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Why Your Mortgage May Get More Expensive

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Last Friday, the Federal Housing Finance Agency (FHFA) announced plans to increase guarantee fees (g-fees) on loans sold to Fannie Mae and Freddie Mac.

Banks and lenders pay Fannie and Freddie so-called “g-fees” in exchange for purchasing their loans and bundling them into mortgage-backed securities, which are then sold to investors on the secondary market.

The pair also assume the risk if the loans in the underlying securities default, which has certainly been an issue since the mortgage crisis reared its ugly head.

Since then, g-fees have inched higher and higher to account for risks not seen in years past when home price appreciation masked the impending danger.

Currently, it is estimated that Fannie and Freddie own or guarantee about 60 percent of residential mortgages, meaning there’s a good chance they own yours.

And their share has certainly increased even more as a result of the credit crunch, which pushed many private players out of the secondary market.

G-Fees Going Up 10 Basis Points

The FHFA has now directed Fannie and Freddie to raise g-fees on single-family mortgages by an average of 10 basis points (0.10%).

This comes on the heels of an increase back in April, which was implemented to fund the payroll tax cut extension.

The increases will be effective with commitments starting November 1, 2012 for loans sold for cash, and December 1, 2012 for loans exchanged for mortgage-backed securities (MBS).

The average g-fee charged by Fannie Mae and Freddie Mac increased to 28 basis points in 2011 from 26 basis points in 2010, according to a new annual report required by the Housing and Economic Recovery Act of 2008.

Why the Latest Increase?

FHFA Acting Director Edward J. DeMarco said the move is intended to lure more private capital into the mortgage market, which is largely government-supported at the moment.

He believes the increase will move the pair’s pricing closer to a level one would expect if mortgage credit risk were privately capitalized.

The hope is to get the government out of housing, or at least minimize its enormous role.

The big question is whether the higher fees will actually be felt by consumers. At the moment, mortgage rates are pretty much at their lowest levels ever.

And because the Fed keeps buying mortgage securities, rates have inched lower and lower.

So any increase related to the g-fees may actually be absorbed by the Fed. If rates do increase, one would expect something minimal, such as a rate of 3.625% instead of 3.5% on a 30-year fixed mortgage.

It’s not to say it’s an incidental increase, as that can equate to thousands over the life of the loan term, but all things considered, mortgage rates are already highly subsidized by the government.

Speaking of, the new fees are also intended to reduce cross-subsidies between higher-risk and lower-risk mortgages by increasing the fee more on loans with terms longer than 15 years.

Put simply, 15-year fixed mortgages are less likely to default, and thus should come with lower guarantee fees.

The move is also intended to make g-fees more uniform for both lenders who deliver large loan volumes and those that originate smaller volumes.

At the moment, the bulk of loans sold to Fannie and Freddie come from a small number of large lenders.

Mortgage Rates Based on State?

The FHFA also left a cliffhanger at the end of their press release, noting that it was developing risk-based pricing at the state level.

In other words, mortgages may be priced differently based on where they are originated.

So a New York mortgage may cost more than a California loan, or vice versa, depending on the costs.

For example, in states where foreclosure processes are more expensive, such as in judicial states, the g-fees may be higher.

But again, consumers may not even notice the difference in price because there are so many other factors that affect mortgage rates. Still, it’s a rather interesting development.

It looks as if the future of mortgage lending may mirror insurance pricing, which is very heavily data-driven, meaning more and more factors may eventually determine the interest rate you ultimately receive.

Update: Five states have been singled out by the FHFA, including Connecticut, Florida, Illinois, New Jersey, and New York, thanks to their higher-than-average default-related costs.

So mortgages originated in these states could be imposed a 15 to 30 basis point upfront fee, charged to lenders, and likely passed on to the consumer.

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