I would like to expand a little on why I am in favor of raising the FHA limits even though I am in general, a rabid libertarian. We all talk about FHA being the new "sub-prime" but it isn't really that at all. And using FHA isn't really a bail-out at all. FHA doesn't even have default levels as high as the FNMA expanded approvals.

There are three basic reasons that  FHA is the best solution in this area.

1. FHA requires common sense examination of the "whole picture" of the loan. It doesn't just say you can have x number of lates in a given time period if your credit score is y. You can have one late and that late be unacceptable if it showed a disregard for credit obligations, or you can have 3 lates in the last year and that be acceptable because there was a good excuse, you made it through the problem and the FHA loan will just cement your recovery. FHA also requires proof of a stable job history for the last two years, and an analysis by the underwriter that the present job is likely to continue. The compensating factor analysis also assures that if you stretch the rules in one area, you better be strong in another. None of this 60 plus debt ratio with one month on the job you get with FNMA approvals. Ask a government underwriter at, for example, Flagstar about a loan scenario. The first thing that will go through their head, and often the first thing that comes out of their mouth is "How does this benefit the borrower?". How often has that been considered in conventional lending over the last few years?
2. Everyone from the broker to the appraiser to the underwriter to the lender s held accountable for defaults. Not in terms of buying back one loan - although messing up on one loan can have consequences - but in terms of default levels. If your default levels as a broker, an underwriter, an appraiser, or a lender get too high you get cut off from the program. So most (not all) of the parties involved have a vested interest in making sure the deal is strong and not just "getting it done".
3. Unlike FNMA, FHLMC, or any of the subprime lenders, FHA/HUD has a strong loss mitigation program with proven results that keeps people in their homes without having to lose money or have someone other than the borrower carry the freight. I have done 6-10 FHA loans every month for the last 10 years if not more. Most of them have been borderline cases with credit problems and required a lot of work to get them shined up for underwriting. I don't even recall the last time I had a loan with a credit score over 600. Most of them are in the mid 500s. Yet I have had only 2 foreclosures. In one case the borrower died and in the other the borrower had a stroke. I have had people I work around who used FNMA expanded approvals and subprime loans whose borrowers averaged higher credit scores and all of them have more foreclosures and/or delinquencies on their records.
   

Expanding the FHA limits won't be bailing out people who can't pay their mortgage payments because they still have to go through a common sense underwriting process.  No one has proposed removing the common sense and full income documentation from the program, just raising the loan amounts.

When I started in lending/real estate, we had to "order" a credit report and wait 2 or 3 days or more for it to be delivered by a courier. (Hence the term we still use today even though we just look the credit information up online). No one would have considered doing a loan without verifying income. No one would have considered approving a loan unless it made sense.

We need to disconnect the FHA program from the term "government bailout" or even from the term "government" (and hopefully at some point in the future even truly disconnect the program itself from the government). The FHA model of underwriting and following up is the way we should have been underwriting all the loans that have been done. FHA was created to help expand home ownership to lower income levels, but I propose that it is actually just a better way of handling the whole lending process. We need to get back to the days of using common sense if we want the mortgage industry to have a future. In spite of all the turmoil today in the mortgage business, go right now and look at the list of posts on any mortgage broker forum and see how many are looking for No Income, No Asset for a retired person or No Doc loan for an investor, or how to get a loan done with a 65 back ratio or something similar. They are only looking for those types of programs because they were in fact available as possibilities over the last couple of years. We wouldn't be having all these problems if we had gone back to common sense years ago.

Carl Pruitt is an FHA mortgage specialist with 22 years experience in the mortgage/real estate industries.