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A pilot program that will allow mortgage giant Freddie Mac to buy up to $2.5 billion in second mortgages over the next 18 months is drawing the ire of banks that have historically dominated home equity lending.
But proponents of the pilot program, greenlighted on June 21 by Freddie Mac’s federal regulator, say it will expand the pool of options available to homeowners who want to cash out some of their equity without having to refinance their existing mortgage at a higher interest rate.
Instead of tapping their equity by doing a cash-out refinance at a higher rate, homeowners will be able to take out a closed-end second mortgage that’s eligible for purchase by Freddie Mac, Federal Housing Finance Agency (FHFA) Director Sandra Thomspon said in announcing conditional approval of the program.
Sandra Thompson
“As of December 2023, over 95 percent of [Freddie Mac- and Fannie Mae-backed] single-family mortgages had mortgage rates below current market rates, with the majority at least three percentage points lower,” Thompson said in a statement.
“Meanwhile, national home prices have doubled in less than a decade, leading to significant amounts of equity for many homeowners. Freddie Mac’s purchase of closed-end second mortgages is intended to allow borrowers to maintain their low interest rate first mortgage while accessing a portion of the equity in their homes.”
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Under the relatively tight standards approved by FHFA, Freddie Mac’s pilot program will provide closed-end second mortgages of no more than $78,277 to homeowners who have been making payments for at least two years. Only primary residences whose first mortgage is already owned or guaranteed by Freddie Mac will qualify, and the maximum combined loan-to-value (LTV) ratio of the first and second mortgages can’t exceed 80 percent.
On top of those conservative program guidelines, the $2.5 billion cap on total volume means the number of homeowners who will be able to take advantage of it might be as few as 32,000.
“We are pleased with FHFA’s decision to allow Freddie Mac to conditionally move forward with its proposal to purchase closed-end second mortgages,” a Freddie Mac spokesperson said in a statement provided to Inman. “We thank FHFA and those who provided their perspective and offered comments throughout this process. We look forward to working with FHFA and our stakeholders as we implement this proposal to responsibly support homeowners and the market.”
Opposition from banks
Banks and depository institutions that have traditionally provided most home equity loans opposed the program when FHFA floated it in April.
Opponents say the private market is already meeting the needs of homeowners who want to borrow against their equity — through a closed-end second mortgage that provides cash in a lump sum or in the form of a home equity line of credit (HELOC) that can be drawn down as needed.
In comments submitted to the FHFA, opponents said allowing Freddie Mac to back closed-end second mortgages would:
- Conflict with Freddie Mac’s mandate to serve low- to moderate-income borrowers
- Help nonbank mortgage lenders expand into a new market with potential risks to taxpayers and financial markets
- Exacerbate housing supply challenges by keeping more existing homeowners “locked in” to the low rate on their existing first mortgage
Community banks represented by the Independent Community Bankers of America (ICBA) said Friday they “are deeply concerned with the FHFA’s announcement that Freddie Mac — which has been in federal conservatorship for more than 15 years — will enter a market that is already liquid and well served by private-sector community banks.”
Other groups representing lenders and investment banks, including the American Bankers Association (ABA) and the Securities Industry and Financial Markets Association (SIFMA), weighed in with similar concerns in May.
SIFMA — which represents broker-dealers, investment banks and asset managers who put together private-label securitizations of home equity loans — speculated that if Freddie Mac is allowed to get into the second loan business, Fannie Mae will be next.
“Why is only Freddie Mac proposing this program?” SIFMA commented. “Will Fannie Mae follow? If so, when? Will their programs be the same?”
Competition from the “government-sponsored enterprises” (GSEs — Freddie Mac and Fannie Mae) could derail investor appetite for securitizations of home equity loans not guaranteed by Fannie and Freddie, SIFMA warned.
“Pricing of these products is determined by efficient private market forces. Because of the competitive advantages of the GSEs, they will be able to provide aggressive pricing that may be more attractive than private market pricing and dominate the market,” SIFMA commented. “Undercutting a well-functioning private market is not a good use of the GSEs’ market power.”
Expanded role for smaller banks
In approving the pilot program, FHFA took the position that letting Freddie Mac provide backing for second mortgages could let small community banks play a bigger role in providing them.
“Current home equity lending is primarily supported by larger depository institutions that tend to hold whole loans on their balance sheets, while securitizations of home equity loans remain limited,” Thompson said. “FHFA is interested in learning whether this offering will be utilized by small community financial institutions that have more limited access to securitization markets. If so, this offering could support broader lending in underserved communities, while promoting greater competition among lenders and greater choice for consumers.”
Urban Institute experts Laurie Goodman, Ted Tozer and Alexei Alexandrov agree that it’s an idea worth exploring. Allowing Freddie Mac to buy second mortgages would make them available to a wider group of homeowners, and pose no more risk than cash-out refinances, they said in a May 13 analysis.
“Some argue there’s no need for a government player in this market, and that Freddie Mac is trying to enter a market that already operates successfully,” the Urban Institute experts noted.
But rather than killing demand for HELOCs and more flexible closed-end second mortgage products offered by private lenders, Urban Institute experts think Freddie Mac’s entry into the market expands it, by helping increase awareness and use of second mortgages, and “diminish[es] the number of relatively more expensive cash-out refinances among borrowers who don’t know they have the option of a second mortgage because their lender does not offer the bespoke product.”
While groups representing many community banks are opposed to Freddie Mac buying second mortgages, a major trade group representing credit unions, America’s Credit Unions, supported the pilot — with a few caveats.
“We support equal access to the secondary mortgage market for lenders of all sizes but are concerned that if too many lightly supervised entities such as nonbank mortgage companies (NMCs) fintechs, and high-volume lenders participate in this program, delinquencies could rise,” America’s Credit Unions commented to FHFA. “Traditionally, those lenders service fewer loans than they make and do not cultivate the everyday, long-lasting financial relationships with their borrowers that one sees with credit unions and other community lenders.”
Nonbanks already players in home equity
The difficulty of securitizing second mortgages and HELOCs for sale to investors means banks that have deposits to lend against have dominated home equity lending. But that’s changing.
SoFi veteran Mike Cagney’s latest venture, Figure, powers branded HELOC products for independent mortgage banks and nonbank lenders like CrossCountry Mortgage, Fairway Independent Mortgage, Guaranteed Rate, Synergy One and Movement Mortgage.
Two of the nation’s biggest lenders — United Wholesale Mortgage and Rocket Mortgage — are nonbank lenders that have launched their home equity products.
Rocket Mortgage began offering home equity loans for debt consolidation in 2022, pitching them to millions of users of Rocket’s personal finance app, Truebill, as a good way to pay off high-interest credit card debt. The 10- or 20-year term, fixed-rate second loans of up to $500,000 require homeowners to maintain at least 10 percent equity in their home.
UWM started offering standalone and piggyback HELOC loans in 2022 that it suggests “can be used to consolidate and pay down debt, make home improvements, cover tuition and more.”
Because consumers often use their home equity to pay off other debt, letting Freddie Mac (and potentially Fannie Mae) back second loans would essentially put them in the debt consolidation business, SIFMA warned.
“It is important to note that with this program, [Fannie and Freddie] would not just compete with second lien mortgage lenders; they would also compete with the entire consumer finance market as borrowers would likely concentrate existing auto, home, personal, and other debt onto the GSEs’ balance sheets,” SIFMA commented to FHFA. “The proposal does not reflect adequate consideration of these issues. If this program is large enough, it is easy to envision safety and soundness risks to the GSEs.”
For now, UWM and Rocket executives don’t sound too worried about competition from the Freddie Mac pilot program.
Brian Brown
“The consumer demand for those closed-end seconds is very high,” Rocket Companies CFO Brian Brown said on the company’s May 2 earnings call. “But what we also found in the first quarter is the investment, the private space demand to buy the product, given people that are chasing yields right now is also extremely high.”
Asked specifically about Freddie Mac’s pilot program, Brown said that in general, “more liquidity is better.”
But Rocket has “already developed a really nice program,” he said. “We have a bunch of capital, we have underwriting standards that people are buying into. I’m not sure where Freddie will end up on that spectrum, but like all GSE products, they’ll have pretty tight rules. So I think private capital will still be important in closed-end seconds.”
UWM CEO Mat Ishbia sounded equally ambivalent about Freddie Mac’s entry into the second mortgage market.
Mat Ishbia
“I mean, it’s interesting, and Freddie Mac and Fannie Mae both do a good job of trying to innovate and come up with ways to help consumers and grow the mortgage pie in a positive way,” Ishbia said.
The Freddie Mac pilot “is a good program, potentially [but] that product is really already served in the market today, through home equity lines of credit and other products that are already out there. Can Freddie Mac do it better, potentially a little cheaper? Yes, but it’s not material in any way, shape or form” to UWM’s results, Ishbia said.
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