New Insurance Rule Could Hike Costs For FHA Lenders

Recent changes to the Federal Housing Administration’s Lender Insurance program could include some rising costs for companies that make FHA loans, once the changes go into effect in February.

Targeting fraud and lending violations, FHA issued a final rule on Wednesday that requires lenders in the administration’s Lender Insurance program to indemnify the Department of Housing and Urban Development for certain violations of that rule. The move finalizes a rule proposed in October 2010, and was announced this week by Acting FHA Commissioner Carol Galante, who said the new rule will “provide greater clarity regarding our expectations for our LI lending partners, as well as actions we will take to prevent losses when those standards are not met,”

When FHA ramps up its inspection of FHA loans, it will likely mean a higher cost of doing business under the program, says Phil Schulman, partner with international law firm K&L Gates.

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“This is the first time HUD will actually have statutory and regulatory authority to require indemnification, so it will become more costly for lenders to have loans subject to greater scrutiny,” Schulman says.

Lenders have long been asked to indemnify informally, but now HUD has the authority to demand it. Whether it will begin this enforcement immediately following its February 24 start date or in the weeks and months following is uncertain, Schulman says, but the requirements will mean an adjustment on the part of lenders.

“I think there will be many more requests of LI lenders to explain why they made particular loans,” he says. “If the department determines they’re material and deficiency resulted in the loan being ineligible, they will require indemnification.”

For lenders large and small, the costs of doing business as HUD insured lenders stand to go up because of the increased accountability. Those costs, Schulman says, could ultimately lead to lenders moving away from endorsing the loans directly, and moving back toward a HUD review of each loan.

“If these [HUD] demands become too numerous and too excessive and costly, then lenders may give up their LI authoirty,” he says. “They may say, ‘Forget it. If we’re subject to this scrutiny, you can have your LI authority back.”

It could have an adverse reaction on FHA and the program.

“If that happens, HUD will have to hire extra people because they will have to review all loans individually,” Schulman says.

Written by Elizabeth Ecker

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