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PERSONAL FINANCE

Payroll Tax Extension May Boost Borrowing Costs

Written By:
January 02, 2012 at 9:36 PM

In a last minute decision, the Senate decided to tap into Freddie Mac and Fannie Mae resources to fund the latest payroll tax cut and unemployment benefit extension.

Senate Democrats and Republications had sparred for months about how to help an economy still on life support. Democrats considered funding a one-year payroll tax cut and unemployment benefit extension by imposing an income tax surcharge on income over $1 million. On the other side, Republicans were gunning to reduce the federal workforce and freeze its pay.

However the “back and forth” on the eve of Christmas break led both sides eventually coming to an agreement that they would find funding through Freddie Mac and Fannie Mae, but at what cost?

The agreement ended up being a two-month long payroll tax cut and unemployment benefit extension that will be funded by higher fees coming from Fannie and Freddie-- fees that will be passed onto lenders and ultimately to the borrower.

The new payroll tax and unemployment benefit extension now means that borrowers will be paying an even higher rate, estimated to increase by at least one eighth of one percent over the next two years. According to The Wall Street Journal fees last year averaged around one quarter of one percent of the loan amount. The House proposed plan suggests the increase range from one tenth of one percentage point.

In the past Fannie and Freddie directly received funding from fees, however the new plan has fees being funneled straight to the Treasury Department instead.

Before the housing market fallout, Fannie Mae and Freddie Mac were privately held companies until a government seizure placed them in conservatorship in 2008. Fannie and Freddie do not issue mortgages but instead “guarantee” them to protect lenders in an event of a default. Fannie and Freddie buy the mortgages from the lender and bundle loans into securities that are sold to investors.

Housing Market Experts Voice Concerns

Since 2008, Congress has leveraged Freddie and Fannie as a way to further affordable housing and boost homeownership. However, last weeks maneuver actually works against these goals and has market experts concerned.

Ed Pinto, a resident fellow with the American Enterprise Institute says, "It becomes a honey pot where you can create money and use it to pay for whatever."

Pinto explains that tapping into Freddie and Fannie will ultimately stymie the government’s efforts to transition away from the mortgage market and bring the private sector back.

Ed DeMarco, acting director of the Federal Housing Finance Agency (FHA), which also oversees Fannie and Freddie isn’t overly thrilled about what transpired in the Senate. He sent an email to Bloomberg and The Wall Street Journal stating, "Relying on long-term revenue from the enterprises (Fannie and Freddie) as an offset for short-term tax cuts seems inconsistent with the need to end the conservatorships and reform our housing finance system."

Part of the anxiety coming from economists is based on the plan’s overall impact on housing market recovery. A Congressional Budget Office estimate reports that although the bill's benefits will come entirely in January and February, the $37.5 billion to pay for it will be spread over 10 years, with more than half of that coming toward the second part of the 10 year period. Fannie and Freddie higher fees will evolve over the next two years.

Ken Rosen, chairman of the Fisher Center for Real Estate at UC Berkeley calls payment for the bill this way a “stupid, stupid idea” and that fees should be designated only to compensate Fannie and Freddie for risk and overhead.

He adds that guarantee fees "should be actuarially determined, not a function of fiscal policy."

Rosen believes that the housing market "is far more important to the economy than a payroll tax cut."

Earlier this month, the Mortgage Bankers Association, the National Association of Realtors, and the National Association of Homebuilders sent a letter to lawmakers stating that it is "counterproductive" to extract funds from Fannie and Freddie "for purposes unrelated to the safety and soundness of the housing finance system."

However, a representative from the Obama administration and a spokeswoman for Sen. Bob Casey (D., Pa.)contradicts housing market expert’s concerns saying that raising fees is consistent with the government’s goal of attracting new private capital sources back to the U.S. mortgage market.

Casey’s spokeswoman reasons that this strategy raises the cost of Freddie and Fannie backed loans, which are currently the cheapest on the market and will ultimately draw private or non-government backed sources to come forward.

“Only Congress Would Ask a Patient That Was Bleeding to Death to Give Blood”

As some government programs like HARP 2.0 have been introduced to lower the average borrower’s payments, the latest payroll tax and unemployment benefit extension will actually add more to payments.

For example, the homeowner who refinances or purchases a home for $200,000 on January 1st will now have to pay approximately $4,000 more (or $11 more a month for the life of the loan) if the mortgage was sold to Fannie or Freddie.

Additionally, the two-month extension will now delay a cut in Medicare reimbursements for doctors that was supposed to take effect on New Year’s Day.

Even though housing economists have stressed the impact on borrowers to lawmakers, local real estate company experts are shaking their heads in disgust.

Richard Szerman with Silver Creek Realty in Santa Clarita, California says, “Why in the world would Congress choose to place the burden of paying for a tax cut on an industry that is already in such poor shape?”

“Only the U.S. congress would ask a patient that was bleeding to death to give blood,” he adds.

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