Fannie, Freddie now a better deal than FHA financing for certain first-time buyers

The annual income limit for first-time buyers in Los Angeles and Orange counties is $78,320. In the Inland Empire, it's $69,920.

By JEFF LAZERSON | jlazerson@mortgagegrader.com | MortgageGrader.com | December 5, 2022

* Article originally posted in Orange County Register on November 28, 2022.

Most homebuyers and most real estate agents automatically think “FHA” when it comes to borrowers scraping up the minimal down payment.

Fannie and Freddie just didn’t compare, rate and point-wise, as the mortgage giants had up to 1.5% in pricing add-ons when borrowers put less than 5% down.

Not anymore. At least not for low- and moderate-income first-time buyers.

On Oct. 24, the Federal Housing Finance Agency (regulator and conservator for Fannie Mae and Freddie Mac) said it was eliminating those upfront fees for certain first-time homebuyers. (For FHFA, “first-time borrowers” means at least one borrower cannot have owned a home in the last three years.)

“With a refreshed focus on home affordability, the agencies (Fannie and Freddie) are bringing some updates to their programs HomeReady and HomePossible,” said Jeff Leinan, wholesale division president of Plaza Home Mortgage. “Those two programs —earmarked for low- to moderate-income homebuyers — are gaining renewed traction with some recent pricing updates.”

Full disclosure: My mortgage brokerage firm is a Plaza customer.

If you’re paying high monthly rent, even with today’s lofty home prices and mortgage rates more than double from a year ago, in my humble opinion, you should think hard about homeownership. Most generational wealth begins with homeownership. So long as you don’t foresee selling for at least five years, I wouldn’t worry about the near-term home prices dropping. Prices will stabilize and eventually gain again.

The goal here is to have some skin in the homeownership game.

Fannie and Freddie require 3% down for their first-time buyer programs. FHA requires a minimum of 3.5% down.

Conventional monthly mortgage insurance rates (when putting less than 20% down) are driven by the borrower’s credit scores. These are what’s called “risk-based pricing” in industry parlance.

FHA does not have risk-based mortgage insurance pricing. Instead, FHA charges 1.75% of the loan amount upfront in what’s called mortgage insurance premium or MIP, which is typically financed by adding it to the loan amount.

Additionally, an annual fee is charged for the term of the mortgage, which is broken down and paid monthly.

MIP adds 0.85% of the loan amount to a buyer’s monthly payments. For example: Assuming 3.5% down (or roughly $22,000) on a loan amount of $625,500, the MIP premium would amount to $5,316.75 annually, which is then split into monthly payments of $443.06.

Note: Conventional mortgage insurance falls off the payment schedule once the loan balance reaches 78% of the original value of the home.

Fannie and Freddie have income caps for program applicants whereas FHA has no income caps. The annual income limit for Los Angeles and Orange counties is $78,320. In the Inland Empire, the income cap is $69,920.

The Fannie-Freddie conforming loan limit will increase to $726,200 for LA, the OC, and the Inland Empire, effective in 2023 for most lenders. The 2022 threshold was $647,200, so next year’s increase of $79,000 represents a 12.2% uptick.

FHA will announce its 2023 loan limit later this month, also effective Jan. 1. Currently, the FHA loan limit is $647,200 for LA and OC. The max loan amount for the Inland Empire is $562,350.

Many FHA lenders will consider the lowest middle FICO score for all borrowers even when they are under 600. A few will go down to 550 or maybe even less. And, you don’t have to be a first-time buyer for FHA.

Generally, Fan and Fred require a 620 middle FICO score. For more than one borrower, Fannie will largely require the median average of the middle FICO scores of all borrowers. For example, let’s say there are two borrowers, one borrower has a 550 middle FICO score, and the other borrower has a 700 middle FICO score. The average median score is 625. You just made the minimum required FICO cut.

So, let’s compare options for homebuyers. First up, Fannie.

Assume a first-time buyer is applying for a loan through the Fannie Home Ready program. They have a 700 middle FICO score and the minimum 3% down payment for a $400,000 home in the Inland Empire.

Their loan amount is $388,000 (minus the downpayment). On a 30-year fixed rate of 5.375% with a point cost of 2.454 or $9,521.

The seller or real estate agents can contribute up to 3% of the sales price in closing costs.

So that means, the principal, interest and conventional mortgage insurance combine to $2,386. Let’s assume they’ll pay $417 monthly for property taxes (1.25%) and $97 monthly for homeowners’ insurance.

The total monthly payment comes to $2,900. And while that might seem expensive in the Inland Empire, where median rents are around $1,800 monthly, payment affordability will improve as mortgage rates come down further. Rates have already dropped more than one-half point from their 2022 highs.

Now, let’s pivot to the FHA option.

Assume an FHA loan with 3.5% down on the same $400,000 home. The down payment is $2,000 more at $14,000. The total loan amount has increased (adding the 1.75% mortgage insurance premium) to $392,755. For slightly fewer points (2.366) the 30-year fixed rate is better at 4.99%. So, the total payment is $2,892.

The rates and payments are close. You’ll need to cough up slightly less money for Fan or Fred’s programs compared with FHA’s. But starting out with a loan balance that is $4,755 less than the purchase price when buying your starter shoe box is something to be considered.

Freddie Mac rate news: The 30-year fixed rate averaged 6.49%, nine basis points lower than last week. The 15-year fixed rate averaged 5.76%, fourteen basis points lower than last week.

The Mortgage Bankers Association reported a .08% mortgage application decrease from the previous week.

Bottom line: Assuming a borrower gets the average 30-year fixed rate on a conforming $726,200 loan, last year’s payment was $1,480 less than this week’s payment of $4,585.

What I see: Locally, well-qualified borrowers can get the following fixed-rate mortgages with one point: A 30-year FHA at 5.5%, a 15-year conventional at 5.375%, a 30-year conventional at 5.82%, a 15-year high balance conventional ($726,201 to $1,089,300) at 5.625%, a 30-year high balance conventional at 5.99% and a jumbo 30-year purchase, fixed at 6.25%.

Note: The 30-year FHA conforming loan is limited to loans of $562,350 in the Inland Empire and $647,200 in LA and Orange counties.

Eye catcher loan program of the week: A 30-year jumbo purchase mortgage locked at 6% for the first seven years interest-only without points.

Jeff Lazerson is a mortgage broker. He can be reached at 949-334-2424 or jlazerson@mortgagegrader.com. His website is www.mortgagegrader.com.

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* Specific loan program availability and requirements may vary. Please get in touch with your mortgage advisor for more information.