FHA is the new subprime lender of the day, and will lead the wave of foreclosures to come.
I hear a lot of arguments that loan quality is nothing like it was in the mid 2000's and so another real estate crash like the last one is impossible, but the reality is, subprime lenders of yesterday have simply been replaced by government backed loans.
FHA has always been the lender of choice for those with little cash and questionable credit, and has been writing about 10-15% of all loans and refinances for many years now, since low interest rates have kept the private players out of the mortgage game.
FHA has historically offered loans to the least qualified buyers, with the lowest credit scores, and the highest DTI's.
So what happens when you give the borrowers with the worst payment histories and the highest debt to income ratios loans? You get high default rates.
Now let's add in covid-19 forbearances and other workout offerings.
Over the last several years, FHA has added endless options to borrowers to avoid having to pay back their loans as agreed, including forbearance plans that have been extended multiple times. I frequently speak to homeowners who have not made a payment on their home in years.
What happens when the mortgage payments come due again?
FHA has several solutions for those who have not paid and wish to get back on track. The first is the FHA partial claim coupled with a loan modification. HUD partial claims are deferred seconds that allow the lender to move a bunch of arrears and some of the loan's principal balance on the back of the loan, to come up with a new affordable payment for the borrower on the remaining balance.
The problem with partial claims is that borrowers generally don't realize how large they are, and because no payment is made on them they even forget they have them, until it is time to sell. Usually at this time they realize they are actually upside down and do not have the equity to sell without a short sale.
However, loan modifications have become problematic as interest rates are rising.
While mortgage modifications coupled with partial claims have always been standard FHA workout fare, loan modifications are written with current rates. So what happens when someone with a 3% interest rate needs to modify their loan in today's 7% interest rate environment? It becomes nearly impossible to get a lower payment.
Here is where FHA has come up with an outrageous, and even predatory workout offering:
Since April 2022 FHA has been offering the following "workout" to their defaulters:
- 25% of the principal loan balance as a deferred second ( HUD partial claim) along with...
- A 40(!!!)year loan modification at current interest rates, and drumroll please….
- No income documentation required. Borrower simply has the state that they can make the payment.
What could go wrong with offering the least qualified, most debt burdened homeowners a high rate, long term loan modification, along with a new second mortgage, AND without verifying their income to ensure they can repay? Any fool can see where this will lead - total loss of homeowner equity, and even more future payment defaults.
Fortunately for government, they will never have to ask for a bailout, as taxpayers already fund FHA and will simply absorb the losses.
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