History of the FHA and Fannie Mae
Few Americans had the luxury of owning a home in the early 1900’s. If someone was looking for financing on a home in those days, they would go to their local bank. If the banker knew the potential customer and only if he considered them trustworthy (therefore a good credit risk) would the customer receive a loan. Mortgages were nothing like they are today, loan terms in those days weren’t even close to customer friendly. Available financing was bound to interest only terms, LTV (Loan To Value) was limited to 50%, payment schedules only up to 5 years, and a balloon was due at the end of the term. Because of this 273,000-people lost their homes between 1929 and 1933 due to foreclosures. Only 40% of all Americans where home owners in these days, and generally most Americans where renters.
It wasn’t until 1934 that the FHA (Federal Housing Administration) was created in response to the Great Depression. The FHA established a new kind of mortgage intended to help people qualify who were previously ineligible for a home loan. The FHA was successful in establishing new underwriting standards and insuring home loans, and thereby mitigating the lender’s risk. In turn that lengthened the terms to 15 year fully amortizing loans, and eventuality 30-year terms. Down payments were now offered by lenders under 20% LTV. FHA also set the standard for quality control in home construction (these standards that the home must meet a certain level of quality are still enforced today).
This was supposed to incentivize banks and lenders to start lending again. The reality was, even with FHA insurance the banks hadn’t recovered enough of their deposits to make lending substantial.
The birth or the secondary market came with the creation of the Fannie Mae (FNMA/Federal National Mortgage Association) in 1938. Fannie Mae provided banks and S&Ls (Saving and Loan Institutions) with the funding necessary to facilitate lending. The banks and lenders would now have the ability to sell closed/funded loans to investors as an investment (collecting interest & principal payments) collateralized by real property. The investors themselves would assume all responsibility, as long as the loans were underwritten to Fannie Mae’s guidelines. By investors buying these loans on the secondary market money is freed up and directly fed back into the primary market. Lenders now could free up cash flow and funding was able to proceed. With the creation of the FHA and Fannie Mae the secondary mortgage market was born, this is the roots of the “American Mortgage History”.