Mortgage Financing
Financial Condition of FHA's Mutual Mortgage Insurance Fund Gao ID: GAO-10-1066T September 23, 2010This testimony is on the financial condition of the Federal Housing Administration's (FHA) Mutual Mortgage Insurance Fund (Fund). FHA has helped millions of families purchase homes through its single-family mortgage insurance programs and in recent years, has experienced a dramatic increase in its market role. FHA insures almost all of its single-family mortgages under the Fund, which is reviewed from both an actuarial and budgetary perspective each year. On the basis of an independent actuarial review, FHA reported in November 2009 that the Fund was not meeting the statutory 2 percent capital reserve requirement as of the end of fiscal year 2009, as measured by the Fund's estimated capital ratio--that is, the Fund's economic value divided by the insurance-in-force. Additionally, although the Fund historically has produced budgetary receipts for the federal government, a weakening in the performance of FHA-insured loans has heightened the possibility that FHA will require additional funds to help cover its costs on insurance issued to date. This statement today is based on a report released yesterday, titled Mortgage Financing: Opportunities to Enhance Management and Oversight of FHA's Financial Condition. This statement discusses (1) how estimates of the Fund's capital ratio have changed in recent years and the budgetary implications of changes in the Fund's financial condition; (2) how FHA and its actuarial review contractor evaluate the financial condition of the Fund; (3) the steps FHA has taken to improve the financial condition of the Fund and how the agency has interpreted statutory requirements pertaining to the management of and reporting on the Fund's condition; and (4) changes in the performance and characteristics of FHA-insured mortgages in recent years.
We found that: 1) Recent declines in the Fund's capital ratio to a level below the statutory minimum resulted from a combination of economic and market developments. More pessimistic forecasts of economic conditions increased the number of predicted insurance claims and losses associated with those claims, thereby reducing the Fund's economic value. At the same time, higher demand for FHA-insured mortgages increased FHA's insurance-in-force. The Fund's condition also has worsened from a budgetary perspective. The Fund's capital reserve account holds reserves in excess of those needed to pay for estimated credit subsidy costs and is used to help cover unanticipated increases in those costs. In recent years, balances in this account have fallen dramatically. If the account were to be depleted, FHA would require additional funds to help cover its costs on insurance issued to date. 2) FHA and its actuarial review contractor have enhanced their methods for assessing the Fund's financial condition but still are addressing other methodological issues that could affect the reliability of estimates of the Fund's capital ratio. In particular, past reviews have relied on a single economic forecast to produce the estimate of the capital ratio that is used to determine whether the Fund is meeting the 2 percent capital reserve requirement. This approach does not fully account for the variability in future house prices and interest rates that the Fund may face and therefore may tend to overestimate the Fund's economic value. An alternative to the current approach, known as stochastic simulation, involves running simulations of hundreds of different economic paths and offers the prospect of better estimates of the Fund's economic value. 3) FHA has implemented or proposed a number of steps to help improve the financial condition of the Fund, including adjustments to its insurance premiums and underwriting policies. However, certain legislative requirements concerning FHA's administration of the Fund provide limited direction to the agency. For example, statutory provisions do not specify a time frame for restoring the capital ratio to its required minimum level or clearly stipulate the nature of the information FHA should include in quarterly reports to Congress. 4) Data on FHA-insured mortgages illustrate the challenges facing the Fund as well as improvement in certain risk factors. As in other segments of the mortgage market, the performance of FHA-insured mortgages deteriorated as the economy weakened and home prices fell in 2008 and 2009. However, in recent years, changes in key loan and borrower characteristics of FHA-insured mortgages suggested some improvement in credit quality at loan origination. FHA is closely monitoring the early performance of the 2009 loan cohort, which will have a major influence on the Fund's financial condition because of its large size, but it is too early to tell whether it will perform to FHA's expectations. To enhance actuarial assessment of and reporting on the Fund, we are recommending that the Department of Housing and Urban Development (HUD) (1) require FHA's actuarial review contractor to use stochastic simulation of future economic conditions to estimate the Fund's capital ratio and (2) include the results of this analysis in FHA's annual report to Congress on the financial status of the Fund. Also, to strengthen accountability and transparency in FHA's management of the Fund, Congress should consider establishing a minimum time frame for restoring the capital ratio to 2 percent and clarifying a number of statutory provisions concerning FHA's administration of the Fund.
GAO-10-1066T, Mortgage Financing: Financial Condition of FHA's Mutual Mortgage Insurance Fund
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Testimony:
Before the Committee on Banking, Housing, and Urban Affairs, United
States Senate:
United States Government Accountability Office:
GAO:
For Release on Delivery:
Expected at 10:00 a.m. EDT:
Thursday, September 23, 2010:
Mortgage Financing:
Financial Condition of FHA's Mutual Mortgage Insurance Fund:
Statement of Mathew J. Scirè, Director:
Financial Markets and Community Investment:
GAO-10-1066T:
Chairman Dodd, Ranking Member Shelby, and Members of the Committee:
I am pleased to be here to participate in today's hearing on the
financial condition of the Federal Housing Administration's (FHA)
Mutual Mortgage Insurance Fund (Fund). FHA has helped millions of
families purchase homes through its single-family mortgage insurance
programs and in recent years, has experienced a dramatic increase in
its market role. FHA insures almost all of its single-family mortgages
under the Fund, which is reviewed from both an actuarial and budgetary
perspective each year.[Footnote 1] On the basis of an independent
actuarial review, FHA reported in November 2009 that the Fund was not
meeting the statutory 2 percent capital reserve requirement as of the
end of fiscal year 2009, as measured by the Fund's estimated capital
ratio--that is, the Fund's economic value divided by the insurance-in-
force. Additionally, although the Fund historically has produced
budgetary receipts for the federal government, a weakening in the
performance of FHA-insured loans has heightened the possibility that
FHA will require additional funds to help cover its costs on insurance
issued to date.
My statement today is based on a report released yesterday, titled
Mortgage Financing: Opportunities to Enhance Management and Oversight
of FHA's Financial Condition.[Footnote 2] My statement discusses (1)
how estimates of the Fund's capital ratio have changed in recent years
and the budgetary implications of changes in the Fund's financial
condition; (2) how FHA and its actuarial review contractor evaluate
the financial condition of the Fund; (3) the steps FHA has taken to
improve the financial condition of the Fund and how the agency has
interpreted statutory requirements pertaining to the management of and
reporting on the Fund's condition; and (4) changes in the performance
and characteristics of FHA-insured mortgages in recent years.[Footnote
3]
To do this work, we analyzed actuarial reviews of the Fund, federal
budget documents, and FHA and industry data. We reviewed pertinent
laws and regulations as well as FHA policy changes and regulatory and
legislative proposals. Additionally, we interviewed FHA officials,
staff from FHA's actuarial review contractor, and selected housing
market researchers. The report includes a detailed description of our
scope and methodology.
We conducted this performance audit from September 2009 through
September 2010, in accordance with generally accepted government
auditing standards. Those standards require that we plan and perform
the audit to obtain sufficient, appropriate evidence to provide a
reasonable basis for our findings and conclusions based on our audit
objectives. We believe that the evidence obtained provides a
reasonable basis for our findings and conclusions based on our audit
objectives.
Summary:
We found that:
* Recent declines in the Fund's capital ratio to a level below the
statutory minimum resulted from a combination of economic and market
developments. More pessimistic forecasts of economic conditions
increased the number of predicted insurance claims and losses
associated with those claims, thereby reducing the Fund's economic
value. At the same time, higher demand for FHA-insured mortgages
increased FHA's insurance-in-force. The Fund's condition also has
worsened from a budgetary perspective. The Fund's capital reserve
account holds reserves in excess of those needed to pay for estimated
credit subsidy costs and is used to help cover unanticipated increases
in those costs. In recent years, balances in this account have fallen
dramatically. If the account were to be depleted, FHA would require
additional funds to help cover its costs on insurance issued to date.
* FHA and its actuarial review contractor have enhanced their methods
for assessing the Fund's financial condition but still are addressing
other methodological issues that could affect the reliability of
estimates of the Fund's capital ratio. In particular, past reviews
have relied on a single economic forecast to produce the estimate of
the capital ratio that is used to determine whether the Fund is
meeting the 2 percent capital reserve requirement. This approach does
not fully account for the variability in future house prices and
interest rates that the Fund may face and therefore may tend to
overestimate the Fund's economic value. An alternative to the current
approach, known as stochastic simulation, involves running simulations
of hundreds of different economic paths and offers the prospect of
better estimates of the Fund's economic value.
* FHA has implemented or proposed a number of steps to help improve
the financial condition of the Fund, including adjustments to its
insurance premiums and underwriting policies. However, certain
legislative requirements concerning FHA's administration of the Fund
provide limited direction to the agency. For example, statutory
provisions do not specify a time frame for restoring the capital ratio
to its required minimum level or clearly stipulate the nature of the
information FHA should include in quarterly reports to Congress.
* Data on FHA-insured mortgages illustrate the challenges facing the
Fund as well as improvement in certain risk factors. As in other
segments of the mortgage market, the performance of FHA-insured
mortgages deteriorated as the economy weakened and home prices fell in
2008 and 2009. However, in recent years, changes in key loan and
borrower characteristics of FHA-insured mortgages suggested some
improvement in credit quality at loan origination. FHA is closely
monitoring the early performance of the 2009 loan cohort, which will
have a major influence on the Fund's financial condition because of
its large size, but it is too early to tell whether it will perform to
FHA's expectations.
To enhance actuarial assessment of and reporting on the Fund, we are
recommending that the Department of Housing and Urban Development
(HUD) (1) require FHA's actuarial review contractor to use stochastic
simulation of future economic conditions to estimate the Fund's
capital ratio and (2) include the results of this analysis in FHA's
annual report to Congress on the financial status of the Fund. Also,
to strengthen accountability and transparency in FHA's management of
the Fund, Congress should consider establishing a minimum time frame
for restoring the capital ratio to 2 percent and clarifying a number
of statutory provisions concerning FHA's administration of the Fund.
We provided HUD with a draft of the report on which this testimony is
based for its review and comment. HUD provided technical comments,
which are reflected both in the report and in this testimony.
Background:
FHA's single-family programs insure private lenders against losses
from borrower defaults on mortgages that meet FHA criteria for
properties with one to four housing units. In recent years, FHA has
experienced a dramatic increase in its business volume and market role
(see fig. 1). In 2009, FHA insured almost 2 million single-family
mortgages, representing more than $300 billion in mortgage insurance
and about 17 percent of the mortgage market. Historically, FHA has
played a particularly large role among minority, lower-income, and
first-time homebuyers. To help cover its insurance costs, FHA charges
borrowers insurance premiums. As of September 1, 2010, FHA charged a
2.25 percent up-front premium and a 0.5 or 0.55 percent annual
insurance premium, depending on the size of the borrower's down
payment.
Figure 1: FHA Loan Volume and Market Share, 2001-2009:
[Figure: Refer to PDF for image: vertical bar and line graph]
Year: 2001;
Loan volume: $152 billion;
Market share: 6.8%.
Year: 2002;
Loan volume: $140 billion;
Market share: 4.9%.
Year: 2003;
Loan volume: $153 billion;
Market share: 4.0%.
Year: 2004;
Loan volume: $84 billion;
Market share: 3.0%.
Year: 2005;
Loan volume: $56 billion;
Market share: 1.9%.
Year: 2006;
Loan volume: $55 billion;
Market share: 2.0%.
Year: 2007;
Loan volume: $77 billion;
Market share: 3.4%.
Year: 2008;
Loan volume: $243 billion;
Market share: 16.1%.
Year: 2009;
Loan volume: $357 billion;
Market share: 17.0%.
Source: GAO analysis of FHA data.
[End of figure]
Legislation sets certain standards for FHA-insured loans. FHA
borrowers who are purchasing a home must make a cash investment of at
least 3.5 percent of the current purchase price. However, borrowers
are permitted to finance their mortgage insurance premiums and some
closing costs, which can create an effective loan-to-value (LTV)
ratio--the amount of the mortgage loan over the value of the home--of
close to 100 percent for some FHA-insured loans. Congress also has set
limits on the size of the loans that FHA may insure, which can vary by
county. In calendar year 2010, the limits range from $271,050 to
$729,750 for one-unit properties in the continental United States.
The Omnibus Budget Reconciliation Act of 1990 required the Secretary
of HUD to take steps to ensure that the Fund attained a capital ratio
of at least 2 percent by November 2000 and maintained at least a 2
percent ratio at all times thereafter.[Footnote 4] It also required an
annual independent actuarial review of the economic net worth and
soundness of the Fund. The annual actuarial review is now a
requirement in the Housing and Economic Recovery Act of 2008 (HERA),
which also requires that the Secretary of HUD submit an annual report
to Congress on the results of the review.
Under the Federal Credit Reform Act of 1990 (FCRA), FHA and other
federal agencies must estimate the net lifetime costs--known as credit
subsidy costs--of their loan insurance or guarantee programs and
include the costs to the government in their annual budgets. Credit
subsidy costs represent the net present value of expected lifetime
cash flows, excluding administrative costs.[Footnote 5] When estimated
cash inflows exceed expected cash outflows, a program is said to have
a negative credit subsidy rate and generates offsetting receipts that
reduce the federal budget deficit. When the opposite is true, the
program is said to have a positive credit subsidy rate--and therefore
requires appropriations. Generally, agencies must produce annual
updates of their subsidy estimates--known as reestimates--for each
cohort on the basis of information on actual performance and estimated
changes in future loan performance. FCRA recognized the difficulty of
making credit subsidy estimates that mirrored actual loan performance
and provides permanent and indefinite budget authority for reestimates
that reflect increased program costs. Upward reestimates increase the
federal budget deficit unless accompanied by reductions in other
government spending or an increase in receipts.
The Fund's Financial Condition Has Worsened in Recent Years Due to a
Combination of Economic and Market Developments:
After increasing earlier in the decade, the Fund's capital ratio
dropped sharply in 2008 and fell below the statutory minimum in 2009,
when a combination of economic and market developments created
conditions that simultaneously reduced the Fund's economic value (the
numerator of the ratio) and increased the insurance-in-force (the
denominator of the ratio). According to annual actuarial reviews of
the Fund, the capital ratio rose from about 4 percent in 2001 to about
7 percent in 2006, but fell to 3 percent by the end of 2008 and 0.5
percent by the end of 2009 (see figure 2).
Figure 2: Estimates of the Fund's Capital Ratio, 2001-2009:
[Figure: Refer to PDF for image: vertical bar graph]
Minimum capital ratio: 2.0%.
Year: 2001;
Capital ratio (percentage): 3.75%.
Year: 2002;
Capital ratio (percentage): 4.52%.
Year: 2003;
Capital ratio (percentage): 5.21%.
Year: 2004;
Capital ratio (percentage): 5.53%.
Year: 2005;
Capital ratio (percentage): 6.02%.
Year: 2006;
Capital ratio (percentage): 6.82%.
Year: 2007;
Capital ratio (percentage): 6.40%.
Year: 2008;
Capital ratio (percentage): 3.10%.
Year: 2009;
Capital ratio (percentage): 0.51%.
Source: GAO analysis of FHA data.
[End of figure]
Major factors contributing to the decline in the economic value in
2008 and 2009 included:
* More pessimistic forecasts of economic conditions--house prices, in
particular--which increased the number of predicted insurance claims
and losses associated with those claims, thereby reducing the Fund's
economic value. The economic value declined from about $21 billion at
the beginning of 2008 to less than $4 billion by the end of 2009 (see
figure 3).
* The contraction of other segments of the mortgage market and
legislated increases in the loan amounts eligible for FHA insurance,
which resulted in higher demand for FHA-insured mortgages and
increased FHA's insurance-in-force. From the beginning of 2008 to the
end of 2009, the insurance-in-force rose from $332 billion to $715
billion (see figure 3).
Figure 3: Estimates of the Fund's Economic Value and Insurance-in-
force, 2001-2009:
[Figure: Refer to PDF for image: vertical bar and line graph]
Year: 2001;
Economic value: $18.51 billion;
Unamortized insurance in force: $493 billion.
Year: 2002;
Economic value: $22.63 billion;
Unamortized insurance in force: $500 billion.
Year: 2003;
Economic value: $22.74 billion;
Unamortized insurance in force: $436 billion.
Year: 2004;
Economic value: $21.98 billion;
Unamortized insurance in force: $397 billion.
Year: 2005;
Economic value: $21.62 billion;
Unamortized insurance in force: $359 billion.
Year: 2006;
Economic value: $22.02 billion;
Unamortized insurance in force: $323 billion.
Year: 2007;
Economic value: $21.23 billion;
Unamortized insurance in force: $332 billion.
Year: 2008;
Economic value: $12.91 billion;
Unamortized insurance in force: $430 billion.
Year: 2009;
Economic value: $3.64 billion;
Unamortized insurance in force: $715 billion.
Source: GAO analysis of FHA data.
[End of figure]
At the same time, the Fund's condition has worsened from a budgetary
perspective. Historically, FHA has estimated that its loan insurance
program is a negative subsidy program. On the basis of these
estimates, FHA built up substantial balances in a budgetary account
known as the capital reserve account. This account holds reserves in
excess of those needed to pay for estimated credit subsidy costs and
is used to help cover unanticipated increases in those costs--for
example, increases due to higher-than-expected claims. Reserves needed
to cover estimated credit subsidy costs are held in the Fund's
financing account.[Footnote 6] However, in recent years the capital
reserve account has covered large upward reestimates of FHA's credit
subsidy costs through transfers to the financing account. As a result,
balances in the capital reserve account fell dramatically--from $22
billion at the end of 2007 to an estimated $3.5 billion by the end of
2010 (see figure 4). If the reserve account were to be depleted, FHA
would need to draw on permanent and indefinite budget authority to
cover additional increases in estimated credit subsidy costs.
Figure 4: End-of-Year Balances in the Fund's Capital Reserve Account,
2002-2010:
[Figure: Refer to PDF for image: vertical bar graph]
Year: 2002;
Balance: $22.8 billion.
Year: 2003;
Balance: $26.2 billion.
Year: 2004;
Balance: $23.5 billion.
Year: 2005;
Balance: $23.3 billion.
Year: 2006;
Balance: $22.0 billion.
Year: 2007;
Balance: $22.4 billion.
Year: 2008;
Balance: $19.1 billion.
Year: 2009;
Balance: $10.6 billion.
Year: 2010, estimated;
Balance: $3.5 billion.
Source: GAO analysis of federal budget data.
[End of figure]
FHA Has Enhanced Its Approach for Assessing the Fund's Condition but
the Current Methodology Does Not Fully Account for Future Economic
Volatility:
FHA and its actuarial review contractor have enhanced their methods
for assessing the Fund's financial condition but still are addressing
other methodological issues that could affect the reliability of
estimates of the Fund's capital ratio.[Footnote 7] Annual actuarial
reviews of the Fund use statistical models to estimate the probability
that loans will prepay or result in insurance claims on the basis of
certain loan and borrower characteristics (such as LTV ratios and
borrower credit scores) and key economic variables (such as house
prices and interest rates). FHA and its contractor have enhanced these
models in recent years, by incorporating additional variables that are
related to loan performance and developed an additional model to
predict loss rates on insurance claims. Also, consistent with
recommendations we made in a prior report, the actuarial reviews began
in 2003 to analyze the impact of more pessimistic economic scenarios--
for example, nationwide declines in home prices--than they did
previously.[Footnote 8]
However, a significant limitation of the current methodology is its
reliance on a single economic forecast to produce the estimate of the
capital ratio that is used to determine whether the Fund is meeting
the 2 percent capital reserve requirement. This approach does not
fully account for the variability in future house prices and interest
rates that the Fund may face. As a result, baseline estimates of the
capital ratio may tend to underestimate insurance claims and mortgage
prepayments and therefore may tend to overestimate the Fund's economic
value. In a 2003 report, the Congressional Budget Office (CBO)
concluded that FHA could project the Fund's cash flows more accurately
by using a methodological approach--known as stochastic modeling--that
involves running simulations of hundreds of different economic paths
to produce a distribution of capital ratio estimates.[Footnote 9]
FHA officials told us that they were planning to require the actuarial
review contractor to use a stochastic simulation model for the 2011
actuarial review. These officials said that model would be used to
examine the implications of extreme economic scenarios on the Fund but
that decisions about using the model to estimate the Fund's capital
ratio had not been made.
Given the uncertainty that always surrounds estimates of future
economic activity, the report we issued yesterday recommends that HUD
require the actuarial review contractor to use stochastic simulation
of future economic conditions, including house prices and interest
rates, to estimate the Fund's capital ratio and include the results of
this analysis in FHA's annual report to Congress on the financial
status of the Fund.
FHA Has Taken Steps to Improve the Fund's Condition, but Certain
Legislative Requirements for FHA's Administration of the Fund Provide
Limited Direction:
FHA has raised premiums and made or proposed policy and underwriting
changes to help improve the financial condition of the Fund. For
example, FHA raised its up-front premiums, is planning to increase
down-payment requirements for riskier borrowers, and has proposed
reducing allowable seller contributions at closing.[Footnote 10]
Additionally, to rebalance its premium structure while achieving a net
increase in net premium revenue, FHA proposed raising the statutory
ceiling on the annual premium and lowering the up-front premium.
Consistent with this proposal, Congress enacted legislation in August
2010 raising the ceiling on the annual premium.[Footnote 11] Budget
estimates indicate that the rebalancing of the premium structure and
the policy changes regarding down-payment requirements and seller
concessions will increase the balance in the Fund's capital reserve
account by $1.9 billion (according to a CBO estimate) or $5.8 billion
(according to an FHA estimate) in 2011. Additionally, FHA has
increased enforcement against noncompliant and poorly performing
lenders and sought legislative approval to expand its lender
enforcement authority.
However, some of the legislative requirements for FHA's management of
and reporting on the Fund's condition provide limited directions to
FHA. For example:
* The Omnibus Budget Reconciliation Act of 1990 did not specify a time
frame for restoring the capital ratio to its required minimum level.
FHA officials told us that while they have not set a deadline for
restoring the ratio to the minimum level, they intend to do so as
quickly as possible, consistent with FHA's statutory operational
goals, such as providing mortgage insurance to traditionally
underserved borrowers.
* A provision in HERA states that the Secretary may make programmatic
or premium adjustments if the Fund will not maintain its "established
target subsidy rate."[Footnote 12] However, neither HUD nor Congress
has established a target subsidy rate for the Fund. FHA officials told
us that the meaning of the term was not clear--indicating it could
refer to a credit subsidy rate--but they have interpreted it to mean
the capital ratio.[Footnote 13]
* HERA also requires FHA to provide quarterly reports to Congress that
include "updated projections of [the Fund's] annual subsidy rates."
However, FHA has reported the credit subsidy rate only for the current
loan cohort and, because credit subsidy rates generally are only
updated annually, has reported the same rate for multiple quarters.
[Footnote 14] While FHA's quarterly reports do provide information on
major factors affecting subsidy rates (such as claim, prepayment, and
loss rates), the agency has other information that is does not
routinely report that could provide insight into the future direction
of the subsidy rates (such as cohort-level delinquency trends and
economic forecasts).
In the absence of more explicit directions, the priority FHA should
place on restoring the capital ratio versus its operational goals may
be unclear, and Congress may not be receiving all of the information
it would find useful to monitor the Fund's financial condition.
Therefore, we believe that Congress should consider establishing a
minimum time frame for restoring the capital ratio to 2 percent,
taking into account FHA's statutory operational goals and role in
supporting the mortgage market during periods of economic stress.
Additionally, we believe that Congress should consider clarifying
other statutory language, including (1) the definition of "established
target subsidy rate" used in HERA and (2) the nature and extent of
information that FHA should be reporting quarterly on subsidy rates.
The Performance and Characteristics of FHA-Insured Mortgages Have
Changed in Recent Years, and Recent Cohorts Will Have a Major
Influence on the Fund:
Data on the performance and characteristics of FHA-insured mortgages
illustrate the challenges and uncertainties facing the Fund as well as
improvement in certain risk factors. As in other segments of the
mortgage market, the performance of FHA-insured mortgages deteriorated
as the economy weakened and home prices fell in 2008 and 2009. More
specifically, FHA experienced increases in serious delinquency rates
(percentage of active loans 90 or more days delinquent or in
foreclosure) beginning in 2008 and continuing through 2009 after
seeing a more stable pattern from 2005 through 2007. As of the last
quarter of calendar year 2009, FHA's serious delinquency rate reached
a historical high of 9.4 percent, a figure moderated by the fact that
a large proportion of FHA's active loans are relatively new and have
had limited time to potentially experience performance problems.
[Footnote 15] In recent years, changes in key loan and borrower
characteristics of FHA-insured mortgages suggested some improvement in
credit quality at loan origination. For example:
* As the contraction of the conventional mortgage market reduced
mortgage options, even for borrowers with favorable credit histories,
the proportion of FHA borrowers with stronger credit scores (680 and
above) increased from 28 percent in 2008 to 44 percent in 2009.
* The percentage of loans with down-payment assistance funded by home
sellers fell from about 19 percent in 2008 to 0 percent as a
legislative ban on this assistance took effect in 2009. As we
discussed in a prior report, loans with this type of assistance have
significantly higher-than-average insurance claim rates.[Footnote 16]
FHA has been closely monitoring the early performance of the 2009 loan
cohort, which will have a major influence on the Fund's financial
condition because of its large size (35 percent of the amortized
insurance-in-force as of May 31, 2010). The 2009 cohort was projected
to perform better than the 2006 cohort in the long run, but it is
unclear from the early performance of the 2009 cohort whether this
projection will hold.
In closing, because of the severe downturn in the nation's housing
sector and FHA's expanded role in supporting the mortgage market,
concerns exist about the rapid decline in the Fund's capital ratio to
a level below the statutory minimum and FHA's estimation of this
ratio. Prudent implementation of enhancements to FHA's modeling and
estimation processes could improve the reliability of future capital
ratio estimates and produce useful information about the Fund's
ability to withstand economic stresses and meet statutory capital
reserve requirements. Further, while Congress has enacted a number of
provisions concerning FHA's management of and reporting on the Fund's
financial condition, these provisions may not provide FHA with clear
or specific directions. Enhancement and clarification of the
provisions may help reinforce FHA's accountability for restoring and
maintaining the capital ratio at the required level and improve
transparency of the Fund's financial condition.
Mr. Chairman, Ranking Member Shelby, and Members of the Committee,
this concludes my prepared statement. I would be happy to respond to
any questions that you may have at this time.
GAO Contact and Staff Acknowledgments:
For further information about this testimony, please contact Mathew J.
Scirè, Director, at 202-512-8678 or sciremj@gao.gov. Contact points
for our Offices of Congressional Relations and Public Affairs may be
found on the last page of this statement. Individuals making key
contributions to this testimony include Steven K. Westley (Assistant
Director); Serena Agoro-Menyang; Dan Alspaugh; Joseph Applebaum;
Marcia Carlsen; Tom McCool; Carol Henn; John McGrail; Marc Molino,
Susan Offutt; José R. Peña; Bob Pollard; Barbara Roesmann; and Heneng
Yu.
[End of section]
Footnotes:
[1] In addition, the annual independent audits of FHA's financial
statements review the Fund from a financial accounting perspective and
provide information used in the actuarial and budgetary reviews of the
Fund.
[2] GAO, Mortgage Financing: Opportunities to Enhance Management and
Oversight of FHA's Financial Condition, [hyperlink,
http://www.gao.gov/products/GAO-10-827R] (Washington, D.C.: Sep. 14,
2010).
[3] Unless otherwise stated, the years shown in this testimony are
fiscal years.
[4] Pub. L. No. 101-508
[5] For a mortgage insurance program, cash inflows consist primarily
of fees and premiums charged to insured borrowers and proceeds from
sales of foreclosed properties, and cash outflows consist mostly of
payments to lenders to cover the cost of claims.
[6] The financing account records lifetime cash flows for loans
insured in 1992 and thereafter. It appears in the budget for
informational and analytical purposes but is not included in the
budget totals or budget authority or outlays.
[7] For the 2009 actuarial review, FHA used a second contractor to
conduct an actuarial analysis of Home Equity Conversion Mortgages
(HECM) that were added to the loans included in the Fund starting with
2009 insurance commitments. Because HECMs currently have a small
influence on the Fund's financial condition, we use "actuarial review
contractor" to refer to the contractor that conducted the actuarial
analysis of non-HECM loans.
[8] GAO, Mortgage Financing: FHA's Fund Has Grown, but Options for
Drawing on the Fund Have Uncertain Outcomes, [hyperlink,
http://www.gao.gov/products/GAO-01-460] (Washington, D.C.: Feb. 28,
2001).
[9] Congressional Budget Office, Subsidy Estimates for FHA Mortgage
Guarantees, a CBO paper (Washington, D.C.: November 2003).
[10] When FHA raised the up-front premium in April 2010, it was
already charging the maximum annual premium allowed by law.
[11] Congress enacted Pub. L. No. 111-229 on August 11, 2010, which
increased the ceiling on the annual insurance premium from 0.5 to 1.5
percent for borrowers with initial LTVs of 95 percent or less, and
from 0.55 to 1.55 percent for borrowers with initial LTVs of 95
percent or more. The legislation also states that the Secretary of HUD
may adjust any initial or annual premium by publishing a notice in the
Federal Register or by issuing a mortgagee letter (a written
instruction to FHA-approved lenders). On September 1, 2010, FHA issued
Mortgagee Letter 2010-28 to increase the annual insurance premium to
0.85 percent for borrowers with initial LTVs of 95 percent or less and
to 0.90 percent for borrowers with initial LTVs of more than 95
percent, and to lower the up-front insurance premium to 1.00 percent,
effective for loans initiated on or after October 4, 2010.
[12] 12 U.S.C. § 1708(a)(6).
[13] FHA, like other agencies, estimates credit subsidy rates for
individual loan cohorts.
[14] Credit subsidy rates may be updated more than annually to reflect
midyear policy changes. To reflect the April 2010 increase to its up-
front insurance premium (1.75 percent to 2.25 percent), the credit
subsidy rate in FHA's report for the third quarter of 2010 is more
favorable than the rate in prior 2010 reports.
[15] As of the second quarter of 2010, FHA's serious delinquency rate
had dropped to 8.45 percent.
[16] GAO, Mortgage Financing: Additional Action Needed to Manage Risks
of FHA-insured Loans with Down Payment Assistance, [hyperlink,
http://www.gao.gov/products/GAO-06-24] (Washington, D.C.: Nov. 9,
2005).
[End of section]
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