Mortgage closing costs can add up at the closing table and over the life of a home loan. One way to avoid a higher-priced mortgage loan may be to stay away from government-backed loans insured by the Federal Housing Administration (FHA). Borrowers often choose FHA loans for their flexible underwriting guidelines, but the short- and long-term costs may outweigh the benefits.
A higher-priced mortgage loan (HPML) is a mortgage with an annual percentage rate (APR) that’s higher than the average prime offer rate (APOR) offered to well-qualified borrowers. The APOR is set by the Federal Financial Institutions Examination Council (FFIEC) and is based on a weekly survey of average interest rates and terms offered to highly qualified borrowers.
Because HPML loans typically come with higher interest rates, monthly payments and closing costs, lenders are required to take extra precautions to make sure you can repay your loan (more on this below). Your APR is not the same as your interest rate; rather, it’s a measure of the cost to borrow your mortgage and includes origination fees, discount points, mortgage insurance and other costs.
HPML rules only apply to first mortgages, second mortgages and jumbo loans on homes used as your primary residence.
If your mortgage is considered an HPML loan, lenders must take extra steps to prove you can repay it. These include:
Where you live influences how your lender handles an HPML loan, but your loan officer should be familiar with the guidelines that apply to your situation.
The Consumer Financial Protection Bureau’s 2019 Mortgage Market Activity and Trends report found that just over 1 in 10 of all home loans used to buy one- to four-unit, owner-occupied site-built homes in 2018 to 2019 crossed the HPML threshold. However, government-backed loans, manufactured homes and purchase loans were more likely to be higher-priced.
There are five key ways to avoid an HPML loan:
First-time homebuyers often opt for FHA mortgages because they allow for lower credit scores and higher debt-to-income (DTI) ratios (to note, DTI ratios measure your total monthly debt compared to your gross monthly income). However, in 2019, 36.5% of FHA loans were higher-priced, according to the aforementioned CFPB report.
Three features of FHA loans often lead them to cross the HPML threshold:
Learn about the different types of mortgage loans you could get.
Conventional mortgages require private mortgage insurance (PMI) when you put down less than 20% —though PMI can be removed after you’ve reached 20% equity.
Save money on mortgage insurance costs — and avoid the additional HPML restrictions — by taking some extra steps to boost your credit scores above 620:
Pay your credit card balances down. Keeping your credit account balances below 30% of your total available credit will go a long way to increasing your scores — plus, it’ll also lower your DTI ratio.
Pay everything on time. A recent late payment will damage your credit score, so put your payments on autopay to avoid missing a payment. If you do pay late, wait three to six months to give your scores time to recover before applying for a home loan.
Shoot for a credit score above 780 to get the best conventional rate. Fannie Mae and Freddie Mac, the government agencies that set rules for conventional loans, changed the credit score standard to avoid charges that affect your interest rate from 740 to 780.
Consider paying off debt to reduce your DTI ratio for conventional loans. Conventional lenders are required to assess a fee equal to 0.25% to 0.375% of your loan amount for borrowers with a DTI ratio above 40%. The fee may be added to your closing costs, charged to you as a higher interest rate or a combination of both.
Don’t know your credit score? Get your free score on LendingTree Spring today.
The bigger your down payment, the lower your conventional PMI premiums will be. Lower monthly mortgage insurance costs lead to a lower APR, which may help you dodge the HPML threshold. In addition, making a 20% down payment means you’ll avoid mortgage insurance altogether.
Lenders calculate your APR based on the amount of costs you’ll actually have to pay. FHA loans allow a seller to pay up to 6% of the purchase price toward your closing costs. This could help push your APR below the HPML limits, so you won’t have to deal with HPML requirements.
Although manufactured home loans account for a small percentage of originations each year, in 2019, they exceeded the HPML limits about 70% of the time for both conventional and FHA purchase loans.
