Posted on 09 January 2012.
The cost, terms, and availability of mortgage financing are of critical importance to the level of homeownership. Indeed, the substantial rise in homeownership rates after World War II can be traced not only to increasing prosperity, but also to the widespread availability of long-term, low- downpayment, fully amortizing first mortgage loans.
America’s current mortgage finance system usually provides a steady and reliable source of market-rate mortgage money, but the transaction costs linked to home purchase and financing remain stubbornly high. In addition, the current housing finance system does not adequately serve all financing needs, especially those characteristic of older, urban neighborhoods, certain rural communities, and low-income borrowers.
There is widespread expectation that the mortgage finance system, and indeed the housing system generally, is on the verge of a period of dramatic change stemming from industry consolidation, redesigned processes, and the application of automation. It is vital that this change in the mortgage finance system be guided by a commitment to increase opportunities for homeownership for more families, particularly for low- and moderate-income and minority families, and to increase the national homeownership rate to an all-time high.
For many potential homebuyers, the lack of cash available to accumulate the required downpayment and closing costs is the major impediment to purchasing a home. Other households do not have sufficient available income to make the monthly payments on mortgages financed at market interest rates for standard loan terms. Financing strategies, fueled by the creativity and resources of the private and public sectors, should address both of these financial barriers to homeownership.
The current housing finance system includes a large number of participants: secondary market entities, government and conventional lenders and insurers, for-profit and not-for-profit enterprises, firms with national scope and those with local expertise. Each of these has a contribution to make, and progress requires both appropriate competition and cooperation among these participants. What these participants share is a commitment to extending the benefits of homeownership.
The strategies and actions in this chapter reflect the following principles:
- No single financing strategy will suffice to increase homeownership rates; the variety in housing markets, homebuyer needs, and property characteristics will necessitate multiple answers to financing issues.
- Competition among housing and mortgage industry participants is a driving force in reducing financing costs, but competition increasingly must be supplemented with cooperation and collaboration to share ideas and leverage resources.
- Changes in lending processes designed to reduce financing costs must not compromise consumer or investor protections.
- The housing finance system must effectively combine national and international capital markets with local housing expertise.
- Progress in reducing financing costs and increasing the availability of financing must benefit underserved populations, reach diverse property types, and help strengthen communities.
- New information technologies are creating opportunities to reduce costs by reengineering both the mortgage process and the real estate sales process. Whenever possible, savings should be passed on to consumers through an open, competitive marketplace.
The financing recommendations contained in this chapter are reflected in 23 actions that support three primary strategies. These strategies are based on the following subjects:
- Cut transaction costs.
- Reduce downpayment and mortgage costs.
- Increase availability of financing.
Cut Transaction Costs
STRATEGY: The partnership should support analysis, publication of information, and education regarding the transaction costs associated with homeownership and should support efforts to reduce these costs by retooling the mortgage loan borrowing process.
Issues and Impediments: Transaction costs cover the professional and technical services necessary to complete the purchase of a home. These costs can vary widely among lenders, governmental jurisdictions, and service providers-even within geographic locations. Professional and technical service costs may include fees for the home purchase, attorneys, property appraisals, title review and insurance, loan processing, loan document preparation, and credit reports. The cost of these services is largely paid, directly or indirectly, by the homebuyer.
Transaction costs can add significantly to the upfront cash needed to purchase a home. Moreover, the home purchase process does not contain adequate consumer education and counseling to encourage comparison shopping for professional and technical services, identify less expensive sources for these services, and reduce transaction costs for the homebuyer. Also, purchase of home transaction closing services typically is undertaken by each individual household, precluding cost savings that might accrue from volume purchase of such services. For example, negotiating discounts for bulk purchase of title insurance and property appraisals is not a general practice.
Finally, homebuyers often are unaware, particularly at the early stages of the homebuying process, of the total cash required for the transaction. They tend to focus primarily on downpayment needs and can become disillusioned when they realize that the accompanying closing costs can add thousands of dollars to their upfront cash needs.
Action 29: Alternative Approaches to Homebuying Transactions
The partnership should explore alternative methods of processing title insurance, appraisals and legal services, to reduce transaction costs for the homebuyer without increasing risk to the mortgagee or investor. For example, lenders and secondary market investors are increasingly looking at ways to lower appraisal costs by applying sophisticated decision models to their property databases. To explore such alternatives properly, the partnership should also directly involve representatives of the appraisal and title insurance industries.
Action 30: Technological Improvements in Mortgage Financing
The partnership should initiate industry efforts to develop and use technological and legal infrastructure to streamline and automate origination processes. These efforts include electronic data interchange, a whole loan- book entry system, electronic repositories for property transaction information, and other efforts to reduce the costly, paper intensive, and often duplicative processes currently associated with mortgage loan origination.
Technological advances in recent years designed to automate and streamline loan underwriting can dramatically reengineer the mortgage loan borrowing process. Yet, many lenders are not taking sufficient advantage of computerized loan origination systems to lower costs.
For example, use of automated underwriting services, such as Freddie Mac’s new Loan Prospector and Fannie Mae’s new Desktop Underwriter, can result in significant loan processing improvements. Such improvements include reductions of up to 20 to 30 days in underwriting and processing time, faster loan settlements, less paperwork, greater lender assurances of loan acceptability by the secondary market purchaser, and a less intrusive loan application process. Automation improvements are likely to reduce processing costs to lenders by more than 20 percent.
Freddie Mac’s Loan Prospector is being tested by selected lenders nationwide. Investors Lending, Inc., in Fresno, California, has used this new underwriting system to reduce paperwork and speed loan processing. Investors Lending is able to fax applications to Freddie Mac and fund loans in as little as 8 days.
Secondary market investors are also automating the process for purchasing mortgages from originating lenders. Freddie Mac, for example, offers an electronic mortgage information network that can connect the lender with information regarding current loan pricing and commitments, as well as such third-party services as homeowners insurance and credit bureaus.
Action 31: Lender Processing Time Reductions
Members of the partnership, including organizations representing home mortgage lenders, appraisers, secondary market investors, and government agencies involved in lending, should design procedural and technological improvements to measurably reduce processing times.
Historically the mortgage loan process has taken 30 to 60 days from application receipt to loan approval. The system is dependent upon timely receipt of income, employment, credit, and downpayment verifications; property value determinations; and other loan requirements. For the lender loan processing can be time consuming and staff intensive. For the consumer long loan processing intervals can cause uncertainty and risk associated with fluctuations in interest rates. Shortening the processing time from application to closing will reduce hedging costs for secondary market participants and funding uncertainty for portfolio lenders. Long processing timeframes inevitably add to the costs of obtaining a mortgage for the homebuyer.
For its part FHA should continue to streamline its single-family home mortgage insurance program by emphasizing product competitiveness and incorporating operational changes that reduce processing times. Shorter loan- processing times can lower costs generally borne by home purchasers.
Action 32: Standardize Homebuying Settlement Procedures
The partnership should support standardization of settlement closing instructions. This standardization can eliminate much confusion, delay, and expense in communication between settlement agents and lenders, which should benefit homeowners.
Under the current system, every lender communicates unique requirements, forms, certifications, funds, handling mandates, and other documentation needs through closing instruction letters. Each of these letters addresses the same sets of topics, but in its own unique format and language. If such letters were standardized in format and language, settlement agents could more efficiently and effectively find and understand the information most pertinent to each aspect of the home purchase transaction.
Action 33: Bulk Purchase of Homebuying Settlement Services
While remaining mindful of the Federal Government’s Real Estate Settlement Procedures Act (RESPA) regulations, the partnership should investigate the feasibility of bulk purchase of settlement services such as title insurance, appraisals, and legal work to reduce acquisition costs for homebuyers.
Purchasing any good or service on a volume basis typically results in a lower per-unit cost. Bulk purchase of settlement services might be coordinated by employers, labor unions, nonprofit housing developers, neighborhood associations, or other groups with an interest in promoting homeownership for particular households and properties.
ReMax Beach Cities (RBC) in Redondo Beach, California, has negotiated volume discounts with several loan employers in exchange for employee referrals. RBC works with its subsidiaries, Coastal Financial Mortgage, Beach Cities Escrow, and First American Title Company of Los Angeles to provide a 25-percent discount on real estate sales commissions, standard escrow fees, and standard title fees. RBC also discounts loan origination fees by 1/2 percent.
RBC’s program works for all involved: employers provide a benefit to employees at no cost to the company, employees receive a total reduction in fees of approximately 1 percent of the home purchase price, and RBC increases its volume of business. In the 4 1/2 years that RBC has been working with TRW Space and Electronics Division, it has provided nearly $4 million in discounts to TRW employees.
Action 34: Local Government Development Fees and Homeownership Trust Funds
The partnership should encourage State and local governments to develop affordable housing trust funds using dedicated revenue sources. These trust funds would be specifically for affordable homeownership purposes. The partnership should also encourage State and local governments to waive or reduce development fees on homes purchased in certain neighborhoods or by underserved populations.
In Greensboro, North Carolina, one penny of the city’s ad valorem tax is allocated to the Greensboro Housing Partnership Trust Fund for the exclusive use of affordable housing initiatives. In 5 years, the one-penny tax has generated over $4.5 million and has been used to leverage $37 million. The trust fund has been invested in new or rehabilitated housing for residents earning 30-50 percent of the area’s median income.
Reduce Downpayment and Mortgage Costs
STRATEGY: The partnership should support initiatives to reduce downpayment requirements, to encourage savings for downpayments by first-time homebuyers, and to reform the basic contract between borrowers and lenders to reduce interest costs.
Issues and Impediments: Low- and moderate-income families often cannot become homeowners because they are unable to come up with the required downpayment and closing costs. In many instances, these prospective first-time homebuyers find that developing the proper savings patterns to accumulate sufficient cash for the downpayment is difficult.
In addition, the amount of money necessary for a downpayment continues to vary greatly from lender to lender based on many factors, including lender criteria, secondary market investor requirements, and mortgage insurer guidelines. Although the variety in loan products available to the borrower is commendable, it can prove confusing to a first-time homebuyer. Also, some lenders are not flexible about other forms of downpayment assistance such as public subsidies or unsecured loans that might supplement the homebuyer’s savings. Nevertheless, great strides have been made by the lending community in recent years to reduce downpayment requirements, particularly for low- and moderate-income homebuyers. This trend is encouraging and should be continued with support from the partnership.
The monthly costs associated with owning a home also remain an obstacle for many potential homebuyers. The most significant monthly housing cost for most new homeowners is the monthly mortgage cost. The mortgage loan factor that most dramatically affects long-term mortgage affordability is the interest rate charged to the borrower. When mortgage rates are high, many households are precluded, at least for a while, from the opportunity to own a home.
Low mortgage interest rates sustained over an extended period of time can have a compelling, beneficial impact on mortgage affordability and the rate of homeownership in America. Although interest costs are largely a function of external economic factors that cannot be controlled by members of the partnership, to a lesser extent mortgage interest rates also are affected by factors such as the likelihood of mortgage prepayment by the homeowner, loan assumability by future homebuyers, mortgage insurance, loan risk, and other elements.
Action 35: Home Mortgage Loan-to-Value Flexibility
Lending institutions, secondary market investors, mortgage insurers, and other members of the partnership should work collaboratively to reduce homebuyer downpayment requirements. Mortgage financing with high loan-to- value ratios should generally be associated with enhanced homebuyer counseling and, where available, supplemental sources of downpayment assistance.
The amount of borrower equity is an important factor in assessing mortgage loan quality. However, many low-income families do not have access to sufficient funds for a downpayment. While members of the partnership have already made significant strides in reducing this barrier to home purchase, more must be done. In 1989 only 7 percent of home mortgages were made with less than 10 percent downpayment. By August 1994, low downpayment mortgage loans had increased to 29 percent.
The New Jersey Housing and Mortgage Finance Agency administers its no- downpayment 100 Percent Mortgage Financing Program to encourage homeownership among lower income households. In 1993 52 percent of the households using the program were single-parent families, and 73 percent were minority households.
- Many local lending institutions in recent years have developed innovative low-downpayment programs for first-time homebuyers.
- Private mortgage insurers generally provide coverage up to 95 percent of home value, and in some instances even higher loan-to-value ratios are permitted.
- Fannie Mae and Freddie Mac have instituted affordable loan products for home purchase that require only 3 percent from the purchaser when an additional 2 percent is available from other funding sources, including gifts, unsecured loans, and government aid. In addition, Fannie Mae recently announced a 97-percent first mortgage requiring only a 3-percent downpayment.
- The Federal Government offers assistance to help homebuyers obtain very low downpayment mortgages. FHA mortgage insurance facilitates the purchase of homes with downpayments of less than 3 percent, and VA provides guarantees for no-downpayment mortgage loans to qualified households.
- State and local housing finance agencies offer taxable and tax-exempt mortgage financing products with competitive rates and flexible loan-to- value requirements.
As members of the partnership explore creative means of providing low-downpayment financing to potential homebuyers, a concerted effort should be made to share success stories and to learn what set of factors generates high loan volume and solid payment histories.
Action 36: Subsidies to Reduce Downpayment and Mortgage Costs
The partnership should support continued Federal and State funding of targeted homeownership subsidies for households that would not otherwise be able to purchase homes.
Notwithstanding the growing number of high loan-to-value mortgage products available today, many households, particularly low- and moderate- income families, will need subsidies to supplement downpayment and closing funds or to reduce the monthly obligation on a home purchase mortgage. Subsidy funding can be provided by many sources, including State and local governments, foundations, private sector donations, religious organizations, employers, and others. Historically, the Federal Government, through HUD, has been the most prominent provider of subsidies for this purpose.
Federal sources of subsidy dollars for homeownership should be made as flexible as possible. As HUD moves to a block grant performance-based approach to fund affordable housing needs at the State and local level, it is important that maximum discretion be provided to State and local agencies and that a process is established to ensure that the successes achieved through HUD’s Community Development Block Grants (CDBG), the HOME program, and the HOPE 3 program are not lost in the HUD transition.
The West Virginia Housing Development Fund uses HOME program funds to provide 20-year, fixed-rate loans to help very low-income families build and purchase their homes. Of the families assisted, 95 percent have incomes below 50 percent of the area median. As a result of the additional housing units created under this program, a new tax base is being established and jobs are being created.
State governments, operating through community development and housing finance agencies, will continue to be very important funding sources for homeownership subsidies. State affordable housing trust funds, mortgage revenue bonds, and mortgage credit certificate programs should continue to help address homeownership needs, particularly as Federal housing and community development funding discretion increases. State agencies should be encouraged to ensure that sufficient funding is set aside from their overall budget resources for low-income homeownership downpayment and mortgage subsidies.
Action 37: IRAs and 401(k)s for Homeownership Downpayments
The partnership should support legislation that removes negative tax consequences for early withdrawal of money from tax-deferred individual retirement accounts when the money is used for downpayment assistance by first-time homebuyers. The legislation also should permit the so-called “back- end account” of non-tax-deductible contributions, which would allow taxpayers to withdraw funds for a first-time home purchase after 5 years without penalty or taxes on earnings. HUD analysis indicates that at least 600,000 households in the next 5 years would benefit from withdrawing funds from their retirement accounts for a first-time downpayment option.
Members of the partnership also should identify existing household assets that may be converted to downpayment assistance, subject to income tax and other considerations. For example, many households now participate in tax-advantaged savings vehicles (such as 401(k) plans), which historically have not been available for downpayment on a home.
Action 38: Savings Plans for Homeownership
The partnership should identify and promote effective methods of saving for homeownership. Such methods may include use of household homeownership accounts and savings clubs, whereby savings are dedicated specifically for downpayments and closing costs. The family budgeting discipline from these programs can also improve the potential for stretching mortgage loan underwriting ratios. Members of the partnership also should support homeownership education and counseling efforts that assist households to save for home purchase.
The Federal Home Loan Bank of New York has used its Affordable Housing Program (AHP) to assist lower income first-time homebuyers through the First Home Club program. Eligible families open a First Home Club savings account at a local financial institution and systematically deposit funds to cover downpayment costs and closing fees. Upon completion of a required homeownership counseling course, a family’s savings are matched on a 3-to-1 basis, up to a maximum of $5,000, with funds from the AHP.
Saving for a downpayment represents a significant challenge for a large number of households. Many households pay so much for rental housing and other existing monthly obligations that accruing adequate funds for the downpayment and closing costs has not been feasible.
Examples of homeownership accounts might include:
- Lease-purchase programs where a portion of the household’s rent payment accrues toward the downpayment.
- Employer-assisted homebuyer savings plans, sometimes including incentive-based employer contributions or loan features using pre-tax savings.
- Lender-initiated savings plans, whereby the lender provides enhanced savings rates or preferred customer mortgage terms to encourage homeownership.
- Formal and informal “homebuyers clubs,” which generate savings through the reinforcement of group participation.
- Nontraditional savings such as the “sou-sou” approach, whereby individual households contribute a fixed amount of money periodically to a third party, who holds the funds and distributes the money to members of the group on a rotation basis. Depository institutions should consider how they can add certainty to these revolving funds without undermining the group savings incentive.
Homeward Bound, Inc., of Phoenix, Arizona, operates a lease-purchase program for formerly homeless families. Unlike traditional lease-purchase programs, Homeward Bound does not collect rent and hold it in escrow for future home purchase. Rather, residents pay minimal rent (enough to cover taxes, insurance, and administrative costs) and work closely with a case manager to develop their own savings plan. Residents must resolve personal debt and acquire savings for downpayment within 2 years. This method of savings is a greater challenge to residents–building long-term responsibility and teaching self-sufficiency. In its first 2 years, Homeward Bound has helped 28 families to purchase homes.
Action 39: Mortgage Options and Homebuyer Education
The partnership should consider methods of itemizing the cost of mortgage terms to help the homebuyer weigh mortgage options and their associated costs. Furthermore, any options in the terms of the mortgage contract ought to be clearly disclose to consumers to encourage the best choice.
In today’s mortgage market, the costs of mortgage money reflects a sophisticated, capital markets valuation, based on the terms of the contract between borrower and lender. The interest rate charged to the homebuyer will directly reflect the terms such as loan assumability and the right of prepayment. Most prospective home purchasers do not realize that the inclusion or exclusion of such loan conditions can affect the interest rate on their mortgage.
Action 40: Home Mortgage Foreclosure Requirements
The partnership should analyze existing State foreclosure laws and support future efforts to implement streamlined foreclosure procedures that are more consistent from State to State.
The cost of mortgage money reflects, in part, the investor’s estimate of credit costs. These credit costs are, in turn, affected by State laws concerning foreclosure. State laws vary considerably in the rights and obligations of the lender and the homeowner in the foreclosure process. Notwithstanding the benefits of establishing a more systematic foreclosure process, no such changes should be supported by the partnership if the rights and interests of the homeowner are unduly jeopardized.
Increase Availability of Financing
STRATEGY: There is a vital need to increase the availability of financing for forms of homeownership that the current mortgage finance system does not address effectively. The partnership should seek to identify the expertise required for such financing, provide assistance to enable potential homebuyers to afford such financing, standardize loan features to permit streamlining, and broaden the secondary market for such loans.
Issues and Impediments: Mortgage financing is readily available in the United States, due to a competitive market place, stable home values, and a sophisticated capital market infrastructure. Nevertheless, some forms of homeownership financing are not sufficiently available in all markets. There have historically been inadequate levels of mortgage financing for combining the purchase and rehabilitation of single-family homes, owner-occupied small rental properties (two- to four-unit structures), manufactured housing, cooperative housing, rural housing, and Native American housing. Mortgage financing is not always adequately available in certain neighborhoods or areas experiencing an economic downturn.
Financing for the combined purchase and rehabilitation of single-family housing is not widely available on a national scale, due in large part to: (1) the perceived risk by conventional lenders associated with the timely and satisfactory completion of the rehabilitation, (2) the lack of experience in this form of financing among lenders, mortgage insurers, and secondary market investors, and (3) inadequate coordination at the local level among lending institutions, real estate professionals, government agencies, and nonprofit organizations. As a result, housing in substandard condition that might be available at affordable prices for low- and moderate-income households cannot be financed at all or must be financed in stages-first by a purchase mortgage and subsequently by a rehabilitation loan.
In some sections of the United States, two-, three-, or four-unit properties are a prevalent part of the housing stock. These properties are ideal for low- and moderate-income homebuyers that can use the income from the rental units to supplement other sources of income to meet monthly homeownership expenses. However, mortgage financing for such structures is sometimes difficult to obtain.
To achieve all-time-high levels of homeownership by the end of the century, a greater percentage of lower income households must find ways to become owners. Less expensive housing, including manufactured homes, cooperative and mutual housing, and community land trust housing are possible solutions, but mortgage financing must become more readily available for these alternatives to succeed.
Finally, obtaining sufficient funds to purchase a home for many low- and moderate-income American households will require government and nonprofit financial support. Public subsidy programs can help fill the gap between mortgage lender availability and homebuyer affordability. Yet, despite many years of public-private sector experiments-including many notable success stories-there continues to be a lack of consistency in the way local governments and nonprofit housing organizations use subsidy dollars to leverage private mortgage money to support affordable homeownership. In the future, as State and local government discretion in the use of Federal housing funds increases, greater information sharing among States and localities as to what works will become increasingly essential.
Action 41: Home Purchase and Rehabilitation Financing With FHA 203(k)
The partnership, in collaboration with HUD, should seek to expand the number of conventional lending institutions and other FHA-approved lenders actively participating in the FHA 203(k) program. Partnership efforts also should include increasing risk-sharing opportunities and more fully developing the secondary market for this product.
The Columbus Housing Partnership (CHP) is a nonprofit organization in Columbus, Ohio, that uses the 203(k) Dreambuilder Mortgage to finance home rehabilitation. CHP uses 203(k) in two ways:
- CHP purchases HUD-foreclosed homes and rehabilitates them using bank-provided 203(k) loans. Low-income homebuyers secure financing to buy out CHP’s 203(k) loans.
- Homebuyers locate homes that need rehabilitation. They secure 203(k) financing from a HUD-certified lender and hire CHP as their general contractor. CHP rehabilitates the homes with no loan risk and very low contracting fees.
The FHA 203(k) program provides government-backed insurance for purchase and rehabilitation financing. In the past, many lenders considered the 203(k) program administratively cumbersome and expensive to implement. However, significant improvements have been made in the past 2 years. In fact, HUD expects to double its business in 203(k) loans in fiscal year 1995.
Action 42: Conventional Financing for Home Purchase and Rehabilitation
The partners should work to increase the availability of conventional financing for home purchase and rehabilitation. Efforts should include establishing partnerships between lenders and entities with rehabilitation experience.
Purchase and rehabilitation lending should not become the exclusive preserve of FHA or other public financing mechanisms. Local partnerships involving lending institutions, real estate professionals, and nonprofit organizations, with support from national secondary market investors and private mortgage insurance companies, can use their expertise to dramatically increase the volume of purchase-rehabilitation lending.
The Joint Ministries Project, a group of inner-city Minneapolis churches and community organizations, set out to make Minneapolis a “city of homeowners”. The organization’s housing development arm, Damascus Development Corporation, secured a revolving line of credit with TCF Bank to purchase and rehabilitate up to 50 HUD-owned vacant and boarded-up properties. For rehabilitation, Damascus contracts with a development company that uses subcontractors from the local area. Residents lease the rehabilitated homes from Damascus, with a portion of their rent escrowed and held for future purchase of the property. Fannie Mae purchases mortgages upon completion of rehabilitation and GE Capital provided needed mortgage insurance.
Local partnerships composed of lenders and local government or nonprofit housing providers should be established. Local mortgage lenders can underwrite loans, but typically do not have the staff or experience to oversee the rehabilitation process, although local government housing agencies and many nonprofit housing providers specialize in managing home rehabilitation. In some instances, the collaborative effort of the lender and local agency might also include public subsidies to: (1) reduce borrowed amounts so that financing costs do not exceed postrehabilitation property values, and (2) establish short-term credit enhancements, such as guarantees, to cover a portion of the risk associated with home rehabilitation.
To establish a broad-based conventional market for home purchase and rehabilitation lending, members of the partnership also should identify and share existing purchase and rehabilitation models. These models should be replicated on a larger scale.
Action 43: Home Rehabilitation Financing
Members of the partnership, particularly lender organizations and secondary market investors, should work to expand financing opportunities for home rehabilitation needs. In addition, HUD, in collaboration with other partners, should seek to improve the use of the FHA Title I Home Improvement Program as a viable form of rehabilitation financing for lower income homeowners.
Currently many homeowners face home improvement needs that are difficult to finance from conventional financing sources, due to property value limitations or owner credit and total debt-to-income problems. Without the availability of rehabilitation financing, properties will continue to deteriorate, further deflating home values and homeowner motivation.
Action 44: Flexible Mortgage Underwriting Criteria
The partnership should support efforts to increase local lender awareness and use of the flexible underwriting criteria established by the secondary market, FHA, and VA.
In recent years many mortgagees have increased underwriting flexibility. This increased flexibility is due, at least in part, to local lender community reinvestment strategies and liberalized affordable housing underwriting criteria established by secondary market investors such as Fannie Mae and Freddie Mac. Yet, many prospective homebuyers still cannot qualify for a conventional mortgage.
Some of these homebuyers cannot qualify without intensive counseling or subsidies. However, many households may qualify if local lenders are encouraged to use compensating factors in underwriting loans or more flexibly interpret secondary market purchase requirements. For example, Freddie Mac last year initiated Underwriting Barriers Outreach Groups, which brings lending industry and community groups together to review Freddie Mac guidelines. These meetings have led to clarification of many Freddie Mac loan purchasing requirements. Freddie Mac is publicizing these clarifications to inform participating lenders of existing underwriting flexibility and that the “cookie cutter” approach to lending may unintentionally exclude good borrowers from obtaining mortgage financing.
In Connecticut, People’s Bank and the Commonwealth Mortgage Assurance Corporation (CMAC), a private mortgage insurance company, have developed the Risk Share Program to allow conventional financing for low-income homebuyers. Under Risk Share, homebuyers may use medical, utility, and landlord payments as credit references. The program allows for nontraditional employment histories, employment histories with gaps, short-term employment, and frequent job changes. The loans are insured by CMAC based on a layering of risk. CMAC assumes the first layer of risk; People’s Bank assumes the second. Risk Share has closed $1.4 million in loans with no delinquencies to date.
Similarly, Fannie Mae is increasingly looking at compensating factors to traditional underwriting criteria for establishing credit and income stability. The firm’s actions include establishing a loan review board to review the affordable housing loans sold to the company that underwriters believe do not meet Fannie Mae guidelines and a “flexibility hotline” that lenders can call for answers to underwriting questions.
Action 45: Public-Private Leveraging for Affordable Home Financing
The partnership should support development of a comprehensive, nationwide analysis of local public-private homebuyer programs to ascertain which elements are indicators of long-term leveraging success. In addition, the partnership should sponsor interactive forums, training or other technical assistance efforts for local partners to promote replication of proven approaches.
Many would-be homebuyers, especially low- and moderate-income households, cannot rely solely on conventional mortgage financing to obtain a home. In these instances, government agencies and nonprofit organizations must use their flexible resources to the maximum extent possible to leverage private financing-in effect serving as a catalyst to make deals work that would otherwise prove infeasible.
There are hundreds of examples of successful local government and nonprofit leveraging programs throughout the United States-in urban and rural settings, operating on a large scale, and neighborhood-based-involving one lender or through statewide consortia with many lenders. The flexibility provided in HUD’s CDBG and HOME programs has made this leveraging possible in many instances.
There is, however, no national information exchange or compendium of program models which local lenders, nonprofit groups, or local government agencies can use for guidance on how to establish successful public-private initiatives.
To assist low- and moderate-income homebuyers, Wisconsin’s lending industry joined forces and created the Closing Cost Assistance Program (C-CAP). C- CAP merges a 3-percent buyer downpayment with a secondary loan to finance transaction costs. Funds are provided by the Federal Home Loan Bank of Chicago and the State of Wisconsin Division of Housing and backed by a purchase agreement with Fannie Mae. C-CAP reduces risk by pooling loans from lenders throughout the State. A revolving fund ensures that assistance is extended to future homebuyers.
Action 46: Reinventing FHA Single-Family Home Mortgage Insurance
HUD and other members of the partnership should work together to reinvent the FHA single-family home mortgage insurance program. FHA single family insurance has been instrumental in helping millions of homebuyers to obtain mortgage financing. In fact in fiscal year 1994, FHA endorsed over 1.3 million single-family loans-43 percent more than in the previous year. Over two-thirds of these loans assisted first-time homebuyers. Yet to remain an essential, integral part of the mortgage financing system that functions efficiently in a rapidly changing capital market, FHA must become more entrepreneurial and more responsible to its customers.
In the short run, FHA has already made significant improvements in its mortgage underwriting criteria, including the following:
- Recognizing additional income sources, including overtime, bonuses, and part-time income.
- Considering long-term obligations to include only debt extending 10 or more months and eliminating child care as a recurring debt.
- Allowing use of cash saved at home or in private savings clubs.
- Increasing flexibility in qualifying ratios and compensating factors.
Over the long run, more must be done. The Clinton Administration proposes reinventing FHA as a wholly owned government corporation, which can more quickly and entrepreneurially enter into creative partnerships with the public and private sectors. These partnerships would utilize FHA’s current “full faith and credit” for individual loans and pool loan insurance, reinsurance, risk-sharing, securitization, and other forms of credit enhancement. The new FHA, working with diverse partners, will expand the reach of the private sector to families, communities, and markets historically underserved by the private mortgage market.
Action 47: Native American Home Financing Needs
To promote homeownership for Native Americans, Federal and State partners should expand policies and programs that empower tribes to design homeownership models that meet their cultural, spiritual, and functional needs. Insured mortgage financing should continue to be available on reservations, and funding should continue for the HUD Section 184 loan guarantee program and the VA Native American Direct Loan Program. Native American homeownership needs also should be considered in the establishment of HUD’s Affordable Housing Fund. Furthermore, members of the partnership, including HUD, VA, the U.S. Department of Agriculture (USDA), the private lending community, and organizations representing Native American tribal interests, should engage in discussions with the Bureau of Indian Affairs to increase the timeliness of title searches and approval of loan documents.
Mortgage financing for Native American households, particularly on tribal lands, is not readily available. This is due to many factors, including the poor economic conditions on many reservations, the existence of trust land that cannot be used as collateral for financing, and the predominance of public housing.
In recent years, HUD and other Federal agencies have made significant strides in delegating funding decisions to tribal governments and Indian housing authorities. Newer Federal initiatives such as the Indian HOME program and Section 184 loan guarantees, increasing State focus on tribal housing needs, and greater secondary market investor involvement are beginning to make a difference in helping Native American families become homeowners.
Action 48: Small Rental Properties to Support Affordable Homeownership
Members of the partnership should provide opportunities for low- income homebuyers to purchase owner-occupied, small rental properties. The partners’ efforts should include exploring the development of alternative lending approaches; seeking creative uses of public and nonprofit resources in conjunction with conventional first mortgages; and streamlining the appraisal process. As discussed more fully in Chapter 7, Homeownership Education and Counseling, homebuyers of small rental properties should also obtain training in the management of rental properties prior to home purchase.
Schenectady Federal Savings and Loan Association of Schenectady, New York, is using a $375,000 direct subsidy from the Federal Home Loan Bank of New York to assist in the acquisition and rehabilitation of 30 duplexes. The homes will have one owner-occupied unit and one rental unit. The homes will either be purchased from HUD’s foreclosed inventory or donated by the city of Schenectady. Financing from additional Federal sources as well as from a local lending consortium is also being used.
Owner-occupied small rental properties, which are typically two- to four-unit dwellings, are a critical component of the affordable housing stock in many communities. These properties are often sought by low- and moderate- income homebuyers who need the rental income to help meet their home mortgage payments. In many markets, however, mortgage financing for these properties is not readily available for a number of reasons, including the risk associated with homebuyer inexperience in managing rental property, the risk of unexpected rental vacancies, the cost of emergency repairs, and the problem of missed or late rental payments.
Action 49: Continuation of the Mortgage Revenue Bond Program and Mortgage Credit Certificates
The partnership should promote the continuation of the Mortgage Revenue Bond (MRB) program. Mortgage Revenue Bonds receive a Federal tax exemption, enabling moderate-income homebuyers to obtain mortgages at below-market interest rates or with low downpayments. State and local government housing finance agencies operate the MRB program, which has helped more than 1.6 million American families buy their first homes. Most of these purchasers have incomes significantly below their State’s or metropolitan area’s median income.
Under its First Home program, the Indiana Housing Finance Authority uses Federal Mortgage Revenue Bonds and HUD’s HOME program to offer a no- downpayment mortgage for first-time homebuyers with incomes equal or less than 80 percent of the area median. The MRB program is used to finance below-market interest rate first mortgages for 80 percent of the property’s value. A second mortgage for the rest of the property’s value is provided at no interest with funds from the HOME program. Georgia, Kansas, Louisiana, Michigan, North Carolina, and many other States operate similar programs.
In addition, the partnership should promote continuation of Mortgage Credit Certificates, which make homeownership more affordable for lower income homebuyers by reducing their Federal tax liability. Maintaining adequately funded MRB and Mortgage Credit Certificate programs can directly and immediately increase homeownership among low- and moderate-income families that partners have targeted.
Action 50: Energy Efficiency and Home Mortgage Underwriting
The partnership should encourage consideration of changes in secondary market and conventional lender qualification systems for borrowers and in the property appraisal process to incorporate considerations of energy efficiency. Federal agencies should promote new qualification systems and study the energy efficiency impacts on current FHA, VA, and USDA home financing programs.
High energy costs can substantially increase a homeowner’s monthly housing costs. This may come as a hardship, especially to homeowners who do not anticipate these costs. Increasing a home’s energy efficiency not only improves homeownership affordability, but also increases the property value of the home and promotes a cleaner environment.
Action 51: Cooperative Homeownership
The partnership should seek to increase the availability of financing for cooperative housing both through the development of new cooperative housing and the conversion of existing rental housing to cooperative resident ownership.
Renters often become more involved in the quality and long-term viability of their homes when they become members of a cooperative. Although cooperative housing does not provide all of the ownership advantages available through fee-simple ownership, households can exercise much greater control over their living conditions than they can as tenants. Yet, lack of adequate public and private financing for cooperatives is a major impediment. In addition, enhanced awareness of the benefits of cooperative housing, particularly for low- and moderate-income households who cannot afford the costs associated with fee-simple ownership, must also be addressed before cooperative home ownership can be significantly increased.
H/T Josh Rosner
Full text: 1995’s “National Partners in Homeownership” strategy. The public/private partnership that led us here.
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