MBA Recommends Dropping Interest Rate Cap on Rural Housing Service Programs

The Mortgage Bankers Association, in a letter to the Department Agriculture’s Rural Housing Service, recommended the interest rate cap on RHS Section 502 Single-Family Housing Guaranteed Loan Program loans be removed, citing mortgage market dynamics and secondary mortgage market considerations.

“We believe that the best course of action is for USDA to remove the existing interest rate cap and instead allow market forces to dictate interest rates and other pricing terms,” said MBA Senior Vice President of Public Policy and Industry Relations Stephen O’Connor. “Should USDA find evidence of higher financing costs following implementation of this recommendation, MBA would support further efforts to develop a regulatory response that protects the interests of consumers.”

The letter comes in response to an RHS request for comment on updating provisions of SFHGLP, specifically to determine whether the interest rate cap should be modified in order to support the agency’s mission to offer applicants, who are unable to secure the credit necessary for such housing from other sources under conventional credit terms, an opportunity to acquire new or existing housing for use as a primary residence; finance the repair and rehabilitation costs associated with the purchase of the home; and refinance an existing Section 502 loan to lower the interest rate.

The SFHGLP provides low- and moderate-income borrowers access to mortgage credit by guaranteeing loans issued by agency-approved private sector lenders. Loans may finance full construction and acquisition cost of a property up to 100 percent of the appraised value. Mortgages have 30-year terms and fixed rates negotiated with the lender that cannot exceed an interest rate cap that is determined by the Agency.

“The SFHGLP has been a valuable resource in providing 100 percent loan-to-value financing to underserved communities in rural areas,” MBA noted. “As access to funds for a down payment continues to be a struggle for many rural borrowers, the SFHGLP presents consumer-friendly options that can be added to lenders’ suite of product offerings.”

In evaluating merits of the current maximum interest rate on RHS loans, it is important to consider the differing requirements for delivery to the secondary market relative to conventional loans, MBA said it believes the current construction of the maximum interest rate inefficiently addresses the need to mitigate risks associated with higher LTVs and lower loan amounts typically found in RHS loans. The RHS currently sets its maximum interest rate at one percent above Fannie Mae’s prevailing yield for 90-day delivery on its 30-year fixed rate conventional loans, rounded to the nearest quarter of a percent.

However, MBA also noted it is difficult to presume that accurate pricing for a government-insured program can be based on conventional mortgage-backed security rates, particularly in an environment of rising interest rate volatility. The major deficiency in this pricing strategy is the assumption that the path of yields will remain relatively correlated between the two markets over the course of the 90-day lock period. Upward adjustments to pricing over a 90-day period may result in lenders needing to charge discount points to borrowers to offset variances between the quoted pricing and the true pricing at the time of closing or, alternately, lenders may be forced to absorb losses themselves. Both options negatively impact the borrower by making RHS loans less affordable in the long run, MBA said.

In addition, MBA said increasing demand for affordable housing has been at least partially stymied by low housing supply and rising sales prices. “In such a market, buyers’ ability to successfully negotiate adequate closing cost assistance from sellers is dwindling, leaving a gap in the funds many borrowers need at the time of closing,” MBA said. “The paradox of maintaining a maximum interest rate lies in keeping RHS loans affordable while not charging borrowers discount points in order to align these loans with Ginnie Mae market pricing.”

Thus, MBA said the presence of a maximum interest rate “does, in fact, complicate borrowers’ ability to access zero-percent-down financing offered by RHS if discount points must be assessed to make the mortgages affordable. MBA is confident that the removal of the interest rate cap will encourage appropriate pricing to support the needs of low- to moderate-income rural borrowers.”

MBA said should the interest rate cap be removed, three key factors should prevent borrowers from being overcharged:

Competitive pricing among lenders. “Pricing within the mortgage industry is highly competitive and typically serves as the driving force for borrowers to recognize more attractive financing options,” MBA said. “Lenders are keenly aware that many borrowers take great care in determining which program will offer the most buying power at the lowest cost.”

Comparable housing programs. MBA noted low-down payment programs such as those offered by the Federal Housing Administration, Fannie Mae, Freddie Mac and various housing finance agencies offer LMI borrowers a “plethora of options” to finance their home purchases. “These viable alternatives will pressure RHS loans to be competitively priced; if they are not, borrowers would in most cases choose another product that is more affordable and requires less cash at closing,” MBA said.

Regulatory oversight. MBA pointed out Ginnie Mae explicitly states in its MBS Guide that “a pooled mortgage on a one- to four-family dwelling that is originated or refinanced with an interest rate at least 1.5 percentage points (150 basis points) higher than the interest rate on new Ginnie Mae securities valued closest to par on the date the interest rate on the mortgage was established” is a premium loan that may be prohibited from Ginnie Mae pooling. “These pricing guidelines will serve to further deter lenders from charging interest rates well above those offered broadly in the market,” MBA said.