REQUIRED READING: Within the federal government's array of housing finance programs and products, the Rural Housing Service (RHS), operated by the U.S. Department of Agriculture (USDA), has rarely been the subject of negative publicity – or any significant media attention, for that matter. Nonetheless, the RHS' Section 502 Single-Family Rural Housing Guaranteed Loan Program has been very popular with lenders originating mortgages in rural communities.
‘It is a wonderful and great product,’ says Tommy Duncan, executive vice president of Quality Mortgage Services, based in Franklin, Tenn. ‘It is kind of a quiet product that a lot of people aren't aware of.’
But clearly, someone must have been aware of it. Earlier this year, the Section 502 program became a victim of its success – it ran out of funds and could only resume operations following the passage of emergency legislation. The program resumed after a four-month hiatus, yet neither its interruption nor a new fee increase imposed by Congress has damaged its reputation. If anything, it appears to be more popular than ever.
Founded in 1994 as part of the Department of Agriculture Reorganization Act, the RHS programs are designed for low- to moderate-income rural residents seeking to purchase, construct, repair or relocate a dwelling and related facilities. Applicants for RHS programs must be located in a rural community of fewer than 20,000 residents, on a farm or in open country not in close proximity to an urban area.
The USDA's rural housing loan programs enable qualified home buyers to receive loans with minimal closing costs and no down payment. According to the RHS, single-family housing acquired under the Section 502 program "must be modest in size, design and cost."
"RHS is also the only system that accepts credit scores less than 700," adds Duncan. "Not even the Federal Housing Administration (FHA) is taking loans under 700."
Compared to other federal housing-related agencies and programs, RHS' Section 502 program has been praised by rural housing experts for its efficiency of operations.
"When you look at a program with 100 percent financing and lower FICO borrowing, that's a positive thing to have," says Jean Badciong, chief operating officer at Inlanta Mortgage, headquartered in Waukesha, Wis. "We closed slightly over $19 million in 2009 – almost five percent of our total volume went to the USDA. Most of our volume was in Wisconsin, and we also use USDA in Iowa and in our new office in Fort Myers, Fla. USDA has been vital to the Florida market in terms of revitalizing their purchase market."
"Compared to the Department of Housing and Urban Development (HUD), USDA is a cakewalk," says Lorna Bourg, executive director of the Southern Mutual Help Association, a rural community development organization based in New Iberia, La. "If USDA [were to] put its RHS program into HUD, we'd be running and screaming that the house is on fire!"
Moises Loza, executive director of the Housing Assistance Council, a Washington, D.C.-based nonprofit that helps local organizations build affordable homes in rural areas, considers RHS an important factor in an often-overlooked housing sector.
"RHS has provided credit in rural locations when credit was hard to come by," he says. "It is a place for families and lenders to go, because the conventional market tightened up badly."
Loza adds that the RHS is also unusual because it maintains offices outside of the major cities.
"Historically, they've had field offices spread throughout the country," he continues. "Many federal agencies are tied to offices in cities, but that makes access far more difficult, in this case. RHS has a presence in the small towns it serves. It is a whole lot easier for people to get to them, instead of driving thousands of miles to a city like Houston or Chicago."
The well runs dry
"We filled a niche when the FHA, the Department of Veterans' Affairs and state programs couldn't help," says Bill Gouzounis, director of housing programs for the USDA Rural Development State Office in Amherst, Mass. "Also, in 2009, there was added funding under the American Recovery and Reinvestment Act, which almost doubled the level of funding."
But perhaps too many families and lenders were counting on the RHS. On May 17, RHS completely exhausted its $13.1 billion of loan authority that it was allocated for fiscal year 2010. With five months remaining in the fiscal year, the service found itself a victim of its own popularity.
Congressional legislation that increased the RHS' authority to $30 billion through the remainder of the fiscal year was originally introduced in April, but it became delayed in the appropriations process and didn't reach the White House until late July. When the program resumed on Sept. 8, its traditional 2% fee for purchase loan guarantees was phased out in favor of a new up-front fee of 3.5%. Refinancing fees were also increased, from 0.5% to 2.25%.
"Congress was trying to make it a revenue-neutral program," explains Gouzounis. "There was going to be a 0.5 percent servicing fee every year, but based on the good loans we made, we've been told we don't need that fee."
The changes in the program did not register any great concern among rural lenders.
"We did a survey of our lenders to ask if they felt that the fee was too high," says Mark K. Scanlan, vice president of agriculture and rural policy for the Independent Community Bankers Association. "We were a little nervous at first, but we don't anticipate problems in the near future."
But during its hiatus period, lenders still sought out the Section 502 program, and RHS issued conditional commitments. By the time the program resumed on Sept. 8, it had a backlog of $1.6 billion in conditional commitments.
"The demand was still strong, and the USDA agreed to let lenders process applications, with the promise of getting funding," says Loza. "There was some disruption, but lenders continued to take and process applications."
Looking forward
Moving ahead, the RHS will need to address an unpleasant discovery that popped up this summer when Quality Mortgage Services sampled its guaranteed loans and found a rise in fraud.
"In 2009, in a 10 percent sampling that we did of RHS loans, we found 1.48 percent contained fraud," says Duncan. "Now, it is at 3.08% – and we're not even finished with 2010."
Duncan believes this uptick in fraud is the result of RHS' increasing popularity. "I think the RHS wasn't really prepared for the volume, even though they took great steps to be more efficient," he says. "However, we're finding a lot of income-verification problems, and some things that helped people get approved were not properly verified."
Loza is not surprised to hear about this development. "When you have a program growing as fast as it is, there is always someone out there that somehow tries to game the system."
For its part, the USDA is preparing to see how the latest U.S. census figures will impact its lending territory.
"We're in the process of reviewing this," says Gouzounis. "This will be a crucial census, though we don't see towns growing that much to not be eligible anymore. The figures will be available much earlier this time, due to automation. For the 2000 census, the numbers came in late 2002."
As for next year, Duncan believes the Section 502 program will continue to see success.
"If credit-score requirements don't come down from other entities, RHS will continue to gain market share," he says. "They're taking the loans that FHA should be taking."
(Please address all comments regarding this article to Phil Hall, editor of Secondary Marketing Executive, at hallp@sme-online.com.)
