Credit Set to Tighten Mid-November

by Jason Van Steenwyk

Credit for many homebuyers is about to get substantially tighter, come November 16.

No, it has nothing to do with the debt ceiling or the government shutdown or event the Federal Reserve. In this case, it’s a long-scheduled program changeover at Fannie Mae, which is planning to change the code on the “Desktop Underwriter” program. This is the computer software program lenders frequently use in the field to ensure their underwriting is on the same sheet as Fannie Mae’s.

What’s changing? Well, the minimum down payment for Fannie-compliant loans is going up – by 66 percent! That’s the net effect of the planned increase in minimum down payments, which is scheduled to increase from 3 percent to 5 percent.

 

That means buyers looking to own a $200,000 home are going to have to cough up an extra $4,000 down – the difference between a $6,000 down payment and a $10,000 down payment required at that price.

 

To avoid the increased down payment requirement, get those applications in by November 16! Or be prepared to come up with the upfront cash.

Other projected changes include a change in the maximum life of the loan written in the software. The new software will support a maximum life of loan (LOL!) of 30 years. Previously, the DU software allowed underwriters to plug in loan terms of up to 40 years.

The interest-only option – rarely used in recent years after having left lenders with a bad taste in their mouths thanks to overuse during the boom (read: lousy underwriting.) is also disappearing from the DU interface. Getting a Fannie-backed interest-only loan isn’t even on the radar screen anymore.

Fannie Mae is also tightening up the DTI calculations it applies to applicants for adjustable rate mortgages.

On the other hand, Fannie Mae is also cutting some borrowers some slack come November. Effective as of the November 16 update, Fannie Mae’s DU program will no longer automatically reject borrowers who had sold a previous home via a short sale. This was important because according to data from the National Association of Realtors®, 23 percent of agents reported working with buyers who had experienced a foreclosure or short salesince 2005. Nearly half of these agents – 46 percent – reported that these buyers could not obtain financing – usually (65 percent) as a result of the previous foreclosure or short-sale.

Furthermore, some of the rules regarding reestablishment of credit after a foreclosure or bankruptcy are being relaxed.

The change comes on the heels of tightening of FHA requirements earlier this year. The Federal Housing Administration made mortgage insurance premiums payable for the entire life of the loan, rather than shutting off when home equity reaches 22 percent – a rule that made FHA borrowing much more expensive over the life of the loan. The FHA also raised its fees,which effectively negate much of the benefit of having a low 3.5 percent down payment. The premium for mortgage insurance was also jacked up as well, from 1.25 to 1.35 percent for loans up to $635,000.

In addition, FHA made things more difficult for borrowers with FICO scores below 620.

Put the two together, and between FHA and Fannie Mae, the two giant institutions are working to choke off a substantial amount of demand from the housing market.

For the moment, we can afford it – largely because of the intense interest in residential real estate on the part of institutional investors. But the changes are bound to have an effect. We’re seeing it already in the decline of first-time buyers as a percentage of home purchases. While first-time homebuyers by definition don’t benefit from the loosening of credit for those with a previous foreclosure or short sale, they are most directly affected by the increases in down payment requirements. They are younger, on average, and have had little time to save up big down payments. Their biggest asset is time, along with their future earning potential over their working lives. The increases in down payment requirements hit this group right between the eyes.

In contrast, institutional investors generally pay with cash, or get financing from another source.

Deals are getting tighter, as well, as distressed home sales are declining sharply. As of August 2013, distressed sales, defined as the combined sales of foreclosed and short-sale properties were around 12 percent. That’s way down from early 2011 numbers, which neared 40 percent of all sales. Tightening requirements and jacking up fees now that we have a more healthy housing market is one way we have of replenishing capital reserves at mortgage insurance firms and lenders while cooling off demand a bit. Unfortunately, the cooling off of demand is concentrated in the starter-home market.