Millennials enjoying a round of beers at a cafe.
"Who wants to put down the down payment for the next round?" Brennan Linsley/AP

But the federal government’s best answer for renters’ number-one obstacle to first-time homeownership could be facing a big reform push in Congress.

In a lot of places, renters would be better off as buyers: Making a mortgage payment in almost all of the 35 largest metro areas in the U.S. is cheaper than paying the monthly rent. But renters are having trouble getting over one specific road block to homeownership. That hump is the down payment.

Almost 70 percent of renters across the nation’s 20 largest metro areas cite the down payment as the number-one obstacle to owning a home, according to a report just released by Zillow. Insufficient credit, all-too-sufficient debt, and a lack of job security follow as reasons why renters are unable to buy homes.

But nothing hurts quite like that down payment. In the largest metro areas, saving up for the down payment ranked #1 among all concerns. And in seven metro areas specifically—Los Angeles, Boston, San Diego, St. Louis, Tampa, San Jose, and Washington, D.C.—well over 70 percent of renters cited upfront costs as the biggest obstacle to home ownership.

In San Jose and Los Angeles, according to the report, a 20 percent down payment for a home amounts to 180 percent of median annual income. More money than what people make in a year. Which is bonkers.

That’s why God made the Federal Housing Administration.

What the FHA means for renters . . .

This will be old hat for many homeowners, but for the uninitiated, FHA loans are not mortgages issued by the FHA. Rather, they are loans from traditional lenders that are FHA-insured. FHA loans—that’s just what people call them—stand out for their smaller down payment requirements and more forgiving credit standards.

FHA loans are suited to the renter who lives in a high-cost urban area and curses her savings, credit, or debt when she ponders her otherwise plausible mortgage. Most FHA loans call for a down payment of 3.5 percent. Mortgage-insurance premiums tack on another 1.75 percent (financed into the loan), plus a smaller annual premium (paid monthly). So FHA loans often cost borrowers more than a conventional loan backed by Fannie Mae with 5 percent down, but for renters with higher debt or lower credit, those loans may be out of reach.

The FHA offers higher loans maximums for higher-cost housing markets: The ceiling for Washington, D.C., for example, is $636,150. That’s both good and bad, since a default on a larger loan deals a bigger blow to mortgage insurance. (More on that in a moment.) FHA loans are varied: Through FHA Section 234(c), for example, would-be homeowners can buy condominium units as opposed to single-family homes, although strictly speaking, it’s not super-easy to do—the FHA has a lot of requirements. At the risk of getting lost in the relative merits of the 3.5-percent FHA loan, the Conventional 97, and HomeReady, the point is that there are a lot of different products available to a lot of different buyers. Some of them even finance closing costs.

Problem solved, right? With housing costs higher than at any point since 2007, and with renters, especially Millennials, struggling to take that first step toward the ostensible American dream—most of all within the cities to which they are flocking—FHA loans seem like an ideal gateway for first-time home-buyers.

Critics say that the one-size-fits-all approach to pricing risk in mortgages leaves low-risk borrowers paying more in the long run than they might otherwise to subsidize higher-risk borrowers. But the U.S. Department of Housing and Urban Development points out that defaults and seriously delinquent FHA loans are at their lowest level in a decade: “The credit quality of the portfolio remains strong.”

Enter the Trump administration and a Republican-controlled Congress. They have identified housing-finance reform as a priority—and FHA loans as a potential target.

. . . and what Congress means for the FHA

Gary Cohn, the former Goldman Sachs banker and White House economic aide whose star is rumored to be rising in the administration, has said that reforming government-sponsored enterprises—Fannie Mae and Freddie Mac—will be one of the U.S. Department of the Treasury’s priorities under Secretary Steve Mnuchin. GSEs and the FHA operate in complementary ways in the market, so reforming the one affects the other. As the University of Maryland’s Clifford Rossi explained in American Banker after the November election:

The FHA served an important countercyclical role during the crisis as private capital fled the system at the worst possible moment. However, the FHA's expansion of access to borrowers seeking higher loan limits, many of whom had access to other private sources of credit, moved them further from their traditional role of serving low- and moderate-income borrowers. Reliance on loan limits to determine FHA borrower eligibility rather than on income measures expands federal subsidies to borrower classes that do not need such benefits. This is one glaring problem with FHA policy that requires attention.

[ . . . ]

Striking the right balance between the FHA's social mission and its duties to maintain the [Mutual Mortgage Insurance Fund]’s financial integrity is complicated and made more difficult by a lack of clarity in defining the agency's target borrowers. Such an exercise is about determining what segments of society merit public support as well as establishing a clear risk appetite that aligns to these goals.

The higher the loan ceilings approved by the FHA, the greater the risk that default poses to the FHA’s mortgage-insurance fund. Notably, the population of borrowers eligible for FHA-insured loans includes borrowers that could access a private loan without the FHA’s help. But as these borrowers will attest, in the city’s hottest housing markets, a 20-percent down payment is unattainable.

It’s unclear exactly what the Trump administration’s plans for GSE and FHA reform involve or where this goal even falls in a busy agenda that includes healthcare, tax reform, and North Korea. The outcomes preferred by Republicans in Congress involve recapitalizing Fannie Mae and Freddie Mac in a way that marks a return to risk-based loan pricing, eliminating any statutory obligation to serve underserved housing markets, and scaling back the FHA’s footprint in the market.  

The GOP agenda isn’t entirely hostile to affordable housing: As the Bipartisan Policy Center notes, some Republicans who signed onto one prevailing model for GSE reform support a securities fee that would “provide valuable resources for the production and preservation of affordable rental housing, homebuyer education and counseling, down payment assistance programs, and—importantly—credit repair, which can significantly lower mortgage costs.” That is a positive sign, although the need for assistance for vulnerable families may be greater than before, depending on what budgetary steps Congress takes.

The reality that renters face today underscores an important point in the debate about housing-finance reform. The rules do need to be retooled to reflect the fact that the nation is no longer in the grips of a financial crisis. But the country is now mired in an affordability crisis. It may not be sustainable for the FHA to absorb so much risk associated with soaring housing costs in America’s booming metro areas; curbing the reach of FHA loans, though, will make it that much harder for renters to make the leap to homeownership.

One outcome of reform could be that homeownership remains permanently out of reach for Millennials in the country’s most economically productive areas. That’s not what renters want to hear—and probably not the answer that their representatives in Congress want to give them, either.

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