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55 » VISIT US ONLINE @ DSNEWS.COM CAUGHT UP IN THE CHURN While Ginnie Mae has attempted to "to combat the churning of VA mortgages (which results in unusually fast prepayment speeds)," Urban Institute claimed in a recent report that alleged abuses by some VA lenders may have led to more expensive federal loans, particularly for VA borrowers. Ginnie Mae's programs convert government mortgages backed by three federal agencies—the Federal Housing Administration (FHA), the U.S. Department of Veterans Affairs (VA), and the U.S. Department of Agriculture (USDA) Rural Housing Program—into mortgage- backed securities for investors to purchase. Urban's report states that VA borrowers prepay their mortgages faster and are more responsive to interest rate declines, and claims that some of those accelerated prepayments are due to churning, where the mortgage is originated with the expectation that the loan will quickly refinance. "Churning can cause a VA borrower to pay an above-market rate for a period of time and additional origination fees on the new mortgage," Urban's report states. "In many cases, the new mortgage is a cash-out refinance, so the increased balance includes both the fees and some equity taken out for the borrower." According to Urban Institute, these faster prepayment speeds would require all Ginnie Mae borrowers to pay around an additional 7 basis points per year in interest rates, which Urban's experts note is not high, but is still significant. "For example," the report says, "it would increase the monthly payment on a $250,000, 30- year mortgage with a 4.25 percent interest rate by $175 per year, with no benefit to the borrower." Faster prepayments may undermine investor confidence, as the loans are removed and refinanced. Ginnie Mae has taken steps to resolve this problem, including a six-month seasoning period for streamlined refinance loans and cash-out refinance loans. However, the solution won't be easy to find. Ginnie Mae is still seeking advice on further action through a request for information. AN OVERLOOKED DEFAULT INDICATOR According to a research report from JPMorgan Chase Institute, homeowners with post-closing liquidity of three months or more were five times less likely to default. Additionally, the report notes that liquidity may be more useful at predicting mortgage default than home equity, income level, and payment burden. "Understanding the principal factors associated with mortgage default is critically important to developing solutions that help Americans avoid default and stay in their homes," said Diana Farrell, President and CEO, JPMorgan Chase Institute. "We hope this analysis is valuable in helping mortgage lenders and servicers develop policies and programs that could prevent defaults in the future, while also helping more people access mortgages and have the opportunity to own a home." e report, titled "Trading Equity for Liquidity: Bank Data on the Relationship between Liquidity and Mortgage Default" indicates that borrowers with less than one mortgage payment equivalent (MPE) of post- closing liquidity had a three-year default rate (1.8%). Meanwhile, borrowers with between three and four MPEs of post-closing liquidity (0.3%). Low-MPE borrowers made up a "a disproportionately high share of defaults," JPMorgan Chase notes. Homeowners with less than one MPE of post-closing liquidity made up 20% of the report's sample, but accounted for 54% of defaults. Drops in income preceded default regardless of whether a homeowner's total debt-to-income at origination was above or below the 43% ability-to- repay threshold of the Qualified Mortgage rule. Actions that increased borrower liquidity were shown to reduce default rates, but modifications that increased borrower equity but left them underwater did not impact default rates. For example, a 10% payment reduction would lead to an increase in liquidity, and reduced default rates by 22%. On the other hand, modifications that relied on principal reduction, which decreased equity, had no material impact on default rates for borrowers who remained underwater. "Taken together, our findings suggest that a policy or program encouraging borrowers to make a slightly smaller down payment and use the residual cash to fund an 'emergency mortgage reserve' account might lead to lower default rates," said JPMorgan Chase in a statement. 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