The Three Percent Solution

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16 | Th e M Rep o RT cover story payments. "Just as important, increased leverage does not allow markets to correct regionally." Pinto is not alone in this assess- ment. Anthony Sanders, a finance pro- fessor at George Mason University's School of Management, said that "low down payment loans tend to be inflationary for housing." Still, Sanders is not project- ing gloom and doom from the GSEs' latest loan initiative. "If this was unconstrained, it would be bad news," he added. But, underwriting guidelines, private mortgage insurance re- quirements, and other factors will proactively restrict who gets one of these mortgages. "The number of people who qualify for this will be fairly low," Sanders said. Still, he believes policymakers in Washington are fed up with limited growth, caus- ing them to throw ideas at the proverbial wall to see what sticks. "It will be more of a political statement: We are doing everything that we can," Sanders said of the philosophy behind the GSE-fueled re-emergence of the 3 percent down payment. There are more funda- mental issues affecting the housing market—and confronting the rest of the U.S. economy. "The problem remains income growth," Sanders posited. "The incomes are not there for borrowers to qualify, so unless they are going to buy a really small home, this is not going to make an impact." Sanders calls this a new afford- ability crisis. "We have rising home prices, but stagnant incomes," he noted. "This is why 3 percent down is not going to solve the problem." Census Bureau data shows that U.S. household incomes fell by 8 percent in the six-year period stretching from 2007 through 2013. Making matters worse, Sanders believes Washington policymak- ers remain more likely to opt for quick fixes such as 3 percent down payments rather than solutions that address systemic economic issues. "Policymakers are ignoring what is going on in the economy," Sanders said. And without income growth, he adds, homes will have fewer buyers who can afford to make purchases or even qualify for a mortgage. With the GSEs keeping tight underwriting requirements in line with these mortgages, fewer than a million people will benefit from the re-emergence of the 3 percent down payment initiative at the GSEs, Sanders also says. That view runs counter to the early optimistic visions of how many would-be homebuyers could be helped by these programs. "If it is 100,000," he added, "I will be greatly surprised." Rebuilding A House Of Cards S kepticism surrounding the GSEs' willingness to buy 3 percent down payment mortgages should not be a surprise. Some analysts suggest that this kind of expansionist approach to lending, without analyzing underlying eco- nomic fundamentals, contributed to the 2008 financial crisis. The market should consider the GSEs' willingness to move on 3 percent down payment mortgages as the beginning of a new dan- gerous era, Pinto suggests. He believes additional layers of risk are coming. "Having a lower down payment is just the first shot and will have only marginal impact, as was the case in 1994," Pinto told MReport. "The juice for lending will occur as the NAR and regula- tors push for higher debt ratios (particularly for the GSEs) and low FICO scores for both the GSEs and FHA to go along with these low down payment, 30- year loans," he added. "This will increase the risk profile substan- tially, but as I noted, this will take years to unfold." Fannie Mae, however, points to the risk buffers already baked into the program. "These types of loans allow for responsible homebuyers to purchase a home, who qualify in all other areas, but may not have as much savings for a down payment," she added. "To qualify, one of the homebuyers must not have owned a home in the last three years. This option will help first-time homebuyers who have steady income but may not have the resources for a larger down payment." Again, some in the housing industry warn to proceed with caution down this new avenue. In her role counseling consum- ers and potential homeowners, Cara Pierce with ClearPoint Credit Counseling Solutions, views the 3 percent down payment mortgage as helpful, but risky. "It's sort of a trade-off. The good news is it does allow people to get into a home to start to build equity," she said. "The downside is you are borrowing more money, the higher your monthly payment is going to be. You are going to be required to have mortgage insurance (with these 3 percent down loans)." When you add in the cost of mortgage insurance, closing costs, taxes, and property insurance, along with the actual mortgage payment, the result is a situation in which homeowners are still required to shoulder a fair share of costs early on. In fact, Pierce says the 3 percent down option is not much less than some of the 3.5 percent options already on the market. She also warns that consumers already struggling with high debt- to-income ratios, and other financial issues, are unlikely to be prepared for most mortgages, including a 3 percent down payment loan. "They already have too much debt," Pierce said when describing issues impacting potential borrowers today. "If you already have a large debt load, you will not be able to qualify for a large house payment." Pierce says her borrowers stumble on a plethora of issues— credit troubles, a lack of a down payment, no savings, and too much debt. The 3 percent down is not going to magically resolve these lingering problems, she adds. "Those are issues that cannot be solved overnight," Pierce said. "It is going to take time to build up savings. You cannot take off bad credit, but you can certainly build up your credit score over time." That is the key: Time. And it seems as if policymakers are chasing a clock in their efforts to jumpstart housing sales. "This is a repeat of history, as Fannie launched a similar price war in 1994 when it first introduced its 97 percent LTV, 30-year loan. ... This turned out to be the first major shot fired in the loose credit war that raged from 1994 to 2007." — Ed Pinto, co-director and chief risk officer for the American Enterprise Institute's International Center on Housing Risk

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