History of US Mortgages

During the nineteen-twenties, the length of a typical home mortgage in the United States was between five and ten years and included a variable interest rate – every year the rate was renegotiated. These were interest only mortgages and they required the prospective homeowner to save money, (above and beyond the monthly interest payment) in order to pay the bullet when it came due in 5, (or ten) years - or they would refinance every five years, but at the same time they had to show the savings and loan institute that they were a good credit risk. During this period, typical loan to value ratios were closer to 50%. For example, a prospective homeowner in the market for a home valued at $5000 would have had to put down $2,500 in order to purchase the home. This all began to change when the stock market crashed in October of 1929, ushering in the Great Depression. In many areas of the country real estate values decreased by 50% and there were many mortgage defaults and foreclosures. In response to this financial crisis, the federal government created the Homeowners Loan Corporation, (HLC) which sold government backed bonds and purchased defaulted loans from the bank for pennies on the dollar. When this occurred, the terms of the loan was modified to a 20-year fixed rate with no bullet. In other words, the loan was paid in full with the final payment. The Great Depression also saw the formation of another government entity in the form of the Federal Housing Administration, (FHA.) The FHA implemented mortgage insurance, a policy that protects the lender if the borrower defaults on the loan and as a result, mortgage interest rates decreased as the business of offering home loans became a less risky venture. In 1938, the Homeowners Loan Corp was replaced by the Federal National Mortgage Association, (FNMA, i.e., “Fannie Mae”) which continued its mission to sell government backed bonds to finance mortgage purchases, all of which was designed to free up capital for banks to continue to make loans, (a function of which Fannie Mae still provides to this day.)

Immediately following the end of World War II, (WWII) the federal government feared the possibility that the economy might experience conditions close to that of the pre-WWII depression. To prevent such an occurrence, the Serviceman Readjustment Act, aka the GI Bill, was passed. This legislation created the Veterans Administration mortgage insurance, (VHA) and gave millions of former service men and woman the ability to purchase and own their own homes. This jump started the housing market and saw the start of subdivision development and Allentown, PA was the result. Soon thereafter Fannie Mae increased the loan period to 30 years, and increased the loan to value ratio to 90%. Mortgage insurance also expanded out to private institutions.

By the late sixties (1966-1968) inflation had taken hold. The Vietnam War and the Great Society programs that began during the Johnson administration saw the federal debt skyrocket and as a result, interest rates were capped at 4%, and checking accounts were no longer required to pay interest on deposits. Banks could no longer fund loans due to interest rate cap. In 1970 Freddie Mac, the Fannie Mae equivalent for the savings and loan business, ushered in the securitization of loans, a process where large number of loans were grouped together and actively traded as a security - each person could buy a share of these securities.

By the mid-seventies, a Depression era law known as Regulation Q was still capping interest rates and inflation was running rampant. Freddie Mac became a privately owned business entity and the government became a customer, buying shares of Freddie Mac and Fannie Mae.

Today, 30 year mortgages are the most common loan terms, (over 60% market) as are fixed interest rates. Mortgages are still securitized and high loan to value ratios are the normal – a person can purchase a home with less cash on hand. Also, there is no penalty for prepayment of a loan, a condition which spurs competition and gives the consumer incentive to shop around for a lower interest rate.

In contrast to the United States, the mortgage market in Canada experiences a 75% loan to value ratio. Loan rates are fixed up to five years, otherwise they are variable. In Canada, financed mortgage insurance securities are not as prevalent as they are in United States.

Compared to the United States, Denmark has a much lower loan to value ratio at 60% and requires the buyer to pay market price and the interest rate is fixed for first five years of the loan period. However, in Denmark, the securitization rate is nearly the same as it is in the United States.

Italy has a 55% loan-to-value ratio, a ratio the United States last experienced during the thirties.

Unless otherwise stated, the content of this page is licensed under Creative Commons Attribution-ShareAlike 3.0 License