An inside look at Chicago real estate

Changes in Mortgage Insurance Rate Will Make FHA Loan Less Attractive Over Long Term

By
Steve Bergsman
   | Financing

Conceived during the Great Depression (the one from the 1930s not the recent economic tumult of just five years ago) to assist the housing market, the Federal Housing Administration (FHA) has helped homeowners get financing to acquire single-family residences.

It’s really been a good deal for homebuyers, especially those who have always paid their mortgages on time but still do not fit standard financing requirements. However, changes that go into effect this year will make the FHA loan somewhat less attractive.

Three things to know about an FHA loan:

  • First, loan limits vary depending on where the property is located and they are adjusted annually. For residents of Cook County and most of the surrounding Chicago suburbs, the loan limit on a single-family residence for 2013 has climbed to $410,000, which is much higher than most other Illinois counties, which generally have a loan limit of $271,050.
  • Second, down payment for an FHA loan is just 3.5% of the price of the home at purchase.
  • Third, the FHA doesn’t originate a loan, but insures it. All FHA loans must carry this insurance, which is used to reimburse the lender if the homeowner defaults. In a sense, this is the government’s enticement for banks and other capital sources to give mortgages to folks who are more high-risk than the general population.
FHA Loan Attractiveness

This last part is where the changes have occurred. FHA mortgage insurance premiums are not expensive, but the costs do accumulate over time. The annual mortgage insurance premium on most new FHA mortgages earlier this year jumped 0.1% to 1.35% for buyers putting less than 5% down (1.3% for more than 5%). So, for example, if your 30-year, fixed rate mortgage comes to 3.75%, once the insurance is factored in, the effective rate is over 5%.

For the past decade, the FHA has offered a kind of reprieve for good citizens, those who make their loan payments every month. If five years have passed and the loan balance declined to 78% of the value of the home, the FHA allowed borrowers to cancel their insurance policy. That’s no longer an option – the FHA now requires mortgage insurance be paid over the life of the mortgage.

With interest rates remaining very low, the FHA’s technical adjustment in regard to mortgage insurance doesn’t appear to be much of an impediment to getting a loan. However, if and when Chicago real estate picks up and interest rates start to rise again (and it will happen!), the embedded extra cost for mortgage insurance may become a problem for homeowners on the bubble in regard to meeting monthly mortgage payments.

It’s really been a good deal for homebuyers, especially those who have always paid their mortgages on time but still do not fit standard financing requirements. However, changes that go into effect this year will make the FHA loan somewhat less attractive.


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