New FHA Loan Enhancements to Help Underwater Homeowners Refinance

New enhancements to the existing Making Home Affordable Program (MHA) and Federal Housing Administration (FHA) refinance program announced on Friday will help underwater borrowers refinance into an affordable loan backed by FHA.

Starting September 7, 2010, FHA will offer certain ‘underwater’ non-FHA borrowers who are current on their existing mortgage and whose lenders agree to write off at least ten percent of the unpaid principal balance of the first mortgage, the opportunity to qualify for a new FHA-insured mortgage.

The FHA Short Refinance option is targeted to help people who owe more on their mortgage than their home is worth – or ‘underwater’ – because their local markets saw large declines in home values. Originally announced in March, these changes and other programs that have been put in place will help the Administration meet its goal of stabilizing housing markets by offering a second chance to up to 3 to 4 million struggling homeowners through the end of 2012.

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“We’re throwing a life line out to those families who are current on their mortgage and are experiencing financial hardships because property values in their community have declined,” said FHA Commissioner David H. Stevens. “This is another tool to help overcome the negative equity problem facing many responsible homeowners who are looking to refinance into a safer, more secure mortgage product.”

According to the mortgagee letter, homeowners must qualify for the new loan under standard FHA underwriting requirements and have a credit score equal to or greater than 500. The property must be the homeowner’s primary residence and the borrower’s existing first lien holder must agree to write off at least 10% of their unpaid principal balance, bringing that borrower’s combined loan-to-value ratio to no greater than 115%.

To facilitate the refinancing of new FHA-insured loans under this program, the U.S. Department of Treasury will provide incentives to existing second lien holders who agree to full or partial extinguishment of the liens. To be eligible, servicers must execute a Servicer Participation Agreement (SPA) with Fannie Mae, in its capacity as financial agent for the United States, on or before October 3, 2010.

It is estimated that between 500,000 and 1,500,000 borrowers will refinance using these enhancements and the net economic benefits will be between $11.774 and $35.322 billion according to a “Regulatory Impact Analysis” conducted by HUD,

For more details, see the mortgagee letter here.

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