The Federal Housing Administration shook up Washington's mortgage and real estate leaders last week by announcing that it's shifting its entire production line to risk-based pricing -- starting this summer.

FHA plans to abandon its 74-year policy of charging all borrowers the same insurance premiums and interest rates, and to move to a system where applicants who present high risks -- low credit scores and low downpayments -- pay higher premiums.

Though private mortgage insurers have been using this approach since the mid-1990s, it's a big move for FHA. Currently the agency charges a standard one and a half percent up front premium, and a half percent annual renewal premium -- all of which are folded into monthly mortgage payments.

Under the new system, applicants with FICO scores below 560 and downpayments below five percent, will be charged a two and a quarter percent premium up front and 0.55 percent annually.

Low risk borrowers will almost all pay less than they do today: A 1.25 percent premium up front, and annual renewals of half a percent with downpayments of 10 percent or more. High FICO borrowers with score above 680 making downpayments of less than 5 percent will also save on upfront premiums, paying one and a quarter percent.

The switch should be good news for the majority of FHA new customers. Officials say the FHA program in 2008 is attracting a bumper crop of higher credit quality applicants with scores in the high 600s and 700s.

FHA's volume is also booming -- it's doubled in the past six months and could hit a 20 percent market share this year, according to mortgage banking industry analysts.

Though some Democrats in Congress and private mortgage insurance competitors have criticized FHA's risk-based pricing plan, the agency says it has both the legal authority and the business "imperative" to prevent losses to its insurance fund caused by low-FICO home buyers, especially those using seller-funded downpayment "gifts."

In its official outline of its plans in the Federal Register last week, FHA rejected criticism that low-income borrowers will pay more. To the contrary, a statistical analysis of FHA's 2007 vintage of customers found that applicants with lower incomes had higher FICO scores on average than applicants with higher incomes.

All of which means that anybody with solid credit -- irrespective of income -- should get a better deal from the new FHA approach than they would have gotten under the old system.

In the current credit crunch, that's gotta be good news.

Published: May 19, 2008

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Kenneth R. Harney writes an award-winning, nationally-syndicated column on housing and real estate from Washington, D.C. He is also managing director of the National Real Estate Development Center, a professional education company. He is a past member of the Federal Reserve Board's Consumer Advisory Council, a committee that by federal statute reviews all Fed actions on home mortgage, consumer credit and banking industry regulation. He served as a member of the U.S. Department of Housing and Urban Development's Working Group on Computerized Loan Origination (CLO) systems, and is a member of the Editorial Board of the Fannie Mae Foundation's journal, Housing Policy Debate. He is the author of two books on mortgage finance and real estate.