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Report details HUD failures to protect FHA insurance fund from bad loans

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The Department of Housing and Urban Development missed critical chances to recover up to $11 million in losses to the Federal Housing Administration's insurance fund on bad mortgage loans, according to a report from HUD's Office of Inspector General. The Inspector General raises concerns about systemic problems with the underwriting of FHA-insured loans and the resulting costs to the FHA insurance fund "for loans that should not have been insured."The office's Operation Watchdog initiative began last year to review the underwriting of 15 FHA direct endorsement lenders with default and claim rates outside the norm. The Office of Inspector General found these lenders did not properly underwrite 140 of 284 loans reviewed, or 49%, because they weren’t following FHA requirements. For the 140 loans that did not meet FHA requirements, the borrowers made an average of only five payments before defaulting. Direct endorsement lenders are mortgage lenders who were allowed to underwrite and close loans without prior HUD review to simplify the process of obtaining FHA mortgage insurance. The purpose of the review was to determine if the 15 direct endorsement lenders wrote loans in accordance with FHA requirements. HUD reviewed 12 to 20 FHA loans underwritten by each of the 15 lenders that resulted in claims against the insurance fund. FHA’s mortgage insurance programs help low- and moderate-income families become homeowners by lowering some costs associated with the loans. FHA mortgage insurance also encourages lenders to approve mortgages that might not meet conventional underwriting requirements by protecting the lender against default. These 15 lenders endorsed 183,278 loans valued at $31.3 billion from January 2005 to December 2009. These same lenders submitted 6,560 FHA insurance claims with an estimated value of $794.3 million from November 2007 through December 2009, according to the HUD Inspector General. The agency "missed critical opportunities to recover losses on loans not meeting FHA requirements, and did not pursue civil remedies when lenders improperly certified to using due diligence in approving FHA loans when due diligence was not practiced," the OIG said. In addition, HUD did not have a formal review process on claims paid on defaulted mortgages … resulting in unrecovered losses to the insurance fund for loans that never should have been insured. HUD should target lenders who originated mortgages that they should not have and seek to recover losses to the FHA insurance fund, according to the report. Such loans didn’t meet FHA requirements and thus should never have qualified for FHA insurance, the Inspector General said. In a written response, HUD said it "has continuously maintained a proactive approach of identifying high-risk lenders." In September 2007, the agency implemented a lender monitoring tool to target loans with problems for monitoring reviews. The tool’s capabilities were expanded in August 2009, HUD said. If loans are deemed ineligible for FHA insurance, then appropriate actions or sanctions are undertaken, HUD said. In early February, HUD said further enhancements are under way. Last year, HUD also launched a single-family loan review initiative that resulted in several improvements, including standardization of loan level review methods for the processing and underwriting division. HUD is seeking sanctions against the following lenders (Click on chart to expand): Write to Kerry Curry. Follow her on Twitter @communicatorKLC.

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