Saturday, December 22, 2007

Senate Finally Acts to Help Borrowers

(Washington Post) Reversing months of inaction in a single day, the Senate recently passed two major bills that could help thousands of homeowners struggling with unaffordable mortgages or heading for foreclosure.

The long-stalled FHA Modernization Act -- which would reduce down payments and raise maximum mortgage amounts for Federal Housing Administration-insured loans -- passed the Senate Dec. 14 by a 93 to 1 vote. Senators also approved the Mortgage Forgiveness Debt Relief Act, which would remove the controversial tax on "phantom income" when lenders forgive portions of the balances on mortgages of financially stressed homeowners.

Versions of both measures had already passed the House. On Tuesday, the House adopted the Senate version of the mortgage-debt-relief bill and sent it to President Bush, who signed it. The differences between the House and Senate versions of the FHA Modernization Act will have to be resolved by a conference committee in the new year.

Besides eliminating the phantom income tax for three years, the Senate's debt-relief bill also would extend the tax deductibility of private and FHA mortgage insurance premiums through 2010. That benefit had been scheduled to expire at the end of this month.

The bill also would provide capital-gains-tax relief to surviving spouses who sell houses for substantial profit. Under current law, surviving spouses who have not remarried can qualify for the full $500,000 tax-free capital gains exclusion only if they sell during the tax year in which their spouses died. Otherwise, they qualify only for the $250,000 exclusion.

Under the Senate's bill, however, if a sale occurs no later than two years after the death of the spouse and the residence meets the eligibility tests for the full $500,000 "immediately before" the spouse's date of death, the survivor would still be eligible for the full $500,000 exclusion. Surviving spouses typically receive the deceased spouse's "stepped-up" tax basis in the property, reducing the amount of tax they would owe. The purpose of the change is to provide more time before the sale deadline for homeowners whose spouses die late in the year, and who would have large capital gains from the property. For example, if one spouse died in October, the surviving spouse would not need to feel pressure to sell the house before the end of December simply to receive the stepped-up basis and the full $500,000 exclusion for married, joint-filing homeowners. Instead, the surviving spouse would have two years to claim both tax benefits.

If the House and Senate agree on a final version, the FHA modernization bill should help many homeowners stuck with subprime mortgages that are heading for unaffordable higher payments. Most important, the range of consumers assisted will include those in areas of the country with high housing costs, such as California, the Northeast and the Mid-Atlantic states.

The Senate bill would raise the FHA's statutory loan amount limit to $417,000, the same ceiling that Fannie Mae and Freddie Mac have. But the House version would tie the limits to median home prices and could authorize FHA-insured loans in excess of $700,000 in expensive markets such as San Francisco.

The House bill also would allow FHA applicants to obtain loans with no down payments; currently the minimum is 3 percent down. The Senate's version would require down payments of at least 1.5 percent. The House bill would authorize the FHA to vary insurance premium levels by applicant risk categories; borrowers who make minimal or no down payments could be charged higher premiums. The Senate bill would impose a one-year moratorium on a risk-based pricing system developed by the FHA and scheduled to take effect Jan. 1.

FHA loans, which faded in popularity during the subprime boom years of 2001-06, are now regaining their market share. Not only do the FHA's fixed-rate loans cost much less than subprime alternatives -- often by three or four percentage points -- but they also come without prepayment penalties and have relatively flexible and generous underwriting terms.

Paul E. Skeens, head broker at Carteret Mortgage in Waldorf, said the FHA is far more lenient on credit-history issues than any of its competitors and routinely insures loans to applicants who have had bankruptcies and foreclosures.

With a no-down-payment option as in the House-passed bill, the FHA "will be the best solution anywhere in the market" for people with moderate incomes, first-time purchasers and those with less-than-perfect credit, Skeens said. He said that even many buyers with prime credit would apply for fixed-rate, consumer-friendly FHA-insured mortgages once the higher loan limits kick in.

In a head-to-head comparison of a hypothetical new $417,000 mortgage with no down payment and a 6.25 percent fixed rate for 30 years, Skeens said, an FHA-insured loan would have lower monthly payments than Fannie Mae's or Freddie Mac's directly competitive nothing-down programs.

On such a loan, according to Skeens's estimates, FHA borrowers would pay $2,779.80 a month -- including all insurance and fees -- vs. $2,877.57 a month for a Fannie Mae mortgage. Borrowers with high credit scores might be able to qualify for a Fannie Mae zero-down program that requires no separate monthly private mortgage insurance payments, but that would raise the interest rate from 6.25 percent to 6.75 percent. In that case, Skeens said, the Fannie Mae option would be about $75 cheaper per month than the competing 6.25 percent FHA loan.

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