On February 13, 2013, FHA Commissioner Carol Galante testified in front of the full House Committee on Financial Services. Her testimony came amid growing concerns by Republicans that the FHA will require a taxpayer-funded bailout and that the agency has strayed too far from its historical mission of helping first-time homebuyers, low- and moderate-income families, and high-risk borrowers who are otherwise creditworthy. This comes on the heels of a hearing held on February 6, 2013, when the House Committee on Financial Services received testimony from a panel of experts voicing concerns about the solvency of the MMI Fund and the expansion of the FHA beyond its historical mission.
“The FHA is broke. The FHA is flat broke. And I fear soon the FHA will prove to be bailout broke.” Rep. Jeb Hensarling (R-TX), Chairman, House Committee on Financial Services
“Do you [FHA Commissioner Galante] actually know where you all are? I question whether you even know what reserves you need.” Rep. Randy Neugebauer (R-TX), Chairman, House Financial Services Subcommittee on Housing
Others serving on the House Financial Services Committee took the opposite position, emphasizing that the FHA has not strayed from its mission and insisting that it has indeed helped save America’s housing sector. They asserted that the agency is on the road to stability and claimed that GSE reform without a strong FHA was impossible.
“I refute claims that FHA is crowding out the private market. FHA makes up 15 percent of the market, not more than 50 percent, as some have claimed.” Rep. Maxine Waters (D-CA), House Committee on Financial Services
“The FHA currently has enough reserves to pay off its expected claims for seven years.” Rep. Michael Capuano (D-MA), Ranking Member, House Financial Services Subcommittee on Housing
“Please let me remind everyone that shutting down the FHA during the financial crisis would have led to a 25 percent greater decline in home values.” Rep. Brad Sherman (D-CA), House Financial Services Subcommittee on Housing
“FHA is designed to deal with lower-worth borrowers, and it is appropriate for us to take different kinds of risks than the private market would do. That is the point of FHA… never has FHA’s ability to act counter-cyclically been more important than during the recent housing crisis, when FHA played a very prominent role in stabilizing the housing finance system and averting a total collapse of the housing market.” FHA Commissioner Carol Galante
With these comments in mind, let’s review some of the background, examine what was said and draw some rational conclusions.
The Background First, let’s take a look at what led to the creation of the FHA and the FHA’s original charter. The National Housing Act of 1934 established the FHA with a mission to provide federal mortgage insurance in order to broaden homeownership, protect lending institutions and stimulate the building industry. It is interesting to note that before the FHA was established, home mortgages did not exceed 50 percent of home values and were short term, lasting no longer than five years. At the end of the fifth year, homeowners had to pay their mortgages in full or roll them over. During the Great Depression, lenders were unable or unwilling to roll over loans that came due, causing an enormous decline in housing values.
The FHA was established to provide stability and liquidity in the market. Its creation fostered the 30-year, fixed-rate mortgage and led to standardized mortgages. The FHA is intended to be self-funded: Premiums paid by homeowners for FHA mortgage insurance are used to cover losses when loans default.
The 2008 Financial Crisis During the recent housing boom, the FHA’s share of the mortgage market fell to less than 2 percent of mortgage originations at the end of 2006. As housing prices began to decline, lenders tightened their underwriting criteria and the FHA began playing a larger role in the mortgage market. The Congressional Research Service has reported that during fiscal year 2010, the FHA guaranteed nearly 40 percent of mortgages originated or refinanced. However, it is important to note that this number has dropped to nearly 15 percent.
According to the FHA, the federal mortgage insurance program currently insures more than $1 trillion worth of mortgages on more than 7 million loans. The MMI Fund fell below the required 2 percent for the first time in fiscal year 2010, to 0.5 percent. By statute, the FHA is required to maintain the MMI Fund’s capital reserve ratio at 2 percent.
The 2012 Actuarial Report noted that the MMI Fund’s economic value was negative $16.3 billion, which is the projected amount the FHA would lose if it stopped insuring new mortgages and covered its projected losses.
In particular, the FHA Actuarial Report puts significant focus on the HECM program as it represents almost $2.8 billion of the $16.3 billion noted above. The following outlines specific changes to the HECM program most pertinent to this readership that will be required to strengthen the program:
Immediate Steps to Reduce HECM Program Losses in the Near Term:
-The FHA is set to implement mandatory set-asides to protect the FHA from borrower defaults due to the nonpayment of property taxes and insurance.
-In administrative guidance dated January 30, 2013, the FHA consolidated the fixed-rate Standard product with the fixed-rate HECM Saver product, resulting in a reduction of the maximum withdrawal funds.
-The FHA will issue new incentives for estate executors of HECM borrowers to dispose of properties themselves rather than conveying them to HUD.
The Road to Recovery Commissioner Galante’s written testimony reflected several salient points:
“While FHA has enacted substantial reforms under the current administration, this year’s actuarial review makes clear that loans made prior to and at the outset of the recent crisis continue to weigh heavily on the health of the MMI Fund. Therefore, building upon the significant efforts already undertaken to protect and preserve the MMI Fund, FHA is implementing a series of additional actions to continue improving the Fund’s trajectory over both the short and long term. Using the Actuary’s model, collectively, these changes are projected to provide billions of economic value for the MMI Fund in fiscal year 2013.”
The testimony outlined several steps that will be taken to strengthen the FHA, including:
-Reduce the losses from legacy books of business
-Further strengthen the quality and impact of new endorsements
-Revise the premium cancellation policy
-Increase the MIP
-Change future credit policy and pricing
-Establish an incentive policy for housing counseling
-Stabilize and strengthen the HECM program
FHA market share has dropped from a crisis high of nearly 40 percent in 2009 to 15 percent in 2013. While the 2007, 2008 and 2009 books of business were certainly a disaster and reflect the overall existing burden on the FHA, the books of business from 2010 onward look very strong and are likely to strengthen as the overall housing market continues to pick up. All of this speaks to a fiscal and regulatory trend that is going in the right direction. If the FHA is successful in making the changes they deem necessary in an expeditious manner, and if the housing economy continues on its current path and the private sector continues to increase its market share, the outlook for reaching sustainability should be positive.