Fannie Mae Testing Home Improvement Program

ABA Banking Journal, June 1993 | Go to article overview

Fannie Mae Testing Home Improvement Program


While the financial markets often focus on new home starts, Americans spend almost $120 billion annually on expanding, renovating, or rehabilitating existing homes. This total is estimated to rise to over $200 billion a year by 2000.

Often these efforts are funded out of prospective or present homeowners' private savings, according to research by the Federal National Mortgage Association, in spite of the wide availability of home equity credit lines.

This can leave some homeowners strapped, but many who purchased their homes during the 1980s have either not built up sufficient equity to support a home equity loan, or have watched their equity shrink because of a depressed real estate market.

Landing on the future. Fannie Mac is pilot testing a new approach to home improvement loans that may provide a boost to many homeowners, from the first-time buyer rehabbing an old house into a fit dwelling to the long-time homeowner who needs more space and wants to build an addition.

The essential element of the pilot program, called HomeStyle, is financing the improvement proposed on the basis of the home's anticipated value after construction is completed.

Bob Sahadi, vice-president for housing initiatives, gives a simple example of Fannie's concept.

Say a home is appraised at $105,000. Now let's say a proposed improvement would add an estimated $20,000 in value. Giving the homeowner three-quarters of that value as a conservative measure would make the home worth $120,000 (the appraised $105,000 value plus the $15,000 allowance for the improvement).

Assuming the bank used a 90% loan-to-value ratio, this would permit the homeowner total housing debt of $108,000--$13,500 more than would have been possible if only the appraised value prior to the improvement were counted.

"We're chartered to help low-, moderate-, and middle-income people who don't always have $25,000 to throw into a home improvement project," says Sahadi.

Fannie Mae expects most loans made through the new effort will range between $15,000 and $25,000, with some regional variation.

Under the HomeStyle program, Fannie Mac will advance funds to lenders while construction is underway. When construction is completed, Fannie Mac will purchase the entire loan--presently for its own portfolio rather than for resale to the secondary market.

Up to $500 million of HomeStyle loans will be purchased during the pilot phase, after which Sahadi anticipates the program will be added to Fannie's regular stable of securitized asset options. He says the agency believes the program will have to be in operation for about three years before there will be enough volume and outstandings to make securitization of the loans practical.

Making it work. While the HomeStyle program is simple in principle, there are numerous additional details necessary to get it to work in practice. Fannie Mac estimates that these extra steps will add two to three weeks to a lender's ordinary turnaround time for mortgage loans.

First off, the home improvement the borrower proposes must be one that Fannie Mac and the lender believe will add value to the home in its particular market. Projects that improve the structural integrity of the house, for example, clearly would add value to it.

In addition to major structural repairs or expansions, eligible items would generally include remedying building code violations, remodelling kitchens and bathrooms, adding decks or patios, and fixing or upgrading major services such as heating or electrical systems.

Some improvements won't be considered eligible in some markets, says Sahadi, because they won't likely add much value to the home. As an example, he pointed out that so many homes in Florida have swimming pools that financing one through HomeStyle wouldn't provide enough bang for Fannie's bucks.

Second, a critical item that must be taken care of upfront is the dual appraisal called for by the program. …

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