Well, here’s some news no homebuyer or real estate agent wanted to hear: The Federal Housing Administration (FHA) has announced it will begin tightening its lending standards on federally-backed loans. The FHA loan is the most popular option for first-time homebuyers, particularly those who may have limited down payment funds and/or less-then-stellar credit. The stricter standards just announced could leave many would-be buyers out in the cold and without the support needed to purchase.
“About 40,000 to 50,000 loans a year will likely be affected by the tighter underwriting standards, or about 4 percent to 5 percent of the FHA-insured mortgages originated annually, Keith Becker, the FHA’s chief risk officer, told The Wall Street Journal,” according to Realtor Magazine.
The FHA’s reasoning for the change: Anxiety over too many potentially iffy loans to buyers whose financial picture isn’t as strong as they’d like. “The Federal Housing Administration told lenders this month it would begin flagging more loans as high risk,” said the Wall Street Journal. Loans deemed riskier—namely, those for applicants with lower credit scores, a smaller down payment, and/or a higher debt-to-income (DTI) ratio—will “now go through a more vigorous manual underwriting process.”
That new process is intended to identify borrowers “who don’t have the ability to repay,” said Bankrate. “That may lead to a jump in loan defaults that will tax the agency’s cash reserves.”
And that could mark a return to conditions that led up to the economic downturn. “Borrowing requirements had tightened considerably after the housing crisis but have loosened in recent years,” said Bankrate. “In 2016, the FHA eliminated a rule that required manual underwriting for borrowers with credit scores below 620 and a debt-to-income (DTI) ratio that exceeded 43 percent, according to the Journal.”
But, over the last year, almost 25% of FHA loans “were made to borrowers with a DTI ratio above 50 percent,” they said. “Meanwhile, the average credit score dropped to 670, the lowest level in a decade, the Journal reported.”
Previously, applicants could reasonably expect to be approved for an FHA loan with a down payment of 3.5% if they had a credit score of 580. For scores below that threshold, a larger down payment was required. Applicants with lower credit scores could “put down a 10 percent down payment…to qualify for a loan,” said First Click Mortgage.