We are starting to see an increase in mortgage rates as a result of H. R. 3765, which was signed into law on December 23rd. This bill continued the temporary cut in payroll taxes (social security or FICA payments). To help offset the cost; congress mandated that Fannie Mae and Freddie Mac increase their guarantee fee by 10 basis points (.10%) which goes directly to the US Treasury.
Because mortgages are quoted in 1/8 (.125) percent increments, the 10 basis points increase will result in a one-eighth percent rate increase. The borrower has a choice of paying the higher interest rate or a higher up front cost. The typical buydown cost to offset the 1/8% increase is of one-half point. This may not sound like much, but for a 300,000 loan the borrower can choose to pay $1500 more at closing or $25.00 more each month.
To fully understand this fee, we need to look at how mortgage instruments are priced in the bond market. Fannie Mae and Freddie Mac put together pools of mortgages and trade them in the bond market. The typical mortgage backed security (MBS) is traded in one-half percent increments. Today's yield on a Fannie Mae security is 3.5%, which means an investor who purchases a $1,000,000 bond will earn $350,000 annually.
The process starts by the mortgage broker providing a 4.0% mortgage for their customer. This loan is sold to a mortgage servicing company, which charges a servicing fee between .25% and .375%. The servicing company will deliver the loan to Fannie Mae to put into a large pool of loans, called a Mortgage Backed Security. Fannie Mae funds their operation (yes, Fannie Mae is supposed to make a profit) by charging a guarantee fee of about .20%. On a typical $300,000 loan at 4.0%, the borrower pays monthly interest of $1,000. Out of this $1,000, the servicing company will make approximately $75.00 per month, Fannie Mae will make about $50.00, and the investor will make about $875.00.
The increase in the guarantee fee means Fannie Mae will now collect an additional $25.00 (for a $300,000 loan) each month to pass on to the federal government. For 2012 analysts predict the total mortgage volume to be about one trillion dollars, half of which will flow through Fannie Mae and Freddie Mac. Guarantee fees will be approximately $1.5 billion, of which he treasury will receive about $500,000,000. Since these fees are in place for the life of the loan, this will be a good source of revenue for many years to come. In four or five years, the total Fannie Mae and Freddie Mac loan volume subject to this new fee could total $5 trillion, which will add $5 billion annual to the government coffers.
Currently these fees are only charged on Fannie Mae and Freddie Mac loans and don’t affect FHA loans. However, the bill allows the FHA to increase the Mortgage Insurance Premium (MIP) so don’t be surprised if we see increases soon.
Guest Author Randy Kelly is a Mortgage Banker and Finance Author with Peoples Mortgage. You can reach him online anytime by clicking here.
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