Posted October 25, 2012Tweet
FHA mortgage rates have dropped sharply since the start of the year, making new, all-time lows nearly weekly. Despite falling FHA mortgage rates, though, the annual cost of an FHA mortgage is mostly unchanged, the result of rising FHA mortgage insurance premiums.
The "effective interest rate" of an FHA-insured mortgage belies today's low rate environment.
The FHA doesn't make mortgages. It insures the banks that do. The FHA makes mortgage guidelines by which a loan must abide to get FHA-insured and when banks underwrite home loans to those guidelines, the FHA offers default protection to the bank.
The FHA is an insurer of loans.
As an insurer, the FHA is subject to some of the same risks as, say, a home insurance company. The amount of premiums it collects must be higher than the amount of claims paid or the FHA risks bankruptcy. Where the FHA differs from traditional insurers, though, is that, as a federal agency, it is required by law to maintain $2 in reserves for every $100 insured.
In November 2011, an audit showed that FHA held just $0.24 per $100 insured.
It's no great shock, therefore, that the FHA has raised its mortgage insurance premiums 4 times in the last 4 years. As the number of default claims increased between 2007 and 2011, the FHA risked running out of money. When claims outpace premiums, insurers raise premiums.
In 2008, the FHA charged an annual mortgage insurance premium of 0.50 percent. Today, in high-cost areas such as Bethesda, Maryland; Orange County, California; and, Brooklyn, New York, where the FHA will lend up to $729,750, loans over $625,500 are charged an annual MIP of 1.50%.
Other FHA-backed homeowners making the minimum 3.5% downpayment on a home pay 1.25% annually. It's a big increase as compared to just 4 years ago.
Even year-by-year, rising MIP has taken a toll.
Consider an FHA home buyer using a 30-year fixed rate mortgage below the FHA's "jumbo mortgage" limit and making the FHA's minimum downpayment of 3.5 percent. Look at how premiums have changed over time :
The effect is palpable on a monthly FHA mortgage payment. A mortgage rate of 4.00 percent with insurance premiums totaling 1.25% per year yields an "effective" annual mortgage rate of 5.25%. With an "FHA jumbo mortgage", that rate climbs to 5.50%.
The good news, at least, is that mortgage insurance is temporary.
If your mortgage is a 30-year fixed rate loan, you have 20% home equity, and you've already paid 5 years of mortgage insurance to the FHA on your loan, you can ask the FHA to remove your MIP. With a 15-year FHA-backed mortgage, the 5-year waiting period is waived.
Once MIP is removed, you keep your low mortgage rate and your low monthly payments.
There's even a way to get rid of FHA MIP sooner.
The FHA Streamline Refinance is a "no appraisal" mortgage and all FHA-backed homeowners are eligible to use it, assuming the following three criteria are met :
Mortgage insurance rates for FHA Streamline Refinances are the same as for any other FHA mortgage but with a single exception.FHA-backed homeowners whose mortgages pre-date June 1, 2009 are granted special, reduced mortgage insurance premiums via the FHA Streamline Refinance program.
Instead of paying 1.25 percent for MIP each year , the "grandfathered" rate is just 0.55%.
As a result of this special FHA Streamline Refinance rule, FHA-insured homeowners whose mortgages are from 2007, 2008 and 2009 are able to refinance into today's low FHA mortgage rates without concern of paying more MIP each year.
Grandfathered FHA-backed homeowners save on rates and insurance.
If you're thinking about financing your next home via an FHA-insured mortgage, know that low FHA mortgage rates may not always yield low monthly payments. A fair comparison should be made between what the FHA can give you, and what you can do via Fannie Mae or Freddie Mac.
Or, if you're buying in a non-urban area, consider the USDA mortgage program, too. Its mortgage rates and mortgage insurance rates are typically less than for a comparable FHA loan and can save you money long-term.
The information contained on The Mortgage Reports website is for informational purposes only and is not an advertisement for products offered by Full Beaker. The views and opinions expressed herein are those of the author and do not reflect the policy or position of Full Beaker, its officers, parent, or affiliates.
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