Commentary

Federal Mortgage Scheme Is Boon For Bankers

By Stephen Moore
This article originally appeared in the Investor’s Busines Daily.

A vote in Congress this week could expand greatly the lending power of the Federal Housing Administration. Supporters say government-subsidized mortgages help low- and mid-income home buyers. But the real winners will be mortgage bankers and real estate agents.

An amendment to the housing appropriations bill would lower FHA down-payment terms for upper-income home buyers. This is privatization in reverse. It would move more affluent home buyers out of the private insurance market and under the umbrella of government mortgage protection.

In many ways, the FHA is to the housing industry what Medicare and Medicaid are to health care: the 800-pound gorilla that is slowly trying to squeeze private competitors out of the marketplace.

From its inception during the New Deal, the FHA was meant to help first-time and moderate-income home buyers. Higher-income buyers, if they need insurance at all, can afford unsubsidized private mortgage coverage. If they can’t afford the insurance on the home without a taxpayer subsidy, they probably shouldn’t be buying a house in the first place.

But recently, the FHA has moved aggressively into upscale housing markets. Thanks to relentless pressure from the housing lobby, Congress now allows the FHA to insure mortgages of up to $160,950 in pricey areas like New York and California, up from $67,500 in 1980.

The Clinton administration and the FHA’s housing industry supporters want to lift the cap to well over $200,000. How many low- or moderate-income families can afford a $200,000 house? Since there is no income test to qualify for an FHA subsidy, technically even Michael Jordan could get an FHA-insured loan.


In many ways, the FHA is nothing more than corporate welfare masquerading as a low-income support program.


In fact a shrinking share of FHA’s customers are low-income home buyers in depressed areas —the agency’s intended clientele. A Federal Reserve Board study found that only 18% of FHA loan applications in 1993 were for homes in low- or moderate-income census tracts.

The most objectionable part of raising the FHA limit is the added risk. For the FHA to expand its customer base to include more high-income home buyers, it would have to offer cut-rate down payment requirements; that would raise its losses and the odds of a taxpayer bailout. Almost every mortgage finance study shows that the lower the down payment, the greater the risk of default.

As it is, the FHA’s down-payment terms are far less stringent than private-sector standards. The median down payment for an FHA loan is 4% of the home price — about half the industry standard. And because buyers may finance the upfront mortgage insurance premium on many FHA insured-homes, the loan amount can actually exceed the home’s value.

This creates the perverse incentive for a financially troubled family to abandon the home rather than sell it.

Thanks to the strong economy, the FHA is in the black today. But in the mid-’80s it appeared healthy as well. Then, in 1988, the balloon burst. Because of shoddy underwriting standards and a minicrash in real estate, the FHA lost $1.4 billion. Now the potential taxpayer liability is more than twice what it was in ‘88.

Why are real estate agents and mortgage bankers pushing Congress to allow the FHA to serve wealthier home buyers? Because they make more money (about 22 basis points more per loan) on FHA-insured loans than conventional ones. And they make a bigger profit on a home costing $200.000 than on one costing $70,000.

In many ways, the FHA is nothing more than corporate welfare masquerading as a low-income support program.

Congress should be tightening FHA’s underwriting standards, not relaxing them. The down-payment requirements should be raised to meet private-sector standards. The mortgage limit should be lowered. And there should be an income test so that the FHA is truly bound to aid moderate-income home buyers. But ultimately, after 60 years of government ownership, this Depression-era program should be privatized.

Stephen Moore is director of fiscal policy studies at the Cato Institute.