The Three Percent Solution

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Th e M Rep o RT | 15 cover story housing finance agencies," she added "We are offering this prod- uct in a safe, sound, and respon- sible manner. By eliminating the risk-layering that was prevalent in the past, as well as requiring fully documented applications." Jerry Peterie, vice president of lending at MidWest Lending, is hesitant to applaud the changes just yet. He said he will remain neutral on the idea until the prod- uct is widely available and tested. "Of course, the advantage is you are putting more money into the game, and you're not having to put 5 percent down," Peterie explained. However, he added, "I would rather see people put more money into the transaction." Policymakers at Fannie and Freddie say they've given the hous- ing market a much-needed shot in the arm by creating a larger pool of new, creditworthy borrowers with better access to mortgages because of the lower down pay- ments. But some lending industry analysts say that shot in the arm is more like a kick in the pants—it might get things moving, but you won't like it much. "Our goal is to help additional qualified borrowers gain access to mortgages," said Andrew Bon Salle, Fannie Mae's Executive Vice President for Single Family Underwriting, Pricing and Capital Markets, when the program was rolled out late last year. "This option alone will not solve all the challeng- es around access to credit. Our new 97 percent LTV offering is simply one way we are working to remove barriers for creditworthy borrowers to get a mortgage." The good news is Fannie and Freddie remain conscientious about underwriting when it comes to the 3 percent down payment plan. It essentially allows borrowers to carry a 97 percent loan-to-value ra- tio, meaning the borrower has only 3 percent equity in the home and the remainder as debt to be paid. Here are just a few of the guidelines Freddie released for its Home Possible Advantage program to ensure 3 percent down pay- ment borrowers are creditworthy: the transactions must originate as purchase mortgages or no cash-out refinance transactions, borrow- ers have to use the property as a primary residence, a minimum 660 credit score is required for purchase deals, and a 680 is needed for no- cash-out refis. In addition, at least one borrower in the transaction must enroll in a homeownership education program. In December, Fannie Mae followed Freddie Mac's announce- ment by touting it also would offer its own program to provide qualified first-time borrowers with purchase loans that carry down payments as low as 3 percent. The Fannie announcement builds off an existing program offered through state housing finance agencies (HFAs). Yet, despite swarms of press coverage and happy real estate agents who now have at least a small chance of getting low down payment borrowers into homes, the plans are now creating a wave of controversy. The not-so-subtle agenda behind the 3 percent down initiative is more transparent than it appears, housing industry analysts suggest. While these mortgages contain all the safety valves implemented in the wake of the mortgage meltdown—tight underwriting, income docu- mentation, and private mortgage insurance—experts argue that their main purpose is to give the appearance of a stimulus while policymakers hope for the market to essentially improve on its own. "The GSEs and their regulator (Federal Housing Finance Agency) are looking to expand higher-risk lending in an attempt to increase demand by bringing more mar- ginal conventional borrowers into the market and to poach FHA's lower-risk borrowers," noted Ed Pinto, co-director and chief risk officer for the American Enterprise Institute's International Center on Housing Risk. But real estate agents like Hettinga are not convinced the initiative is anything more than a mild antidote to a nagging national housing problem. "It may help the market a little bit because of where our prices are at," Hettinga said. But whether it helps may also be affected by location, location, loca- tion. For example, Hettinga points out that his home state of California is a strange and varied market. With so many prospective clients chasing down a limited number of properties, buyers with low down payment loans invariably come in last when bidding on homes. "If the property has any desir- ability, low down payment buyers miss out altogether," Hettinga not- ed. "It goes more to conventional buyers. They have the first call on all of the properties because they are viewed as more stable." Hettinga says popular California markets have no problem attracting bidders who can afford sizable down pay- ments, making the 3 percent option only a minor tool in the housing industry's arsenal. But he does believe the option could benefit more depressed markets, where prices and demand are lower overall. That gives first- time homebuyers more room to squeeze into a mortgage. The 3 percent down payment appears more problematic to housing analysts who believe in a stable market built upon the idea that prices should reflect the true buying power of consumers. AEI's Pinto says he thinks that buyers using these mortgages are generally extending the life of their loans and taking on substan- tially more debt. "This is a repeat of history, as Fannie launched a similar price war in 1994 when it first intro- duced its 97 percent LTV, 30-year loan, also taken at the behest of its regulator, which at the time was HUD," Pinto advised. "This turned out to be the first major shot fired in the loose credit war that raged from 1994 to 2007." Since that period, Pinto has pushed the idea that the early '90s policy decision to ease the credit box eventually led to a nation of borrowers with no skin in the game, overwhelming debt levels tied to longer amortization schedules, and eventually mass defaults as the effects of weaker underwriting and over-indebted borrowers took effect. And if affordability is the goal, then these loans may be anything but that, Pinto suggests. "Increased leverage allows market prices to become disconnected from pricing fundamentals," Pinto ex- plained while discussing one of the possible impacts of lowering down "This option alone will not solve all the challenges around access to credit. our new 97 percent LTV offering is simply one way we are working to remove barriers for creditworthy borrowers to get a mortgage." — Andrew Bon Salle, Fannie Mae's EVP for Single Family Underwriting, Pricing and Capital Markets

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