How the US subsidizes high-risk homebuyers – at the expense of those with good credit

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by Thomas Baraby

April 16, 2023 | 4:23 p.m

The Post has learned that a notable revamp of federal rules on mortgage fees would provide lower rates for homebuyers with riskier credit backgrounds — and force homebuyers with higher credit to foot the bill.

Fannie Mae and Freddie Mac will make fee changes Known as loan-level rate adjustments (LLPAs) on May 1 that will affect emerging mortgages at private banks across the country, from Wells Fargo to JPMorgan Chase, adjusting interest rates paid by the vast majority of homebuyers.

The result, according to industry pros: more expensive monthly mortgage payments for most homebuyers — an ugly surprise for those who worked for years to build their credit, only to face higher-than-expected costs as part of a housing affordability push by the US Federal Housing Authority, a funding agency.

“It would be a challenge trying to explain to someone who says, ‘I’ve worked my whole life for high credit and I’ve put in a lot of money and you’re telling me that’s a negative now?'” “It’s a tough conversation to have,” one worried Arizona mortgage originator told the paper.

“It’s unprecedented,” added David Stevens, who served as FHA commissioner during the Obama administration. My email is full of mortgage companies and CEOs [telling] me how incredibly shocked they were by this move.”

Experts added that the amendments could further complicate the onerous mortgage application process and add more pressure on a key segment of buyers in a housing market already in the midst of a significant downturn. The average 30-year mortgage rate is hovering at 6.27% as of last week — up from about 5% one year ago and more than double what it was two years ago. According to data from Freddie Mac.

Under the new rules, buyers with higher credit scores ranging from 680 to more than 780 will see mortgage costs rise — with applicants paying a 15% to 20% down payment facing the largest fee increase.

“This was a stark and dramatic reduction in fees for riskier borrowers and a clear increase in buyers of much better credit quality – which just made it clear to the world that this move was a huge change to cross-subsidy rates,” added Stevens, who is also the former CEO. Mortgage Bankers Association.

LLPAs are upfront fees based on factors such as the borrower’s credit score and down payment size. The fee is usually converted into percentage points that change the buyer’s mortgage rate.

Under LLPA’s revised pricing structure, a homebuyer with a 740 FICO credit score and a 15% to 20% down payment will face an additional 1% fee—an increase of 0.750% compared to the old fee of just 0.250%.

When absorbed into the long-term mortgage rate, the increase equates to just under a quarter of a percentage point in the mortgage rate. On a $400,000 loan with a 6% mortgage rate, that buyer can expect his monthly payments to rise by about $40, Stevens calculates.

Meanwhile, buyers with credit scores of 679 or lower will have their fees lowered, resulting in more favorable mortgage rates. For example, a buyer with a 620 FICO credit score with a down payment of 5% or less gets a fee discount of 1.75% — a drop from the old fee rate of 3.50% for that category.

When absorbed into the long-term mortgage rate, that equates to a discount of 0.4% to 0.5%.

The overhaul ordered by the FHA affects purchase loans, limited cash withdrawal refinances, and cash refinance loans.

The revamped pricing matrix also includes the controversial addition of new fees for buyers with debt-to-income ratios of more than 40% — a complex measure that drew immediate opposition from the Mortgage Bankers Association and other industry groups who warned it would be difficult to enforce.

After the response, the FHFA announced last month that it would delay rolling out debt-to-income fees until at least August 1 — a move it said would ensure a level playing field for all lenders to have enough time to post fees. “

LLPA fee changes are still in effect on May 1.

The fee structure changes are the latest of several moves by the FHFA aimed at boosting affordability for what the agency calls “task borrowers” – defined as first-time buyers, low-income borrowers and applicants from disadvantaged communities.

Last year, the FHFA eliminated initial fees for first-time buyers with incomes at or below 100% of the median income in their area, or 120% in areas designated as “high-cost.” The agency also raised initial fees on second homes and some large mortgage loans.

“The timing of this is troubling,” Pete Mills, MBA’s senior vice president of residential policy, told The Post. “With the home-buying season beginning in the spring, home purchases have clearly been affected by price increases over the past year. The timing of this is not ideal.”

“Most borrowers” are likely to see a modest rate increase as a result of fee changes, according to Mills.

Asked about concerns the changes would hurt high-credit buyers, an FHFA official told The Post that the agency is “charged with ensuring [Fannie and Freddie] fulfill their role in any market conditions,” adding that shifts in long-term mortgage rates are a much larger factor in determining financing conditions in the US housing market.

“The most recent reset of the pricing framework announced by FHFA in January 2023 is minimal, by comparison, and keeps the market stable,” the FHFA official said in a statement.

Fannie and Freddie are government-backed entities that buy loans from mortgage lenders and hold them as assets or resell them as mortgage-backed securities. Both have been under federal custody since the housing market crash during the Great Recession.

Both companies stick to their covenants to help improve access to affordable mortgages. They do this in part using a “mutual subsidy” model, in which some borrowers are charged slightly higher for loans while others are charged lower.

In general, buyers with lower credit will still pay more LLPA fees than buyers with higher credit — but recent changes will close the gap.

The official said the LLPA’s changes would cause the average rate to rise just three to four basis points, or 0.03% to 0.04%, across the mortgage recipient spectrum — the equivalent of a few dollars a month.

The agency maintains that the LLPA’s changes will help preserve Fannie and Freddie’s financial health — a key component of its responsibility as governor.

“These changes to upfront fees will enhance the safety and soundness of companies by enhancing their ability to improve their capital position over time,” FHFA Director Sandra Thompson said in a statement earlier this year.