Buyers generally aim to make a 20-25% down payment on their homes in order to avoid paying more money for private mortgage insurance (PMI), which costs approximately .55% more annually in addition to interest. However, rules set down by Fannie Mae and Freddie Mac in 2008 actually negate some of the advantage that comes from a large down payment. Both lending institutions actually offer lower interest rates to buyers who put down a lower payment. Ironically, Fannie and Freddie now consider borrowers with 20-25% down payments to be the riskiest of all, since these borrowers have no PMI to back up their loan as prices continue to drop. At still higher down payments, interest again drops. Lenders require PMI on low down payment loans, since it greatly decreases lender losses in foreclosure.

first tuesday take: At the moment, PMI insurers have labeled five states and numerous metropolitan areas across the USA as “distressed areas.” With this label comes severe limitations on the class of buyer, type of property, and loan terms which qualify the lender for PMI coverage. The entire state of California is classified as distressed, and will likely remain so classified into 2013, or beyond. However, when California foreclosures abate to below 50,000 trustee’s sales during any twelve month period (normal is 10,000-15,000), PMI insurers will know the extent of their present and future losses. Only then will they be able to neutralize the current stringent parameters for issuing PMI coverage in California. Until then, higher downpayments may not only be the best choice, but the only choice for many buyers, regardless of raised interest rates.

For more on FHA insured home loans, and the FHA’s specific loan requirements, see first tuesday’s recent article: The FHA-Insured Home Loan.

For information pertaining to all aspects of PMI, and the current status of the PMI market on attached and detached housing in California, first tuesday members are encouraged to see Chapter 40 of the textbook Real Estate Finance, available to all members on Course Materials-on-CD-ROM.

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Re: “A down payment anomaly”, from The New York Times

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Tagged as: FHA, foreclosure, insurance, mortgage, TIC