Home Mortgage Crisis 2.0: FHA Policies Portend Peril for Taxpayers

On February 11, 2015, Housing and Urban Development (HUD) Secretary Julian Castro testified before the House Financial Services Committee at an oversight hearing on the Federal Housing Administration.  The hearing was convened two weeks after the FHA announced on January 28, 2015 that it was reducing its premiums even though the agency’s insurance fund is woefully undercapitalized, has already needed one bailout from the Treasury, and continues to put taxpayers at risk.  FHA provides a 100 percent government guarantee to cover losses on mortgages the agency insures. 

Committee Chairman Jeb Hensarling (R-Texas) opened the hearing by pointing out that FHA was in violation of current law by not maintaining its statutorily required 2 percent capital ratio in its Mutual Mortgage Insurance (MMI) Fund.  He also said that the reduction in premiums would result in a further delay in meeting that requirement.  Housing and Insurance Subcommittee Chairman Blaine Luetkemeyer (R-Mo.) said that if FHA was a bank or a private mortgage insurer, its regulator would have shut it down due to its substantial undercapitalization. 

Committee members also voiced strong concerns that by lowering the guarantee fee it charges by 50 basis points, or 37 percent, FHA was further undercutting private mortgage insurers in an attempt to capture a greater market share from them.  Subcommittee on Capital Markets and Government-Sponsored Enterprises Chairman Scott Garrett (R-N.J.) said that FHA is enticing borrowers to use FHA mortgages rather than private-sector mortgages with promises of savings of $900 annually, or about $75 per month.  Representative Ed Royce (R-Calif.) emphasized that this move directly contradicts the administration’s stated goal of increasing the role of private capital because the FHA premium reduction disadvantages the ability of private mortgage insurers to compete in the marketplace.

Secretary Castro cited FHA’s history of serving the interests of “folks of modest means.”  Yet FHA covers mortgages of up to $625,500, thanks to an unwise decision by Congress to permit such insured loans for so-called “high cost” areas.  Providing government-subsidized insurance to the top tiers of wage earners, who are the only “folks” wealthy enough to afford a $625,000 mortgage, does not help “folks of modest means.”  

It is ironic that on the same day Secretary Castro testified about how the FHA is doing such a great job, the agency was once again included on the Government Accountability Office’s [GAO] High Risk List due to the agency’s “substantial growth in its insurance portfolio and significant financial difficulties.” The secretary struggled to deliver basic information about the FHA’s trillion-dollar loan portfolio when asked by members of the committee, and several times shied away from verbally confirming the well-established fact that taxpayers are the explicit backers of its loan portfolio or that the fee reduction will negatively impact the ability of private capital to serve the market.

The GAO report noted the MMI has been out of compliance with its statutory 2-percent capital requirement since fiscal year 2009.  Additionally, a weakening in the projected performance of FHA-insured mortgages led to FHA receiving $1.68 billion from the Treasury at the end of fiscal year 2013, to ensure that the MMI Fund had sufficient funds to pay for expected future losses on existing insurance obligations.

In its six years in office, the Obama administration has failed to unwind government involvement in Fannie Mae and Freddie Mac, the two housing government-sponsored enterprises (GSEs) whose risky business practices dragged the housing market and ultimately the whole economy into a deep recession.  The GSEs have been under federal conservatorship since September, 2008 and were only implicitly backed by the taxpayers at the time of their implosion.  Nonetheless, the administration continues to expand risk at FHA, which is explicitly backed by the taxpayers and bears the full faith and credit of the United States.

Several Republicans also raised the concern that FHA and the Consumer Financial Protection Bureau (CFPB) use different definitions of a “qualified mortgage” that provides legal protections to lenders.  The FHA uses a looser definition, which makes it more attractive to lenders and provides the agency with another advantage over its private sector counterparts.  

In addition, FHA and the GSEs use different calculations for factors such as home price appreciation to determine the outstanding risk of default for loans they insure.  As a result, they make dissimilar assumptions about the fees they should charge to insure the mortgages.  The definition of a qualified mortgage should be the same for FHA and CFPB and the calculations should be the same for the GSEs and FHA.  After all, a borrower poses the exact same risk of default regardless of who insures their mortgage.

The Committee’s hearing confirmed what Citizens Against Government Waste has been saying for years:  FHA’s misguided policies have strayed above and beyond its original mission to provide access to low- and moderate-income borrowers that were not served by the conventional market.  Today, FHA is not only serving wealthier borrowers, but also “folks of modest means” that the private industry is ready, willing and able to serve.  The agency is placing taxpayers at higher risk of future (and bigger) bailouts, while discouraging participation by the private mortgage insurance industry.  FHA does not have to meet the same capital and reserve requirements, nor safety and soundness requirements, as their private sector competitors in the marketplace.  This allows FHA to price their products much more cheaply (and with less cushion to absorb losses) than the private sector.  This pricing advantage is exacerbated by actuarially unsound practices that led to even further reduced FHA prices in January 2015.

Congress and the administration should be working tirelessly to get the federal government out of the mortgage insurance business, starting with bringing FHA loan limits down dramatically.  The agency has already come hat in hand to taxpayers to cover its losses and even under the agency’s rosiest economic predictions, it won’t meet the 2 percent statutory capital requirements until 2016.

The FHA should also be required to limit its insurance to first-time home buyers who make less than the local median household income.  That would get FHA out of the business of helping a substantial number of borrowers who already own a home and are making well over the median income in their area.  FHA could then be in a better position to fulfill its original mission and enable the private sector to serve its historical share of the low down payment market.