California homeowner Renee Bono calls it "unconscionable." Don Bonn, an agent with Champion Realty in Maryland, says it’s a federal tax that too many home sellers and refinancers know little or nothing about.
Sens. Johnny Isakson, R-Ga., and Ben Cardin, D-Md., have a legislative fix ready to go if the Obama administration doesn’t instruct the U.S. Department of Housing and Urban Development to make the change on its own.
What’s got these folks so riled up? It’s the Federal Housing Administration’s unique practice of requiring anyone who pays off one of its insured loans early — whether because of a home sale or refinancing — to be charged interest on the note through the end of the month, even if the actual closing occurs weeks before and the mortgage debt itself no longer exists.
This past spring the agency told Sens. Cardin and Isakson that it would take a hard look at its policy and report back in 90 days with changes, if appropriate. Neither senator has heard a peep out of FHA since then.
I asked FHA last week about the status of the policy study and got an opaque response. It’s still "under consideration," said an FHA spokesman.
Meanwhile, the fees keep piling up. According to new figures provided by FHA, between the years 2000-10, FHA borrowers paid nearly $2 billion in what amount to prepayment penalties.
That’s an average of nearly $200 million a year because the agency insists on collecting interest through the full month, unlike Fannie Mae, Freddie Mac and the Department of Veterans Affairs, which charge interest only to the day of closing.
Take Renee Bono’s situation as a case in point. She emailed me recently with details of her October refinancing of an FHA loan that she and her husband took out in 2009.
Attracted by interest rates in the low 4 percent range, the Bonos, who own a home in Brea, Calif., arranged to refi their FHA-insured mortgage. The closing was Oct. 13.
No one ever told them about FHA’s full-month interest policy. As a result, even though they paid off the loan as of Oct. 13, at closing they were charged interest through the end of the month and one day into November.
The total extra in fees amounted to $1,349 — money out of pocket the Bonos had not anticipated.
"Since my loan broker was scrupulous in disclosing required information, I have to assume he was not required by law to disclose (FHA’s policy)," said Bono. "If Congress is unable to pass legislation to stop this unfair practice, then the next best thing would be full disclosure."
The National Association of Realtors, which has been pressing FHA to switch to the per-diem interest payoff approach followed in the conventional and VA mortgage markets, says full-month interest charges may amount to prepayment penalties in violation of the Dodd-Frank financial reform legislation enacted in 2010.
In a letter to acting FHA commissioner Carol Galante, NAR President Ron Phipps said that besides playing "unreasonable and often unexpected burdens on FHA consumers who already face high housing and closing costs," the fees appear to violate the Truth in Lending Act (TILA), as amended by Dodd-Frank.
That law bars prepayment penalties or requires them to be phased out over the next three years. The Federal Reserve’s proposed regulations implementing the TILA changes clearly cover fees like FHA’s, said Phipps, which force borrowers "to pay interest charges based on an outstanding principal loan amount that has already been fully paid."
For its part, FHA maintains that investors in Ginnie Mae bonds containing FHA loan pools are guaranteed a full month’s interest no matter what day of the month the loan is paid off.
By collecting the interest at the end of the month, rather than cutting off the interest stream on the day of the prepayment, according to FHA, lenders have been able to charge borrowers slightly lower interest rates than the conventional market.
Ted Tozer, president of Ginnie Mae, estimated the price break earlier this year at somewhere between 0.1 percent and 0.15 percent.
FHA also argued in a letter to the Senate banking committee that any abrupt change to its policy would "effectively create an increase in the cost of borrowing for all FHA" applicants, and require "substantial changes to lender, servicer and FHA systems and loan documentation."
Realtors like Don Bonn, who brought the issue to the attention of Sen. Cardin, accuse FHA of being a captive of big banks and mortgage lenders who "make money off the float."
That’s in reference to the fact that they’ve got consumers’ cash in hand — $1,349 in cash from the Bonos, for example — and can earn an investment return during the time between the closing date and the end of the month, when the money must be disbursed to bond investors.
"This is excessive and it hurts people," Bonn told me in an interview. Though many Realtors are knowledgeable and can advise clients to set closing dates toward the end of the month, a lot of them either forget to do so or are not aware of the FHA’s full-month interest requirement.
"And, of course," said Bonn, "there’s no Realtor around to tell refinancers (about the policy), so they get hit the worst."
Where is this headed? Will FHA — or the White House in an election year — agree to chuck the controversial prepayment penalties that cost FHA borrowers an average $200 million a year?
And are those fees, which come down heavily on individual home sellers and refinancers, justified by the miniscule and barely perceptible interest-rate "savings" the agency claims are spread around among all FHA borrowers?
With NAR and even political allies banging on the issue, FHA likely will soon have to come up with some good answers.
