Ever since Wall Street lost its appetite for mortgage securities, the supply of money for home buyers and refinancers has been tight. The biggest remaining investors are the federally chartered corporations Freddie Mac and Fannie Mae, which set the rules of the game and operate with the implicit promise that, if necessary, the U.S. government will step in to bail them out.
That’s why, in mid July, it came as a shock that the mortgage giants’ solvency was in question -- an issue raised by a former Federal Reserve governor who has been a long-time critic of Fannie and Freddie’s special status. (See The Fannie & Freddie Saga Is Far From Over.)
But precisely because the two government-sponsored enterprises now stand like Atlas holding up the U.S. mortgage market (and by extension, world financial markets), the U.S. Treasury and the Federal Reserve announced the beginnings of a bailout, promising lines of credit or even support for their stock if needed.
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What does it all mean for mortgage borrowers? Fannie and Freddie are still open for business and will continue to be the primary purchasers of mortgages.
"The availability of credit won’t be any further impaired than it already has been due to market conditions," says Keith Gumbinger, of HSH Associates, a publisher of mortgage information. But a riskier environment for lenders (he cites the recent federal takeover of Indy Mac bank) and the more stringent federal regulation and oversight of Fannie and Freddie likely to come will probably boost the cost of credit.
So while mortgage money will still be available, says Gumbinger, higher interest rates could place more of it out of the reach of borrowers.
How hard is it to get a mortgage now? To reduce demand and risk in the face of the subprime mortgage meltdown, Fannie and Freddie (and the lenders whose loans they buy) had already made it harder to qualify for a mortgage. Subprime borrowers were affected first, but now even borrowers with the best credit are feeling the squeeze.
To get a mortgage now, "you'd better walk on water," says San Diego mortgage broker Victoria Johnson. And she's only half kidding. Lenders acknowledge that their credit tightening is really a return to normal lending standards, last seen in about 2000.
Patricia McClung, of Freddie Mac, says that getting back to basics means a renewed emphasis on the "three C's of credit": credit history, capacity (the depth and continuity of your resources) and collateral (the value of your property and your down payment or equity). "If you're down on one of those, you don't want to be down on the other two," says McClung.
If you plan to buy a house or you want to refinance your mortgage, here's what you need to know before you visit a lender.
How do I get the best rate? Getting the best terms on a loan requires a high credit score, a substantial down payment (or increased equity), full documentation and solid financial reserves.
According to myFICO.com, in early June lenders nationwide were offering borrowers with top credit scores (760 to 850) an average interest rate of 5.9%, versus 9.4% for those with scores of 580 to 619, the lowest acceptable to Fannie.
Translate those rates into monthly payments on a $250,000 mortgage, and the best-qualified borrower will pay $588 less each month.
How big should my down payment be? To buy a home, borrowers whose loans are processed by Fannie Mae's automated underwriting system can put down as little as 3%. For other Fannie Mae loans and for loans from Freddie Mac, the minimum is 5%. Borrowers who want to refinance and take cash out must have at least 10% equity left once the loan is made.
Down-payment or equity requirements may be higher depending on your lender and the private mortgage insurer (all loans with less than 20% equity must have private mortgage insurance before they can be sold to Fannie or Freddie).
Mortgage insurers, like lenders, adjust their guidelines to changing market conditions. For example, Radian, a major insurer, requires a minimum down payment of 10% for condos and co-ops in markets with declining home values.
MGIC requires a minimum of 5% down on conforming loans and 10% on jumbo mortgages (those with a balance of more than $417,000) in 32 markets, which include all of Arizona, California, Florida, Kentucky, Michigan, Nevada and New Jersey.
Can I still get nontraditional financing? Fannie and Freddie will still buy piggyback mortgages (a first mortgage of up to 80% to avoid the expense of private mortgage insurance and a second covering the balance) up to their maximum loan-to-value ratios.
They are buying back mortgages with interest-only features, but the credit-score requirement is higher. Option adjustable-rate mortgages, which allow borrowers to choose the amount of their monthly payment (and can result in negative amortization, or an increasing loan balance), are fading quickly from lenders’ menus.
What's up with jumbos? After investors fled the mortgage marketplace, rates on jumbos skyrocketed to an average of 1.25 percentage points higher than for conforming mortgages.
New "conforming jumbo" loan limits (125% of a metro area's median home value, up to $729,750) were announced in early March for 71 markets. And in mid April, Freddie Mac said it would work with selected lenders (Chase, CitiMortgage, Washington Mutual and Wells Fargo) to buy conforming jumbos for a guaranteed price. Lenders are now offering rates for conforming jumbos that are within one-fourth to one-half percentage point of rates for conforming loans.
Freddie Mac expects to announce more agreements with lenders well before the conforming-jumbo limits expire on December 31. Whether Congress will extend the higher limits is uncertain. One proposal currently under consideration would reduce the maximum conforming-jumbo limit to $625,000 nationwide.