US Debt Ceiling Crisis - What would happen to mortgage lending?    


by Keith Luedeman, CEO   


07/25/2011 - US Debt Ceiling Crisis - What does it mean to mortgage lending?

The US is currently facing a serious situation in regard to the current debt ceiling, which if not raised, will have serious impact on the US Economy, the functioning of our government, and mortgage rates. 

The debt ceiling is the legal limit on how much debt the government can accumulate.  The government takes on debt two ways:
1) It borrows money from investors by issuing Treasury Bonds,
2) And it borrows from itself, mostly from the Social Security Trust Fund. 

Congress created the debt limit in 1917, and it's unique to the US.  Most other countries let their debts rise automatically as needed.  The US has raised it's debt limit 10 times since 2001.  Right now the US Debt totals $14.3 Trillion, and $1.29 Trillion was added to the debt in 2010.    Right now the US borrows 40% of what it spends - thus the concern in Congress that the budget needs to be balanced along with raising the debt limit.   If the debt limit does not rise, the US will have to choose what it pays and does not pay.  As a side effect, the interest rates for the US to borrow more would go UP, further increasing the debt payments.

Think about it this way - it's a bigger risk to lend to the US if there is a possibility that you may not be paid back on time.  Higher risk = higher rate needed to find folks to lend money.

In the past decade the National Debt has gone up by nearly $9 Trillion Dollars.  The biggest contributors to the nearly $9 trillion increase over a decade were:

— 2001 and 2003 tax cuts under President George W. Bush: $1.6 trillion.
— Additional interest costs: $1.4 trillion.
— Wars in Iraq and Afghanistan: $1.3 trillion.
— Economic stimulus package under Obama: $800 billion.
— 2010 tax cuts, a compromise by Obama and Republicans that extended jobless benefits and cut payroll taxes: $400 billion.
— 2003 creation of Medicare's prescription drug benefit: $300 billion.
— 2008 financial industry bailout: $200 billion.
— Hundreds of billions less in revenue than expected since the Great Recession began in December 2007.
— Other spending increases in domestic, farm and defense programs, adding lesser amounts.

August 2nd is the date that Treasury Secretary Timothy Geither has said he can stretch out current debt limit to.  After that - some bills will go unpaid.
The US Government was almost shut down midnight on Friday, April 8th. The last time this happened was in 1995 and 1996 when the Government was shut down from November 14 through November 19, 1995, and from December 16, 1995 until January 6, 1996.

It's important to realize the impact of a government shutdown on mortgage lending.  The effect would be rather large.  The following is a list of areas that would be impacted.  It's hard to know 100% exactly what would happen, as 'essential government operations' would be able to continue.  It is unclear if any of these areas would be considered essential.
FHA Loans

FHA loans would largely be shutdown.  And FHA loans are currently approximately 20% of all loans made, and 40% of all purchases.  The issue is that FHA would not be open to insure those loans, which are made with smaller down payments than most.  Some banks could choose to continue to make these loans and hold them until the government re-opens.  But if the shutdown continues for an extended period of more than a few weeks, even larger lenders would not want to take on this risk.

Other FHA loans could be stopped if they have a requirement for a CAIVRS number, which determines if the borrower has a delinquent federal debt. 

Since FHA loans are 40% of all purchases, it could also affect other sales if the customer selling the home needs the home sold to qualify for their next home purchase.  This daisy-chain effect could greatly affect the housing market.

VA and USDA loans would also be affected and largely unavailable.

Conforming Loans

Conforming loans could also be affected by a shutdown.  First, a common requirement to qualify for a loan in 2011 is verification of income by executing Form 4506-T, which allows your lender to obtain a copy of your tax returns from the IRS.  Almost all lenders do this to ensure your income calculations are correct.  If the Government is closed, this would not be possible and lenders could make the decision to decline many loans if income cannot be documented this way.

Additional problems could occur if your property is in a flood zone.  It may be difficult or impossible to obtain flood insurance through FEMA during this time.

Lastly, if your loan requires Social Security Number Validation, this service will not be available.
Is It Over Yet?
Even if an agreement is reached, it most likely will affect the US Economy in one of two ways.  If debt is not cut enough and thus increasing borrowing needs, rates will rise, stifling the economic recovery.  If the debt is cut to reach a more balanced budget, government spending will be reduced, and this will slow the economy. 

Stay tuned, it should be an interesting week.

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