Author Topic: FHA Streamline, tough spot  (Read 5021 times)

artimus

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FHA Streamline, tough spot
« on: August 31, 2012, 01:49:42 AM »
Could really use your help on this one MMM and MMM family:  I'm in an interesting spot with my home loan and I had some questions that Google, despite all its wisdom, couldn't completely help me with.  I know mustachians are always eager to lend a handlebar, so here goes:

I currently live in a house I purchased for 280,000.  It has an FHA loan with a remaining principle of 262k and an interest rate of 5.5%.  I am currently in the process of getting an FHA streamline to get down to 3.75%, but I have an interesting dilemma.  The home was purchased in the summer of 2009, which, for reasons unknown to me, allowed us to have a lower monthly insurance premium (somewhere in the neighborhood of 150 per month).  It seems that now if you are refinancing, and the paperwork for your home went in AFTER June 09, you can't keep your old PMI rate.  So if we refinance from 5.5% down to 3.75% our payment will go from 1966 per month, to 1780 or thereabouts per month.  Now that's still savings and that's great, but there are some things that worry me.   

To get out of paying MI with FHA loans you need to have a 78% LTV and it has to be based on the original purchase price, you arent allowed to use appreciation to get the new value (not that it's gone up at all, but just a note). Now, the actual payment without the mortgage insurance will be in the 1300 range if we refi, but when you refi through FHA streamline, you are locked in to pay the PMI for 60 months.  So that's 5 years of paying $400+ for mortgage insurance.  Assuming I have to pay the insurance for the full 5 years, that will be at least $24,000 down the toilet.

Ok, now the actual questions.  I have a roth IRA with ~40k in it.  How can I use this money, and SHOULD I use this money, to pay down the principal BEFORE the refi to remove the insurance?  Keep in mind it's an IRA and I will take a 10% bite on the whole 40k as it hasn't been enough time for me to avoid penalties on any of the money (unless I can somehow credit this cash toward buying my first home since I'm technically still in my first home?)  Also, if I do this ReFi now, and in a year (the minimum amount of time before refinancing is allowed) a. house appreciates to give me an LTV of under 78% can I refinance again to a conventional loan and  remove the insurance or am I locked into that insurance even if I refi? am I allowed to refi before the 5 year period ends? 

Also, how hard is it to take out a HELOC as a safety net, because if I use this money and then somehow desperately need it, I would be disappointed if I couldn't tap that equity.  Hope there are some financial wizards out there who can help me out because I'd really like to save 24k over the next 5 years.  So, 40k investment in the home, nets me 24k over 5 years, minus 4k for the tax penalty = 20k over 5 years, = $4,000 per year, or 10% annualized, plus frees up future cash flow for myself.  Seems pretty complex with lots of different layers though, hope you guys can help.

« Last Edit: August 31, 2012, 02:15:25 AM by artimus »

Another Reader

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Re: FHA Streamline, tough spot
« Reply #1 on: August 31, 2012, 06:26:21 AM »
First, a HELOC requires you have sufficient equity to borrow.  Evan if you gut the IRA to reduce principal, you will not have enough equity to get a HELOC.  A HELOC is in my opinion a very weak safety net.  It can be closed at the whim of the bank and I know lots of folks that got locked out in 2008.

Under no circumstances would I commit to five years of paying that insurance to lower my payment from $1,966 to $1,780.  The payment savings equate to only a small reduction in the interest rate.  You are focused on the nominal rate, not the actual savings.  Calculate the equivalent interest rate with the mortgage insurance included.

There is no guarantee the value of your house will appreciate in one year or five.  You may be stuck with this mortgage insurance for longer than five years.  There is also no guarantee interest rates will be at their current lows when you go to refinance again. 

I would not gut my retirement account to lower the FHA loan payment on the house.  In fact, I would not use FHA to refinance at all because FHA is a bad deal for borrowers these days.  Instead, I would focus on paying down principal to get to the point where I could get a conventional loan with an 80 percent loan to value ratio.  A conventional loan at 3.75 percent with NO mortgage insurance is worth doing, if you can find that $40,000 somewhere other than your IRA.

JohnGalt

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Re: FHA Streamline, tough spot
« Reply #2 on: August 31, 2012, 09:44:40 AM »
While I wouldn't recommend hitting your roth IRA for this - you wouldn't be paying the 10% penalty on your contributions.  Those can be withdrawn penalty free at any time. 

As was mentioned above - run the numbers including the PMI as your costs and see what your breakeven point is to decide if the refi makes sense.

I refinanced out of my original 3% down FHA after 2 years in the house to a conventional, no PMI loan because I had increased the value of my house enough to get 80% LTV.  While yes, the FHA loan will require 60 months of PMI if you keep it, nothing says you can't refinance again into a conventional loan once you hit 80% LTV. 

artimus

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Re: FHA Streamline, tough spot
« Reply #3 on: August 31, 2012, 10:01:53 AM »


Under no circumstances would I commit to five years of paying that insurance to lower my payment from $1,966 to $1,780.  The payment savings equate to only a small reduction in the interest rate.  You are focused on the nominal rate, not the actual savings.  Calculate the equivalent interest rate with the mortgage insurance included.


Well the 1780 price would only be for as long as I have to carry mortgage insurance.   I'm wondering if I will even get down to 78% in 5 years with the minimum payments (doubt it).  If I can set up a structured plan where I pay the house down to 78% LTV (I'm at 93% now) over the 5 year period when that time period expires, the payment will go down to 1300 for the rest of the loan, so still the 3.75% rate is realized, but not til the value is there, and 5 years have passed.  If I do not refinance, and get to 78% LTV, my payment will go down to only 1800 (with my current 5.5% rate). That's a difference of $500 per month, but it isn't realized until my LTV is in the right place.  So there is still value in doing the refi imo, I'm just trying to see if I can get more value doing it another way.

Another Reader

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Re: FHA Streamline, tough spot
« Reply #4 on: August 31, 2012, 10:16:00 AM »
If you can throw more money at the mortgage on a regular basis to get to 78 percent, then this might make sense.  Think how quickly you would be able to pay off the house if you continued to pay the $1,780 plus the additional money you were throwing at the principal starting at the end of the 5 years.  If your income increases over the 5 years, this should be easy.

Better check with the FHA lender to see if the remaining payments on the 5 years of MI are due as a prepayment penalty if you refinance before the 5 years are up.  And watch the values in your neighborhood in case you hit 80 percent while rates are still low so you can go the conventional refi route.

ShavinItForLater

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Re: FHA Streamline, tough spot
« Reply #5 on: August 31, 2012, 02:01:43 PM »
I would give similar advice, and will add some more info. 

For earnings in your IRA, raiding it would have more than just the 10% penalty--it would be what's called a "non-qualified distribution", so you also have to pay your ordinary income tax rate.  That would likely be more like 35-40% total penalty/taxes.  I would not recommend paying 35-40%, plus the lost opportunity cost of the investment, just to avoid PMI.  I seriously doubt the "first time home purchase" exception would apply.  I'm not sure what your earnings are, but since you say it's been less than 5 years, and the market has recently gone up about 100%, I would guess you've got a significant chunk of earnings as part of that 40k.

Regarding being "locked in" for 60 months, I think that would generally mean within the context of that loan.  If you refi again, all bets are off and you could potentially eliminate PMI at that point.  What you'd need to ask about is if there is any prepayment penalty--that is what would lock you in to that particular loan.

PMI (new policies issued?) was apparently tax-deductible from 2007-2011 on FHA mortgages, but that expired in 2012, so you might want to do a calculation of the after-tax difference for your case.  It looks like you'll have lower (deductible) interest but higher (non-deductible) PMI.  If you come out ahead, then look at any closing costs for the refi, and see how long it takes you to breakeven.  The general rule is 24 months or less is worth doing.

After that I'd say do everything you can to save more and then get to the point where you can refi without PMI.  The next alternative I'd consider would be downsizing in house to something you can afford with less than 80% LTV, which I know isn't easy, but I can tell you I never would buy a place if I couldn't afford it without PMI.