Recent Mortgage Pricing Directive for Fannie Mae and Freddie Mac

Recent Mortgage Pricing Directive for Fannie Mae and Freddie Mac

INSIGHTi

Recent Mortgage Pricing Directive for Fannie
Mae and Freddie Mac
Updated June 7, 2023
Introduction
The Federal Housing Financing Agency (FHFA) directed Fannie Mae and Freddie Mac to revisit the fees
applied to guarantee mortgage default risk. As primary regulator and conservator of Fannie Mae and
Freddie Mac, FHFA announced this directive as part of the strategic plan to improve the financial
conditions of Fannie Mae and Freddie Mac. This Insight explains how the new pricing directive works,
particularly for borrowers at low-default risk relative to those at high-default risk.
The New Price Adjustment Structure
Fannie Mae and Freddie Mac, two government-sponsored enterprises (GSEs), were chartered by
Congress in 1938 and 1970, respectively, to provide liquidity for both the single- and multi-family
mortgage markets. In the years following the housing and mortgage market turmoil beginning in 2007,
the GSEs experienced financial difficulty. On September 6, 2008, FHFA took control of them from their
stockholders and management in a process known as conservatorship. FHFA has since implemented
various initiatives, referred to as strategic plans or scorecards, to improve the GSEs’ financial conditions,
which can facilitate their exit from conservatorship. The GSEs are now being allowed to accumulate
capital reserves to buffer against mortgage default risks.
The ability to accumulate capital to exit conservatorship depends upon the premiums that Fannie Mae and
Freddie Mac can charge for insuring against mortgage default risk. When determining the interest rate for
a single-family mortgage—and ultimately the premium that would be retained by Fannie Mae and Freddie
Mac—a loan originator typically receives a rate sheet from Fannie Mae or Freddie Mac with a designated
minimum base rate and the various risk adjustments, referred to as the loan-level price adjustments
(LLPAs), which are subsequently added to the base. After gathering the mortgage applicant’s credit score
and down payment amount, the lender can go to the LLPA matrixes to locate the corresponding fees that
are added to the base rate. For loans such as a cash-out refinances or investment properties, which may be
associated with higher default risk or are not directly related to the policy goal of increasing
homeownership, respectively, additional LLPA fees may be attached.
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As conservator, FHFA directed Fannie Mae and Freddie Mac to alter their LLPA structures effective on
May 1, 2023 (and also rescinded an LLPA fee that would have been based on debt-to-income ratios).
Their new LLPA fee structure shows that borrowers with low-default risk will generally pay less than
those at high-default risk. Some low-default risk borrowers, however, may pay more under the new fee
structure. An example is provided in Table 1. A prospective low-risk borrower with a credit score
between 760 and 779 and a down payment in the range of 15%-20% would have an LLPA of 0.625%
added to the base mortgage rate under the new structure, compared to 0.250% under the previous
structure. By contrast, a prospective high-risk borrower with a credit score between 640 and 659 and a
down payment in the range of 15%-20% would have an LLPA of 2.250% added to the base mortgage rate
under the new structure, compared to 2.750% under the previous structure.
Table 1. Comparison of Previous and New LLPA Structure
Assumes a Down Payment in the Range of 15%-20%
Previous LLPA

Structure
New LLPA Structure
Low-Risk Borrowers
0.250%
0.625%
High-Risk Borrowers
2.750%
2.250%
Source: Fannie Mae. The new LLPA structure is hyperlinked in the text.
Comparisons of the previous and new LLPA grids show that low-risk borrowers currently pay higher
LLPAs, and high-risk borrowers currently pay slightly lower LLPAs. When making comparisons on the
same fee structures, however, low-risk borrowers will generally pay lower LLPAs compared to high-risk
borrowers to compensate for their elevated levels of default risk. (Further pricing differentials occur if
additional LLPAs are incorporated to account for mortgage characteristics that differ and are considered
riskier compared to the traditional 30-year fixed rate mortgage.)
FHFA’s LLPA pricing directive could arguably serve multiple policy objectives. For example, low-risk
borrowers may subsidize some of the costs to insure against the default risk of borrowers with low credit
scores, which may be one policy objective. In addition, a larger share of revenues collected from low-risk
borrowers may expedite the GSEs’ ability to accumulate more retained earnings necessary to exit
conservatorship, thus serving a different policy objective. Charging high-risk borrowers slightly lower
premiums could potentially increase affordability and promote more stable payment behavior from this
group, possibly increasing the amount of revenues that could also facilitate earlier exit from
conservatorship. Given that fewer high-risk borrowers may qualify for as many or for mortgages as large
as those obtained by low-risk borrowers, more of the revenues collected under the new LLPA schedule are
likely to be applied toward improving the financial conditions of Fannie Mae and Freddie Mac.
H.R. 3564, the Middle Class Borrower Protection Act of 2023, would require Fannie Mae and Freddie
Mac to revert to the previous fee schedule. After expiration of a temporary prohibition period, the FHFA
Director may propose adjustment to the single-family pricing framework following procedures consistent
with the Administrative Procedure Act (rather than the scorecards).

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Author Information

Darryl E. Getter

Specialist in Financial Economics

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