When Congress temporarily raised the maximum loan size eligible
for mortgages guaranteed by FHA or by the government sponsored enterprises
(GSEs) Fannie Mae and Freddie Mac in 2009, it was its stated intention to ensure
the availability of mortgage credit even when private financing might, in the
light of the evolving mortgage crisis, withdraw from the market. Those temporary limits expired on October, creating
a lot of uncertainty about what might happen to borrowers no longer able to
obtain conventional or FHA mortgages.
New York University’s Furman Center for Real Estate and
Urban Policy recently published a white paper which explores the potential
implications of the reductions which, as it says, are merely the first step in
a long-term policy goal to reduce government’s role in the mortgage system and
it will be “the canary in the coal mine” that will indicate how well
privatization will work.
Even after the limits were raised a small number of loans
still exceeded them and these “jumbo loans” were essentially the only loans
being originated without government or GSE backing. They differed in a number of significant ways
from the market for GSE or FHA-backed loans.
Because they lacked the government guarantee, they typically have higher
interest rates and require higher down payments than FHA and sometimes GSE
loans. For those reasons many higher end
loans included under the new limits might not have qualified for a mortgage if
the conventional/FHA options were not available. They were also financed differently. Since the financial crisis the secondary market
for private label (non-government backed) mortgages virtually disappeared and
lenders had to retain virtually all jumbo loans they originated in their own
portfolios, bearing all of the risk.
The principal questions arising from the change in loan
limits are how many originations will be pushed into the jumbo mortgage category
because of the revisions and how will the private market react to and absorb
The authors of the paper found that the roll-back of loan
limits affected individual metropolitan areas differently depending on local
housing prices. In 214 areas with 29
percent of the population neither the GSE or FHA limits changed. In 152 metro areas with 71 percent of the
population the FHA limit was reduced and in 50 of these, primarily on the two
coasts, the GSE limits also decreased.
Because of different formulas used to compute the limits there can be
substantial difference between an FHA limit and a higher GSE one. For example, in Las Vegas the GSE limit
remained at $417,000 while the FHA limit dropped from $400,000 to
$287,500. In Stockton, California both
types of loans carried a limit of $488,750 before October 1 and now the GSE
limit is $417,000 while the FHA limit is $304.750.
To estimate the possible impact of the changes to the
housing market, NYU researchers overlaid the loan limit changes onto home
purchase mortgage origination data for individual areas in 2009, the most
recent year available. Nationwide they
found that only about 14,000 conventional purchase mortgage and 4,000 FHA loans
issued in 2009 were for amounts that would put them outside the new
limits. Another 13,000 FHA loans would
no longer be eligible for FHA financing but were of a size that could still
qualify for conventional financing.
These two groups together represent 1.5 percent of all 2009 home
purchase originations and 3.6 percent of all dollars lent to owner-occupier
buyers in metropolitan areas. The
authors conclude that, even if FHA or GSE backing is unavailable to that number
of borrowers and they are unable to find an alternative way of financing the “impact
on home prices is likely to be minor and confined to a very small segment of
the housing market.”
The same analysis of mortgages for refinancing also found
slight impact. Only about 0.7 percent of
mortgages used to refinance first liens were conventional or FHA loans with a
size and location that would disqualify them for a GSE or FHA guarantee or
However, when certain housing markets are isolated –
especially those in California and the Northeast, the changes have the
potential to be more disruptive. In San
Jose, for example, about 9 percent of all purchase originations would have been
ineligible today, the highest found. In
the San Francisco Bay area and San Diego about seven and five percent
respectively would no longer qualify.
Many middle-sized areas are also affected, some solely by a reduction in
FHA limits, others with high numbers of loans that would not qualify under
While the numbers of loans now falling outside the government-backed
loan realm is small it is significant when compared to the volume of jumbo
loans that the private sector has been handling. The study estimates that there
will be a need for approximately 7,900 loans totaling $4.67 billion to fill the
FHA gap, 41,800 loans worth $27,431 billion no longer eligible for convention
financing, and 75,000 loans worth $71.61 billion that did not meet loan limits
even before the October revisions (the 2009 jumbo market.) This means that private lenders need the capacity
to absorb 56 percent more loans than they did in 2009 and a 38 percent increase
in the dollars lent.
Few of the newly displaced FHA borrowers will be able to
qualify for conventional loans even if their loans meet the GSE limits because of
insufficient down payments or credit scores.
Most will have to apply for smaller loans to purchase less expensive
homes or delay their purchases and continue renting for a period of time.
Private lenders will probably be more likely to fill the gap
in conventional lending as these borrowers tend to be higher income and more
likely to have sufficient credit scores and assets to make the down payments necessary
to qualify for jumbo market financing.
The authors note that a broad array of policymakers are
seeking to hand a larger share of the mortgage market over to the private
sector so Congress will probably have to reduce loan limits even further. These first loan limit reductions will test
the ability of the private sector to accommodate a relatively large increase in
It is possible, they say, that the private sector will not
step up. It might be unwilling to devote significant portfolio capacity to
mortgage debt or to specific types of mortgages. This would be evidence that the GSE’s and FHA
are still serving a broad function and that further massive changes should be
delayed. Even if the private sector does
respond effectively to this round of reductions, that is not grounds to assume
they will respond to subsequent rounds especially as these would increasingly involve
more moderately priced loans in less affluent areas of the country.
If the expansion of private sector lending occurs primarily
through portfolio lending without a revived private label secondary market, the
capacity of bank portfolios to absorb further lending should still loom as a
concern. If the private sector secondary
market does re-emerge to financing an expansion of jumbo lending this would
suggest that private lending could comfortably be scaled up to meet additional
Other factors such as an increase in home prices or home
sales volume can also affect the demand and how well the private sector is able
to meet it. The authors note that it is
critical to evaluate this before the Congress chooses to enact further pull
backs of government-backed mortgage eligibility.