FHA Tightens Rules on Loan Sales to Investors

By: Jann Swanson •

Investors who purchase distressed loans through the FHA's Distressed Asset Stabilization Program (DASP) are going to have to toe a stricter line when it comes to how those loans are managed. The Department of Housing and Urban Development (HUD) has announced a series of "enhancements" to the program in response to claims by lawmakers and others that buyers have been reluctant to work with homeowners and quick to foreclose.

According to a press release from HUD, the changes to the program would have purchasers of severely delinquent mortgages offer qualified borrowers principal reductions and protection from "payment shock."  The new rules would also prohibit investors from abandoning low-value properties in neighborhoods hard-hit by foreclosures in order to prevent blight and increase opportunities for non-profit groups, local governments, and other government agencies to purchase through the program.

FHA initiated DASP in 2012 in an attempt to shift foreclosure-related losses to the private sector and in the hopes investors would be more flexible in approving loan modifications that were outside the scope permitted at FHA. 

Loans are not eligible to be sold through DASP unless and until all FHA loss mitigation efforts are exhausted. On average, mortgages sold through this sales program are 29 months delinquent at the time of the auction.

According to Joe Light writing in Bloomberg, FHA had sold about 105,500 mortgages through the program as of Jan. 22, 2016.  Of the approximately 89,000 for which HUD has reported data about 30,500 had been foreclosed upon and 9,600 had borrowers were paying again. The rest of the loans were still delinquent or had been resolved by some other means.

The program has been criticized by progressive groups which held a rally last year to push FHA, Fannie Mae and Freddie Mac to sell more loans to non-profits.  Republicans have also used the program to criticize HUD Secretary Julian Castro as his name is being circulated as a potential Democratic nominee for Vice President.

In June 2015 FHA instituted a first set of enhancements including extending a moratorium on foreclosure from six months after the note was sold to a year.  FHA also required servicers to evaluate borrowers for the Treasury Department's Home Affordable Mortgage Program (HAMP) or a substantially similar modification.  FHA also implemented non-profit only sales.

The changes announced on Thursday include:

  • Making principal forgiveness the first option investors must consider offering to borrowers when evaluating them for a modification
  • Providing payment shock protection to limit interest rate increases to no more than one percent per year after a five-year period where the rate is fixed; this is consistent with modifications offered through HAMP.
  • Prohibiting 'walk-aways' on vacant properties to prevent purchasers from walking away from vacant properties. The provision is designed to protect communities from blight.
  • Establishing a preferential bidding option pilot for non-profit buyers. This is an innovative approach where non-profit organizations can bid on up to five percent of loans in a pool and win as long as they meet the reserve price. The new goal is to sell 10 percent of assets to non-profits and local governments.
  • Providing performance and outcome data on sales at the pool level, rather than the sale level and releasing demographic data for the first time.
  • Streamlining the direct sale process for local governments. FHA will provide materials that outline the steps and timeline for direct sales

"FHA is deeply committed to protecting struggling homeowners and making certain they have the greatest opportunities to avoid foreclosure and remain in their homes," said Ed Golding, HUD's Principal Deputy Assistant Secretary for the Office of Housing. "While thousands of homeowners avoided foreclosure through this note sales program, we continue to explore new ways to help these families and to offer more opportunities for public-minded organizations to have a seat at the table."

Light commented that "It remains to be seen whether Thursday's changes will result in fewer purchases by private investors. Some nonprofit officials have said that they lack the capital and speed needed to compete in previous auctions. And some investment firms argue that additional restrictions aren't necessary because they already help borrowers stay in their homes."

FHA expects to hold the first sale under the new rules in September.