]. Those run out in less than eight months. We need a permanent fix to that. We need to be able to do some fair and equitable pricing to fix FHA for the long term. We need some flexibility, and a minimum cash investment [from borrowers]. We need to address some issues relative to the reverse-mortgage product. And we need to finalize some of the improvements in Title I, which relates to manufactured housing.
So, I continue to implore at every opportunity Congress to pass FHA reform. I appreciate there's a lot of other discussions about foreclosure prevention-which, again, we've been leading that charge, too. Both parties want to help struggling homeowners [facing foreclosure]. There's no doubt about that. Everybody wants to do that. I know we disagree on how to do it. While we can disagree on that [issue] and continue to work it out, let's finalize [and pass FHA reform, which is something] we know we all agree on.
Q: How is the down-payment issue shaking out in FHA reform?
A: We wanted to build a new risk-based pricing [system for FHA insurance]-something the other side of the aisle agreed with us and actually still agrees on, but [they] call it something a little different. But we realized back then maybe having a zero-down product might have made sense-especially if you could price for it. Remember, we're a one-size-fits-all premium structure now. We learned something going forward. [In 2006] we were positioning a sensible zero-down-payment [product] against the seller-funded [down payment], where you're not paying for your own gift. But guess what? We changed our minds. We saw the way zero-down loans were being done and decided that maybe it's not the best time now to be pushing zero-down. So, a year and a half ago or so, we backed away from the zero-down. Now the Frank bill still has a zero-down provision for first-time homebuyers. The new Senate bill raises it to 31 percent.
Q : Where do you think the FHA loan limits should be relative to the Fannie and Freddie loan limits?
A: We always characterized FHA as a program for low- to moderate-income families, and that's normally where it settles out. [While we need a higher loan limit in places with higher home prices], my personal opinion is that where we are right now-$729,750-is just too high. [Even so,] we need to be mindful of [the working-class families] in those states and those areas-those 75 counties with higher home prices.
Q : What are some of the potential benefits of the proposed new RESPA regulations?
A: I think I would put at the top of the list the standardized Good Faith Estimate. We've had a couple bites at this apple. Pre-dating my arrival here, the original RESPA proposal was withdrawn. We came back at it again after a bunch of roundtable testing [sessions], and we settled on what I think is a very robust and very informative four-page disclosure. Now, some will say-I think one of the exact quotes I heard from one lobbyist [was,] "It's overly complex, complicated and confusing." I can certainly appreciate why they offered that quote, but the testing didn't bear that out. The consumers-and we did extensive testing of 1,400 to 1,500 people all around the country-liked the Good Faith Estimate.
Q: Could you explain why consumers found the Good Faith Estimate helpful?
A: They liked the fact it was standardized [instead of getting a different form from every lender]. Everything the borrower needs to shop-and we want to encourage borrowers to go shopping for the best deal-is really on the first page. The second page goes into greater detail of what's on the first page. The third and fourth pages do things that sort of spell out the relationship between upfront costs and interest rates and things of that nature. . . .
I'd also say by having the standardized form, we also wanted to make sure-and this is different from the last rule-that the borrower can now take the Good Faith Estimate and cross-walk it to the HUD-i [form, which spells out all final closing costs]. [In] that last go-round [with the Good Faith Estimate], the thought was not to modify the HUD-i. We obviously now are proposing to do that. But that only works if the borrower gets the documents early enough before the closing. Right now, the borrower has to ask [for the HUD-i early] and they can get [it] 24 hours in advance. We think that's not soon enough. And there's no requirement [for the lenders to provide the HUD-i before closing].
As part of the proposed rule, we are going to have two legislative proposals-and one of them is that we think borrowers should get [the HUD-i] earlier in the process, and perhaps that's with civil money penalties [for not doing so]. Because what we [are trying] right now is to avoid the sticker shock of the borrower getting to the closing table. We've all heard or seen the scenario where they've given notice at the apartment: the moving van's in the driveway, the kids are ready to go claim their new territory, and guess what-you've got to come up with another $1,800.
We understand some charges can change between the Good Faith and the closing, but we also say for those [charges] that can change, there'll be a 10 percent tolerance and that's in the aggregate. And there are some [charges] that can't change. This all points back to [providing] greater clarity to the borrower, transparency, if you will-certainly greater certainty of cost. [This should help ensure] they feel a little better about the process going forward, and a lot of that proved out in the testing we did.
Q : Do you think tightening RESPA can prevent the proliferation of more fees at closing?
A: Yes, I think so. Again, no one is going to begrudge a lender or broker making a living. And I fully understand those costs are divulged now. But they are not-and this is what people told us, consumer groups and others-it's just not adequately explained to a lot of borrowers. A lot of that was the driving force behind the closing script, which, again, consumers love.
Look, our full-time job is to know what's going on in the mortgage market and elsewhere. The terms that we're very familiar with and use every day-your average family out there is very unfamiliar with some of those terms. And if you've read the proposal, the scripts are not that long-especially doing just a plain 3o-year, fixed-rate mortgage. But the [consumers we tested] liked that part of it. They liked that someone explained it to them.
That's part of getting the closing documents early in the process. We'll also ask that the borrower get the script in advance. What all this does, in my mind, is [it] gets the borrower more comfortable with the process. They're getting ready to probably sign away [for] the biggest investment of their lifetime. I just don't see why we don't want the borrower to feel good about that. We don't want people to stand in the way of borrowers knowing what they're signing. [Ijt's just ludicrous to me that we shouldn't educate them and have them feel better about the whole process.
Q : Could you comment on the impact of the disclosure of the yield-spread premiums for brokers? Will consumers understand what this means? How do you think it will impact consumers and brokers?
A: Again, getting back to the word you used-disclosure-just knowing what the fee's going to be and knowing the relationship between that fee and the interest rate, and how much money you put into the transaction, which is part of what the [Good Faith Estimate] does, is that it connects those dots, which has never been done [before] for borrowers. No one has explained to them what is going on. [No one has told them], "You're paying a higher interest rate simply because you [made] a lower down payment, and if you put more down you're probably [going to be] paying a lower interest rate." Again, it also helps the borrower to go on and shop because now they know what the fee is going to be.
We also [let borrowers know] that most lenders will sell that loan and, obviously, it doesn't impact the borrower-but it is sold later in the process. So, we did at least note that. Actually, we originally had that on page 2 of the [Good Faith Estimate]. Consumers during the testing made some very interesting comments. They told us to move it to the end of the last page. They thought it was good standing by itself. So, we moved it to the end of the last page.
Q: So, in the testing, I guess it did show that they understood the connection between the yield-spread premium and the interest rate on the mortgage?
A: They understood 90 percent of the time what the cheapest loan was, regardless of who originated it. That's a pretty high number.
Q: Do you think people now better understand the need for a new RESPA?
A: Absolutely. Absolutely.
END
Copyright 2008 by Mortgage Bankers Association of America. Reprinted With Permision.
