Homeowners and homebuyers who live in expensive housing markets may be pleased to learn that the federal government recently increased the size of mortgages that Fannie Mae and Freddie Mac can purchase and the Federal Housing Administration, or FHA, can insure.
The higher loan limits are expected to help people in high-cost housing markets buy homes and refinance existing mortgages, though the extent of such aid won't be assured until the new programs are put into place.
Fannie Mae and Freddie Mac are government-sponsored finance corporations that purchase home loans from lenders, package the loans into securities and then sell the securities to investors. Loans that can be sold to Fannie Mae or Freddie Mac are known in the mortgage industry as "conforming loans" because they conform to Fannie Mae's or Freddie Mac's guidelines. Loans that can't be sold to those corporations, either because the principal balance is too large or other guidelines aren't met, are known as "nonconforming loans." Oversized nonconforming mortgages are often called jumbos loans.
The FHA is a federal government administration within the U.S. Department of Housing and Urban Development, or HUD. The administration provides government-backed mortgage insurance that protects lenders from loss if the borrower defaults on the loan. This insurance generally results in lower interest rates on FHA-insured mortgages.
HUD to announce new loan limits
The higher loan limits were part of the economic stimulus package that President Bush signed into law in February. At that time, the loan limit for Fannie Mae and Freddie Mac was $417,000 in high-cost markets, except for Alaska, Guam, Hawaii and the U.S. Virgin Islands, where the limit was $625,000. The new limits will be based on a percentage of the median home price in each county and could be as high as $729,750 in some areas.
The FHA loan limits, which already varied depending on the cost of housing in each metropolitan area, were set at $200,160 in so-called "normal" housing markets and $372,790 in expensive housing markets. Those limits will now be $271,050 in normal markets and up to $729,750 in some expensive markets.
The law instructed HUD to publish the new conforming and FHA loan limits for each county within 30 days after President Bush signed the legislation, which would set a March 14 deadline. Until then, it's nearly impossible to pinpoint the limits for each county because the law is very technical and HUD hasn't yet said which data source it will use to set the median home prices.
Lenders won't be able to originate the larger conforming or FHA-insured loans until HUD announces the new limits and Fannie Mae, Freddie Mac and the FHA establish their own guidelines for these loans. Those guidelines likely will specify requirements for the borrower's down payment, credit score and other qualifications. The new loans may also have different fee schedules.
So much uncertainty surrounds the higher loan limits that the industry hasn't even figured out what to call the bigger conforming mortgages. Suggestions have included "new conforming," "super-conforming," "jumbo-conforming," "larger conforming" and even "LFKAJ," or "Loans Formerly Known as Jumbo."
Interest rates may be lower on bigger loans
The chief benefit of the higher loan limits is expected to be lower interest rates on loans that were classified as jumbo mortgages, according to Tracey Seslen, an assistant professor at the University of Southern California Lusk Center for Real Estate in Los Angeles.
Lower interest rates would "make borrowing cheaper for people who have been stuck in jumbo loans (and would) be a very positive thing," Seslen says.
Interest rates on jumbo loans recently have been approximately 1 percent higher than rates on conforming mortgages, according to Shane Backer, a branch manager at Robbins & Lloyd Mortgage in Manhattan. If that spread narrowed, homebuyers in high-cost housing markets would be able to borrow more money to buy a home while homeowners in those markets who refinanced a larger loan could save hundreds of dollars each month on their house payments, Backer explains.
Freddie Mac CEO Richard F. Syron recently told a group of homebuilders at an industry convention that the higher limits should allow the two mortgage finance companies, Freddie Mac and Fannie Mae, to "inject liquidity and thus help enable reduced rates within this jumbo market." But Syron also said it will take "considerable effort and resources" for Freddie Mac to "develop the systems to handle jumbo mortgages" and "a good deal of capital" to buy and securitize them.
A Fannie Mae representative issued a brief statement that says the higher loan limits would "help bring stability, liquidity and affordability to an important part of the housing finance system." The term "affordability" might hint at lower interest rates.
However, the new law doesn't mandate lower rates, and neither Fannie Mae nor Freddie Mac nor the FHA has promised lower rates on the new bigger mortgages.
Indeed, some observers have suggested that investors might demand higher returns on securitized loan packages that contain larger mortgages, which, according to Seslen, are more often paid off early. If that happens, the interest rates might not be much more attractive than the current rates on jumbo loans.
Cheaper loans could help housing markets
Lower interest rates on bigger mortgages could make housing more affordable in high-cost housing markets and that could spur more sellers to put their homes on the market and entice more buyers to purchase homes in those areas, Seslen says.
"If people see an opportunity in the form of cheaper borrowing, that could be the tipping point that gets a lot of people back into the market," she says.
The National Association of Realtors, which supported the legislation that raised the loan limits, estimated the benefits of the change as follows.
Higher Fannie Mae and Freddie Mac limits would result in:
Higher FHA loan limits could:
Combined, higher conforming and FHA loan limits could:
The higher loan limits are set to expire at the end of this year, though Congress could make the new limits permanent or extend the deadline as it recently extended the federal tax-deductibility of certain mortgage insurance premiums, Backer suggests. "I think they will extend (the higher loan limits), if it helps the economy."