In a reversal of past policy, federal regulators say they won’t lower the $417,000 conforming loan limit to keep it in line with falling home prices.
Adopting a stance taken by Fannie Mae and Freddie Mac during the housing downturn of the early 1990s, the Office of Federal Housing Enterprise Oversight has ruled that the conforming loan limit will move in only one direction: up.
Instead of lowering loan limits when housing prices fall, OFHEO says, Fannie and Freddie will be permitted to instead restrict increases in the conforming loan limit when housing markets recover. When prices begin rising again after a downturn, the conforming loan limit will not increase until previous losses have been recouped.
Permanently deferring decreases in the limit by allowing them to offset increases "will ensure that the conforming loan limit remains, as contemplated, a measure tied to housing prices," OFHEO said in its final guidance. "Over time, both increases and decreases will be reflected in the limit."
The guidance has no impact on the temporary increase in the conforming loan limit approved by Congress and the Bush administration to as much as $729,750 in high-cost areas.
The temporary increase, which allows Fannie and Freddie to guarantee or purchase loans of up to 125 percent of the median home price, expires at the end of the year. The National Association of Realtors has called on Congress to make the increase permanent, and raise the floor for the conforming limit to at least $625,000 in all markets.
The new guidance is similar to the strategy employed by Fannie and Freddie when housing prices fell by 2.96 percent in 1993 and 1.46 percent in 1994. Instead of reducing the conforming loan limit by a corresponding amount, the government-sponsored enterprises (GSEs) let it stand at $203,150 in each of the following years.
When markets recovered and prices increased by 8.44 percent in 1997, Fannie and Freddie bumped the conforming loan limit by a smaller amount — 3.67 percent — adjusting retroactively for the 1993 and 1994 price declines. That adjustment wasn’t made until after the GSEs raised the limit in 1996, without acknowledging previous declines.
According to OFHEO, Fannie and Freddie also disregarded changes in the methodology for estimating home prices in 2003, and raised the conforming loan limit the following year by 3.41 percent, instead of the 2.71 percent recommended by regulators.
This "inconsistent application of procedures" prompted OFHEO to issue new guidance in 2004 on how the conforming loan limit — which Fannie and Freddie had been adjusting since 1981 under the authority of the Housing and Community Development Act of 1980 — would be determined.
If home prices fell, OFHEO said, it would issue guidance advising Fannie and Freddie to make corresponding reductions in the conforming loan limit.
Industry trade associations objected that OFHEO lacked the authority to set the conforming loan limit. The first test of the guidance would have come last year, after home prices declined by 0.16 percent in 2006. But OFHEO headed off a showdown by agreeing to defer a reduction in the conforming loan limit unless price declines exceeded a threshold of 1 percent over three years.
With home prices obviously headed below that mark, in October OFHEO increased the threshold and announced it would allow the conforming loan limit to stand at $417,000 in 2008, no matter how steeply home prices fell. If cumulative home-price declines in 2006, 2007 and 2008 exceeded 3 percent, the limit would be reduced by a corresponding amount 2009, OFHEO warned.
The following month, the Federal Housing Finance Board announced that average house prices fell 3.49 percent in 2007, to $295,573. Despite a cumulative two-year decline in home prices of 3.65 percent, the conforming loan limit was kept at the same level in 2008 for the third straight year.
With many experts projecting continuing home-price declines into 2009 or 2010, industry trade associations continued their fight against OFHEO’s proposal to lower the conforming loan limit if price declines in 2006, 2007 and 2008 exceeded 3 percent.
After OFHEO issued the proposal in October, NAR, the Mortgage Bankers Association and the National Association of Home Builders restated their position that regulators lacked the statutory authority to reduce the conforming loan limit.
In reversing its plans to require reductions in the conforming loan limit corresponding with price declines, OFHEO maintained that while it had the authority to require such a policy, there were potential "operational and implementation issues" — including the grandfathering of mortgages approved under higher loan limits — that it can avoid by allowing the limit to remain static while home prices catch up after a downturn.
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