Mortgage Orb - Peter G Miller - 21 October 2016
BLOG VIEW: It’s not your imagination. There are a lot more mortgage options available with little down than in the past. The part of the marketplace long dominated by Veterans Affairs and Federal Housing Administration (FHA) financing now has new competition, enough to create fresh options for those who wish to buy with little or nothing down.
Why the big fuss? If we have good sources of financing with little down, why do we need more? Is this like bottled water, a market where the products are alike but branding makes a difference?
False Claims Act
Part of the reason for newly emerging mortgage products with little down stems from a dislike of doing business with the federal government. As an example, in February, The Wall Street Journal reported that the Bank of America “is rolling out a new mortgage product that would allow borrowers to make down payments of as little as three percent in a move that would represent an end run around a government agency that punished the bank for making errors on similar loans.”
That “punishment” involves what lenders frequently see as the unfair use of federal laws – in particular, the False Claims Act.
The False Claims Act – also known generally as the Lincoln Law – was passed in 1863 in an effort to end price gouging and fake bills by suppliers to the Union Army. If convicted, it allows the government extract a civil penalty of $5,500 to $11,000, plus three times “the amount of damages, which the government sustains because of the act of that person.” Whistle-blowers under Dodd-Frank can get as much as 30% of any recovery.
MortgageOrb contacted the U.S. Department of Justice and asked how many settlements under the False Claims Act involved FHA loans. A list of 24 settlements as of mid-April came back – a list representing billions of dollars in lender pay-outs.
In practical terms, the False Claims Act means that a single faked FHA loan origination can lead to a federal lawsuit. A loser faces substantial legal fees and damages – damages far beyond any possible profit from the loan. Unfortunately, a lender that believes the claims are unwarranted also faces substantial legal fees.
The big debate concerns the idea of a false claim. No one argues that cases of outright fraud should be ignored, but what about a clerical error? What about a minor error in a situation where the borrower is making full and timely payments? How about a situation where a borrower loses a job or faces a medical crisis and defaults – and subsequently, a non-material error is found in the loan application? Many in the lending industry contend that the government is too quick to file False Claims cases.
The False Claims debate is not just an academic dispute. According to the American Enterprise Institute, big banks are cutting back on FHA purchase loans “due to risk aversion.”
The mega-bank share of FHA originations, said AEI in a June report, was about 20% in May – less than a third of the 65% in November 2012.
Private Sector And Little Down
In the past year, a number of private-sector loan products with little or nothing down have emerged. Some examples include the following:
Three percent down: HomeReady (Fannie Mae) and Home Possible Advantage (Freddie Mac) allow qualified purchasers to buy with 97% financing. Not restricted to first-time borrowers, such loans are aimed at “creditworthy low- to moderate-income borrowers. Other examples from major lenders include the Bank of America’s Affordable Loan Solution and YourFirstMortgage by Wells Fargo.
One percent down: Guaranteed Rate offers 1% financing with its “Double Match” program. “You put one percent down, and we’ll kick in the other two percent of your down payment, bringing your total down payment up to three percent. This grant doesn’t have to be paid back if you move or refinance,” says the company.
Nothing down: The San Francisco Federal Credit Union provides financing with zero down for home buyers in the San Francisco area. No money down is required, there is no private mortgage insurance, and loans can be as large as $2 million.
Grants and assistance: Across the country, there are more than 2,400 programs available to help home buyers qualify for financing, according to DownPaymentResource.com. Some of these programs include grants to offset down payment requirements, lower interest rates and reduced taxes. When combined with various mortgage options, these programs allow borrowers in many cases to buy with 3% down or less.
Given that iffy loan programs were so much a part of the mortgage meltdown, it’s fair to wonder if the new crop of private-sector mortgages with little or nothing down represent a threat to the housing sector and the economy in general.
“The newest mortgage products are vastly different from the toxic loans of the past,” says Rick Sharga, executive vice president at Ten-X.com, an online real estate marketplace. “No-doc loan applications are gone. Lenders must verify that borrowers have the ability to repay the mortgage. Foreclosure starts have fallen to levels not seen since 2000. Perhaps most importantly, the assumption that less down automatically means more risk now seems wrong when we look at the data.”
According to the Urban Institute, of loans “originated in 2011 with a down payment between three to five percent, only 0.4 percent of borrowers have defaulted,” it continues. “For loans with slightly larger down payments – between five-10 percent – the default rate was exactly the same. The story is similar for loans made in 2012, with 0.2 percent in the three to five percent down payment group defaulting versus 0.1 percent of loans in the five to 10 percent down payment group.”
At this time, private-sector loan products with little or nothing down are a small part of the mortgage marketplace. But then, as the expression goes, “Mighty oaks from little acorns grow.” Given current lender perspectives, a lot of financial acorns are being planted.