Mortgage rates plummet, but borrowers beware

The takeover of Fannie and Freddie may make mortgage borrowing cheaper - but it won't make getting a loan any easier.

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By Les Christie, CNNMoney.com staff writer

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NEW YORK (CNNMoney.com) -- Mortgage rates have plummeted, but that hasn't made getting a home loan any easier for most borrowers.

In the wake of the government's takeover of Fannie Mae and Freddie Mac last weekend, the 30-year fixed rate has dropped from 6.26% last Friday to 5.79%. But only buyers with a credit score of 740 of above - and a 20% down payment - can qualify for such a low rate. During the boom, borrowers only needed scores of 640 to land the lowest rates available. Even a 580 score would get them very close to the best rate.

During the credit crisis, Fannie Mae (FNM, Fortune 500) and Freddie Mac (FRE, Fortune 500) have become virtually the only source of funding for banks and other home lenders looking to make home loans. Their ability to lend is crucial to the housing market. To that end, the Treasury will buy mortgage-backed securities from the two firms, and lend them money if necessary, all in an effort to make credit more available to home buyers.

But that doesn't mean that lenders won't continue to subject borrowers to strict criteria, according to Keith Gumbinger of HSH Associates, a tracker of mortgage loan information. The aim is to make mortgages more available, but only to the most qualified borrowers.

"All the emphasis on credit scores is not going to go away," he said.

High score, low rate

As the housing market has imploded, lenders have battened down the hatches on mortgage underwriting, consistently raising the credit scores necessary to qualify for the most favorable terms, and adding to borrowing costs to compensate for any extra risk factors they find. That's not going to change.

"Credit score affects your rate more than they ever have before," said Steve Habetz, a mortgage broker with Threshold Mortgage in Connecticut who has more than 20 years experience in the business.

An individual's credit history is scored between 300 to 850, with 300 very low and 850 perfect. The median score, in which half of the borrowers have a lower score and half have a higher one, is about 720. Only those with very high credit scores are getting the best mortgage deals.

And Fannie and Freddie have raised fees for borrowers with lower credit scores as the housing crisis worsened - they've increased twice this year alone. The lower the score, the larger the fee.

For example, Fannie charges a 1% up-front fee (raised from 0.75% this summer) for borrowers with a credit scores of 680, even when they're paying 20% down on their homes.

Even people with the very favorable scores, between 720 and 740, pay a small fee equal to an up-front charge of a quarter point. That's a big change from the past. Habetz had a client recently with a 735 credit score putting down 20% -a very solid applicant -and the client still didn't qualify for the best rate.

"You tell people with 730 credit scores paying 20% down that you have to charge them a quarter point extra and they look at you like you're crazy," he said. That comes to an extra $30 a month on a $200,000 loan.

Borrowers with scores below 600 may have to pay a fee of a full percentage point or more, adding $120 to the monthly costs of the average loan.

Nervous investors

Investors in mortgage-based securities are simply demanding that they be compensated for any extra risk that a borrower represents, according to Jon Kaempfer, a loan officer with Vitek Mortgage Group in Sacramento, Calif.

Kaempfer had a client with a 635 credit score recently who wanted to do a cash-out refinancing, a deal in which an existing homeowner takes out a loan for more than the mortgage is worth. The homeowner gets a bundle of cash, which this client wanted to use to pay for some home improvements.

The lender wanted to charge 1.5% of the mortgage principal up front simply because it was a cash-out deal, plus 2.5% more because of the home owner's modest credit score. Those fees, folded back into the mortgage, added about a percentage point to the client's interest rate.

"You have to be golden, have at least a 680 score or a 720 if you're making a smaller down payment, to qualify for the best rates," said Kaempfer.

Gumbinger expects lending standards to remain tight for the foreseeable future, as long as home prices continue to fall. The risk of foreclosure is of course much higher in a falling market, and lenders need to shield themselves.

If and when prices do improve, says Gumbinger, borrowers with less than perfect credit scores may get some breathing room.  To top of page

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