OFHEO: Fannie Significantly Undercapitalized During 2002, 2003

The Office of Federal Housing Enterprise Oversight said late Thursday that it has reclassified Fannie Mae as significantly undercapitalized during the fourth quarters of 2002 and 2003 as a result of Fannie Mae’s recently-completed 2004 financial restatement. The Federal Housing Enterprises Financial Safety and Soundness Act of 1992 requires OFHEO to determine the capital level and classification of both Fannie Mae and competitor Freddie Mac not less than quarterly, and to report the results to Congress. OFHEO classifies the Enterprises as adequately capitalized, undercapitalized, significantly undercapitalized or critically undercapitalized. Both GSEs are required by Federal statute to meet both minimum and risk-based capital standards to be classified as adequately capitalized in order to maintain their government charter. On December 6, Fannie Mae announced that it had completed a restatement of its earnings dating from 2004 to 2001. The cumulative impact of the restatement was a total reduction in retained earnings of $6.3 billion through June 30, 2003 due to the accumulated impact of the various accounting errors unearthed during the restatement process.

For the years-ending 2002 and 2003, Fannie Mae’s restated results indicate it was significantly undercapitalized for these periods, rather than adequately capitalized, as previously rated. In both of these time periods, however, OFHEO said that core capital remained above the statutory critical capital level. From a historical perspective, had Fannie Mae been following appropriate accounting rules and had the financial position been appropriately disclosed by Fannie Mae at the time, statutory regulatory intervention would have occurred during 2002, requiring Fannie Mae to develop a capital plan and restore capital to an adequate level. That action instead took place following the September 2004 classification, the OFHEO said. In a statement, the government regulator said that because restatements prior to the 2002 fiscal year were handled as adjustments to retained earnings as of December 31, 2001, Fannie Mae could have been significantly undercapitalized for some time prior to 2002. While the significantly undercapitalized position for these time periods is indeed noteworthy and reflective of financial reporting errors, OFHEO noted that it will not pursue additional regulatory action against Fannie Mae. According to offcials, Fannie Mae is adhering to the terms and conditions of its Capital Restoration Plan, including maintaining capital above the OFHEO-directed requirement and restricting retained portfolio growth.

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