To FHA or Not to FHA, That is the Question

I left off with my clients considering an FHA loan only because of the lack of credit on hubby's part. I did leave out a critical piece of the puzzle yesterday.

The reason hubby's credit score is critical is because the Mrs. is currently a stay-at-home Mom with the new baby. While her credit score is beyond excellent, she has no current income. We have to use hubby's income to qualify for a loan, but without a credit score it's a moot point -- income without credit doesn't help, credit without income is meaningless. You need both to qualify for a mortgage loan (save that FHA option).

Enter Mom & Dad. Mom & Dad are willing to co-sign on the loan. What does that mean? That means that Mom & Dad essentially become co-borrowers. I have to evaluate them and their finances just as I have done for my clients. Now, with Mom & Dad on the loan there's another wrinkle. Now we're going to have to face the issue of occupancy.

Primary residence loans (loans for properties you are going to live in) have the best interest rates. Rates for second homes are a bit higher, and when you get a loan for an investment property not only are the rates a bit higher still, but there are stricter guidelines you must meet. Obviously we wanted to get a primary residence loan -- I mean, my clients really are going to live in the house. To do this, hubby is off the loan (without the credit score (even with the income) more questions are raised than answered), the wife is now the primary borrower with her parents as co-borrowers. We're looking at a limited range of loan options that will allow a non-occupant co-borrower (parents) and we're waiting to get a computer-generated basic approval based on our file parameters to be sure it's a go. As it turns out, an income-less primary borrower won't fly -- even with exceptionally strong co-borrowers. Shoot. There goes the primary residence status.

So now we have to move the parents to the primary borrower position and look at the other types of occupancy. Since Mom & Dad already have a second home they can't buy another [now, that is something that doesn't quite gel in my mind, as my idea is that you can have as many "second" homes as you want -- a condo in Hawaii, an apartment in Paris, Brazil, and a weekend house in Tahoe, but according to lenders that's not the case] so we are forced into the investment property route. Luckily everything in their scenario (loan amount, credit scores, down payment...) worked into the tighter investment property loan guidelines. Unfortunately it does mean a higher rate (almost half a percent higher, for those wondering).

But it will work; they can get a loan and buy a house. My clients can buy their new home within their preferred time frame, work to build hubby's credit back up and then, assuming the numbers work down the line, refinance, take Mom & Dad off the loan and add hubby. In the meantime, they'll have a loan they're comfortable making the payments on and will be able to keep it for as long (or short) as they choose.

The Risk of Being Too Responsible

Phew, it's been a while. Two months since my last post?! What can I say? Life happens. Let's keep moving forward...

Currently I'm in the middle of a unique mortgage situation with great clients who are looking to buy a house in Berkeley, relocating from Southern California. They are realistic about their price range, pleasant to talk with, and she is an information sponge -- my favorite! They are sharp and extremely responsible with their finances. They've been planning to buy their first home for some time and in doing so have managed their credit accordingly. They have essentially no debt and are planning to have a down payment of over 20%. And yet, I can't approve them for a loan.

What's wrong? What happened? Her credit is impeccable, he has no derogatory issues whatsoever. But he also has no credit score. Not a one. Imagine you pay your one credit card bill in full every month, you paid off your student loans years ago, you have no car loan, no mortgage, you are in the black every month. Sounds like a good way to be financially responsible, but the problem is that without enough recent credit history you fall off the face of the credit world.

Banks want active credit history within the last 6 months. They want more than one line of credit. They want a recent track record with a history. Car loan, student loan, mortgage, credit cards, whatever you've got. The lending institution, whether you're looking to buy a house, car, or new shoes, needs to know you will pay it back; to make that judgement, they look to see proof that you pay your bills on time and you can manage the responsibility of debt and/or available credit.

In this case, hubby wanted to be rid of his student loans -- what can that hurt, right? Get rid of tens of thousands of dollars of debt -- that's sure to help your credit score. The thing is, banks look at different kinds of debt differently. For example, a student loan, while carrying a higher balance, is looked at more favorably than the lower running balance on the Macy's card. Why? For one the balance on the student loan isn't going up (typically) and the interest rate is essentially fixed about as low as you can get where debt is concerned. Also, it's a loan for education -- to essentially raise your earning potential. On the other side, the Macy's card has a high interest rate (22.9% as I type this) and you, as the consumer, can increase your balance on a whim (max out the card? I'm sure Macy's would be happy to increase your limit).

So as I mentioned earlier, this particular couple had no Macy's card, no running balances. They had one active credit card and paid the balance monthly. We tried to use this fact to pull a score out of at least one of the reporting agencies (Equifax, TransUnion, Experion), but as it turns out that card was showing a dispute. A couple months ago there was a charge on the card that was invalid. The couple disputed it and won. But the card company hasn't yet removed the dispute status from their account, so now, as long as that shows as being in dispute, for credit report purposes, the account is essentially frozen (even though it's not).

Things weren't looking good. Things were looking like FHA was the only answer (FHA is the last program that allows non-traditional credit assessment; they'll look to your history of paying rent, utility bills, etc. to determine credit). FHA is a great government program for people with low down payments. Here, though, the problem becomes that all FHA loans require mortgage insurance, regardless of down payment (conversely, non-FHA loans only require mortgage insurance with less a than 20% down payment). Since my clients had more than 25% to put down, FHA's added cost of mortgage insurance (about $120/month as it would be) plus higher costs to get the loan to begin with was certainly not our favorite option.

Keep in mind that this family is relocating and under pressure to find a place to live. Sure they could rent a while until this all got worked out -- but realistically, building credit history can take a year, maybe two. They certainly don't want to rent for two years, not when the market is good to buy -- house prices are low, interest rates are low, and the timing for them is now. It's my job to find a way to get them money to buy a house and to do it correctly & honestly so that the rug is never pulled out from under them (but that's the only way I work anyway).

I have my work cut out for me on this one. Many calls to make, research to do, numbers to run. Come back tomorrow to find out how things are working out, this post is long enough as it is.

AmEx, I'm Disappointed (though I should know better)

There's an American Express commercial on t.v. lately that really bothers me. The premise is that customer service agents for AmEx tell stories of how they helped card holders in some special way that warmed their hearts. I don't mind the idea, most of the stories are innocuous, but there's this one that I can't even have as background noise, it demonstrates all that's wrong with our culture of consumerism.

The AmEx rep tells a story of how they helped a customer who proposed to his girlfriend. The newly engaged couple were at the jewelry store to buy an engagement ring and whatever credit card he was using was declined (certainly it wasn't an American Express card). So his fiance suggests he call AmEx, which he does, and they issue him a new credit card with a balance high enough to allow him to begin his married bliss deep in debt.

Other stories told in this line of commercials are ones where the customer service agent helped the customer get something they had difficulty getting on their own -- more like a concierge service (plane tickets, theater tickets, dinner reservations, etc.). Those I can tolerate. I understand it is a commercial for a credit card and they make their money when we spend what we don't have, carry a balance and pay interest. It's the name of the game and knowing that I can suffer through the other "heart warming stories".

The engagement ring one though is a tough pill for me to swallow. The idea that the fiance suggests to her groom-to-be that he open a new credit card so she can wear something big & shiny rather than have some patience so he can actually afford to buy her a ring (and for AmEx to make this commercial not only condoning this, but encouraging it). Maybe they could have chosen something smaller, or of a lower quality -- something that was in the budget. No, in this story the ring obviously came ahead of the marriage. I hope AmEx gave him a Black card so she can charge their lives away for the wedding.

Our culture is one of consumption, there's no way around it. We are marketed to directly & indirectly to buy more, have more -- it's the American way; have the biggest, newest, "best" toy and your status in this society rises. That must be why bride-to-be suggested her honey get a whole new line of debt -- she was just trying to be a good American.

Let's Play House

Practically speaking, you should really be able to afford the payments you'll be making once you buy a house. It makes sense that people should be able to make the payments required of them for mortgage, insurance, & taxes (and we're not even talking about household maintenance). Part of the correction happening now is that for the most part, buyers are being required to put 10-20% down for a home purchase. This is certainly a shift from the not-so-long-ago days of 100% (or more!) loans.

How does one save $45,000? $100,000? Going in, it can seem daunting & overwhelming. True, it would help if you've been saving or if you have family that could offer some assistance in gift money, but the reality is that you have to start somewhere and not all family members have an extra $10,000 or $20,000 lying around to help get you started. One of the best ways to get saving for a down payment is to play house.

Playing House

Let's assume you're renting now and want to buy a house in the next few years. Let's also assume you're paying $1,500 a month in rent. You want to buy a house and figure you can afford to buy something in the $450,000 range. You plan to save 10% ($45,000) for your down payment.

The basic premise of playing house is that you want to pretend you have all the bills now that you will have once you're a homeowner. You will have to pay these bills once you buy your house so you should be able to pay them now if you feel you're in the position to be a homeowner. Take the total of all new "homeowner bills" and subtract your current rent from that total so you know how much you can expect your cost of living to increase. No, these will not be exact numbers, but it can be close enough. The extra you need to pay as a homeowner gets put into a savings account that you do not touch. This savings account will become the down payment on your house.

Okay, let's play....

• Your new mortgage: A $405,000 loan ($450,000 purchase price -$45,000 down payment = $405,000 loan) in today's market will cost you around $2,500/month for a fully amortized mortgage (meaning not interest only).


• Property Taxes: In the Bay Area Realtors & loan officers will typically use 1.3% of the purchase price of a home as an estimated tax rate. In this scenario this represents $5,850/year or $488/month


• Insurance: Let's estimate you'll pay around $1,200/year, or $100/month


• Utilities: Typically when you rent water and garbage is paid by the landlord, but when you own the property you're paying these utilities. Also, your gas & electric bill will likely go up with more space to have to heat & light up. Let's say water is $25/month, garbage is $30/month, and the gas & electric will go up around $50/month


• Home Repairs & Maintenance: This is a truly variable figure and depending on the type of home you choose it could be covered by a Home Owner's Association (if you do buy into an HOA make sure to include those dues in this calculation as well) or you could be on your own to maintain everything from the landscaping to a leaky faucet to roof repairs. I don't want to go overboard here, but I'd like to be somewhat realistic as well. Let's give this section of savings around $100/month

Okay, that should just about do it. Let's total up the expenses of owning a $450,000 home:

Mortgage $2,500

Taxes $488

Insurance $100

Utilities $105

Maintenance $100

Total: $3,288

Current rent $1,500

Added cost to own the home: $1,793 every month

Now, you have to start pretending you bought the house already and have these bills coming in every month. Open a high-yield savings account (ING, Emigrant, or the like). Set up auto-debit from your checking account so that every month $1,793 gets transferred to the savings account.

If you find it's too tight on your budget to do this, you need to re-evaluate if buying a house is the right move for you. You could decide that maybe $450,000 is more than you can afford and choose to look at a condo instead (where water, garbage, hazard insurance, and maintenance all fall under the HOA dues you'd pay each month). However, if you find that with some simple lifestyle adjustments you can swing the extra $1,793 each month then in about two years of consistent and untouched savings you'll have your $45,000 down payment and more importantly, you'll know that you'll have no problem with the additional costs of being a homeowner.

The Trickling Down of the Increased Limits

The banks have begun to put out their own guidelines for the new "Jumbo Conforming" loans. Each has slightly different criteria, most are offering more options and flexibility than Fannie Mae (like you can get a cash out on a refinance with some) but there are certainly costs associated with any choice that makes it a riskier loan.

It truly is a different picture for each person, as each person's financial picture is different. For advice specific to your situation, please consult a professional who is well versed in this continually changing market.

Feel free to leave a comment below if you're buying or refinancing in the Bay Area and need guidance.

Jumbo-Conforming Guidelines

Well here we are with guidelines for the new jumbo-conforming ($417,000-$729,750) loans. Granted there's been a definite flight to quality in terms of the loans banks are willing to give, but the highly anticipated increased conforming limits don't look like they're going to be the saving grace people were hoping for. Here's what we're looking at:

• Full documentation only. All income must be verifiable with W2 forms, tax returns, pay stubs; assets must be verified with bank statements
• Available programs are 15 and 30-year fixed rates (no 40 year terms here) with fully amortizing payments, or a 5-year fixed program with either fully amortized or interest only payments (still, borrowers will have to qualify for the interest only payment by proving they can make a fully amortized payment on the same loan)
• One unit properties (no duplexes, triplexes, apartments, etc.)
• No cash out on refinances -- any refinance must be for a better rate and/or terms only (however, generally banks don't consider a nominal amount of cash received to cover closing costs, usually $2,000 or less, a cash out loan)
• Home buyers will have to put a minimum of 10% down
• Refinances will have a maximum loan to value of 75%
• Debt-to-Income ratio is a maximum 45%
• Minimum FICO score 660 (however, if you're buying a home with less than 20% down payment, you'll need a 700+ FICO)

These are the guidelines as per FannieMae which we expect the big banks to adopt in their lending as well. These products are not yet available commercially (with the big banks, BofA, Wells, WaMu, Citi, etc.), but now that FannieMae has released their guidelines the banks should follow suit fairly quickly.

BREAKING NEWS

FHA just announced the increased conforming loan limits and as expected, our Bay Area counties (SF, Alameda, Contra Costa, & Marin) have the maximum limit of $729,750! That will stay in effect until December 31, 2008 unless they decide to make it permanent.

Now, we just have to wait to feel the effects outside of FHA from Fannie & Freddie Mac and then the investors like Wells Fargo, WaMu, Chase, Citi, etc.

Check back often as I'll be sure to post new developments as soon as possible!

The Stimulus Bill & Increased Conforming Loan Limits

There is an element of the Stimulus Bill that will temporarily raise the conforming loan limits from $417,000 up to $729,950. Why "up to" and not just "to" almost $730,000? FHA (the Federal Housing Authority) will base the new limit by location. It will be based on 125% of the median home price with a maximum of $729,950.

The idea is that the traditionally lower conforming interest rates combined with higher limits (through the end of 2008) will help stimulate the economy. Those of us in the real estate world have all been excited by this proposal -- a nice jump to our slowed industry.

The primary question I'm hearing from my clients is "When?" When will buyers & home refinancers benefit from the increased limits? Good question.

Here's the deal: FHA had 30 days from when Bush signed the bill into law to set the limits. They say they'll have the new limits out the first week of March. Then what? Then Fannie Mae & Freddie Mac (the GSEs -- Government Sponsored Enterprises) will make their adjustments. Once they make their adjustments to not only the limits, but likely to the guidelines for borrowers things will trickle down to the big banks (BofA, WaMu, Wells, etc.). I've heard another 2 months at most, but no one really knows. We're all hoping for sooner (fingers crossed).

More things that no one really knows: what's really going to happen. It's highly likely that here in the Bay Area we'll get the maximum new conforming loan amount (that $729,950), but will the interest rates for loans at $400,00 be the same as those at $550,000? $700,000?

Fannie Mae is pretty fair in how they charge borrowers for added risk. You want to state your income and not have it verified? Okay, but we're going to charge you a slightly higher rate for it. You want a loan and your credit's not so hot? Well, okay, you still fall in the "okay" zone so we'll lend to you, but we're going to have to charge you a higher rate. Basically, if you represent a larger risk as a borrower, you can still get the money, but it'll cost you.

So, going back to the higher limits. Doesn't a $700,000 loan represent a higher risk than a $400,000 one? There's more to lose, right? Does it not stand to reason that if you want a loan that benefits from the increased limits that you may be charged a little more? But again, who knows how, or if, that will be accounted for.

I would love to see our high cost area get a small break for home owners and home buyers. It's about a 1% difference in rate, which can make a big difference. Don't think we're going back to the days of less cost equals more house (like with interest only and pick-a-pay loans). The banks are going to stay tight on qualifications and down payments for the time being.

My point is this: Don't base your actions on the idea that the increased conforming loan limits will be your saving grace. The fact is that no one knows exactly what is going to happen. I've heard a lot of talk going around. I've heard mortgage brokers (not with my company, of course) telling people that as soon as the Stimulus Bill is passed they'll be able to get a $700,000 loan for under 5%. Now that's just not true...it could end up being factual, but at this point don't believe it as fact. Do your research and ultimately make the decision that's best for you & your situation today and tomorrow. And if you need information specific to your situation, leave a comment & we'll talk.