Tying FHA Loan Limits to Median House Prices: A Policy to Channel FHA Credit to Higher Income Households

Abstract

Legislation was introduced in the House of Representatives in 1989 to raise the Federal Housing Administration (FHA) maximum loan ceiling in "high-cost" areas from $101,205 to 95 percent of the area median house price. This change would significantly alter the spatial distribution of FHA loans. Using 1989 median house prices computed by the National Association of Realtors (NAR), the limit's increase to 95 percent of area median house price would raise the FHA ceiling to $232,000 in the San Francisco Bay area, to $226,000 in Orange County, California, to $173,000 in the New York area, and to $170,000 in Boston, Massachusetts. The FHA limit in the highest cost areas would rise from 1 1/2 times the limit in the lowest cost areas to almost 3 1/2 times. While other measures of median price might be used, they would probably lead to the same result. The issue is whether median house prices are a reasonable standard by which to set FHA loan limits. We think not. Median house prices, and thus the proposed FHA limits, are higher in areas with higher household real income be- cause households with higher real income demand better quality housing (larger houses with more amenities, including better loca- tion). Thus, the proposed FHA expansion would redirect FHA toward higher income households. This policy seems inconsistent with our view of FHA's basic purpose: to encourage homeownership for households with moderate incomes.