Guarantee Fees: What They are, How They Work

What Are Guarantee Fees?

The term guarantee fee refers to the sum of money paid to the issuer of a mortgage-backed security (MBS) by the holder. This charge helps the issuer pay for administrative costs and expenses related to the security and also cuts down on any risk or loss that may arise if any of the mortgages that back the security default. Also called g-fees, guarantee fees also refer to charges paid by a mortgagor to a guarantor for services rendered.

Understanding Guarantee Fees

Issuers of mortgage-backed security (MBS) providers like Freddie Mac, Ginnie Mae, and Fannie Mae charge lenders guarantee fees for the creation, servicing, and reporting of the asset, as well as for the guarantee that the provider will supplement it to make certain that payments of principal and interest are made even if borrowers default. While the fee is usually a certain percentage of the value of the asset, the issuer may also charge a fixed amount. This payment guarantee is the main component of the guarantee fees.

Providers like Fannie, Freddie, and Ginnie help banks by buying mortgages from mortgage companies, commercial banks, credit unions, aggregators, and so on. In most cases, these government-sponsored enterprises (GSEs) pay for these mortgages by providing them back to the originators in the form of a securitized MBS that the recipient can then choose to sell or keep. The guarantee fee built into the MBS is the revenue generator for the MBS provider and these are ideally sufficient across all products to cover individual mortgage defaults.

Guarantee fees are primarily made up of the credit guarantee they provide to the end owner of the MBS, but they also cover the costs of managing and administering the securitized mortgage pools, reporting on the MBS to investors and the Securities and Exchange Commission (SEC), and other back-office tasks.

Although these fees are often referred to as a type of insurance for mortgage-backed securities, they also cover other services as mentioned. For instance, a bank may charge a g-fee to the bearer of a note or asset in order to provide a guarantee. They may also charge guarantee fees as part of the interest rate on a mortgage. Unlike other upfront fees—document and origination charges—these fees are imposed during the entire length of the loan.

Special Considerations

Guarantee fees are set on the creditworthiness and size of the underlying mortgage pool. Prior to the mortgage meltdown and financial crisis, guarantee fees were a small deduction of 15 to 25 basis points. In exchange for this small fee, the mortgage originator received a sellable asset while also clearing the loan off the books to free up more credit. This was an excellent deal for lenders, as the MBS providers depended on the information from loan originators to set the guarantee fees. Banks took the opportunity to push the boundaries of who could reasonably be given a mortgage, resulting in NINJA loans and overall market distortion. Unfortunately, the guarantee fees were not being adjusted to reflect this reality, resulting in a massive mortgage meltdown where the U.S. government ultimately had to bail out MBS providers due to their guarantee fees being insufficient to cover the true liability. 

Guarantee fees saw a sharp increase since the financial crisis and the Great Recession. Compared to pre-meltdown averages of 15 to 25 basis points, the post-meltdown average is more than double. The Federal Housing and Finance Agency (FHFA) provides an annual analysis of guarantee fees charged by Freddie and Fannie. The FHFA reported an average guarantee fee of 58 basis points on a fixed-rate 30-year mortgage loan issued in 2019. Although guarantee fees generally don’t receive much attention outside of mortgage industry lobbying groups, there were political attempts to make across-the-board increases of an additional 10 basis points through the FHFA to reduce future risks to American taxpayers. These proposed increases were suspended prior to implementation.