In the wake of the mortgage meltdown, the Federal Housing Administration has emerged as a pillar of the still wobbly housing market -- providing vital insurance that enables borrowers to qualify for loans with as little as 3.5% down.
This year alone the agency has backed nearly 2 million mortgages worth at least $328 billion. It insured 21.5% of all new mortgages last year, up from fewer than 6% in 2007.
Some lawmakers, however, worry that the FHA may be doing its job too well -- enabling too many people with shaky finances to get loans, and in effect setting up a potential repeat of the housing bubble fueled in part by no-questions-asked subprime loans.
Recent numbers appear to underscore those concerns. The percentage of FHA loans that are delinquent or in foreclosure climbed to nearly 8% at the end of June, from about 5.5% in early 2006, according to the Mortgage Bankers Assn. And in the weeks ahead, its reserves for loan losses are projected to slip below federally mandated limits.
“It’s not the least bit implausible to be concerned about the ever-deteriorating performance of the FHA portfolio,” said UCLA finance professor Stuart Gabriel, director of the university’s Ziman Center for Real Estate. “The jury is out as to whether the FHA is going to need a government infusion.”
The real estate industry believes the FHA is vital to the housing market because its insurance enables people with modest incomes to buy homes -- people who otherwise would probably be turned away by banks.
But because their initial investment is modest, critics believe, these borrowers have little incentive to stay in their homes if they are hit by a job loss or by another drop in home values.
“You have to ask the question: Have we figured out what got us here in the first place and are we going to make sure we don’t replicate that failed system?” Rep. Scott Garrett (R-N.J.) said.
Those questions and others will be addressed today, when a congressional committee starts examining how the FHA’s reserves for loan losses have dwindled so fast.
One proposed solution to the agency’s troubles, backed by Garrett and others, is to raise the minimum down payment on FHA loans to 5%. Backers believe that will encourage borrowers to stay in their homes and not let them fall into foreclosure.
But new FHA Commissioner David H. Stevens said such a move could threaten the nascent housing recovery. A person looking to buy a $300,000 house, for instance, would have to raise an additional $4,500 for the down payment.
“All that’s going to do is retard recovery,” he said.
Stevens said the agency was making changes to reduce risk, such as lending to people with higher credit scores. And he insisted that the FHA, which has always been funded by mortgage insurance premiums, will not need a taxpayer bailout.
But the FHA is straddling a difficult, and potentially perilous, line -- trying to prime a housing recovery without overextending itself so far that it requires an infusion of taxpayer money.
“On the one hand, it’s providing support to the housing market,” Federal Reserve Chairman Ben S. Bernanke told lawmakers last week. “On the other hand, clearly, I think it’s fair to say that given the low down payments, there’s certainly greater risk of loss there, which would be ultimately borne by the taxpayer. . . . So I think that’s a trade-off that Congress has to look at.”
The FHA was created during the Great Depression to help revive the devastated real estate market at that time. In the decades since, it played a vital, though secondary, role in the real estate market by insuring mortgages from approved lenders for people who had steady work but could not afford a large down payment.
The FHA program is funded by premiums paid by homeowners, and those premiums drop off after five years or when the remaining loan balance is 78% of the home’s value.
When housing prices were soaring, almost anyone could get a subprime mortgage, and the FHA’s importance was diminished. But with subprime lenders gone and banks hesitant to make loans with less than a 20% down payment, the FHA has become the only option for many home buyers.
“With the collapse of subprime, suddenly they’re more important than ever,” said Dean Baker, co-director of the Center for Economic and Policy Research, a Washington think tank. “I don’t know that they’re prepared to take on that burden.”
Congress boosted the agency’s business last year by more than doubling the limit on the maximum FHA-backed loan, to $729,750, in Los Angeles and other high-cost markets. Through Aug. 31 of this year, the FHA had insured nearly 1.8 million mortgages worth at least $328 billion, or nearly half the total of $675 billion worth of mortgages on its books -- putting it on pace for its busiest fiscal year, which ended last week.
But the agency is also much more exposed to the volatile housing market. Experts worry that if home values start tumbling again, new FHA-insured mortgages would be underwater because of the low down payment.
Fraud by lenders is also a concern, according to an inspector general’s report in June. The number of FHA-approved lenders shot up from 692 in 2006 to more than 3,300 last year, and the agency’s business picked up in some markets, such as L.A., that were largely unfamiliar to it. Those factors, the report said, increased the risk of such lender abuse as fraudulent appraisals.
Alarm bells went off last month when the FHA projected that its secondary reserve fund would fall below the congressionally mandated level of 2% of all mortgages on its books. The fund was at 6.4% at the end of September 2007.
In the FHA’s defense, Stevens points out that it requires borrowers to document their incomes and insures only standard, 30-year fixed-rate mortgages. Raising the minimum down payment would be an overreaction based more on emotion than facts, he said.
“No one’s more risk-averse in FHA’s history than me, but I do worry about people jumping to legislative solutions that are not based on factual information,” he said.
Stevens touted changes he had made to reduce risk and rebuild the agency’s reserves without a government infusion. He will appoint the agency’s first chief risk officer and wants to require lenders to have at least $1 million in cash and other assets, up from $250,000, so they can cover more losses before they’re passed on to the FHA.
“We’re not going to need a taxpayer bailout,” he said. “It’s a fact.”
David Kittle, chairman of the mortgage bankers group, said an increase in the minimum down payment would be “catastrophic” for the market.
“Why would you want to deter people further from buying homes when clearly you need to get homes off the market?” he said.
Some members of Congress, however, believe the risk may be too high.
“I’m concerned that the private market for loans with little or no money down has shifted directly onto the books of the federal government,” said Rep. Ed Royce (R-Fullerton). “We need to make certain that taxpayers are not again on the hook for the failures of Washington.”