The resurgence of the low down payment market

drhousingbubble's picture

The dramatic rise in FHA insured loans in a time of historically low rates demonstrates two key aspects of the current American economy. The first point is that many US households have the inability to save for an adequate down payment on housing. Forget about the historical 20 percent down payment but many households cannot scrimp up even a modest 10 percent down payment. The second point is the American economy is still living on leverage. Debt is an elixir best served in moderation but as we are seeing with the low mortgage rates, the country is now setting a threshold where low rates are expected. As a case and point we now see FHA insured loans playing a major role in the housing market. Since Q2 of 2007 the number of FHA insured loans outstanding has more than doubled. This would not be such an issue if they weren’t defaulting in mass.

FHA the nostalgic bridge to easy money loans

There is little doubt that FHA insured loans are plugging the bottom end of the market. FHA loans were never intended to be a major player in the overall housing market. In a recent MBA survey that covers roughly 88 percent of all outstanding mortgages we find the following:

FHA loans outstanding

Q2 2007: 3,030,214

Q2 2012: 6,827, 727

In this short period of time, FHA insured loans more than doubled. The benefit? FHA loans require a miniscule 3.5 percent down payment and this is what most typically jump into the market with. Nonsense chatter that people go in with more down payment funds is just not shown in the facts. Most people that use FHA loans use them for the following reasons:

-Lack of down payment funds

-Maximum leverage to squeeze in

-Little risk

FHA insured loans essentially function as a call option on a home. Think about the fact that selling a home will cost a home owner roughly 5 to 6 percent so right off the bat FHA buyers are already in a negative equity situation when selling costs are factored in. However, with such little skin in the game should home prices drop dramatically people have less of their money at risk. Why else would demand for these loans be so high? You can get a conventional mortgage with 20 percent down, fantastic rates, and no mortgage insurance. Mortgage insurance is now getting more expensive because of rising defaults. Don’t think this is true? Let us look at serious delinquency rates across mortgage products:

delinquent loans

While prime mortgages have a serious delinquency rate of 4.98 percent FHA loans are up to a stunning 9 percent. This is incredibly high given that this is a loan product that has been booming recently. Subprime loans are a dwindling segment of the mortgage market. In 2007 subprime loans made up 14 percent of all outstanding loans whereas today they are 9 percent and moving lower. However, FHA loans in 2007 made up 6 percent of all loans and are now up to 16 percent of all outstanding loans. We should be concerned about the delinquency rate because we will be on the hook for this. Of course it should come as no surprise that many that can barely save 3.5 percent to buy a home are more likely to encounter financial problems and increase a new category of distressed inventory.

Home prices nationwide are being supported by low interest rates and low down payment products. For example, let us run the monthly payment for your typical nationwide home:

purchase home nationwide

Given the $50,000 typical household income an $180,000 home with a 3.5 percent FHA insured loan doesn’t look like it will stretch the budget too much. Run the figures for a $500,000 home in California:

purchase home socal

Notice how high that PMI is? This is how many in SoCal are squeezing into places and creating bidding wars with the low inventory that is being seen on the MLS. The low inventory is not a creation of a booming economy but by number games being pushed by the Federal government and Fed. The fact that over 9 percent of FHA outstanding loans are seriously delinquent (nearly 7,000,000 total FHA loans outstanding) should we simply continue giving out low down payment loans for the sake of getting people into homes? Clearly something is up here because prime conventional loans with higher down payments are performing much better.

As we discussed in a previous article low interest rates are already hurting households in other less obvious ways. How long can this last? Hard to tell but the fact that mortgage insurance rates zoomed up this summer in a hot selling season should tell you that the underlying fundamentals of the economy are still shaky. Also, if FHA insured loans were such a good deal why don’t you see Wall Street banks jumping in to make 3.5 percent down payment loans with their own money to the American public? Currently the entire mortgage market is fueled by government backed products.

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yellowsub's picture

More down payment means less to borrow and if you bought 4 years ago, you definitely should have paid off more than 40% of the home or more... 

Refi shouldn't be a problem even if your home value dropped because you're still borrowing less than the home's worth.

cable1's picture

I hate to disagree with the doctor, but the foreclosure rate today isn't about downpayments or overleverage, it's about job and income loss. With the U3 above 8 and the U6 above 15 and over 50 percent of the families in the US reporting income loss, is it any wonder the foreclosure rate is high?

I have been around the new home market for years, even the Subprime market failure was lack of underwriting driving home prices for fraudulently high levels and not about low downpayments. What really drives home sales in job confidence, which is entirely lacking in the markets I work in today. Of course those that feel they can afford a house will buy it with the lowest down payment they can get, no one really plans to live in one long enough to pay it off in todays economy anyway.



KidHorn's picture

It's both over leverage and job loss. Many couples stretch so far that any loss in income is a catastrophe. They may lose some hours or one of the two loses their job.

dwdollar's picture

Down payments aren't the problem. More than a $100k for a house is the problem. The median wage of $13/hr can't pay for much more.

dannynewmexico's picture

I guess the money junkies want to put together more useless paper

to sell,,,,

buzzsaw99's picture

Hello Dr. Housing Bubble,


Years ago they had much tougher standards to get a low-down taxpayer backed loan and that was during a time of falling interest rates, rising real estate prices, and a decent economy. Now they are fighting falling housing prices and a weak economy with loose lending standards. It can't work and they will make very many bad loans before they quit trying, if ever.

khakuda's picture

After Freddie and Fannie went down, the government had to find a way to get the bubble going again and they did it via the FHA.

Instead of learning the lesson that 3.5% down payments should actually have been 20% down and the lesson that keeping short term interest rates below the inflation rate the majority of the time will cause bubbles which will be devastating when they pop, they decided to double down on bad policy and create another bubble.  Look at the charts of TOL and other homebuilders and you will see we are back to the bubble trajectory of stock price appreciation.

Social security IS a ponzi scheme, the FHA will follow Freddie and Fannie into oblivion, housing will not recover until more savings are used to purchase homes and less debt, the national debt will bury the U.S. and there will be either inflation or default on obligations like pensions.  There is no tooth fairy.

KidHorn's picture

FHA is the new Fannie and Freddie. You can thank Barney Frank for that. He thinks the solution to all our problems is to reinflate the housing bubble. It doesn't matter how it's done.

Marco's picture

There is no tooth fairy, but the US does have sugar daddies ... due to the status quo the petrodollar system gives them a discount on oil prices as well as everything else.

Inflation or defaults are unavoidable, but in the meantime there is the status quo (which is increasing debt overhang both private and public). The status quo is the only thing keeping American living standards up. It would have been better for everyone if the US had gradually adjusted after it hit peak oil, but that boat has sailed.

I wouldn't be in such a hurry for the status quo to break down, things will have to get a fuckton worse before they can get better.

Joebloinvestor's picture

They need to bring back the "assumable" mortgage.

The Navigator's picture

They need to bring back the Building & Loan mortgages and get the government the fuck out of the home loan business - everytime the government touches anything, they fuck up the market.

Joebloinvestor's picture

Government and the reverse Midas touch.


diogeneslaertius's picture

moving foreground objects around = brilliant

striking at the root = boring



Gromit's picture

Actually both a put and a call option for 3 1/2% premium.

Often even less as slae contracts often have a "buyer credit for repairs" which eliminates the need for any down payment.

Makes perfect sense for buyers who can reduce their housing costs.

KidHorn's picture

How is it a put option?

Gromit's picture

Put it back to the lender.

dizzyfingers's picture

Someone here opined perspicaciously a few weeks ago about so many folks earning $10 per hour.  Reinflating the bubble at any cost to taxpayers is the goal. Taxpayers: 0. Banks: +++.



uncle_vito's picture

My older kid is looking to buy a house.  I offered to float him $20k to add to his down payment.  He said it wasn't needed because he was getting an FHA loan that only required 3.5% down.  I told him you need a down payment sufficient to avoid. PMI.  PMI is a real ass rape.

Luckily he is looking to buy houses in a county where decent houses cost only about $250k.   Likely will not drop that much when the housing market drops further in the next few years as boomers retire, interest rates rise, and the gov gives up on trying to boost the RE market.

dolph9's picture

I would guess housing has another 50% to fall across the board, AT LEAST.


But no worries, nobody is going to take a loss except for cash savers, as the Fed prints to cover everyone's asses.  My precious metals investments will benefit, of course.

AGuy's picture

Tell him to rent instead. If you buy a home and need to sell he's screwed Why would you want to sell?

1. Crime rate in the area soars. Home Invasions, robberies, etc. The area becomes unsafe.

2. Job loss or Job re-location. Renting give the flexability to move quickly and without an unsold home hanging on his neck.

3. Loss or degraded local gov't services. ie Budget cut backs to the police force, schools, roads, etc.

4. Some like Jim Varney's character (Ernest) moves in next door. Your nieghbors become a bunch of loonie toon characters.

5. Find out that the home has some serious problems that the home inpector missed (or ignored).

6. Hyper-inflation or even just high-inflation. Homes that are on allegedly fixed rate will be forced adjusted higher despite what everyone else says. Fixed loans will be re-adjusted to market conditions. It happened in Iceland, and it will happen here. Recall Benanke said back in Feb 2008 before the Bear sterns collapse "The Fed will not bailout anyone". The gov't and the banks will change the rules when the existing rules are against them. See MF global for example how rules can be quickly changed.


SoCalBusted's picture

Reason #2 (Job loss/relocation) is the biggest reason to rent.

Until the employment picture improves I will continue to rent and have the flexibility to pick a job where I can get one vs. where I currently live.  Big difference.

BidnessMan's picture

PMI is optional on a 95% LTV 30 year fixed rate if you are willing to bump the rate up by .25% and have an excellent credit score.   PMI deductability fades out if you make too much income.  Interest on a primary home is all tax deductable, at least for now.

These transactions are actually tax deductible 30 year fixed price Rent. I just closed one a month ago.  95% LTV, no PMI, 30 year fixed rate at 4.25%.  Do I want 15% of the purchase price locked up in "Equity" ?  LOL.  If the entire market craters, will be years before the property gets to the front of any line on any courthouse steps, if that even exists any more.  More likely there will be a debt Jubilee, where everyone just stays where they are in a Great Reset.  

Mortgage originators know they will flip the paper immediately after closing to Fannie Mae or Freddie Mac. They are driven by sales goals and commissions on closings.  So they are focused on closings.  Not their problem after that.

Shankopotomus's picture

Nobody making $50,000 a year should pay $180,000 for a house if they have to take out a 30 year mortgage to do it  for no reason, or anybody making $50,000 a year who has already paid $180,000 for a house and is now making payments on a 30 year mortgage was completely out of their mind when they did it. Take your pick.

You Didn't Build That's picture

I told my son not to buy until rates revert back to normal which is in the 7-9% range. House prices drop 10% for each interest rate rise (approx) This means a further 40% drop in house prices will be the correction back to "normal."

However, when these swings occur we see highs and lows exaggerated as Shiller descirbes. So its very possible rates will rise to over 12% as they did back in the late 1970s. This means house prices may drop 50-60% more to ahcieve reversion to the mean + the Shiller Factor.

So your $250,000 house becomes worth about $150,000.

Your $700,000 house may become worth less then $420,000

Add to that all the Fraud in title closings and titles defects....

Why would anyone lock in several hundred thousand obligation for 30 years with these problems? I am not willing to advise my son to take those risks.

KidHorn's picture

Rates will never revert to 7% or higher. The FED will make sure that never happens. If it does, the entire US becomes insolvent. Welcome to Japan. ZIRP forever.

Reese Bobby's picture

You make no sense.  In a world where people walk away from mortgage debt with relative impunity the value of the call option of getting a dumb FHA loan is a great risk-reward investment.  The American public should be crying foul, but the average American is now so stupid the Global Bank Cartel and their puppet Government need not worry about that.

Shankopotomus's picture

Losing $7,000 (the down payment in this scenerio) on a call option is alot of money to someone who's only making $50,000 a year. Your the one who doesn't make any sense if you think that's a great risk-reward situation for someone making that kind of money.

Hannibal's picture

"US-Israeli deal on attacking Iran:"

No Israeli strike now if Obama pledges spring attack on Iran,....

brettd's picture

And who believes anything bho says?

geno-econ's picture

Debka not reliable and do not reveal source of information. So how much of a down payment is required for a new settlement home in a new settlement area of West Bank? Any time guarantees ?

Hannibal's picture

Home "ownership", yeah, I need another hole in my head.

KidHorn's picture

Home ownership is awesome if you don't have a mortgage.

TahoeBilly2012's picture

California riceland is a buy, buy, buy!

Peter Pan's picture

The real tragedy of the low deposit loans is how it skews the whole cycle of life.

If one bought a house for $250,000 with no deposit the repayments over 25 years at 5% would be $1,461 per month.

If one bought the house with a 10% deposit and still made repayments of $1,461 per month, the loan would be repaid in just over 20 years.

If one bought the home with a 20% deposit as used to be the case years ago and made repayments of $1,461 per month, the loan would be repaid in 17 years.

Between reality and the ideal, home buyers are now saddled with an extra 8 years of repayments or $140,000 which in previous times allowed for a better retirement, education of the children, more equity, less risk for lenders and hence a lesser demand for government assistance, insurances etc.

So while the government is facilitating short term survival of real estate, it is in effect underwriting longer term disasters throughout the wider economy and in the way households and families progress financially throughout their working and family life.

francis_the_wonder_hamster's picture

Mr. Pan,

I don't disagree with the gist of your post, but you neglect to factor in inflation.  A $1461 payment today is peanuts in tomorrow's inflationary world.  If there is deflation in housing (as there should be).....just walk away.  That's the win-win scenario that the "suckers" are faced with.  Society loves them because they put down roots in their community, they get a tax write-off, and it's still not much more expensive than renting.  Idiots like me who refuse to buy into this market are the real tragic story.  We get to subsidize the rest.

Peter Pan's picture

Inflation is a consideration, but you must also keep in mind that today's historically low interest rates might not continue forever. In addition, there may be inflation but will the inflation in general prices be matched by an equivalent increase in after tax wage increases or will wages lag? In such a case the situation will worsen.

I do agree with you on the point that governments unfairly subsidise buyers and this leads to unsustainable distortions in the long run.


AurorusBorealus's picture

I can tell you, with some degree of certainty, that the cycle of life has been badly skewed for many years now.  I see the finances of hundreds of senior citizens each year and in great detail.  There is very little savings for people over 65, and what little there is dwindles each year.  What has happened since 2008 is an enormous transfer of assets from seniors to their children and grandchildren... floating children through unemployed periods, helping with home purchases, using FHA-backed reverse mortgages for seniors to give the children and grandchildren seed money, trusts and annuities structured to get money to children and grandchildren and get around the Deficit Reduction Act of 2006.  The net result of all of this... many more seniors living in government-subsidized high-rise housing, collecting food stamps and welfare cash payments, living off Medicaid in nursing homes rather than paying privately.  Since most of the public transfer funds go to seniors, a great circle is being created.  Seniors dispose of all of their assets to support children and grandchildren.  The government pays the seniors more benefits, the seniors transfer income to children and grandchildren... the net loser... the U.S. taxpayer (of course).

KidHorn's picture

The funny thing is taxes never go up due to stupid government initiatives. We just print more money (Technically the FED buys T-Bills, but it works the same as printing). As long as the PBOC, JCB, ECB, etc... are doing essentially the same thing, we'll only pay for it with higher inflation someday. Maybe.

brettd's picture

We elected these must be what we wanted!

Shankopotomus's picture

"Seniors dispose all of their assets to support children and grandchildren."

 You need to talk to my Father and enlighten him on what he's suppossed to do when it comes to getting rid all of his assets.

SubjectivObject's picture

Word.  The boots on the ground post of the phukking day.

I'm the black sheepie of the famlie in telling my parents to not extend support to any of us siblies, as they are not responsible for for the myriad of choice the siblies have made over time.  Luckily, prior largess was handled badly by the recipients, so my task is made easier.  I did support matching funds to a sister for an apartment while in trade school, and that worked out well and the parents are almost paid back.

Offthebeach's picture

Thus more need for....government.

Public Choice Theory, Hell yeah!

ebworthen's picture

Some dude from Deutschebank declaring on NPR today that "the housing crisis has passed".

Propaganda machine in high gear, very loud noise emanating from the spinning gears and wheels.

OverTheUnder's picture

That usually means we just hit the top.....

GMadScientist's picture

As far as they're concerned, it has...the luxury of myth-to-market accounting makes this possible just like a clothespin allows one to live in shit for awhile longer.

Freddie's picture

I am thinking about getting back into condo flipping.  My friend is making big money (sarc)

Never One Roach's picture

Yes, "Flip that House!"

Buy one for $1.2 million and flip it two years later for $800,000 taking home a smooth loss of $400,000.



"There's never been a better time then now to take a Loss."

GMadScientist's picture

I am thinking of getting into condo demolition.

If we can't find demand, we'll make it.