What You Should Know about Federal Loan Insurance Programs for the Real Estate License Exam
The federal government sponsors a few programs that offer insurance coverage for mortgage loans. The Real Estate License Exam may include a question or two about these programs starting with the fact that they are loan insurance programs and not direct loan programs.
A conventional loan usually must be accompanied by a down payment, frequently as much as 20 percent of the value of the property that’s being purchased. The two reasons for requiring a down payment are that it provides for:
A financial commitment on the part of the borrower. Buying property isn’t all about using the bank’s money; some of it has to be from you, the borrower, too.
A cushion between the bank and possible declines in property values. When the value of a property declines, if the lender can’t sell that property for its original appraised value in a foreclosure, the lender loses.
Suppose, however, that a lender is assured of getting back all of the money that it loans out for a property, even if it lends 100 percent of the value of that property. Wouldn’t the lender be inclined to lend more money on the property, relative to its value?
Enter the federal government with insurance programs that guarantee that the bank will get back its money from the loan. So when borrowers don’t have enough money to make down payments required by their lenders, they may seek a loan insured by the FHA or VA.
Some state-run government direct-loan programs or loan guarantee programs may be operating in your state. If so, they may be fair game for questions on your state’s real estate license exam. At the very least, those questions may refer to a state program as one of the potential answers to a multiple-choice question, so check out your state’s programs.
The Federal Housing Administration
The Federal Housing Administration (FHA) is an agency under the supervision of the U.S. Department of Housing and Urban Development that insures loans made by primary lenders. Even though you may hear it referred to as an FHA loan, the FHA never directly makes any loans.
The most commonly used FHA program is called a 203(b) loan. The numbering refers to the section of the law that governs such loans. Here are a number of the rules for this program (some of which you may see on a real estate exam):
FHA loans are limited to owner-occupied, one-to-four-family houses.
A fee called a mortgage insurance premium (MIP) is paid at the closing by the buyer. The MIP is based on a percentage of the loan.
An estimate of the property’s value must be made by an FHA-approved appraiser. Standards govern whether the condition of the property and the neighborhood qualify for FHA assurances.
FHA-backed loans have high loan to value (LTV) ratios. Down payments may be as low as 1.25 percent for lower-priced homes.
Upper-end limits on property value are in effect, and they vary from one state to the next and from one area to the next within the states.
Other borrowers may assume some FHA loans. The rules vary with the original date of the loan.
Lenders may not charge a prepayment penalty.
Lenders may charge discount points, or additional fees, for the loan. The payment of these fees may be negotiated between buyer and seller.
The Department of Veterans Affairs
The Department of Veterans Affairs (VA) provides a loan guarantee program to eligible veterans and their spouses. Eligible primary lenders make the loans, and the payment of all or part of the loan is guaranteed by the VA if the borrower defaults. Some of the important features of a VA guaranteed are
Rules for eligibility are set by the VA. Generally those eligible are veterans of military service who served during specific periods of time and their eligible widows.
The loans may require little or no down payment.
The loan guarantees cover owner-occupied, one-to-four-family homes, including mobile homes.
A Certificate of Reasonable Value (CRV) is required from an approved appraiser. The amount of the VA guarantee is based on the CRV. Although no dollar limits are set on the price of the home being purchased, the VA limits the amount of the loan that the VA will guarantee. The borrower may pay the difference in cash.
No prepayment penalty is permitted.
VA-backed mortgages are assumable under certain conditions.
A funding or origination fee is charged to the borrower to be paid to the VA.
The Farm Service Agency (FSA)
The Farm Service Agency (formerly the Farmers Home Administration) is an agency of the U.S. Department of Agriculture that sponsors programs targeted at agricultural and rural areas. It guarantees loans made by primary lenders and lends money directly to borrowers.