Timing equals savings for owners who sell or refinance properties

4/3/2011

WASHINGTON -- Could the federal government's booming FHA mortgage program be forcing home- owners to pay tens of millions of dollars of extra interest charges when they sell their houses or refinance their loans?

Critics say yes. The government says the critics aren't providing the full picture.

The critics include Sen. Ben Cardin (D., Md.), who is sponsoring legislation that would prohibit FHA lenders from collecting a full month's worth of interest from sellers and refinancers who pay off their mortgages before the final day of the month.

To illustrate: Say a $200,000 FHA-insured mortgage is paid off during the settlement of a sale on April 5. The seller will be charged an extra $820 to cover interest for the remaining days of the month, according to estimates prepared by the National Association of Realtors. If the same loan is paid off April 15, the additional interest levy would total $492.

Where does the money go? Ted Tozer, president of the Government National Mortgage Association, which bundles FHA loans into bonds and sells them to investors, says it flows to the bondholders, who are guaranteed payment of interest for the full month even if the balance is paid off much earlier.

He maintains that the direct payment approach has given FHA borrowers a slight discount on their initial interest rates -- probably in the range of 0.10 percent to 0.15 percent -- compared with conventional loans.

But critics charge that the extra interest often cuts seller proceeds by hundreds of dollars, exceeding the rate break on the mortgage.

"Homeowners should not have to pay interest on loans that they have fully repaid," Mr. Cardin said. His bill would require FHA lenders to compute payoffs by total days basis rather than by a full month.

The National Association of Realtors says the costs to consumers are huge. Citing the most recent statistics on early payoffs it claims it could obtain from FHA, the group said that during the year 2003 alone:

● FHA borrowers paid $587.4 million in "excess interest fees" because of the full-month rule.

● Only 16 percent of loans were paid off during the final five days of the month.

● The average extra payment was $528, but 425,000 homeowners paid an average of $622.

Asked for comment, Vicki Bott, who heads FHA's single-family mortgage office, said that the agency is "examining this issue very closely" and actively considering a regulatory change.

In an interview, Mr. Tozer said the entire issue is up to FHA and that his agency could readily sell its mortgage-backed bonds using the per-day payoff approach that is standard in the conventional mortgage marketplace. But, he said, investors still would need to be compensated for the full month's interest, and that would probably require a slightly higher rate on the mortgage.

In the meantime, homeowners who have FHA loans and plan to refinance or sell would be wise to schedule the closing at the end of the month.