Where are homebuyers finding cheap mortgages in dog-eat-dog market?

By Kenneth Harney | August 01, 2013 07:00AM

It’s a crucial question for many first-time and moderate-income buyers in rebounding markets across the country: Where do we find the lowest down payment, the lowest monthly cost loans?

The answers are changing. True zero-down alternatives are rare and tend to be tightly restricted:

•If you’re a veteran or active-duty service member, a Veterans Affairs–guaranteed home loan might be ideal since it requires no down payment.

•The same is true for certain rural housing loans administered by the Department of Agriculture, but purchases must be in designated areas outside large population centers.

•Members of the Navy Federal and NASA federal credit unions can qualify for zero-down financing, but those programs are closed to everyone except their members.

•Some state housing finance agency programs may also be helpful, but they often come with income limits and other requirements.

For most shoppers looking for mini down payments, there are much larger, less restrictive sources. The Federal Housing Administration is probably the traditional favorite since it requires just 3.5 percent down. But beware: In the wake of a series of insurance premium increases and a highly controversial move to make premiums non-cancellable for the life of the loan for most new borrowers, FHA no longer rules the low-cost roost.

Fannie Mae, the giant federal mortgage investor, may now do better. And for some applicants, so might Freddie Mac, Fannie’s smaller competitor. Consider this scenario prepared by George Souto, a loan officer with McCue Mortgage in New Britain, Conn., who specializes in putting first-time buyers into houses using FHA loans. Lately, though, “the numbers just don’t work as well,” and Souto is directing clients into Fannie Mae’s 3 percent minimum down payment “My Community Mortgage” program.

Here’s the head-to-head: You want to buy a house for $180,000. If you go with a 3.5 percent FHA loan, you need to come up with $6,300. For Fannie’s 3 percent loan, it’s just $5,400.

The rate on the FHA loan with zero points — in Souto’s hypothetical — will be 4.25 percent, compared with 4.625 percent for Fannie. (A point is 1 percent of the loan amount.) But FHA’s new mortgage insurance premium spoils the rate advantage: The monthly cost is $195.41, a third higher than the $123.68 for Fannie’s private mortgage insurance. On a monthly basis, FHA costs $43.30 more than Fannie — $1,064.67 vs. $1,021.37 — including principal, interest and insurance.

More important for buyers who plan to hold on to their low mortgage interest rates, Fannie’s insurance charge disappears when the principal balance hits 78 percent of the purchase price. FHA’s insurance fee is a drag until you pay off the loan.

There are noteworthy restrictions to the Fannie program that might stand in the way of some buyers, however:

•There are income limits pegged to median incomes in the metropolitan area where the house is located, although applicants in higher-cost markets such as in California, metropolitan Washington, D.C., Seattle, Vancouver-Portland, Boston and New York, among others, can qualify with incomes well above the median.

•Fannie requires higher credit scores — generally 680 FICO and up; FHA is more generous, allowing 580 FICOs. As a practical matter, though, many mortgage lenders won’t do FHA loans for borrowers with FICO scores below 640. For first-time buyers, Fannie insists at least one borrower to complete a financial education or counseling course. FHA has no such requirement.

•FHA allows borrowers to use gift funds as part of their down payments, but Fannie requires borrowers to rely on their own resources such as savings accounts for their full down payments.

Freddie Mac’s “Home Possible” program is a low-down-payment competitor to both Fannie and FHA and is an attractive option for buyers who don’t want to keep paying expensive FHA insurance premiums. It requires a 5 percent minimum down payment but allows all of it to come from gifts provided by family, friends, employers or other sources. There is no minimum cash contribution directly from the borrower, which may resemble zero down but really isn’t.

Kenneth Harney is a syndicated columnist.