Ever since Bank of America announced its new 3% down payment mortgage program, the Affordable Loan Solution, it’s being looked at as an effort for borrowers to skirt around the Federal Housing Administration. Urban Institute research associate Karan Kaul says that though such efforts are an alternative to FHA lending, they are not a substitute.
In fact, Kaul said in a blog post for Urban Wire that this deal makes it difficult to scale up lending in a manner that would replace the FHA.
According to Urban Wire, under the ALS arrangement, Bank of America will sell the mortgage and servicing rights to a nonprofit fund Self-Help Ventures immediately after origination, retaining no risk or any interest in the mortgage. Only after losses exceed the first-loss level will Freddie Mac, the guarantor of the loan, take a loss. The loans will be serviced by a specialty servicer experienced in low-and-moderate-income mortgages.
Affiliated with Self-Help Credit Union, the nonprofit fund will then sell the mortgage to Freddie Mac but will retain an undisclosed level of first-loss risk.
To get qualified for this program, borrowers’ income must not exceed the area median income and have a minimum credit score of 660.
Kaul then explains how the Self Help initiated a similar program in 1998, the Community Advantage Program.
“In the CAP program, Self-Help covered default risk on $4.5 billion of LMI mortgages. CAP mortgages had a median loan amount of just $79,000, median loan-to-value (LTV) ratio of 97 percent and a low median household income of just under $31,000, according to UNC Center for Community Capital (CCC), which has analyzed approximately 50,000 CAP mortgages over the years. Despite low incomes and high LTVs, CAP mortgages were quite successful and had lower default rates than subprime loans,” said Kaul.
While this is a great program to help LMI borrowers find a way to obtain a mortgage, Kaul stresses that “it is important to note that this kind of channel is likely to be limited in scope, for several reasons.”
While Bank of America’s program is a welcomed effort, the Urban Wire blog listed two reasons this kind of channel is likely to be limited in scope.
1. The most significant barrier to larger-scale adoption of programs like this is the shortage of available capital.
The ALS model relies solely on capital provided by Self-Help. Nonprofit capital is often sourced via loans or grants from foundations, community development organizations, or the government. Limited funding from these sources means the potential mortgage origination volume through such initiatives is also limited.
2. The second likely barrier is that it will prove difficult for lenders using this type of execution to compete with FHA on price.
The most borrower-friendly feature of the ALS mortgage is that PMI, which can cost several hundred dollars per month, is not required. It’s not clear, however, if ALS borrowers will be charged a higher mortgage rate in lieu of PMI. If they are, the potential for savings will be lower.
While major lenders have pulled away due to the heightened risk of possible enforcement actions on the high-risk loans, the modification to FHA’s underwriting rules released last week will hopefully begin to give lenders more comfort.
