In the last several years, an increasing number of borrowers with loans backed by the Federal Housing Administration have been refinancing their mortgages to extract cash – a trend some have called concerning and risky.
Now, the Department of Housing and Urban Development is taking steps to curb the prevalence of cash-out refinances, announcing Thursday that it’s lowering loan-to-value requirements on cash-outs from 85% to 80%.
In effect, the new rule will limit the number of people who qualify for a refinance to extract some of their home equity in cash. The FHA said the change will mitigate its risk and preserve the housing wealth of FHA borrowers.
The agency also said the change, which will be effective for loans with case numbers assigned on or after September 1, 2019, aligns the FHA’s max LTV rules with those upheld by Fannie Mae and Freddie Mac.
This is the first time in a decade that the agency has moved to alter LTV requirements for FHA cash-outs.
In a mortgagee letter announcing the change, HUD said it last adjusted LTV requirements in 2009 from 95% to 85% after a rapid increase in cash-outs throughout the 2000s led to a spike in foreclosures.
Subsequent years saw cash-out volume fall, hitting a low in 2013, HUD said. But now, volume is climbing again, rising 250% from 2013 to 2018.
In its annual Report to Congress issued last fall, the FHA said cash-out refinances represented 64% of all FHA-insured refinance transactions – up nearly 39% from the year before. It attributed the trend to gains in home prices and the decline of other forms of refinance activity.
On a call with reporters upon the report’s release, FHA Commissioner Brian Montgomery noted that cash-out refinance volume was growing “astronomically.”
“An increase in cash-outs poses a potential future risk for us, but also challenges the core tenants of FHA’s taxpayer-backed mission,” Montgomery said.
The situation led the Urban Institute to warn shortly after that, because of the risk involved, “this trend bears watching.”
Apparently, the FHA has been watching, and it felt now was the time to act.
The agency stated in its mortgagee letter that it felt an LTV reduction was “a prudent measure” that would “strengthen the equity position of cash-out refinances and reduce loss severities in the event of default, stay ahead of any potential future shift in the housing market and better support FHA’s mission of providing access to sustainable homeownership that builds equity.”
“We are taking another important step to support sustainable homeownership that builds wealth for families,” said Montgomery in a press release about the LTV change. “This is a prudent measure to make certain that we protect and preserve the home equity borrowers are building for their futures and guard against taxpayer losses from the FHA program.”