Homeownership

The Federal Housing Administration (FHA) insures private lenders against losses resulting from foreclosures on single-family homes insured under the Mutual Mortgage Insurance Fund. Although FHA has always received enough in premiums from borrowers and other revenues to more than cover these losses, losses totaled about $12.8 billion, or about $24,400 for each foreclosed and subsequently sold single-family home during the 19-year period ending in 1993. The Department of Veterans Affairs (VA) also operates a single-family mortgage guaranty program. Unlike FHA, however, VA covers only 25 to 50 percent of the original loan amount against losses incurred from borrower defaults, leaving lenders responsible for any remaining losses. This report answers the following questions about the implications of limiting the insured portion of future FHA-insured loans to that used by VA: (1) How are lenders and the market expected to react to an increased risk of loss to lenders and how will this affect FHA's borrowers? (2) What impact will reduced FHA coverage have on the Fund under different economic conditions? (3) What are the implications of reducing FHA's insurance coverage on Ginnie Mae?

GAO noted that: (1) if FHA's insurance coverage is reduced and lenders become responsible for the risk associated with the uninsured portion of loans, lenders will likely make fewer and more costly FHA loans; (2) the general consensus of a HUD-sponsored lender focus group was that the number of FHA-insured loans would fall by 28 percent and that interest rates would increase by one-quarter to one-half of a percent; (3) although some decrease in volume and increase in interest rates would be likely, GAO's analyses indicate that the changes would likely not be as great as those that the focus group predicted; (4) nevertheless, any reduction in the volume of loans and increase in interest rates is likely to disproportionately affect higher-risk borrowers, low-income, first time, and minority borrowers and those individuals purchasing older homes, the types of borrowers frequently served by FHA; (5) although uncertainty is associated with any forecast, the federal government would likely improve the financial health of the Fund, by lowering its exposure to financial losses, if FHA's insurance coverage were reduced, according to GAO's analyses; (6) this would likely occur in part because FHA would be liable for only a portion of the losses on loans that go to foreclosure and therefore would suffer lower financial losses than it would under full insurance coverage; (7) decreasing FHA's insurance coverage would have an even greater positive impact on the Fund's capital reserve ratio if future economic conditions are worse than the conditions assumed in GAO's baseline scenario; (8) reducing FHA's insurance coverage might shift some losses from FHA to Ginnie Mae; (9) reducing FHA's insurance coverage might increase costs for Ginnie Mae if more lenders were unable to make payments to investors because they could not shoulder their portion of the losses on defaulted FHA-insured loans; and (10) however, if lenders respond to a reduction in FHA's insurance coverage by taking steps to maintain their financial position, such as targeting FHA-insured loans away from the riskiest borrowers and increasing interest rates, the impact on Ginnie Mae's losses would likely be lessened.