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Freddie Mac’s pilot program to buy second mortgages probably won’t be a big deal

In case you missed it, the Federal Housing Finance Agency (FHFA) Granted Conditional approval for Freddie Mac to purchase single-family closed second mortgages.

What this means is that lenders will now be able to originate second mortgages and sell them to one of two government-sponsored enterprises (GSEs).

This would arguably improve access to these lending products, and potentially lead to cost savings if increased competition leads to lower interest rates and fees.

At the same time, some have said this is inflationary (because it makes it easier for homeowners to take on more debt), while others have said it is not part of the GSE’s core mission to promote homeownership.

I’m here to say that this new beta program is very limited and likely won’t change much, at least anytime soon.

What is Freddie Mac’s new second mortgage pilot program?

In short, Freddie Mac is now allowed to purchase second mortgages that meet certain criteria.

As a result, there will be additional liquidity in the lending markets for home equity loans, which are closed-end loans.

Currently, most second liens, whether open-ended HELOC loans or closed-end home equity loans, are originated by large depository banks that typically keep them on their books.

Often, non-banks do not have this luxury because they are capital intensive, so the end result is that fewer mortgage companies make such loans.

Notice the absence of home equity loans in the above chart provided by icewhich has since been exacerbated by mortgage rate stabilization.

This can result in negative outcomes for homeowners who may need to access their home equity to pay off other debts or purchase funds.

In fact, the pilot program was approved by the Federal Housing Administration to determine whether the proposal would further Freddie Mac’s “legal purposes” and benefit homeowners, especially those residing in rural and underserved communities.

One argument in support of the program is that HELOC providers often overlook low-income homeowners in search of more affluent borrowers who open larger lines of credit.

This happens to be more profitable for these lenders since the larger the loan, the higher the commission overall.

However, without being too complicated, the new program makes getting home loans easier.

It’s not much different from the liquidity that Freddie Mac (and its sister company, Fannie Mae) provides for first mortgages, which makes them easier and cheaper to get, too.

Who qualifies for a second mortgage from Freddie Mac?

While I personally have been critical of this new program, mostly because you can already get a home loan from many different providers, there are several guardrails in place to prevent this from becoming an unintended monster.

First, loan volume is limited to $2.5 billion over an 18-month trial period.

This means that once funds are exhausted, the program will be closed and will be evaluated to determine whether it should be continued and/or expanded.

Additionally, the first mortgage must already be owned by Freddie Mac and the loan requires a seasoning period of at least 24 months.

As such, a homeowner can only get a home equity loan from Freddie Mac if they have their current first mortgage for at least two years.

Last but not least, it is only available on primary residences and maximum loan amounts of $78,277.

This is consistent with the sub-lien loan limits for qualified mortgages (QMs).

If you meet all of these criteria, it may be possible to get a home equity loan on your existing first mortgage backed by Freddie Mac.

Ideally, it will be easier and cheaper to obtain than other alternatives from private banks. But we don’t really know for sure.

This program will be very limited

As you can see from the program instructions above, this won’t be a huge program, at least not at first.

We know they will not lend more than $2.5 billion, which is not a large number nationally.

For perspective, the nation’s second-largest mortgage lender, PNC Bank, issued nearly 80,000 loans in 2022.

Assuming a typical loan has a maximum loan amount of $78,277, this would result in just under 32,000 second mortgages being purchased by Freddie Mac.

It can be argued that the average loan amount will be lower, but this still puts the number of loans lower than that of just one servicer.

In other words, it’s unlikely to have much impact if the pilot doesn’t generate as much activity as any other lender.

Especially when there are hundreds of other second mortgage providers out there.

But I’m sure everyone will be watching to see how this turns out, especially how underwriting guidelines and mortgage rates compare.

Some also claim that this is just the beginning, and could herald the start of a full-fledged second mortgage program supported by the likes of Freddie Mac and Fannie Mae.

At that point everyone will be snapping up stocks left and right, which could lead to another debt crisis (and eventually a housing crisis).

But such fears remain far-fetched and unfounded even at this stage.

Home stocks are at all-time highs while withdrawals are at new lows

Stock withdrawals

As for why a program like this is necessary, the argument is to provide options for the disadvantaged and an alternative to cash-out refinancing.

The Federal Housing Administration recognizes that with mortgage rates so high today, refinancing your first mortgage in order to tap into equity doesn’t make much sense.

They know that homeowners will do what they have to do when they need to get cash.

This could provide a lower-cost option versus traditional refinancing, and could expand participation in this lending to include smaller, local stores rather than just the big banks.

If you look at the latest statistics, you’ll see that home equity foreclosures have hit rock bottom at a time when home equity values ​​have never been higher.

According to ICE, mortgage holders had a total of $16.9 trillion in equity entering the second quarter of 2024, of which $11 trillion could be leveraged while maintaining a value-to-value ratio of 80% or less. Both are record highs.

Meanwhile, home equity withdrawals in Q1 were equivalent to just 0.36% of available exploitable equity, and withdrawal rates in Q4 2023 and Q1 2024 were the lowest on record (since 2005).

Nearly half of home equity is taken out through cash-out refinancing, which is likely not ideal for borrowers with lower fixed-rate first mortgages to lose in the process.

So, we have an environment where mortgage lending is already very low, and a pilot program that significantly limits the amount that can be achieved through the program.

Of course, the pilot program could prompt private lenders to up the ante, which could lead to more home equity foreclosures, whether it’s in the best interest of homeowners or not.


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