[Senate Hearing 113-8]
[From the U.S. Government Publishing Office]







                                                          S. Hrg. 113-8


  ADDRESSING FHA'S FINANCIAL CONDITION AND PROGRAM CHALLENGES--PART II

=======================================================================

                                HEARING

                               before the

                              COMMITTEE ON
                   BANKING,HOUSING,AND URBAN AFFAIRS
                          UNITED STATES SENATE

                    ONE HUNDRED THIRTEENTH CONGRESS

                             FIRST SESSION

                                   ON

     EXAMINING THE FHA'S FINANCIAL CONDITION AND PROGRAM CHALLENGES

                               __________

                           FEBRUARY 28, 2013

                               __________

  Printed for the use of the Committee on Banking, Housing, and Urban 
                                Affairs




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            COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS

                  TIM JOHNSON, South Dakota, Chairman

JACK REED, Rhode Island              MIKE CRAPO, Idaho
CHARLES E. SCHUMER, New York         RICHARD C. SHELBY, Alabama
ROBERT MENENDEZ, New Jersey          BOB CORKER, Tennessee
SHERROD BROWN, Ohio                  DAVID VITTER, Louisiana
JON TESTER, Montana                  MIKE JOHANNS, Nebraska
MARK R. WARNER, Virginia             PATRICK J. TOOMEY, Pennsylvania
JEFF MERKLEY, Oregon                 MARK KIRK, Illinois
KAY HAGAN, North Carolina            JERRY MORAN, Kansas
JOE MANCHIN III, West Virginia       TOM COBURN, Oklahoma
ELIZABETH WARREN, Massachusetts      DEAN HELLER, Nevada
HEIDI HEITKAMP, North Dakota

                       Charles Yi, Staff Director

                Gregg Richard, Republican Staff Director

                  Laura Swanson, Deputy Staff Director

                   Glen Sears, Deputy Policy Director

                 Erin Barry, Professional Staff Member

                 Beth Cooper, Professional Staff Member

                 William Fields, Legislative Assistant

                  Greg Dean, Republican Chief Counsel

            Chad Davis, Republican Professional Staff Member

                       Dawn Ratliff, Chief Clerk

                     Riker Vermilye, Hearing Clerk

                      Shelvin Simmons, IT Director

                          Jim Crowell, Editor

                                  (ii)













                            C O N T E N T S

                              ----------                              

                      THURSDAY, FEBRUARY 28, 2013

                                                                   Page

Opening statement of Chairman Johnson............................     1

Opening statements, comments, or prepared statements of:
    Senator Crapo................................................     2

                               WITNESSES

Gary Thomas, President, National Association of Realtors.........     4
    Prepared statement...........................................    31
    Responses to written questions of:
        Senator Menendez.........................................    80
        Senator Heitkamp.........................................    82
Peter H. Bell, President and Chief Executive Officer, National 
  Reverse Mortgage Lenders Association...........................     5
    Prepared statement...........................................    40
    Responses to written questions of:
        Senator Menendez.........................................    84
Phillip L. Swagel, Professor in International Economic Policy, 
  Maryland School of Public Policy, University of Maryland.......     7
    Prepared statement...........................................    48
    Responses to written questions of:
        Senator Menendez.........................................    86
        Senator Heitkamp.........................................    88
Sarah Rosen Wartell, President, Urban Institute..................     9
    Prepared statement...........................................    53
    Responses to written questions of:
        Senator Menendez.........................................    90
        Senator Heitkamp.........................................    92
Teresa Bryce Bazemore, President, Radian Guaranty, Inc...........    10
    Prepared statement...........................................    62
    Responses to written questions of:
        Senator Menendez.........................................    95
David H. Stevens, President and Chief Executive Officer, Mortgage 
  Bankers Association............................................    12
    Prepared statement...........................................    67
    Responses to written questions of:
        Senator Menendez.........................................    96
        Senator Heitkamp.........................................    99

                                 (iii)

 
  ADDRESSING FHA'S FINANCIAL CONDITION AND PROGRAM CHALLENGES--PART II

                              ----------                              


                      THURSDAY, FEBRUARY 28, 2013

                                       U.S. Senate,
          Committee on Banking, Housing, and Urban Affairs,
                                                    Washington, DC.
    The Committee met at 10:01 a.m., in room SD-538, Dirksen 
Senate Office Building, Hon. Tim Johnson, Chairman of the 
Committee, presiding.

           OPENING STATEMENT OF CHAIRMAN TIM JOHNSON

    Chairman Johnson. I call this hearing to order. Thank you 
to all of the witnesses for joining us for this important 
meeting.
    I would like you all to help the Committee gain greater 
insight into the fiscal challenges at the FHA and what needs to 
be done to mitigate losses and address the shortfall in the 
capital reserve ratio.
    We must also keep in mind that the FHA serves a critical 
role in our housing market by insuring affordable, fully 
documented, and underwritten mortgages for families across the 
country. Without the FHA, the housing crisis would have been 
much deeper with an estimated additional 25-percent decline in 
home prices, which, I am told, represents $3 trillion in lost 
home values. For this reason, we must ensure that the FHA is on 
stable footing and can continue providing loans going forward.
    While the Fiscal Year 2012 Actuarial Report projected a 
negative capital ratio for the Mutual Mortgage Insurance Fund, 
this does not mean that the FHA will have to draw funds from 
the Treasury. We should learn more when the Administration 
releases its fiscal year 2014 budget in the coming weeks. But 
the decision regarding whether the FHA will need funds will be 
made by the OMB in September. That means that the 
Administration has a short window of time to develop and 
implement strategies to manage the FHA's old book of business 
and reduce losses.
    As I said in the hearing on December 6th, if the 
Administration's actions and proposals will not be sufficient 
to restore the FHA's fiscal health, then I plan to work with my 
colleagues on both sides of the aisle on the Banking Committee 
to find a bipartisan way to make that happen. Before the last 
Congress adjourned, we tried to pass a bipartisan bill to give 
the FHA some of the tools it needs, but it was blocked by a 
small group of Senators. This Congress, I hope that Ranking 
Member Crapo and I can work together to reach a bipartisan 
agreement to ensure the FHA's fiscal stability.
    I look forward to your suggestions for ensuring the FHA's 
fiscal health now and in the future.
    With that, I will turn to Senator Crapo.

                STATEMENT OF SENATOR MIKE CRAPO

    Senator Crapo. Thank you very much, Mr. Chairman, and I do 
appreciate our work together so far with regard to the FHA 
reform and will continue to work with you as we deal with this 
critical issue.
    Since its creation in 1934, our Nation has depended on the 
Federal Housing Administration, or FHA, to help first-time home 
buyers as well as low- to moderate-income Americans achieve 
their dreams of home ownership. There are undeniable benefits 
derived from home ownership for both families who buy and the 
broader community as long as the purchase of that home is 
achieved through responsible and sustainable means.
    When the FHA operates in a safe, viable manner, it can help 
many deserving people gain a foothold in our housing market who 
otherwise might not have been able to do so. That is why 
today's hearing comes at such an important time for the FHA.
    The taxpayers, who stand behind the FHA, as well as 
potential future home buyers, depend on the FHA, and they look 
to us now to enact reforms that will return the FHA to a 
sustainable path. If we do this, the FHA can remain a viable 
option for future generations. If we do not, the future is more 
uncertain.
    The current situation surrounding the solvency of the FHA 
is concerning, to say the least, and, at worst, is 
unsustainable. Just the results of the most recent independent 
actuarial report, a negative economic value of more than $16 
billion with a capital reserve ratio of a negative 1.44 percent 
would be problematic, even if they were only considered in a 
vacuum. However, nothing should be considered in a vacuum, and 
what is more troubling is that these numbers are part of a 
continued negative trend that we see in these reports year 
after year.
    Despite assurances from the FHA that capital shortfalls 
were temporary, for the last 4 years, the FHA Fund has been in 
violation of statutory mandates for minimum capital levels. 
Worse yet, the capital reserve ratio has actually been in 
decline every year since 2006.
    Perhaps worst of all, many experts believe that the FHA is 
actually underestimating its risk exposure. If this is true, 
the taxpayer could be even far more exposed to losses than is 
even currently estimated.
    Unfortunately, this continued trend of declining capital 
leads one to the inevitable conclusion that the FHA has a 
fundamental problem building and maintaining adequate capital 
to protect the taxpayer. As such, it is our duty to look at a 
broad range of reforms aimed at returning the FHA to a strong, 
self-sustaining insurance program.
    Many experts have told us that there is no one perfect 
solution that will fix all of the FHA's problems. Ideas such as 
strengthening indemnification provisions, examining premium 
structures, tightening underwriting, increasing transparency, 
increasing borrower equity, and reducing risk layering are just 
some of the proposals that have been put forth by many experts 
in the housing community.
    However, we should not kid ourselves that any one of these 
or any other suggested reforms by themselves represent an easy, 
quick fix to the solvency concerns at the FHA. Instead, what is 
needed here is for this Committee to come together, as the 
Chairman has suggested, and craft bipartisan legislation that 
will best equip the FHA to accurately assess its risks and 
build capital to assure against them.
    Additionally, as the Committee responsible for oversight of 
the FHA, we must remember the FHA is an insurance fund, and the 
FHA needs to operate as such. Even as we deliberate additional 
authorities that the FHA may need, the FHA needs to fully 
utilize the authority currently at its disposal to ensure that 
it does not require a taxpayer bailout. While the FHA does 
that, hopefully this hearing can move us closer to this 
Committee taking action to improving the solvency of FHA.
    Nearly every American has a stake in this hearing and in 
our subsequent actions. They may be a young family starting out 
and hoping to buy their first home, a retired couple looking to 
sell their home and move closer to their grandkids, or 
taxpayers worried about the consequences of inaction. 
Regardless of their situation, and whether they know it or not, 
nearly all of our constituents will suffer if we continue down 
this current path.
    Mr. Chairman, I thank you again for holding this hearing, 
and as I said, I look forward to working with you as we move 
forward to find solutions. Thank you.
    Chairman Johnson. Thank you, Senator Crapo.
    Due to the size of our witness panel and to ensure ample 
time for questions, opening statements will be limited to the 
Chairman and Ranking Member. I want to remind my colleagues 
that the record will be open for the next 7 days for opening 
statements and any other materials you would like to submit.
    Now I would like to introduce our witnesses.
    Mr. Gary Thomas is the 2013 president of the National 
Association of Realtors. Mr. Thomas is a realtor from Orange 
County, California.
    Mr. Peter Bell is the president of the National Reverse 
Mortgage Lenders Association.
    The Honorable Phillip L. Swagel is a professor in 
international economic policy at the Maryland School of Public 
Policy, University of Maryland. Dr. Swagel was Assistant 
Secretary for Economic Policy at the Treasury Department from 
2006 to 2009.
    Ms. Sarah Rosen Wartell is the president of the Urban 
Institute.
    In just a moment, Senator Toomey will introduce Ms. Teresa 
Bryce Bazemore. Before that, we also have the Honorable David 
H. Stevens before us. He is the president and chief executive 
officer of the Mortgage Bankers Association and former FHA 
Commissioner from 2009 to 2011.
    Senator Toomey, would you like to begin?
    Senator Toomey. Thank you very much, Chairman Johnson and 
Ranking Member Crapo, for holding this hearing and also for 
giving me the opportunity to introduce my constituent, Teresa 
Bryce Bazemore.
    Ms. Bazemore is president of Radian Guaranty, which is 
headquartered in Center City, Philadelphia. In that capacity, 
she oversees strategic planning and administrative activities 
designed to best position the company to achieve its long-term 
goals and objectives.
    Before joining Radian in October of 2006, Ms. Bazemore 
served as general counsel, senior vice president, and secretary 
for Nexstar Financial Corporation, and prior to that she had a 
number of senior positions with various financial institutions. 
Ms. Bazemore holds a bachelor's degree from the University of 
Virginia and a J.D. from Columbia University. I am delighted 
that Ms. Bazemore could be with us today, and I look forward to 
your testimony.
    Thank you, Mr. Chairman.
    Chairman Johnson. Thank you.
    Mr. Thomas, please begin your testimony.

 STATEMENT OF GARY THOMAS, PRESIDENT, NATIONAL ASSOCIATION OF 
                            REALTORS

    Mr. Thomas. Thank you, Chairman Johnson and Ranking Member 
Crapo and Members of the Committee. Thank you for this 
opportunity to testify on behalf of the 1 million members of 
the National Association of Realtors who practice in all areas 
of residential and commercial real estate.
    My name is Gary Thomas. I am a second-generation real 
estate professional in Villa Park, California, and I have been 
in the business for over 35 years and have served the industry 
in countless roles, and I currently serve as the 2013 president 
of the National Association of Realtors.
    Throughout the course of my real estate career, I have 
witnessed the vital role that the Federal Housing 
Administration plays in providing access to affordable home 
ownership. Over the past 5 years, FHA's role has been more 
critical than ever as it sustained the housing markets 
nationwide during the worst economic crisis of our lifetime. 
FHA also helped sustain our national economy during this 
crisis. Without it, housing prices would have dropped an 
additional 25 percent, and American families would have lost 
more than $3 trillion of home wealth.
    Yet numbers such as this only tell one side of the story. 
What is often missed is the human side of how these policies 
impact the lives of millions of Americans for the better.
    As president of NAR, I hear countless stories from our 
members about FHA's positive role. I would like to share one 
that puts a human face on the program we are discussing today.
    One of our members told me about a single father who was 
able to turn his life around through the help of FHA. He had 
relocated to North Carolina from a very depressed area of West 
Virginia. His savings had been wiped out due to the lack of 
steady employment, and his credit score suffered as a result of 
a painful divorce. The move provided him the opportunity for a 
good, steady job, and he wanted a stable home for his child. He 
worked with a lender to get his ratios in line and worked hard 
to save the 3.5-percent downpayment, plus more for his closing 
costs. He was able to purchase a ranch home with enough land to 
park his work trucks and enough room for his teenage son to 
spend time in a positive environment.
    This father was caught between forces beyond his control 
with the depressed economy, yet he was taking as much 
responsibility as he could to move to an area where there were 
better income prospects. Without FHA, it would have been 
several more years before he could buy a home, which would also 
mean losing precious time in which to raise his son in a stable 
environment and begin rebuilding his personal financial 
security.
    Stories like this are not the exception. These and 
countless more stories reflect the positive life-changing role 
FHA plays in the lives of those who benefit from this the most.
    The National Association of Realtors welcomes a return of a 
robust private market, but we are not there yet. Now is not the 
time to lose sight of FHA's mission for the sake of encouraging 
greater private equity which will return on its own when 
extenuating factors such as regulatory uncertainty are 
resolved. Those buyers who are central to FHA's purpose are the 
ones most likely to be hurt by further changes.
    For example, first-time home buyers who are the most likely 
to not be able to meet the 10- to 20-percent downpayment 
required by private lenders would suffer. Since 2009, FHA has 
insured mortgages for more than 2.8 million first-time buyers. 
Were it not for FHA, these buyers would not be homeowners, and 
2.8 million homes would still be on the market.
    Second, minority home buyers would also be hurt. Nearly 50 
percent of African American, Hispanic, and Latino households 
rely on FHA to purchase a home. As a Nation, we are 
strengthened when opportunity is to be available to all. Now is 
not the time to make unnecessary restrictions.
    Finally, the responsible home buyers would be punished. 
With the private market's lending standards tightened too far, 
the average credit score in the conventional market has risen 
to over 760. The average credit score that is denied is now 
734. FHA's market share has risen because good borrowers are 
being denied credit. The National Association of Realtors 
supports changes that are vital to the solvency and strength of 
the FHA Fund, and we look forward to the return of the private 
market and a robust economy. However, any action to 
deliberately lower the FHA's market share could reduce the 
availability and affordability of mortgage credit and undermine 
the fragile real estate recovery.
    On behalf of the National Association of Realtors, thank 
you for the opportunity to share our thoughts on how we can 
work together to ensure that FHA maintains its critical role 
for American homeowners.
    Chairman Johnson. Thank you.
    Mr. Bell, please proceed.

   STATEMENT OF PETER H. BELL, PRESIDENT AND CHIEF EXECUTIVE 
     OFFICER, NATIONAL REVERSE MORTGAGE LENDERS ASSOCIATION

    Mr. Bell. Mr. Chairman, Ranking Member Crapo, and Members 
of the Committee, thank you for the opportunity to discuss the 
Home Equity Conversion Mortgage program. HECM is a very helpful 
and versatile personal financial management tool that had 
considerable applicability when it was first authorized by 
Congress and has become even more important in today's economic 
environment. As the country emerges from financial crisis, HECM 
provides a stabilizing factor for many households, enabling 
them to hold onto their homes and other assets until values 
recover, making it less likely that they will outlive their 
assets while covering the costs of longer life spans. Without 
HECM, hundreds of thousands of older Americans would be forced 
to sell their homes and move into nursing homes, become a 
burden on their families or the social welfare network, or not 
be able to afford their prescription drugs and other expenses.
    My written testimony presents a historical perspective on 
the HECM program. It is important for congressional decision 
makers to understand that HUD has taken its role of stewardship 
for this program very seriously and has continuously worked 
with stakeholders to refine the program, as we have learned 
from experience.
    Today the HECM program faces some stress. This is due 
primarily to the overall housing markets over the past few 
years and not attributable to flaws in the concept or design of 
the program. In fact, the design is quite clever, and those 
responsible for devising it back in 1988 should be commended 
for developing an innovative tool that was very foresighted.
    The challenges the program faces are directly a result of 
the decline in housing values. The diminution in home values 
from 2009 through 2012 is the major factor causing stress. 
Because HECM loans rely entirely on the future value of the 
home for repayment, diminished values have an even more severe 
effect on reverse mortgages than on other types of mortgage 
loans.
    Later books of business have a positive economic value. In 
the recent actuarial review, FHA has adjusted its expectations 
of future home price appreciation for these newer loans 
utilizing a more conservative estimate than that used 
historically.
    With improvements we are seeing in home price appreciation 
plus the vastly improved outlook for more recent loans, we 
believe FHA has the opportunity to earn its way out of the 
negative estimate of economic value for the HECM portfolio, 
particularly if given the tools necessary to properly manage 
its risks.
    One of the challenges in managing this program has been 
FHA's inability to move swiftly in making programmatic changes 
that would reduce risk and enhance financial performance. 
Reverse mortgages are a relatively new concept, and there has 
been a learning curve. Some lessons have been translated into 
program refinements while other helpful changes are blocked by 
procedural obstacles that leave HUD unable to move fast enough 
in making desired changes. The time-consuming route that HUD 
must follow to modify regulations hamstrings its ability to 
react to market conditions.
    Changes to many aspects of the program must be implemented 
through a regulatory development process that can take up to 2 
years. If HUD was granted the authority to modify the HECM 
program by mortgagee letter in lieu of rulemaking, program 
changes and enhancements can be implemented in a matter of 
months, not years.
    Changes that FHA would like to implement and which the 
industry supports include establishing a financial assessment 
through which lenders would ascertain prospective borrowers' 
abilities to meet their obligations under the loan, including 
taxes and insurance; requiring set-asides or escrows for taxes 
and insurance in cases where that appears to be warranted; and 
placing restrictions on drawdowns of funds.
    Assistant Secretary Galante, in testimony before this 
Committee, and the 2012 Independent Actuarial Report on the FHA 
Fund both suggested that it would be helpful if Congress 
provided HUD with the authority to make such changes through 
the issuance of mortgagee letters. NRMLA urges Congress to 
quickly grant that authority to HUD.
    The HECM program was made permanent in 1998, but there has 
been a statutory limit on the number of loans FHA is authorized 
to insure. Although the cap has been suspended by Congress on 
several occasions, its existence deters some lenders from 
making the commitment required to embrace reverse mortgage 
lending, keeping competition at a minimal level.
    NRMLA urges Congress to remove the cap on the number of 
HECMs that FHA may insure to promote competition and eliminate 
any possible disruption in the availability of this important 
tool.
    While there might be some concern about monitoring the 
program to assure it operates on a fiscally sound basis, the 
review undertaken annually through the budget process provides 
that opportunity. There are also opportunities for review 
whenever this Committee conducts its periodic oversight of the 
program.
    HECMs have been a useful tool, helping hundreds of 
thousands of seniors maintain their homes and lead more 
financially stable lives. The program has been administered 
thoughtfully, carefully, and responsibly by a partnership of 
stakeholders. This has allowed the reverse mortgage concept to 
gain a foothold and prove the value of this tool for funding 
longevity.
    I thank the Members of this Committee for your interest and 
urge Congress to grant HUD the authority to make programmatic 
changes swiftly and eliminate or permanently suspend the cap on 
the number of HECM loans that FHA is authorized to insure.
    Thank you. I would be glad to answer any questions.
    Chairman Johnson. Thank you.
    Dr. Swagel, please proceed.

  STATEMENT OF PHILLIP L. SWAGEL, PROFESSOR IN INTERNATIONAL 
 ECONOMIC POLICY, MARYLAND SCHOOL OF PUBLIC POLICY, UNIVERSITY 
                          OF MARYLAND

    Mr. Swagel. Thank you. Chairman Johnson, Ranking Member 
Crapo, and Members of the Committee, thank you for the 
opportunity to testify.
    The FHA mission is a good one, and FHA succeeds in 
important ways, detailed in my written testimony. But more 
needs to be done. Reform needs to continue to move forward in 
the face of the financial deterioration of the FHA.
    The problems at the FHA reflect many things: the economy, 
the collapse of the housing bubble, but also the problematic 
underwriting, excessive market share, underpriced insurance, 
and inadequate risk management at the FHA.
    Now, having said that, the FHA deserves a lot of credit, 
notably Mr. Stevens, for taking steps to address some of these 
problems. But legislation is needed to make further 
improvements.
    An especially worrisome aspect of the FHA's strategy to 
address its problems is that the FHA views its outsized 
presence in the market as a source of profits and a path for 
the future. The analysis of the Congressional Budget Office 
makes clear that FHA insurance is still underpriced, meaning 
that this strategy is misguided. The FHA books a profit when it 
makes loans to riskier borrowers and with laxer underwriting 
terms than private firms are willing to make. That is part of 
its mission, but that does not mean that those are actual 
profits. The risk is there. The profits are illusory.
    Properly accounting for the risks does not in any way 
reduce the merits of FHA activities. The mission is so 
important that, as a society, we should be willing to pay the 
costs. We should just acknowledge that they exist and not 
pretend that the risk is not there.
    Reforms such as stronger underwriting are also 
intrinsically proconsumer in that they ensure that American 
families are in homes and mortgages that they can afford and 
sustain. My written testimony covers a number of reforms that I 
think would be useful, and many of these go beyond the measures 
considered last year in the FHA Solvency Act. I would say that 
more needs to be done than was in that legislation.
    So, very briefly, the key reforms that I would propose and 
that are covered in more detail in my written testimony 
include:
    Improve the pricing of FHA insurance. Again, the CBO 
analysis makes clear that the FHA underprices its insurance.
    Require higher downpayments for riskier borrowers. It is 
good for both taxpayers but also for homeowners for FHA 
borrowers to rapidly accumulate equity in their homes.
    I would also focus the FHA more closely on its mission. I 
think it is hard to defend the FHA's standing behind loans on 
$700,000 and more homes. That seems to me to be at odds with 
the mission of the FHA.
    I would expand the FHA's indemnification authority so that 
the FHA can pursue claims against all lenders and all 
servicers. And, also, I would ensure that the FHA provides more 
clear guidance on the factors that will lead to an 
indemnification request. The FHA should have the tools to go 
after wrongful actions by everyone. Any lender, any servicer 
that does something wrong, they should face the consequences.
    It is important to keep in mind, though, that this action 
is just a piece of the solution. It is not enough by itself to 
make the FHA solvent and sustainable.
    My written testimony discusses these proposals and several 
others. The key is to both address the current solvency problem 
and to make changes that will safeguard future solvency. FHA 
reforms should not wait for broader housing finance reform. 
Instead, early action to bolster the solvency of the FHA can 
set the stage for additional reforms for Fannie Mae and Freddie 
Mac and for measures that will bring back more private capital 
into the housing finance system.
    Thank you very much. I look forward to the questions.
    Chairman Johnson. Thank you.
    Ms. Wartell, please proceed.

  STATEMENT OF SARAH ROSEN WARTELL, PRESIDENT, URBAN INSTITUTE

    Ms. Wartell. Chairman Johnson, Ranking Member Crapo, and 
Senators, thank you very much for the invitation to testify 
today.
    For 20 years, I have worked on housing finance policy, 
including a 5-year stint as an employee at the FHA before my 
tenure at the National Economic Council at the White House. I 
know very well the critical mission that the institution 
performs, but I also know very well its challenges.
    We should not be surprised that the performance of the FHA 
has deteriorated so severely given the worst housing downturn 
since the Great Depression. Some of the losses that the FHA 
experienced were inevitable--the result of FHA playing an 
indispensable, countercyclical role without which losses to the 
larger economy, homeowners, and taxpayers through the GSEs in 
conservatorship, as well as to the private mortgage insurance 
industry would have been far greater. But some of these costs 
could have been avoided if the FHA had had additional tools and 
authorities to act nimbly to manage, price, and mitigate risk.
    Simply put, FHA's ability to contain losses is often 
constrained by the need to achieve new legislation or extended 
rulemaking. A private credit provider can adjust to changing 
market conditions and emerging evidence of risk to protect 
their shareholders. But FHA does not have that option to 
protect the taxpayers. Similar changes can take great time and 
effort, and in the interim, the fund loses billions of dollars 
unnecessarily. Two examples illustrate the problem.
    From early on, FHA officials were skeptical of the seller-
funded downpayment assistance programs, but proponents of the 
program were persistent. Volume grew, peaking at almost a 
quarter of FHA's activity. Finally, in 2007, HUD proposed 
banning these programs, and a final rule was delayed when the 
court found that HUD failed to follow the proper administrative 
procedures. Fifteen months after rulemaking began, Congress 
ended the program, which over its life reduced the net worth of 
the fund by $15 billion. The fund would have had a positive 
economic value at the last actuarial report if not for this 
program over its life. Once political pressures were overcome, 
the rulemaking proceeded comparatively quickly--15 months--but 
in the meantime, FHA insured thousands of these loans even 
though officials knew they would perform poorly and be costly.
    Flaws in the HECM program also have proven costly for FHA. 
Losses continue to this day, long after officials have 
determined that changes to protect taxpayers and homeowners are 
required. It is indefensible.
    These experiences suggest that Congress should give FHA 
officials more power to act quickly, with appropriate public 
notices and transparency, so that they can take steps to reduce 
taxpayer costs. In my testimony, I detail specific proposals, a 
few of which I will describe now.
    First, provide the Secretary with emergency risk mitigation 
powers so that he or she may suspend issuing insurance upon 
making a finding that continuation under current terms exposes 
the taxpayer to elevated risk of loss and fails to serve the 
public interest. The emergency authority could be time limited, 
and Congress could at any time vote to disapprove the use of 
the emergency powers.
    Second, you might also direct the HUD Secretary to develop 
and continuously improve early warning risk indicators. The 
Administration's proposal to you regarding legislative changes 
to the so-called Compare Ratio in my mind is too timid. You 
should empower the HUD Secretary to use any early warning 
indicator that evidence suggests is predictive of loss, 
provided that its use does not discriminate or otherwise 
violate the law.
    It shocks the conscience that officials must continue to 
accept loans for insurance when they know that taxpayers are 
being exposed to unnecessary risk. FHA staff should continually 
refine its warning indicators, be transparent, and have the 
authority to limit participation when they see undue losses. 
Participants should challenge those determinations if 
necessary, but taxpayers and not program participants should 
get the benefit of the doubt.
    Third, we need to authorize FHA to pilot new policies to 
test their costs and benefits before implementation, and, 
finally, there is an ongoing concern that FHA does not have the 
systems technology and analytic prowess to understand emerging 
risks. Congress can allow FHA to provide elevated compensation 
to attract risk management and technological systems staff and 
can give it authority to use insurance fund proceeds to invest 
in those critical risk management systems.
    Looking forward, there is lots that we can do. The capital 
reserve must be replenished. I agree we need to reduce loan 
limits to better target FHA resources. HUD has a range of 
proposals that I detail in my testimony that I am supportive of 
and others that will be discussed by other panelists as well. 
But I have focused on this set of recommendations because they 
represent a fundamental shift toward proactive risk management, 
and I believe it is essential that we take that different 
approach so that FHA does not again become so perilously close 
to requiring taxpayer support. Without that, FHA will not be 
sufficiently strong to fulfill its important countercyclical 
role and provide sustainable home ownership to those who have 
few alternatives.
    Thank you.
    Chairman Johnson. Thank you.
    Ms. Bazemore, please proceed.

STATEMENT OF TERESA BRYCE BAZEMORE, PRESIDENT, RADIAN GUARANTY, 
                              INC.

    Ms. Bazemore. Good morning. I am Teresa Bryce Bazemore, 
president of Radian Guaranty, a leading private mortgage 
insurance company. For decades, FHA and private MI have worked 
together in the housing finance market to ensure that low- and 
moderate-income families could purchase homes, often their 
first home, with low downpayments. In fact, my first loan was 
an FHA loan for a condo, and so I have personally benefited 
from receiving both FHA and privately insured mortgage loans.
    It is vital that we have both a strong MI industry and a 
strong FHA to support low downpayment lending in America. I 
greatly appreciate the Committee's invitation to talk about 
ways in which FHA can return to financial health and return to 
its traditional mission of supporting underserved borrowers.
    By way of background, the private mortgage insurance, or 
MI, industry is the private sector alternative to loans insured 
by FHA. Private mortgage insurers help qualified low 
downpayment borrowers obtain an affordable and sustainable 
mortgage. When a borrower places less than 20 percent down, the 
lender is required to obtain private MI in order for that loan 
to be eligible for subsequent sale to Fannie Mae or Freddie 
Mac. Private MI typically covers the first 25 to 35 percent of 
the loss resulting from foreclosure.
    Even during the recent challenging times, the MI industry 
raised over $8 billion in new capital, paid approximately $34 
billion to the GSEs in claims resulting from foreclosure 
losses, and has reserved another $16 billion for this purpose. 
This is $50 billion taxpayers do not have to pay. We are able 
to pay claims at these levels in part because of the rigorous 
countercyclical reserve requirements imposed by State insurance 
commissioners. A requirement to reserve half of each premium 
dollar ensures that significant capital reserves are 
accumulated during good times and then drawn upon to absorb the 
losses during downturns.
    Both FHA and private MIs found themselves at a disadvantage 
in the early 2000s. Their efforts to promote responsible 
underwriting of mortgages for first-time home buyers were 
undermined by the development of mortgage products, the purpose 
of which was to avoid the use of any type of mortgage 
insurance, whether FHA insurance or private MI. In order to 
remain in the market, FHA and private MI companies had to lower 
premiums and accept underwriting decisions of the GSEs and 
lenders.
    Beginning in 2007, the GSEs, lenders, and private MIs 
tightened their own underwriting requirements and raised their 
premiums and delivery fees. Yet FHA did not. The result was 
that FHA received a flood of new mortgage originations, many of 
which were very poor quality.
    I would like to offer five recommendations to improve FHA's 
financial health and restore its focus on its historical 
mission.
    First, FHA should be authorized to enter into modern risk-
share agreements with private mortgage insurers under which the 
private mortgage insurer will conduct an independent 
underwriting and take a first-loss position.
    Second, FHA needs to refocus its eligibility requirements 
on income level to serve lower- and moderate-income borrowers 
who need their help, as proposed in the Administration's 
February 2011 white paper on housing finance reform.
    Third, Congress should consider reducing the FHA's 
guarantee below its current 100 percent level, much like the VA 
mortgage program.
    Fourth, FHA should be given additional authority to adjust 
its premiums to levels that reflect the true risk of the loans 
that it insures.
    Fifth, the Government must avoid actions that 
unintentionally steer borrowers to FHA such as GSE guarantee 
fees and loan level price adjustments that are not actuarially 
based. The result is to make privately insured loans purchased 
by the GSEs more expensive than FHA-insured loans, thereby 
steering borrowers to FHA loans.
    In conclusion, I would also like to say that unless the QRM 
and Basel III rules recognize private MI as a risk mitigant, 
low downpayment borrowers will find it much harder to obtain a 
mortgage.
    Thank you, and I will be glad to answer any questions.
    Chairman Johnson. Thank you.
    Mr. Stevens, please proceed.

 STATEMENT OF DAVID H. STEVENS, PRESIDENT AND CHIEF EXECUTIVE 
             OFFICER, MORTGAGE BANKERS ASSOCIATION

    Mr. Stevens. Chairman Johnson, Ranking Member Crapo, 
Members of the Committee, thank you for the opportunity to 
testify on FHA's 2012 Actuarial Review and FHA's role in the 
single-family housing system. FHA has never played such an 
important role in the housing market today. FHA is virtually 
the sole source of mortgage finance for borrowers with low 
downpayments and those without high incomes or large amounts of 
inherited wealth.
    Many of these are first-time home buyers, young families 
looking to put down roots in a community, and a segment that 
must be served if we are going to grow our economy and sustain 
the housing recovery.
    Given FHA's importance, I want to commend the Senate for 
confirming Carol Galante as FHA Commissioner. Commissioner 
Galante has been a staunch advocate for housing throughout her 
career, and I know she will work aggressively to protect the 
taxpayers and the FHA Fund.
    In 2012, the FHA Actuarial Review showed that the capital 
ratio of the MMI Fund had fallen to negative 1.44 percent. This 
prompted immediate concerns that FHA might need to draw from 
the U.S. Treasury and brought into sharper focus questions 
about whether the FHA's policies need to be adjusted.
    FHA has already taken steps to address many of the causes 
that have led to losses in its single-family portfolio by 
raising mortgage insurance premiums, increasing downpayment 
requirements for certain borrowers, raising lender net worth 
requirements, reexamining the reverse mortgage policies, and 
establishing an Office of Risk Management. By making these 
changes, FHA has moved swiftly to protect the taxpayers and the 
fund. The credit portfolio and performance of the 2010-12 
portfolios demonstrate the effects of these changes.
    For a more historical context, consider this: According to 
the 2012 Actuarial Review, under the current FHA underwriting 
standards every endorsement year from fiscal years 2011 through 
2019 is projected to have a cumulative claim rate of less than 
5.7 percent. Prior to the 2011 book, no FHA annual book in more 
than 30 years has had a projected claim rate below 5.7. If 
loans were written at the low edge of the FHA's credit box 
today, performance could be worse than this. On the other hand, 
if FHA moves their credit standards to match those that lenders 
have in place today, the strong performance seen in the 2010-12 
books of business should continue.
    Looking ahead, MBA believes further programmatic changes at 
FHA must balance three priorities: restoring financial 
solvency, preserving FHA's critical housing mission, and 
maintaining the agency's countercyclical role.
    We are currently working on a white paper with our members, 
which we will be releasing next month, that evaluates the pros 
and cons of a variety of policy options to determine which ones 
offer the greatest impact to FHA while protecting its overall 
mission. A longer list is in my written testimony, but let me 
highlight just a few.
    First, FHA's traditional underwriting philosophy takes the 
approach that individual risk components can sometimes be 
mitigated by compensating factors. Risk-based underwriting or 
specifying particular additional underwriting criteria or 
compensating factors within certain credit boundaries could 
further reduce FHA's risk.
    However, the consequences to FHA's traditional borrowers 
could be significant if FHA employs overly stringent credit 
controls, so finding that right balance is critical.
    Many lenders in recent years have tightened their standards 
beyond FHA minimums. FHA may need to lock in some of those 
overlays. This would protect FHA from any erosion in standards 
as market conditions evolve.
    Also in recent years, FHA has increased its enforcement of 
agency approved lenders, and as FHA Commissioner, I initiated 
tighter controls and enforcement procedures that shut down 
irresponsible lenders like Taylor, Bean & Whitaker, whose 
chairman sits in prison today.
    When lenders are forced to operate their businesses to near 
perfect standards, however, or potentially face substantial 
financial penalties, they will naturally restrict their 
underwriting to operate well inside of published standards, 
potentially limiting financing options for FHA's targeted 
population.
    Mr. Chairman, with the housing crisis fading yet still 
fresh in our memory and the real estate and mortgage markets 
starting to recover, now is the time to have a thought, 
comprehensive debate over the future of the Government's role 
in the housing system. That includes not just FHA but examining 
the long-term role of Fannie and Freddie. Ultimately, all 
stakeholders want the same thing: a fully functioning market 
that relies mostly on private capital with a limited 
appropriate role for Federal programs. A stable, sustainable 
FHA program must be part of that system.
    Thank you, and I look forward to answering your questions.
    Chairman Johnson. Thank you, and thank you all for your 
testimony.
    As we begin questions, I will ask the clerk to put 5 
minutes on the clock for each Member.
    Mr. Thomas, in a recent meeting with realtors from my 
State, they mentioned that without fully documented, high LTV 
loan products with a Government guarantee, some communities 
will experience a 50-percent decline in the number of families 
buying homes today. Is this the case for communities across the 
country?
    Mr. Thomas. I believe it is. Especially in my area in 
Orange County, California, it would be devastating. You know, 
the lenders have not come back into the market like we would 
have wished they had. And so FHA has fulfilled its role, and 
that is to fill the market when it is countercyclical.
    FHA has a critical force in the market for several years 
now. If FHA had not been lending, many of our markets would 
have collapsed altogether, losing more home value and equity 
for American families. So I believe that it is true that we do 
need the upper limits.
    The other thing is that those loans are performing the best 
of the book of business that the FHA has. And so to restrict 
that would be counter to what really FHA was put in place for. 
It was not just for first-time home buyers. It was for anybody 
that could qualify and responsibly own a home but could not get 
financing in any other place. And so it is fulfilling that role 
when the private market is not there.
    Chairman Johnson. Ms. Wartell, a recent report in GAO's 
High Risk series recommended that the Congress evaluate what 
kind of market shocks the FHA should be expected to withstand. 
Do you think a 2-percent capital reserve ratio is appropriate? 
If not, what market disruptions should the FHA be prepared to 
withstand?
    Ms. Wartell. I think in the near term, Senator, it is 
important for us to get back to a 2-percent capital ratio, and 
our immediate effort has to be to strengthen and increase the 
level of that reserve.
    I do think GAO is right that that number is not based on an 
understanding of the larger set of economic conditions. It was 
a relatively abstract--not quite pulled out of a hat, but an 
abstract number when it was first imposed. And I do think that 
we need to essentially set a higher target that allows us to 
buildup a cushion during the times when the economy is going 
well and resist the pressure to loosen standards too greatly 
when capital reserves are building up.
    Having said that, I also worry about setting a number that 
is artificially so high that it forces FHA to overprice for its 
current insurance today and in doing that essentially cause 
borrowers to pay so much more than the real cost to the 
taxpayers relative to the benefit they are getting. And when 
you do that, you will eventually be adversely selected and 
actually create additional risk to the FHA Fund.
    I think this requires a lot of analysis to set the right 
level, but I do think that there is some benefit to encourage a 
more robust accumulation of reserve during the better times.
    Chairman Johnson. Mr. Stevens, when the housing market 
began experiencing distress, private capital withdrew from the 
market or became significantly more expensive, even for high-
income families. However, this created greater distress in the 
market as it reduced liquidity. What would happen to credit 
availability and home values in a distressed market if the FHA 
were not able to step in because of statutory restrictions 
limiting its market?
    Mr. Stevens. Senator, I think that is a core question to 
the whole debate over the role of FHA. FHA was designed 
historically to--well, it has been argued that it was designed 
historically to be a countercyclical provider of liquidity to 
the housing finance system. Traditionally, we have never 
experienced historically a recession the likes of what we just 
went through that began in 2007, late in 2007, when home prices 
started declining.
    The core fundamental here is private capital is 
opportunistic. Private capital will stay in the market when the 
investment opportunity is good; and when the risks are too 
great, such as experiencing a 34-percent peak-to-trough home 
price decline that the U.S. economy faced, private capital will 
exit the market. And in the absence of that, without some 
continuous form of liquidity, home prices would have dropped 
significantly further, and most importantly, for first-time 
home buyers and families without large amounts of inherited 
wealth, it would eliminate their access to housing overall.
    Some could argue that that is maybe what the private market 
is supposed to do. The counter argument to that would be the 
broader impact to home price declines would be even greater. 
And the Center for American Progress recently put out a paper 
on this exact subject, as have others, and I think that is sort 
of fundamental to the role of what FHA needs to provide.
    Chairman Johnson. Mr. Stevens, why is it important to 
stabilize FHA's finances first before we consider broad FHA 
reform?
    Mr. Stevens. Well, Senator, from my perspective, when you 
have 90 percent of housing finance being funded by three 
agencies, all backed by the U.S. Government, ultimately--
Freddie Mac, Fannie Mae, and the FHA--and forget the other 
Ginnie Mae programs for a second--a policy change in one arena 
is nothing more than essentially squeezing a balloon. It 
expands the business in one of the other Government agencies.
    So, for example, when Freddie Mac and Fannie Mae raise 
guarantee fees or loan level price adjusters, it just shifts 
business from those institutions over to FHA. When FHA raises 
mortgage insurance premiums, it shifts business back to the 
GSEs. We are doing nothing really fundamentally to bring 
private capital back into the market. We are just literally 
shifting the housing finance business from one Government-
backed entity to another.
    In order to move forward, while we talk about the future 
state of the GSEs, we have to stabilize FHA so that debate is 
off the table. FHA has to not be a point of adverse selection. 
They have to be safe and sound fiduciarily and well 
capitalized, and then we can simultaneously move on to the 
broader discussion of how do we deal with this overall housing 
finance interdependency between Freddie Mac, Fannie Mae, and 
the Ginnie Mae products.
    Chairman Johnson. Senator Crapo.
    Senator Crapo. Thank you, Mr. Chairman.
    Mr. Swagel, in your testimony, you advocate reforms that 
would increase the capital standing in front of taxpayer losses 
at the FHA, and you go about this in several ways, such as 
building capital at the FHA itself, building equity for the 
borrower, and introducing private capital into the loss 
equation in the event of a default.
    Could you please explain just a little better why you feel 
this additional capital is necessary for the reform at FHA?
    Mr. Swagel. Thank you. I think we have seen over the last 
couple years that the amount of capital at the FHA is 
insufficient. Even the 2-percent capital ratio, which the FHA 
has not achieved in years, is not sufficient. Other financial 
institutions, big banks, are being required, sometimes kicking 
and screaming but required, to hold more capital. This is only 
appropriate now that we know how risky the FHA is.
    There are many different ways to get private capital in 
there, so one is to have a program along the lines of the 
Veterans Administration, which has private capital taking risks 
ahead of the Government, and the Government does not insure 100 
percent of the mortgage. And it turns out that the performance 
of VA loans is very substantially better than the performance 
of FHA loans, exactly what you would expect when the originator 
has skin in the game.
    Senator Crapo. Thank you.
    Mr. Bell, I noted that you and several of the other 
witnesses indicated part of the problem is the lack of ability 
to move quickly at the FHA to deal with issues as they arise. 
And you indicated that you were facing that in the HECM program 
as needed reforms did not get implemented as efficiently as 
possible. Is that correct?
    Mr. Bell. Yes, sir.
    Senator Crapo. Have you been working with the regulators to 
address the kinds of issues with the HECM program that you feel 
need to have this kind of prompt assistance?
    Mr. Bell. Yes. As I said in my testimony, HUD has been a 
very proactive steward of this program over the years and has 
continually looked at what has been going on in the 
marketplace, drawing in information from the various 
stakeholders, from the lending community, from the counseling 
community--which is really the entryway into the HECM process--
and has continually made changes to the program over the years, 
either requesting Congress to make changes or making changes 
itself. But it is hamstrung by the fact that certain things 
were written into the regulations when the program was created 
back in the 1980s in a much different era economically. And now 
to make changes to some of those types of items, they need to 
go through the formal regulatory development route, which is 
pretty much an 18-month to 2-year route.
    We are aware of changes that could probably be done but for 
the regulatory development route in a matter of weeks or a 
couple of months through a mortgage letter. So we would 
recommend that they be given the authority to do that so that, 
as we all learn, changes can be implemented much more 
expeditiously.
    Senator Crapo. Thank you.
    Ms. Bazemore, I would like to pursue an area with you 
relating to your testimony. Many experts have raised concerns 
with two specific aspects that they believe contribute to the 
current solvency problems at the FHA: one, the inadequate 
capital and a lack of enforcement of minimum thresholds; and, 
two, the method of accounting which shows that the FHA is 
actually in a better financial standing the larger it grows, 
regardless of risk.
    When properly administered, the FHA is a Government-run 
mortgage company or institution, and clearly, in managing a 
privately held mortgage insurance company, you have got to have 
some expertise in this area. What are your views on these 
concerns? And are there any additional concerns that you think 
we need to note as we focus on the insurance function at FHA?
    Ms. Bazemore. Well, I would say, with respect to the 
private mortgage insurance business, that we are required to 
keep a number of different reserves. And I think, you know, as 
you think about the FHA maybe looking at some of that would be 
helpful. Obviously, in a first-loss position behind the 
borrowers, you know, we have taken a considerable hit during 
this timeframe. And I think the reason why many of us have been 
able to survive through this and to continue writing business 
and to pay claims is because we are required to reserve 50 
percent of every premium dollar, and typically that we have to 
keep for about 10 years. So that allows us to sort of get our 
reserves up during the good times for the bad times.
    The other thing is that as loans go into default, we are 
also required to have loss reserves that estimate the amount of 
what we think we will ultimately pay. So when I talked in my 
testimony about the $16 billion that is reserved, that is loss 
reserves that we believe will be paid out based on the current 
defaults at loan inventory. And so I think looking at some of 
those kinds of things might be helpful in terms of 
understanding how maybe best to work with the FHA.
    Senator Crapo. Thank you.
    Chairman Johnson. Senator Reed.
    Senator Reed. Well, thank you very much, Mr. Chairman. Let 
me first commend you and Ranking Member Senator Crapo on the 
serious, thoughtful, and collaborative way you are approaching 
a very challenging issue. Thank you. And I thank the panelists 
for their excellent testimony.
    Ms. Wartell, when Secretary Donovan was here, he talked 
about the early books of business of the FHA being really the 
source of some of the significant problems today. For example, 
he said fully $70 billion in claims are attributable to the 
2007-09 period. Beginning in 2010, for many reasons, the books 
seem to be a lot better.
    I think you referred to this as the diversification factor 
going forward. Can you comment upon the significance of this 
factor as we contemplate changes?
    Ms. Wartell. Sure. In some ways----
    Senator Reed. Do you have the microphone on?
    Ms. Wartell. I am sorry. It appears to be on now.
    Senator Reed. It is on, yes.
    Ms. Wartell. This was what I was trying to describe when I 
was speaking with Senator Johnson. In all insurance, it is 
inevitably the case that there are times when the insurance 
portfolio is under stress, and what you are in essence doing is 
you are creating a strengthening of the fund in the times when 
it is not under stress to be ready for that moment. So it is 
almost always the case that you buildup a reserve in times you 
effectively charge more.
    With FHA it has the ability--at the time when private 
capital flees, better quality credit risks are left in the 
market unattended by the private institutions because they are 
so risk-sensitive when they are under pressure, and that allows 
FHA to serve more of that market and replenish its fund.
    Former FHA Commissioner John Weicher, who is now at the 
Hudson Institute, has drawn the parallels between what happened 
between 1980 and 1982 when FHA took an enormous bath, had 
claims that even for much smaller books of business were well 
in excess to what they experienced in 2007. And yet they had 
this significant success in rebuilding the capital strength in 
the years after as the economy improved. And he is predicting 
we will see a similar pattern.
    Senator Reed. Well, thank you very much.
    Mr. Thomas, thank you for your testimony. The realtors are 
sort of on the front lines of all these issues. I was 
particularly struck by the FICO scores of people being turned 
down. They used to be sort of the ones that you were looking 
for first. But you suggest, I think, in your testimony that FHA 
has provided valuable assistance to this recovery, but we are 
not quite there yet. Could you elaborate on that point?
    Mr. Thomas. Sure. You know, as I said, the FHA average FICO 
score is 699, and the denial is at 670. But on the private 
side, the average is 763 and denying at 734. So it is very, 
very high, as you mentioned.
    Without FHA being there, you know, we would have been in a 
world of hurt. We would have seen the equity fall another 25 
percent. That would have been devastating to the economy.
    We are climbing out of it now, and the private capital is 
not back in yet, and a lot of that is just because of the 
regulatory uncertainty out there, and they do not know what 
they are facing. And so until we get things to a certain 
standard, I do not think we are going to see private capital 
come back in. They have not come back in in the condo market. 
They have not come back in in the high-end market as yet. You 
know, if you go above FHA's upper limit, you have to put 40 
percent down. It is not a normal 20 percent down. And so that 
is telling you that the private capital is not coming back in 
yet in any way that would be sustainable.
    Senator Reed. Thank you very much.
    And just quickly, Mr. Stevens, there have been some 
suggestions that the FHA--in fact, they have requested the 
authority to transfer mortgage servicing to a mortgage servicer 
better equipped to handle loss mitigation so that they can be 
not just foreclosing but actually helping people through this. 
Do you have any comments about this, given your experience as a 
former director, administrator?
    Mr. Stevens. So we have seen this with Freddie Mac and 
Fannie Mae transferring servicing as well, some voluntary, some 
not voluntary. I do believe at the end of the day that, given 
the fact that FHA retains the risk and Ginnie Mae explicitly 
with the insurance coming from FHA, the ability to manage the 
quality of the servicing portfolio is absolutely critical. So 
with the right measures in place and the right balances to 
ensure that it is done in an appropriate way, with the 
resources to do the oversight, which is the biggest risk to 
having them take on more responsibility, I would support a 
measure along those lines, absolutely.
    Senator Reed. Thank you very much, Mr. Stevens.
    Thank you, Mr. Chairman.
    Chairman Johnson. Senator Corker.
    Senator Corker. Thank you, Mr. Chairman. I appreciate it. 
And I thank all of you for your testimony.
    Mr. Bell, I was interested in your comments about the 
mortgagee letter and the ability to make changes in a more 
rapid manner. Candidly, we would be very open to looking at 
that if others on the Committee wanted to do so.
    But, on the other hand, in the last couple months, I guess, 
we were able to do away with an entire program, the full-draw, 
fixed-rate reverse mortgage, by mortgagee letter. So I am a 
little curious as to what the impediments are, if we were able 
to do away with a whole program with a mortgagee letter, why we 
cannot make other changes in that regard now.
    Mr. Bell. I agree, Senator, that is a bit of a puzzlement. 
But essentially there are certain aspects of the program that 
are written in the regulation, and it has been the opinion of 
HUD's counsel that items that are in the regulations must be 
changed by a modification of the regulations, which requires 
the formal regulatory procedure route; whereas, other aspects, 
such as the moratorium that has been put in place, the loan-to-
value ratios, the principal limit factors, are not explicitly 
spelled out in the regulations, so, therefore, HUD feels that 
they have the discretionary authority to change such items by 
mortgagee letter.
    They feel that some of the items that they could do by 
mortgagee letter right now are more blunt instruments and 
perhaps do not really get explicitly at the problems they need 
to address; whereas, items that are in the regulations would 
allow them to fine-tune the program to recognize the way that 
these loans are used in today's economy versus what was 
originally thought 20-some-odd years ago.
    Senator Corker. I certainly would be myself willing to look 
at that, and my guess is, based on the body language, other 
Members would.
    Did you agree with the changes that were made, by the way, 
in the full-draw, fixed-rate reverse mortgage program?
    Mr. Bell. I think that was a good stop-gap measure for the 
time being. However, I do think that there is a place for a 
fixed-rate, full-draw loan in a number of circumstances, or at 
least for a full-draw loan. There are cases where people need 
that full amount of money to pay off their existing 
indebtedness and get themselves on a sound financial footing to 
be able to sustain themselves for the longer duration of lives.
    You know, the challenge we have in this country is growing 
longevity. People are living much longer than anticipated and 
retiring earlier, sometimes not by choice. And we need to 
sustain ourselves for a much longer duration of time after 
employment than we have ever had to before. And home equity is 
an important component for doing that.
    Senator Corker. Yes. I suppose people in our age group like 
that trend.
    [Laughter.]
    Senator Corker. I noticed the Chairman, Mr. Thomas, asked 
you the question about loan limits at FHA, and because of the 
industry that you are from, that my mother was a part of, I am 
sure you would love to see the loan limits at a million, or 
two, even, at FHA. It would be very helpful.
    To Mr. Swagel and Mr. Stevens, where do you think the 
appropriate loan limit level should be postcrisis, huge 
reduction in home values around the country? I think we are 
still using average rates based on 2008. Where should we really 
be to be in a healthy place with a Government program like 
this?
    Mr. Stevens. Senator, I mean, the loan limit is clearly a 
core debate around FHA. It is not as much as a risk debate as 
it is a mission debate. It is how large should FHA be and are 
they really serving their role when they are doing $729,000 
loans with a low downpayment.
    In the 2012 Actuarial, loans over $500,000 were less than 2 
percent of the originations, and loans over $400,000 were about 
3.5 percent. So it is a very small percentage of the portfolio 
with concentrations in places you would expect, like 
Washington, DC, and California.
    Senator Corker. Orange County, I would guess.
    Mr. Stevens. Orange County, right. So the real question is: 
What should that loan limit ultimately be set at? The 
bipartisan Housing Commission just recently published their 
recommendation to be below $300,000. My only sense of this is 
that it will need to scale back, and it needs to be done in a 
path that tests to make sure private capital is entering that 
space or other alternatives. But it is clearly too high. The 
absolute number, Senator, we could debate within a range, but 
it is clearly serving a larger portion of the market than it 
should from the historical perspective.
    Senator Corker. And, Mr. Swagel, I have a sense you are in 
the same area, generally, and I have a little bit of time left, 
so I will ask one last question. Actually, to both of you, and 
you may want to start, but should we--I know there has been a 
lot of discussion about QRM and QM being synched up, and I was 
glad the Chairman of the Federal Reserve actually addressed 
regarding that yesterday or the day before. Should FHA's 
underwriting also be synched up to QM? Actually, if both of you 
would respond briefly--I know my time is out--I would 
appreciate it.
    Mr. Swagel. OK. Sure, very briefly. I think there is a 
strong case for that. We do not want private lenders not to 
make loans to people with greater than 43 percent DTI and then 
FHA to say, well, look, we will take those loans. So we do not 
want the risk to migrate to FHA, and I am afraid that will 
happen if those standards are not in synch.
    Senator Corker. Yes.
    Mr. Stevens. I agree generally on the underwriting 
criteria. I think there is an APR calculation in the qualified 
mortgage rule that impacts FHA uniquely because of their high 
mortgage insurance premiums up front, and you would quickly 
exceed the cap and push that into a non--a QM but with 
rebuttable presumption space. This is one variable we are 
discussing with the CFPB, but generally the underwriting 
criteria should approximate that of the rest of the QM rule.
    Senator Corker. Well, I thank all of you for your testimony 
and being and, Mr. Chairman, for having the hearing.
    Chairman Johnson. Senator Menendez.
    Senator Menendez. Thank you, Mr. Chairman.
    Mr. Bell, I heard some of your answers with reference to 
the HECM program, and I have legislation to basically take the 
authorities that exist, streamline it, and move forward. My 
question is: What would be the effects of not having a HECM 
program? And would the consolidation of the fixed-rate HECM 
standard and Saver Program generate savings for HUD?
    Mr. Bell. I think the problems that we would see of not 
having the HECM is we have preserved the ability of hundreds of 
thousands of families to be able to stay in their home, 
jettison burdensome debt, and be able to adjust their cash-flow 
so that they can continue to sustain themselves, maintain their 
homes, meet their obligations, and continue living in homes 
that they have brought their families up in, in communities 
where they have had roots for many years, and where there might 
not be alternatives for them to move to.
    Now, in terms of combining the two, for years we made 
almost exclusively variable rate loans. There were some 
developments in the marketplace, particularly the entrance of 
Ginnie Mae, that facilitated our ability to provide fixed-rate 
HECMs, and by and large, consumers prefer fixed-rate loans. Who 
would not? You know, everybody who lived through the 1980s--and 
certainly our population has, our clientele has--understands 
that interest rates could change and people do not want to be 
hit with surprises in the twilight years of their life. I 
closed on my home in September 1981, the day prime hit 21. My 
first mortgage was 16\5/8\ percent. Today I am about to close a 
loan at 3.75 percent. So there are a lot of people that 
understand that and, therefore, prefer the fixed rate. So I 
think it would be a shame to take the fixed-rate option off the 
table because it does give people peace of mind at a point in 
their life where they really do need peace of mind.
    Senator Menendez. So you are not for having the 
consolidation of the fixed rate and Savers Program?
    Mr. Bell. I think all options should be left on the table. 
The challenge with the fixed rate has been that in order to get 
the fixed rate, the borrower must draw the entire amount of 
funds available to them. And the reason for that is if you want 
all the money today, I know my cost of funds today, so I could 
give that all to you. If you want to take part of it out today 
and then come back to me at some unknown point in the future 
for some unknown amount of funds, I cannot price that. I do not 
know how to hedge that. So, therefore, for fixed rate we 
require the full draw, and that has required some people to 
draw down more than they actually need.
    Part of the flexibility that FHA seeks would be the ability 
to limit the amount of money that people would take on a fixed-
rate, full-draw loan. They would be limited to perhaps the 
amount----
    Senator Menendez. Well, I think our legislation would deal 
with some of this, and we look forward to----
    Mr. Bell. I understand it would, and we thank you for 
taking the deep look into this topic that you have.
    Senator Menendez. Mr. Thomas, let me ask you, you know, I 
think it has been broached here that the average FICO score 
with FHA was 670, well above that that is defined as subprime. 
You know, to me that demonstrates FHA is taking a more 
proactive stance on ensuring lenders originate quality loans. 
So how would a reduction, for example, in FHA market share 
affect high-cost regions and areas with higher density of 
condominium markets? And what would the suggestions of some on 
dramatically changing FHA's mission mean to the marketplace?
    Mr. Thomas. Well, it depends on when it is done. If it is 
done as the private market comes back in, then I think we can 
handle that. We really feel that, you know, FHA's footprint 
should be in the 10- to 15-percent range, not where it is 
today. But we need to get back to that responsibly. If we were 
to reel it back in immediately, it would leave--you know, it 
would have a devastating effect on home values and ability to 
buy.
    What we need to do is do it over time and get it back into 
the range that it should have been in and it historically has 
been in. If you look back at when we had the--the housing 
bubble was inflating, FHA was down to 3 percent of the 
footprint. And so, you know, that should have given us an 
indication that there was a problem out there.
    Likewise, the problem we see right now with the size of FHA 
tells us there is a problem at the same time, but in a 
different case, and that is that we do not have the private 
capital back into the market. So we need to have that back in 
before we start ratcheting it downward.
    Senator Menendez. Thank you, Mr. Chairman.
    Chairman Johnson. Senator Vitter.
    Senator Vitter. Thank you, Mr. Chairman, and thanks to all 
of our witnesses.
    I continue to have two really strong concerns with FHA: 
first of all, its fiscal situation and an impending taxpayer 
bailout, which I am pretty convinced is coming; and, second, a 
separate concern is a dramatically increased footprint and 
mission, and the prospect that that is permanent, not 
temporary. So let me ask questions in both those categories.
    It seems to me there should be some no-brainer things we 
can do to shore up fiscal solvency, and one is indemnification 
language so that the taxpayer is not on the hook for fraud, 
misrepresentation, and not meeting proper criteria at 
origination--the same thing private insurers do and others. 
Does anyone disagree with full, broad indemnification language 
like that? And, Ms. Bazemore, you have some experience with 
that on the private side. Why don't you explain the difference 
that would make?
    Ms. Bazemore. Well, I think, first of all, the way we look 
at it, we pay 100 percent of legitimate claims.
    Senator Vitter. Right.
    Ms. Bazemore. However, we do not pay for fraud or 
misrepresentation or failure to do a loan in accordance with 
our guidelines. And we believe paying for such claims would 
create moral hazard, so that is how we have approached it.
    Senator Vitter. Great. Second, as you all know, FHA is 
insuring 100 percent of the loan, and that is just way beyond 
any competitive alternative, including other Government 
alternatives, like VHA or even rural housing. Does anyone 
disagree with synchronizing the FHA program to those 
alternatives so we are not attracting all the worst loans, 
basically?
    Mr. Stevens. Senator, I think it is a--this is a 
challenging subject. I think all options should be considered. 
The challenge with this idea of implementing a risk share 
program--and FHA was authorized by Congress to attempt to pilot 
in risk sharing--is that the borrower base at the VA is a very 
unique, select demographic borrower base, and it is a very 
small population of loans. And so as we have studied this, the 
question is: How do you implement--how do you provide FHA the 
resources to do the counterparty reviews that would be 
required, do the assessments of the servicers who are providing 
that first loss, what forms of first loss would be provided, do 
they have the expertise to manage that kind of risk, and does 
that ultimately actually increase cost or risk to the taxpayer 
by infusing them with that obligation? And I think the tradeoff 
here is do you get that kind of improvement? Because 
ultimately, just like with the VA program, Ginnie Mae 
guarantees 100 percent of that loss risk to the investor should 
the counterparty fail. And if we expanded this to the size and 
scope of FHA, I think we just need to consider to make certain 
that the tools and resources would be in place that they could 
manage it and actually not increase risk to the taxpayer as a 
net result of that kind of structure--again, comparing it to 
the VA unused capacity.
    Senator Vitter. OK. Well, Mr. Stevens, let me ask this 
follow-up. Do you agree or not that the present situation and 
the present differences often push worse loans toward FHA?
    Mr. Stevens. Without question, if you look at the average 
credit score of the FHA portfolio and the average loan-to-
value, it is an entirely different portfolio than what Freddie 
Mac and Fannie Mae have. And, likewise, their premium structure 
is very different. I do not want to gloss over the concern 
because I agree completely that the footprint is too large and 
needs to scale back. But if you just look at the 2010, 2011, 
and 2012 portfolio book years, after all the new premiums have 
been put in place and with the current credit criteria, the 
2012 portfolio is expected to produce just under $12 billion in 
profits back to the taxpayer. All of the losses in the FHA 
Actuarial are from the book years of 2006 through early 2009 
due to a lot of programs we have talked about previously, which 
are all eliminated.
    If we can box in the credit criteria and limit the 
footprint to what it is supposed to be serving over time, you 
can have a program that functions under the current construct. 
It is just a matter of making certain that you do not allow 
adverse selection to occur at an extreme or underprice the 
premium risk for that same portfolio.
    Senator Vitter. A final question, because I am out of time. 
In terms of the mission and the footprint, does anyone here 
think--I know there is disagreement about the rate of pullback, 
et cetera. But does anyone think FHA should be insuring, you 
know, an almost $730,000 loan of a family earning $175,000?
    Mr. Thomas. It depends. It depends on when it is done. If 
it is done in a period like we have just experienced, I think 
it is something that should be done. If we were back to normal 
times when the private capital is in there, no, it should not. 
So I think it is performing exactly as it was supposed to, and 
those loans are performing extremely well.
    Senator Vitter. Mr. Chairman, just to close, one last 
comment. My concern, Mr. Thomas, is between the huge growth in 
regulation of private industry and the huge growth in the 
footprint and the market share of FHA. I think those things are 
an impediment to ever getting back to ``normal times.'' And I 
am very concerned about permanently changing the landscape.
    Mr. Thomas. Yes, we do not think it should be permanently 
changed. We agree with you.
    Chairman Johnson. Senator Warren.
    Senator Warren. Thank you, Mr. Chairman, and thank you all 
for being here.
    I want to pick up on Senator Vitter's point. You know, he 
is obviously making the point here that FHA is not the only 
large actor in the mortgage marketplace. It is not the only one 
with a taxpayer backup. And it is not the only one that 
currently threatens the taxpayers.
    We have got Fannie and Freddie out there that are creating 
a huge problem, and I think we have alluded at various points 
and the Chairman raised a question about the deep interaction 
between FHA, Fannie and Freddie, and to some extent the VA and 
how these move together.
    So when we think about underwriting standards, when we 
think about insurance pricing, for example, that you raised 
earlier, indemnification rules, risk mitigation rules, I am 
concerned--I understand the urgency of stabilizing the FHA, but 
I am concerned about approaching reforms in one without 
approaching reforms in the other.
    So the question I would like to put before you is to ask 
you to speak to this interaction, which you have already 
raised, Dr. Swagel, I think, and whether it makes any sense to 
talk about reforming one if we are not reforming the other one 
simultaneously, and the extent to which we should talk about 
synching them. And synching them does not always mean they are 
the same. It just means they were written with each other in 
mind in terms of when one would take over and when the other 
would take over.
    So I thought I would start with you, Dr. Swagel, but I am 
going to ask everyone to have a chance to comment on this.
    Mr. Swagel. Absolutely. It is an important point that 
changes----
    Senator Warren. Hit your button.
    Mr. Swagel. OK.--changes in one will affect the other. I 
would start by saying the GSEs have cost taxpayers a lot of 
money. The CBO now accounts for their risk properly. They use 
the fair-value accounting. As to FHA, that is the laggard. So 
that is something that can be done immediately. Again, it is 
not to say that FHA is any less important, but just to say let 
us take into account the risks there properly.
    You know, I think the solvency and the mission really go 
together. I do not think you can say, well, let us just fix the 
solvency of FHA and not worry about the mission, because, you 
know, the high loan level--the high-value loans, if the FHA is 
underpricing its insurance, well, that is not profits. That is 
more risk. And so, I mean, it is almost like, you know, a Woody 
Allen joke that they are going to make it up by doing more of 
it, but they are losing money on each one.
    So I think you really have to move forward urgently with 
FHA reforms, and I agree you want to do everything, but I think 
we all understand GSE reform is kind of often the future. And I 
just would not wait for that to happen.
    Senator Warren. But what does it mean to reform FHA if you 
are not going to reform Fannie and Freddie at the same time 
when you have just talked about how one bleeds directly into 
the other? I think the balloon analogy was the one you used, 
Mr. Stevens.
    Mr. Stevens. That is right, Senator. We believe that there 
needs to be reform of all three, and they have to be done in 
concert with each other. As a matter of fact, we have called 
even further. One of the unique variables of Freddie Mac and 
Fannie Mae is their regulator and the GSEs can make policy 
changes without going through the same process that FHA has to 
go through in the way that they inform the public and have a 
chance to discuss. And so actions taken sometimes by Freddie 
Mac and Fannie Mae suddenly produce volume increases to FHA 
that they did not even a chance to consider in concert.
    So we have actually made a call in the short run that we 
think the Administration should appoint somebody to try to get 
the regulators to work together even on short-term policy 
actions to make certain that one move does not ultimately 
create an arbitrary bubble on the other side of the scale. And 
I agree completely that they should be done in concert. My only 
point was that as long as FHA is sort of the proverbial 
elephant in the room, until we get it on the right path that 
everybody agrees, it is kind of difficult to bring that into 
scope, talking about the overall construct.
    Senator Warren. Although I would say, Mr. Stevens, any room 
that has Fannie and Freddie in it describing anyone else as the 
elephant, a little tough----
    [Laughter.]
    Mr. Stevens. I appreciate that.
    Ms. Bazemore. If I could just add?
    Senator Warren. Please.
    Ms. Bazemore. I think one of the things that we do have to 
keep in mind is one of the differences between FHA and Fannie 
and Freddie, while Fannie and Freddie may be in 
conservatorship, they do on their low downpayment loans have 
private capital in front of them in the form of private MI. I 
think sometimes that gets lost in the conversation. And so I 
think that is one thing.
    I think there are also things that have already taken place 
that have helped sort of push borrowers toward FHA, and we 
spend a lot of time training and helping to educate lenders on 
the many times when the borrower would actually be better off 
with a privately insured loan than an FHA loan. And that has 
been sort of an education experience.
    Senator Warren. I see. Thank you.
    Ms. Wartell.
    Ms. Wartell. Senator, I think your insight that these two 
are related is absolutely right, and let me make clear exactly 
why that is true. FHA is a 100-percent insurance product, and 
there is private capital not only in the form of MI, but one 
would hope if there is some successor to the Fannie and Freddie 
system in the future, the Government, if it plays a role, will 
play a limited backstop standing behind a whole lot of other 
private capital ahead of it. This is one place where Phil and I 
absolutely agree. And you want to ensure that as much of the 
market as possible in times that are good are in places where 
private capital is well ahead of the Government.
    So to constrain FHA's box without figuring out how much 
private capital you can get ahead of the Government on the 
other side is going to leave some places either--some loans to 
fall through the cracks or will inevitably delay the date when 
we can get sort of reasonable reform of the GSEs.
    That said, a number of us have talked about things that 
need to get fixed now that are either in statute or regulation 
that everybody knows we need to fix, and I do not believe the 
political consensus on the GSEs is going to emerge imminently, 
and so if not, let us get the low-hanging fruit done.
    Senator Warren. But we have got to keep pushing.
    Ms. Wartell. We have got to keep pushing.
    Senator Warren. All right. Thank you.
    Thank you, Mr. Chairman.
    Chairman Johnson. Senator Toomey.
    Senator Toomey. Thanks very much. Thank you, Mr. Chairman. 
Thanks for holding this hearing, and I also want to commend you 
and Ranking Member Crapo for your interest in doing some FHA 
reform.
    I am not of the opinion that we have to wait until we have 
the perfect solution for every possible entity. That day may 
never come. We know we have got problems. We have asymmetries 
in various features that have market-distorting effects 
already. There certainly are things we could do for FHA, in my 
view, even if we cannot do some of the other things that are 
also necessary eventually with Fannie and Freddie.
    I also want to just make a quick editorial comment before I 
ask a couple of questions, which is I just want to suggest that 
we consider on a sort of macro level. Until very recently, when 
the Fed adopted an extraordinary policy, we have had 
essentially privately financed Government debt markets. We have 
private capital that finances the biggest commercial paper 
market in the world. We have private capital that finances the 
biggest corporate bond market in the world. We have the biggest 
equity markets in the world that are principally financed by 
private capital.
    Private capital can finance the residential mortgage 
industry in America. It absolutely can. And the reason it does 
not now is because Government entities systematically misprice 
the risk, squeeze the private sector out, and if anyone doubts 
that, I think the massive losses that we have seen in the 
Government entities is the clear evidence of the mispricing of 
the risk.
    So I think that--we cannot do this overnight. I understand 
that. We have got to do it carefully and thoughtfully. But I 
just reject the notion that private markets are not capable of 
providing this financing.
    I would like to follow up with Ms. Bazemore about some of 
the ideas that you included in your testimony, some of which I 
think make an awful lot of sense. One is the eligibility 
standards. Am I correct in understanding there is no income 
test, there is no upper income limit for allowing someone to 
qualify for an FHA loan?
    Ms. Bazemore. Right. My understanding is that it is based 
on the loan limits, and so ever since the Congress acted to 
make the loan limits higher in 2008, essentially private 
capital in the form of MI has been competing with the FHA 
program.
    Senator Toomey. So if you have got $1 million a year income 
and you buy a home for $500,000, you could qualify for an FHA 
gee?
    Ms. Bazemore. That is my understanding. Is that right?
    Senator Toomey. Or $5 million a year, it does not matter? 
That does not strike me as serving any purpose for low- and 
moderate-income folks to have no ceiling.
    Ms. Bazemore. Well, I think that is why we suggested that 
maybe income was the way to approach this to make sure that the 
borrowers whom the program was intended to serve were, in fact, 
being served.
    Senator Toomey. I think that is an obvious opportunity to 
look at.
    Another question. You suggested that perhaps we would have 
reforms that would include reducing the FHA's guarantee below 
the 100-percent level. Could you elaborate on that? Do you have 
a specific level in mind, a reason why you think that is a good 
direction to move?
    Ms. Bazemore. Well, we were recommending that it would be 
more in alignment with the way the VA program works, and I 
think you heard even from others that while the borrower base 
may be different, the VA loans have performed much better. And 
I think, you know, there has been a lot of discussion, too, 
about having sort of risk involved, and one of the things that 
we have found in terms of looking at going through this process 
is we were very focused on the counterparty risk that Mr. 
Stevens talked about, and we really started to understand how 
important the competency level of the lender was in terms of 
underwriting the loan. And so if the lender has some skin in 
the game in that regard, we believe that ups the level of 
underwriting.
    Senator Toomey. Mr. Swagel, did you want to comment on 
this?
    Mr. Swagel. I just agree that, you know, having the private 
capital--it just aligns incentives. It protects taxpayers and 
it gives the originator the incentive to be prudent.
    Senator Toomey. Then my last question is for Ms. Bazemore. 
You have another point here where you suggest that we require 
the FHA to establish premiums that accurately reflect the true 
risk of the loans. The FHA currently has discretion, right, to 
some degree in where it establishes the premiums? And, 
generally speaking, is it true that the current levels are not 
at the maximum permissible level? Is that correct?
    Ms. Bazemore. Correct.
    Senator Toomey. Do you have any specific thoughts on what 
ought to be required here? How much higher, should we narrow 
the band of discretion? What are your thoughts on that?
    Ms. Bazemore. No, I do not think I can speak to the exact 
level that it should be but, rather, taking the risk overall 
into account and then looking at it from an actuarial 
standpoint and determining sort of where the premium should be 
in terms of making sure the program is able to survive, 
flourish, and be able to pay its expenses without any cost to 
the Government.
    Senator Toomey. Thank you very much, Mr. Chairman.
    Chairman Johnson. Senator Manchin.
    Senator Manchin. Thank you, Mr. Chairman. And I think all 
of you have heard that we have some concerns, and I come from 
the State of West Virginia, which we never really hit the 
housing bubble. We had pretty strict antipredatory laws. It was 
just good common sense. We thought you had to have a little 
skin in the game. You should be able to afford what you were 
buying, and we would make sure that happened.
    With that being said, now we are holding the bag and paying 
for the mistakes that have been made. And the way FHA is 
expanding and putting more risk out there, we are even more at 
risk. So we are getting penalized for doing the right thing.
    I would just ask all of you, would any of your run your 
business the way FHA has been run? If it was your money, would 
you be doing what we have done and allowed it to happen? I will 
start, Phillip, with you.
    Mr. Swagel. No, to me that is the most worrisome thing, is 
that--the mission is the right one. We should just focus it. 
And, for example, the discussion of the FICO scores, I think 
the average FICO score is the right one, but that does not mean 
we have to have the extremes. People with very, very low FICO 
scores, they might not be ready to be homeowners, and----
    Senator Manchin. In West Virginia, basically we always 
thought that FHA was there to help us get started. It was that 
first home buyer. It was in a smaller range to where the risk 
was not as great. But it got them a starter home, got them out 
there, and, you know, the value of the homeowner is everything. 
And now what I think I heard at the end there, Mr. Thomas, you 
are saying that you think they are doing the right thing by 
lending up to $700,000? That does not make any sense. I do not 
think that is FHA's role.
    Mr. Thomas. No, FHA's role was never to be just for first-
time home buyers. That was not its initial role--even though 
most people have used it that way. I did. My first home was an 
FHA loan.
    Senator Manchin. It was the entry market, right.
    Mr. Thomas. So I understand that. The problem is what we 
needed to have is some entity to make loans when nobody was 
there, and that is exactly what they have done.
    The upper limit loans have not been a problem, you know, in 
the book of business. It has been performing extremely well.
    Senator Manchin. Sure, when you have that type of income. I 
mean, it should be.
    Mr. Thomas. I understand. But if there was not somebody 
else there to make the loan----
    Senator Manchin. You are basically saying for all the 
mistakes that we have made in the past, now we have to go back 
and really raid the private market----
    Mr. Thomas. No.
    Senator Manchin. ----in order to basically prop up----
    Mr. Thomas. No, that is not what I am----
    Senator Manchin. ----the shortfalls of FHA.
    Mr. Thomas. That is not what I am saying.
    Senator Manchin. I am sorry, sir, but if you do not mind, I 
really--we will talk later. I would like to.
    Mr. Thomas. OK.
    Senator Manchin. I want to make sure I get to Ms. Wartell, 
and then I will come right here.
    Ms. Wartell. Thank you, Senator. You make a point about how 
we run this, would we run a business like this, and I wanted to 
emphasize something. We subject FHA to the same rules of other 
regulatory programs when, in fact, it is a business. And so 
many of us have touched on the inability of FHA to act quickly 
to protect its business because there are rules and procedures 
in place for making changes that would give due process to the 
subjects of regulation. And yet this is a fundamentally 
different kind of governmental activity.
    And so to your point, we need to make sure that FHA has the 
ability to change its risk profile to reduce its business 
practices and not require legislative change, there needs to be 
oversight, there needs to be parameters, there needs to be 
transparency. But give them the ability to act quickly to 
protect its taxpayers as you would want a business to do.
    Senator Manchin. Let me just say this: In the 1940s, we 
were able to help the veterans returning from the war. In the 
1950s, 1960s, and 1970s, we were helping the elderly, the 
handicapped, and lower-income Americans. And now we seem to be 
focused on the higher. That is what I was really getting to. 
And if we are doing that, we got away from the mission of 
helping the first-home, low- to middle-income?
    Mr. Thomas. Actually, the mission was to be there in times 
of stress and to serve the underserved, is really what it was.
    Senator Manchin. Right.
    Mr. Thomas. At this point in time they were underserved. 
And, remember, it is only 2 percent of the book of business. It 
is not a huge amount of the business. So it is not like 50 
percent of it is going to the upper limits. That is not the 
case.
    Senator Manchin. Yes?
    Ms. Bazemore. I would just say that, you know, our industry 
has continued to be involved in writing business throughout, 
and about a third of the business that we write is for first-
time home buyers. But aside from that, I think this aspect of 
how you would run the business, this is about making sure that 
we are making sustainable and responsible home loans. At the 
end of the day, we have an alignment of interest with the 
borrower. You know, we are in a first-loss position behind the 
borrower, and we believe that how you run this should be to 
make sure those loans are sustainable and it is the right thing 
for the consumer and that it is the right thing for the 
company.
    Senator Manchin. I would simply say this--and my time is 
up, but I would simply say that basically when somebody else's 
money is at risk, it seems like we have not learned from our 
past mistakes. And I would say to all of you, this is all of 
our money at risk. This is all of ours, and we should be 
concerned about how we have run this. And if we have not 
learned from our mistakes, we are never going to correct it. 
And I look forward to further questions.
    Chairman Johnson. I would note that Senator Crapo has been 
called away to another meeting. He had some remaining 
questions, and they will be received.
    I would like to thank all of the witnesses for being here 
with us today, and I look forward to working with Ranking 
Member Crapo to strengthen FHA.
    This hearing is adjourned.
    [Whereupon, at 11:34 a.m., the hearing was adjourned.]
    [Prepared statements and responses to written questions 
supplied for the record follow:]
                   PREPARED STATEMENT OF GARY THOMAS
              President, National Association of Realtors
                           February 28, 2013
Introduction
    Chairman Johnson, Ranking Member Crapo, and Members of the 
Committee; my name is Gary Thomas. I am a second generation real estate 
professional in Villa Park, California. I have been in the business for 
more than 35 years and have served the industry in countless roles. I 
currently serve as the 2013 President of the National Association of 
REALTORS' (NAR).
    I am here to testify on behalf of the 1 million members of the 
National Association of REALTORS'. We thank you for the 
opportunity to present our views on the importance of the Federal 
Housing Administration's (FHA) mortgage insurance program. NAR 
represents a wide variety of housing industry professionals committed 
to the development and preservation of the Nation's housing stock and 
making it available to the widest range of potential American 
households. The Association has a long tradition of support for 
innovative and effective Federal housing programs and we have worked 
diligently with the Congress to fashion housing policies that ensure 
Federal housing programs meet their missions responsibly and 
efficiently.
    FHA is an insurance entity within the Department of Housing and 
Urban Development (HUD) that ensures that American homeowners have 
access to safe and stable financing in all markets. FHA has insured 
home loans for more than 37 million American families since its 
inception in 1934 and has never required a Federal bailout. While many 
so-called experts have questioned the program's recent performance, NAR 
would argue that FHA has demonstrated its considerable importance 
during the significant housing and economic crisis our country is still 
experiencing.
History of FHA
    When FHA was created by the 1934 National Housing Act, the primary 
goal of the Administration was to insure loans for home improvements. 
\1\ In the wake of the Great Depression, the Nation's housing stock was 
crumbling. Houses were not being maintained or modernized and the 
result was a negative feedback loop of deteriorating living conditions 
and falling home prices. At the same time, painters, carpenters, 
landscapers, workers in the dozens of trades involved in making home 
improvements were without work. By creating an agency to insure small, 
private capital loans for home improvements, the Federal Government 
hoped to address these issues simultaneously.
---------------------------------------------------------------------------
     \1\ 13 Wayne, L.R. 651, 652 (1967).
---------------------------------------------------------------------------
    While home improvement loans were the first listed aim of the 
National Housing Act of 1934 and the subject of the Act's first Title, 
the full scope of the law went further. According to the Report of the 
House Committee, the intent of the National Housing Act of 1934 was:

        to improve Nationwide housing standards, provide employment, 
        and stimulate industry; to improve conditions with respect to 
        home mortgage financing, to prevent speculative excess in new-
        mortgage investment, and to eliminate the necessity for costly 
        second-mortgage financing, by creating a system of mutual 
        mortgage insurance and by making provision for the organization 
        of additional institutions to handle home financing . . . \2\
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     \2\ H.R. Rep. No. 1922, 73d Cong., 2d Sess. 1 (1934).

    These goals were achieved not through small loans for home 
improvements, but through what would become the Act's more enduring 
legacy: mutual mortgage insurance. Authorized by Title II of the 
National Housing Act, FHA's mutual mortgage insurance sought to insure 
loans up to $16,000 for the purchase of new and existing homes and 
spread the loan amortization period over a 20-year period. Up to this 
point, most home loans were balloon loans that had to be refinanced 
every few years, subjecting consumers and the market to massive 
volatility. By spreading out the amortization, the Government hoped to 
make the market more stable, and create predictability for both 
homeowners and the financial industry. \3\
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     \3\ ``First Annual Report of the Federal Housing Administration 
for the Year Ending December 31, 1934'', U.S. Government Printing 
Office. 1935. P. 4
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    A common misconception exists that FHA was originally intended to 
benefit low-income borrowers who could not afford a large downpayment 
on a new home. While an upper limit of $16,000 for a home loan may seem 
exceptionally small today, in 1930, the national median home value was 
$4,778. \4\ Only 3.2 percent of homes were valued between $15,000 and 
$20,000. \5\ The majority of homes were valued between $2,000 and 
$7,500, with the largest number between $3,000 and $5,000. \6\ So an 
upper limit of $16,000 in 1934 was more than 300 times the value of the 
median American home at that time.
---------------------------------------------------------------------------
     \4\ Id. at 18.
     \5\ ``15th Census of the United States, Population, Volume VI: 
Families'', U.S. Census Bureau, 1930, P. 17.
     \6\ Id.
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    Of course, a $16,000 loan limit does not paint the entire picture 
of FHA's target demographic. To better understand this, we should look 
at how the program was used by borrowers. In its third annual report to 
Congress in 1936, FHA's statistics showed that most of the homes 
insured were valued in the $3,000 to $6,000 range and the average 
single-family home value for an insured mortgage was $5,497, more or 
less reflecting the average costs of homes at the time. \7\ Only 2.8 
percent of FHA-insured homes were valued below $2,000, and only 2.1 
percent above $15,000. \8\ This is strong evidence that FHA was not 
originally targeted to any income group, but rather to help families 
across the income spectrum get financing to purchase homes. These 
statistics varied slightly from year to year, with the size of insured 
mortgages somewhat lower in 1937 (median $4,288), and then higher in 
1938 (median $4,491).\9\ \10\ In general, these percentages have 
mirrored the distribution of incomes of FHA-insured borrowers.\11\ \12\ 
A study on FHA recently reported that ``The Section 203(b) program was 
clearly intended to deal with the vast bulk of the home ownership 
market, excepting only the wealthiest few.Thus initially, FHA was 
narrowly targeted to the promotion of single-family home ownership but 
broadly targeted to all but the lowest and highest income markets.'' 
\13\
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     \7\ ``Third Annual Report of the Federal Housing Administration 
for the Year Ending December 31, 1936'', U.S. Government Printing 
Office. 1937. P. 35.
     \8\ Id.
     \9\ ``Fourth Annual Report of the Federal Housing Administration 
for the Year Ending December 31, 1937'', U.S. Government Printing 
Office. 1938. P. 58.
     \10\ ``Fifth Annual Report of the Federal Housing Administration 
for the Year Ending December 31, 1938'', U.S. Government Printing 
Office. 1939. P. 85.
     \11\ ``Fourth Annual Report of the Federal Housing Administration 
for the Year Ending December 31, 1937'', U.S. Government Printing 
Office. 1938. P. 61.
     \12\ ``Fifth Annual Report of the Federal Housing Administration 
for the Year Ending December 31, 1938'', U.S. Government Printing 
Office. 1939. P. 91.
     \13\ Vandell, Kerry D., ``FHA Restructuring Proposals: 
Alternatives and Implications'', Housing Policy Debate, Volume 6, Issue 
2, Fannie Mae, 1995.
---------------------------------------------------------------------------
    In a similar vein, the original loan-to-value ratio (LTV) limit for 
FHA mutual mortgage insurance was set at 80 percent. This sounds like a 
high downpayment requirement today, but it was considerably less than 
what lenders had previously required. Home loans prior to FHA had 
downpayment requirements as high as half the value of the home, and as 
a result the American home ownership rate in 1930 was below 50 percent. 
\14\ Because FHA-insured loans were amortizing and thus inherently less 
risky for both borrower and lender, a lower downpayment requirement was 
justifiable. When the last payment on the loan was made, the loan was 
paid off. These changes proved very popular: nearly 60 percent of FHA-
insured borrowers in 1937 had LTVs between 76 and 80 percent, a jump 
from 47 percent in the preceding year. \15\ Indeed, the loosening of 
the downpayment requirement proved successful enough for FHA to raise 
the loan to value ratio again in 1938 to 90 percent for some loans.
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     \14\ ``15th Census of the United States, Population, Volume VI: 
Families'', U.S. Census Bureau, 1930. P. 12.
     \15\ ``Fourth Annual Report of the Federal Housing Administration 
for the Year Ending December 31, 1937''. U.S. Government Printing 
Office. 1938. P. 60.
---------------------------------------------------------------------------
    Over the next few decades, FHA continued to update a number of its 
core policies. In 1934, the loan term for FHA-insured loans was 20 
years. By 1954, FHA had changed its loan term to 30 years, a term that 
is still in place today. While the original downpayment for FHA loans 
was 20 percent, it was lowered to 5 percent by 1950 and to 3 percent in 
1961. This downpayment stayed in place for 47 years, until Congress 
increased it to 3.5 percent in 2008.
Role of FHA During the Recent Housing Crisis
    FHA has sustained housing markets nationwide during the worst 
economic crisis of our lifetime. As private lenders fled and financial 
institutions went out of business, FHA remained in the market and has 
provided insurance to more than 4 million families since 2008. In a 
time when many of the large private banks, investment firms, and other 
financial institutions have needed bailouts or have even collapsed, FHA 
has weathered the storm very well. FHA continues to have significant 
resources to pay 30 years' worth of expected claims on its portfolio, 
an amount 30 times more than that required of banks, which are only 
required by the Financial Accounting Standards Board (FASB) to hold 1 
year of reserves. In addition, FHA continues to have additional 
reserves in the MMI Fund of more than $2.5 billion. This is truly an 
achievement; FHA should be lauded for its financial stability in a most 
challenging environment and held up as a standard for strong 
underwriting and risk avoidance.
    This recent period is not the first time FHA has played a 
countercyclical role. The FHA helped stabilize falling home prices and 
made it possible for potential homebuyers to get the financing they 
needed when recession prompted private mortgage insurers to pull out of 
oil producing States in the 1980s. According to FHA Commissioner Shaun 
Donovan, ``FHA picked up private market slack in Texas, Oklahoma, and 
Louisiana during the Oil Patch bust in the late 1980s and in Southern 
California during the early 1990s, and it is playing this role again 
today.'' \16\ Between 1986 and 1990, FHA's market share increased 
dramatically, as private lending tightened up or left. A GAO report 
said of the time, ``private mortgage insurance (PMI) companies change 
the conditions under which they will provide new insurance in a 
particular geographic area to reflect the increased risk of loss in an 
area experiencing economic hardship. By tightening up the terms of the 
insurance they would provide, PMIs may have decreased its share of the 
market in economically stressed regions of the country.'' \17\ However, 
FHA continued to provide insurance to these areas, stabilizing housing 
prices.
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     \16\ Written Statement of Secretary Shaun Donovan U.S. Department 
of Housing and Urban Development Hearing before the Subcommittee on 
Transportation, Housing, and Urban Development, and Related Agencies 
Committee on Appropriations United States Senate, ``The Role of the 
Federal Housing Administration (FHA) in Addressing the Housing 
Crisis'', Thursday, April 2, 2009.
     \17\ GAO, ``FHA's Role in Helping People Obtain Home Mortgages'', 
August 1996, GAO/RCED-96-123.
---------------------------------------------------------------------------
    As private lending constricted (and in some markets, disappeared 
altogether), FHA's role in the market grew. As recently as 2006, FHA's 
share of the home mortgage market was down to 3 percent, as 
unscrupulous lenders lured FHA's traditional constituent to risky 
exotic mortgages with teaser rates and little to no underwriting 
criteria. As the housing market began to collapse, private lenders fled 
or went out of business. As is seen in Figure 1, \18\ FHA's share of 
the market began to grow, as the private market's share plummeted. This 
demonstrates the countercyclical role FHA plays in the market.
---------------------------------------------------------------------------
     \18\ Quercia, Roberto G., and Park, Kevin A., ``Sustaining and 
Expanding the Market: The Public Purpose of the Federal Housing 
Administration'', UNC Center for Community Capital, December 2012.
---------------------------------------------------------------------------
Figure 1


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    Mark Zandi of Moody's Analytics has pointed out that ``If FHA 
lending had not expanded after private mortgage lending collapsed, the 
housing market would have cratered, taking the economy with it.'' \19\ 
Moody's has estimated that without FHA, housing prices would have 
dropped an additional 25 percent, and American families would have lost 
more than $3 trillion of home wealth.
---------------------------------------------------------------------------
     \19\ Zandi, Mark, ``Obama Policies Ended Housing Free Fall'', The 
Washington Post, September 28, 2012.
---------------------------------------------------------------------------
    Instead, FHA continued to lend. From 2007-2009, FHA helped more 
than 1.8 million Americans become homeowners. Even more importantly, 
FHA helped stabilize housing prices in thousands of communities by 
providing access to home financing when few others would. A recent 
University of North Carolina study noted that ``Private mortgage 
insurers implemented `distressed area' policies making it almost 
impossible to obtain conventional mortgages with LTV ratios greater 
than 90 percent in some regions of the country. In contrast, FHA does 
not vary its insurance premiums by region, creating an automatic 
regional stabilization policy.'' \20\ This countercyclical role of FHA 
helped stabilize markets and slowed the downward spiral of housing 
prices and economic decline (see, Figure 2 \21\).
---------------------------------------------------------------------------
     \20\ Quercia, Roberto G., and Park, Kevin A., ``Sustaining and 
Expanding the Market: The Public Purpose of the Federal Housing 
Administration'', UNC Center for Community Capital, December 2012.
     \21\ Szymanoski, Edward, William Reeder, Padmasini Raman, and John 
Comeau, ``The FHA Single-Family Insurance Program: Performing a Needed 
Role in the Housing Finance Market'', PD&R Working Paper No. HF-019, 
December 2012.
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Figure 2


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]




    Had FHA not stepped in and filled this mortgage insurance void, 
many neighborhoods would have been devastated and our economy will 
still be in a recession.
    Some have criticized FHA for the high foreclosure rate on loans it 
insured during the period of the crisis. It is true that these loans 
have had a serious impact on the health of the Mutual Mortgage 
Insurance Fund (MMIF). More than $70 billion in claims that FHA has 
filed can be attributed to the books of business made in 2007-2009. 
Housing prices continued to decline through 2009. Lending in declining 
markets raises risk. FHA and private insurance and lenders that 
remained during that time period were all impacted. This was not a 
result of lax underwriting or inappropriate lending. FHA's most recent 
survey of the drivers of default showed that for the past 4 years, the 
overwhelming reason for delinquency has been reduced employment and 
reduced income--accounting for nearly 50 percent of all delinquencies 
for the past 10 quarters (see, Figure 3).
Figure 3


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]




    No one can be expected to predict the job loss and other fallout a 
household may suffer from a recession. Federal Reserve Chairman Ben 
Bernanke has said that, ``an increasing share of losses have arisen 
from prime mortgages that were originally fully documented with 
significant downpayments, but have defaulted due to the weak economy 
and housing markets.'' \22\ In 2009, even the Congressional Research 
Service cleared FHA from blame noting, ``FHA would not be able to 
prevent defaults arising from deteriorating financial and macroeconomic 
conditions.'' \23\ Home prices have fallen 33 percent since 2006, 
causing much of FHA's financial decline. On a very basic level, the 
actuarial report analyzes the value of FHA's outstanding mortgages as 
compared to the value of the homes. As housing prices have fallen, so 
has the value of FHA's books. As a participant in the home mortgage 
process, FHA cannot be immune to the pitfalls of the housing crisis. 
Solid underwriting policies and safe lending practices have protected 
it from the biggest failures.
---------------------------------------------------------------------------
     \22\ Speech by Federal Reserve Chairman Ben Bernanke at the at the 
2012 National Association of Homebuilders International Builders' Show, 
Orlando, Florida, February 10, 2012.
     \23\ CRS Report R40937, ``The Federal Housing Administration (FHA) 
and Risky Lending'', coordinated by Darryl E. Getter.
---------------------------------------------------------------------------
FHA Today
    Loans insured by FHA require full documentation of income and 
assets. During the height of the real estate bubble, FHA was 
marginalized while exotic mortgages such as stated-income loans and 
payment option adjustable rate mortgages became common practice. When 
the bubble burst, these subprime and often predatory loans were 
prohibited by the regulators, leaving the industry searching for a 
stable mortgage product. Lenders using FHA must examine an applicant's 
financial status including income, debts and obligations. Generally, 
the monthly mortgage payment may not exceed 31 percent of a borrower's 
gross income and 43 percent of all debt payments. \24\ Borrowers are 
required to have a 3.5 percent downpayment and closing costs may not be 
considered part of this financial contribution.
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     \24\ HUD 4155.1 4.F.2.B and HUD 4155.1 4.F.2.C.
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    Recognizing the impact foreclosure has on communities and 
homeowners, FHA offers several programs to minimize risk to the MMIF 
and help families facing financial hardship stay in their homes. FHA 
may offer a loan modification, special forbearance, a partial claim, or 
foreclose on the property. Loss mitigation programs are available for 
both forward and reverse mortgages insured by FHA. Payments by FHA to a 
lender through loss mitigation do not impact taxpayers or the Federal 
budget because they are derived from insurance payments made by FHA 
borrowers.
    FHA continues to play a significant role for first-time buyers and 
minorities. In 2012, 78 percent of the 700,000 purchase loans FHA 
insured were for first-time buyers. Since 2009, FHA has insured 
mortgages for more than 2.8 million first-time buyers. Were it not for 
FHA, these buyers would not be homeowners, and 2.8 million homes would 
still be on the market. This would have been devastating on our 
Nation's economy. Half of African American homebuyers and nearly the 
same percentage of Hispanic and Latino buyers who purchased in 2011 
used FHA financing. Even in 2001, before the crisis, more than twice as 
many minority first-time buyers used FHA than a loan that was 
guaranteed by Freddie Mac or Fannie Mae.
    Since the crisis, the quality of FHA borrowers has skyrocketed. The 
average FICO score of an FHA borrower in 2012 was 699. The average FICO 
score on denied FHA applications was 670. Less than 4 percent of all 
FHA borrowers in the first half of 2012 had credit scores below 620. 
Figure 4 illustrates that FHA's denials in 2012 are higher than loans 
accepted in prior years. This figure also demonstrates that private 
lending has constricted to the degree that borrowers with credit scores 
over 730 are now being denied access to conventional credit. This draws 
more borrowers to FHA.
Figure 4


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]




    Some have criticized FHA for lending to borrowers with such high 
credit scores. But if they are denied a loan in the private 
marketplace, where else can they turn? That is exactly FHA's role--to 
lend to the underserved. As hard as it is to believe, borrowers with 
credit scores below 760 may be underserved by the private market.
    The private market is returning, albeit slowly. As Figure 1 
demonstrated, FHA's market share is declining, as private lending 
tentatively reenters the marketplace. PMI's business has increased by 
60 percent over where it was in 2011, but only 40 percent higher than 
in 2010 (Figure 5).
Figure 5


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]




    While economic conditions have limited private market 
participation, the regulatory and oversight landscape also has made 
lenders very wary of making home loans. Upfront charges for loans 
financed by the GSEs (called loan level pricing adjustments) and 
representation and warranty risks are significant factors. While 
lenders received clarity on new origination standards with the release 
of the qualified mortgage rule (QM) in January; fundamental changes to 
the structure of the secondary mortgage market are necessary before the 
role of the private market can be fully restored. Both the Government 
and private sector issue mortgage-backed securities (MBS), which are 
bundles of mortgages sold to investors. Investors in privately issued 
mortgage backed securities (PLS) experienced severe losses during the 
housing bust and questions have been raised about the quality of loans 
in the securities. As a result, since the housing downturn investors 
have favored MBS backed by Ginnie Mae, Fannie Mae, or Freddie Mac 
because of the Government guarantee and stronger underwriting and 
transparency. This need to restore investor confidence is critical to 
strengthen the private sector.
    There has been much said about FHA's market share. To clarify, 15.8 
percent of all people who purchase a home use FHA-insured financing. In 
recent years, the number of people paying cash for a home has 
increased. So when looking at all the people who use a mortgage to 
purchase a home, 26 percent of those buyers use FHA-insured financing. 
Most private lenders today require a 20 percent downpayment. For those 
who allow a smaller downpayment along with some kind of mortgage 
insurance, 44.6 percent of those loans are FHA-insured.
    The National Association of REALTORS' welcomes a return 
of a robust private market. But we are not there yet. One needs only to 
look to markets not well-served by FHA--such as loans above $729,750 or 
the condominium market. Credit in those markets is very tight, requires 
significant cash downpayments, or is simply unattainable. We strongly 
caution against actions to precipitously lower FHA's share of the 
market. We believe such changes at this time will simply lower the 
overall pool of mortgage credit available--keeping more creditworthy 
borrowers from being able to own a home of their own. When regulatory 
uncertainty is resolved, and there is a known future of secondary 
mortgage credit, private lenders will return.
Mutual Mortgage Insurance Fund (MMIF)
    It is likely that FHA will need to borrow money from the Treasury 
this year, but it is important to look at why. FHA did not offer risky 
mortgage products. FHA did not engage in exotic underwriting. FHA did 
not have accounting problems or other unscrupulous behavior. Instead, 
FHA stepped in during our housing crisis, and provided access to 
mortgage credit to millions of responsible Americans who wanted to 
purchase homes. Many of the mortgages FHA entered into during the 
crisis were in declining markets. Lending in declining markets 
increases risk. However, had FHA not stepped in to fill that market 
void, our economy would still be far from recovered.
    Although the Federal Credit Reform Act (FCRA) and FHA's 2 percent 
capitalization ratio may require FHA to borrow from the Treasury, that 
money will not actually be spent to pay claims. The actuarial study 
predicts that FHA has sufficient resources to pay 7-10 years' worth of 
claims right now--with no future business. But the Treasury draw may be 
necessary to hold a reserve able to fully fund all claims over a 30-
year period. So FHA will simply be holding this money in reserve. This 
is money that the actuarial report says will be unnecessary by FY2014, 
when the FHA fund will return to self-sufficiency. Some have argued 
that such a requirement is a misuse of taxpayer money, when it is not 
needed to pay debts.
    Another factor that has had a significant negative impact on FHA's 
losses is the use of seller-funded downpayment assistance. Downpayment 
assistance from the seller was never permitted by FHA, but in the 
1990s, some organizations formed schemes to circumvent the widely 
accepted prohibition on seller-provided downpayments by forming middle-
man ``charitable'' organizations that funneled seller monies through to 
the buyer. As early as 1999, FHA proposed eliminating these loans. But 
FHA was unable to do so because of successful litigation to prohibit 
the ban. Finally, in 2008, FHA received legislative relief to prohibit 
these loans. However, the damage had been done. These loans reached a 
record default rate of 28 percent, and account for more than $15 
billion of FHA's current deficit.
    Looking forward, the more recent books of business are of the 
highest quality in FHA history. The projected performance of the recent 
books of business (FY10-FY12) has improved steadily in the last three 
audits. Even the FY12 Actuarial Review shows FHA will be fully 
capitalized again in FY2014, and will reach the desired 2 percent 
capital reserves ratio by 2017, which is above and beyond the required 
30-years' worth of reserves.
Response From FHA
    Over the past 4 years, FHA has made many administrative changes to 
mitigate risk. FHA has increased mortgage insurance premiums (MIP), 
hired the agency's first Credit Risk Officer, implemented a credit 
score floor, required a greater downpayment for borrowers with lower 
credit scores, and adopted a series of measures to increase lender 
responsibility and enforcement.
    FHA has increased its premiums five times in the last 4 years, to a 
now historic high level. Beginning on April 1, 2013, the annual premium 
for new mortgages less than or equal to $625,500 and LTVs greater than 
95 percent will be 1.35 percent. The annual premium for new mortgages 
greater than $625,500 with LTVs greater than 95 percent will be 1.55 
percent. FHA also removed the automatic cancellation of the annual MIP 
for fixed-rate mortgages with LTVs greater than 90 percent at 
origination. These borrowers will have to pay the annual MIP for the 
life of the loan beginning June 3, 2013. While these changes may be 
necessary in the short-term, we encourage FHA to reconsider the need 
for these charges, when mortgage markets stabilize and the FHA fund 
returns to full capitalization.
    FHA has also instituted changes to low credit score borrowers. 
Borrowers with a credit score below 500 are not eligible for FHA-
insured mortgage financing, and those borrowers with credit scores 
between 500 and 579 are required to make a 10 percent downpayment. FHA 
has also increased the downpayment (as well as imposed an additional 
premium increase) for borrowers with loans above $625,500 from 3.5 
percent to 5 percent. NAR strongly opposes this increase, as the 
actuarial report has repeatedly shown that the higher limit loans 
perform better than the rest of the portfolio, and thus are helping the 
financial standing of the FHA fund.
NAR Recommendations
    NAR advocates for some additional changes to FHA with respect to 
condominiums, to ensure its continued strength and availability to 
homeowners.
    Condominiums are often the only affordable option for first time 
home buyers. FHA updated the condominium rules in September of 2012, 
but we recommend additional changes that will provide greater liquidity 
to this sector of the real estate market without causing additional 
risk to the MMIF. We support enhancements to the rules and limits 
relating to owner-occupancy, investor ownership, and delinquent 
homeowner association (HOA) assessments.
    NAR recommends elimination of the owner-occupancy ratio requirement 
for FHA condo mortgages. The GSEs do not have an occupancy ratio for 
condominium projects if the borrower is going to occupy the unit, which 
is the case for all FHA borrowers. Eliminating this requirement will 
allow more households looking for a principal residence to purchase 
condominiums, which are often more affordable, raise occupancy levels, 
and stabilize these developments and their communities.
    FHA should continue to provide additional flexibility on 
condominium recertification requirements and fidelity insurance 
coverage requirements. The existing rules place significant data and 
liability burdens on often-volunteer boards of condominium and 
homeowners associations and limit the stock of housing units available 
to FHA buyers.
Conclusion
    The National Association of REALTORS' strongly believes 
in the importance of the FHA mortgage insurance program and believes 
FHA has shown tremendous leadership and strength during the recent 
crisis. Due to solid underwriting requirements and responsible lending 
practices, FHA has avoided the brunt of defaults and foreclosures 
facing the private mortgage lending industry. We applaud FHA for 
continuing to serve the needs of hardworking American families who wish 
to purchase a home; and we stand in support of its mission, its 
purpose, and its performance, particularly in times of a national 
housing crisis.
                                 ______
                                 
                  PREPARED STATEMENT OF PETER H. BELL
   President and Chief Executive Officer, National Reverse Mortgage 
                          Lenders Association
                           February 28, 2013
    Mr. Chairman and Members of the Committee: Thank you for convening 
this hearing to look into the Federal Housing Administration's (FHA's) 
Financial Condition and Program Challenges. I am here today in my 
capacity as President and CEO of the National Reverse Mortgage Lenders 
Association (NRMLA), a trade association of over 300 companies involved 
in the origination, funding and servicing of reverse mortgages. Our 
organization has been serving the reverse mortgage industry as a policy 
advocate and educational resource since 1997. We also provide 
information about reverse mortgages to consumers and members of the 
press.
    NRMLA member companies are responsible for over 90 percent of the 
reverse mortgages made in the United States. All NRMLA member companies 
commit themselves to our Code of Ethics & Professional Responsibility. 
Under that Code, placing the needs of the client takes precedence over 
all other considerations.
    This Committee, including members from both sides of the aisle, has 
been consistently sensitive to reverse mortgage issues and has 
continually taken steps to improve and enhance FHA's Home Equity 
Conversion Mortgage (HECM) program. For that, we are very appreciative, 
as are the three-quarters of a million senior households who have 
utilized the HECM program since its inception.
    The issues surrounding reverse mortgages bring a key question into 
consideration:
    How do we finance our longevity?
    There were 4.2 million Americans over 85 years old in 2000; there 
will be over 9 million Americans over 85 years old in 2030. With life 
carrying on for decades beyond our earning years, we must manage assets 
and resources to sustain ourselves longer. Aging in place, remaining in 
one's own home for the duration of life or as long as physically 
possible, is simply the most cost-effective and financially sensible 
housing option for many. This requires the strategic use of home equity 
as a means of financial support.
    Housing wealth, the equity accumulated in a home, represents the 
largest component of personal wealth for many American households. 
Typical retiree households might have Social Security income, a modest 
pension, limited income from low-yielding fixed-income instruments, 
and, perhaps, a diminished 401(k) account. The equity they have built 
up in their home is often their greatest asset, an important resource 
for funding their future.
    The Bi-Partisan Policy Commission, in a report issued earlier this 
week, cited that half of homeowners 62 years of age or older had at 
least 55 percent of their net worth tied up in home equity. 
Furthermore, according to the Commission report, 9.5 million households 
headed by someone age 65 or older, spend more than 30 percent of their 
income for housing expenses, including mortgage payments; 5.1 million 
spend more than half their income on housing.
    Congress recognized this when initially authorizing the HECM 
program as part of the Housing & Community Development Act of 1987.
    Before moving on to a discussion of current issues impacting the 
HECM program, I would like to provide an overview of the program's 
history. The history is important because it illustrates that HUD has 
acted responsibly in its role of stewardship for this program. 
Furthermore, the Department has led a collaborative effort among all 
stakeholders--including the Government, senior advocates, social 
service providers, housing counselors and the reverse mortgage 
industry--to continually reevaluate and make modifications to this 
valuable program.
    As a result, the HECM program has been able to serve over 750,000 
homeowners since its inception. At the present time, there are 
approximately 578,000 senior households utilizing HECMs to help meet 
their financial needs.
A Brief History of the HECM Program
    The development and implementation of the Home Equity Conversion 
Mortgage program was a deliberate and thoughtful process.
    The first reverse mortgage loan in the U.S. was made in 1961 by 
Deering Savings & Loan in Portland, Maine, to a widow named Nellie 
Young. Over the next 20 years, various studies and surveys were 
conducted to explore the viability of such a product, most notably 
those by Yung-Ping Chen of UCLA and Jack Guttentag of The Wharton 
School and largely driven by Ken Scholen, then working with the 
Wisconsin Board on Aging, who wrote three books on the subject.
    In 1980, Scholen presented the concept to the Federal Government 
and received funding from the Administration on Aging for a Home Equity 
Conversion project. The following year, the White House Conference on 
Aging, attended by leaders of organizations serving the senior sector, 
endorsed the creation of a Federal Housing Administration mortgage 
insurance program for reverse mortgage loans. It was another 9 years 
before the first FHA-insured reverse mortgage was issued. During this 
time more studies and hearings on the viability and need for such a 
program continued both in Washington and in many States.
    In 1983, the Senate approved a proposal by Senator John Heinz for 
the creation of FHA insurance for reverse mortgages and a Senate/House 
conference committee called for a Department of Housing and Urban 
Development study of the idea. In 1985, HUD held a conference on the 
subject, but when they issued their study in 1986, the Department 
opposed a Federal reverse mortgage demonstration program. The following 
year, AARP offered a critique of HUD's decision, written by Scholen, 
and the 100th Congress passed the Housing and Community Development 
Act, directing the HUD Secretary to conduct a demonstration program for 
insuring reverse mortgages.
    The National Housing Act of 1987, Section 255, outlined the 
specifics of the demonstration program. The purpose of the program was 
``to meet the special needs of elderly homeowners by reducing the 
effect of the economic hardship caused by increasing costs of meeting 
health, housing and subsistence needs at a time of reduced income, 
through insurance of home equity conversion mortgages to permit the 
conversion of a portion of accumulated home equity into liquid 
assets.'' Among the requirements contained in the original statute 
were:

    Adequate 3rd party counseling including explaining 
        alternative financial options;

    A fixed or variable interest rate or future sharing between 
        the mortgagor and the mortgagee of the appreciation in value of 
        the property, as agreed upon by the mortgagor and the 
        mortgagee;

    A list of disclosures to be delivered at least 10 days 
        before closing;

    A guarantee to borrowers that they would be protected 
        against disappearance of their lender and obligations beyond 
        the value of their home at sale;

    Scheduled reports to Congress.

    To create the new product, HUD created a development team under the 
auspices of Judith May. The team was led by Ed Szymanoski, a 
mathematician and economist, who managed the annual actuarial review of 
HUD's home mortgage insurance fund. They had no model to work from, so 
they built a simulation model to analyze the actuarial risks the FHA 
insurance fund would be exposed to under various scenarios. As 
Szymanoski later explained, ``Innovations from our initial design 
recommendations included the first-ever two-part premium structure for 
an FHA program (two percent up front and 50 basis points annually), a 
two dimensional ``principal limit'' factor (by borrower age and 
interest rate) that is used as an effective limit on HECM LTVs (loan-
to-value), and formulas for borrowers to set up their own customized 
payment plans--allowing maximum flexibility in choice among monthly 
payment streams, lines of credit or combination plans with both.'' All 
of this initial modeling remains a working part of the program today.
    The pilot program was careful and initially limited to 2,500 loans 
through 1991. The first FHA-insured Home Equity Conversion Mortgage 
(HECM) was issued October 19, 1989, to Marjorie Mason of Fairway, 
Kansas. HUD selected 50 lenders to make the first HECMs. The FHA 
sponsored fourteen 2-day counselor training sessions conducted by 
Scholen and Bronwyn Belling of AARP. In the first year (1990), 157 
loans were closed. In the second year (1991), 389 loans were closed. 
The program grew slowly as it found its footing.
    The original statute had called for evaluations of the program by 
HUD staff on a timely basis. The first report in 1992 was followed by 
further evaluation in 1995. Several subsequent evaluations have been 
conducted over the years.
    The goals of the demonstration were to (1) permit the conversion of 
home equity into liquid assets to meet the special needs of elderly 
homeowners, (2) encourage and increase participation by the mortgage 
markets in converting home equity into liquid assets, and (3) determine 
the extent of demand for home equity conversions and types of home 
equity conversion mortgages that best serve the needs of elderly home 
owners.
    The 1995 report stated ``the Demonstration has made significant 
progress toward achieving each of these goals, although more time will 
be necessary to complete the work.''
    This report also addressed the adequacy of the mortgage insurance 
premium for the first time and concluded the present value of the 
premiums collected exceeded the value of insurance claim losses.
    Once the program was launched, deliberation continued and it was 
closely observed. Over the subsequent years, Congress has amended the 
statute nine times, sometimes simply to clarify wording, others to 
alter substance. Changes include:

    In 1990, the volume cap was changed from 2,500 loans by the 
        end of Fiscal Year (FY) 1991 to 25,000 loans by the end of 
        FY1995;

    In 1996, the restriction on securing the loan with a 
        single-family residence was changed to also include a 1-4 
        family residence in which the mortgagor occupies one of the 
        units; the aggregate number of loans insured was changed twice 
        from 25,000 through FY1995 to 30,000 through FY1996 and then to 
        50,000 through FY2000;

    In 1998, in the HUD Appropriations Act, the word 
        ``demonstration'' program was struck and the program became 
        permanent; the aggregate number of mortgages that could be 
        insured was raised to 150,000;

    In 2000, refinance of existing HECMs was authorized and 
        rules created for implementation including requiring a good 
        faith estimate of costs and permitting a credit for previous 
        upfront mortgage insurance premium against the new premium;

    In 2005, the volume cap was raised from 150,000 loans to 
        250,000 loans;

    In 2006, the volume cap was raised from 250,000 loans to 
        275,000 loans; in the Home Equity Act of 2006, regional loan 
        limits for HECMs were eliminated and a single national loan 
        limit equal to that of the Freddie Mac loan limit (then 
        $417,000) was created;

    In 2008, via the Housing and Economic Recovery Act, limits 
        were placed on origination fees; cross-selling of other 
        financial products as a condition for obtaining a reverse 
        mortgage was prohibited; rules assuring independence of 
        counselors from lenders were strengthened; the establishment of 
        qualification standards for counselors and a new counseling 
        protocol was called for; HECM insurance was shifted from the 
        General Insurance Fund to the Mutual Mortgage Insurance Fund 
        (MMI); a provision to permit a waiver of upfront insurance 
        premiums when proceeds are used to purchase a qualified long-
        term care insurance policy was eliminated; and the HECM for 
        Purchase program, which authorized use of these funds for 
        purchase of principal residences, was created;

    In 2009, as part of the American Relief and Recovery Act, 
        loan limits were increased to 150 percent of the Freddie Mac 
        limit or $625,500;

    In addition to these legislative changes, HUD has also made 
periodic administrative changes to the program, including:

    In 2010, FHA reduced the Principal Limit Factors 
        (essentially the Loan-to-Value ratio) for all HECMs by 10 
        percent to address concerns about the performance of the 
        program and eliminate any need for credit subsidy;

    In 2011, FHA implemented an additional reduction in the 
        Principal Limit Factors and raised the annual Mortgage 
        Insurance Premium.

    All in all, what occurred throughout the years has been a constant 
monitoring of the program by FHA and continual reevaluation both 
internally at HUD and by outside consultants, resulting in thoughtful 
steps being taken to manage the program proactively.
    In 1997, just prior to the program being made permanent, the 
National Reverse Mortgage Lenders Association was formed. With new 
promise of a prolonged future, and perhaps partially due to the 
existence of an industry-wide professional organization, the business 
began to grow. In 2001, NRMLA had 32 member companies and about 7,800 
loans were closed. By 2005, we had 370 members and over 43,000 loans 
were closed. By 2007, volume would surpass 100,000 loans per year, 
where it remained for 3 years. Current annual loan volume is about 
60,000 loans.
    In 2007, Ginnie Mae introduced its HECM Mortgage-Backed Securities 
program (HMBS). In November of that year, the first HMBS pool was 
offered by Goldman Sachs.
    In Ed Szymanoski's last report on the demonstration program written 
in 2000, he reported a high level of satisfaction among HECM borrowers. 
In 2007, AARP reported that 93 percent of borrowers surveyed had a good 
experience with their loans. In 2010, consumer research conducted by 
Marttila Strategies for NRMLA reported that 90 percent of surveyed 
borrowers felt no pressure to proceed, 90 percent did not feel they 
were misled in any way or given wrong information, 80 percent said they 
were likely to recommend the product to a family member and more than 
50 percent said they could not meet their monthly expenses without 
their HECM.
    In 2012, in response to a Request for Information published in the 
Federal Register by the Consumer Financial Protection Bureau (CFPB), 
NRMLA retained ORC International (ORC), a widely respected independent 
consumer opinion research organization to survey a statistically 
significant sample of borrowers on their information gathering and 
decision making regarding their reverse mortgage, their needs and 
motivations for obtaining it, their use of funds and whether or not 
they could continue to live in their homes without the financial 
assistance provided by the HECM loan. ORC found that HECM borrowers 
were thoughtful in approaching this topic, did comprehensive research, 
obtained input from knowledgeable and trusted advisors, found HECM 
counseling to be useful, utilized the funds to establish greater 
financial stability for themselves, and felt that without the HECM, it 
would be challenging for them to remain in their homes.
    Despite the growth of the industry and the high level of 
contentment among borrowers, HUD and the industry did not retreat from 
the responsibility of perpetual reevaluation and frequent refinements. 
During this past decade of growth:

    Loan Limits have been adjusted to keep up with needs;

    Loan to value ratios (Principal Limit Factors) have been 
        lowered to protect the FHA Mutual Mortgage Insurance Fund 
        (MMI);

    The Mortgage Insurance Premium has been increased to 
        protect the MMI fund;

    The counseling process has been enhanced with a new 
        intensified protocol requiring the addition of the Financial 
        Interview Tool to evaluate a potential borrower's means to live 
        up to the loan's obligations and benefitscheckup.org, to see 
        what other financial help might be available to them;

    An exam and continuing education requirements were 
        established for all HECM counselors to make sure they fully 
        understand the mechanics of the product, as well as changes 
        that are implemented over time;

    New products, including the HECM Saver and the HECM for 
        Purchase, have been designed and introduced to serve seniors 
        with different needs;

    HUD, FTC, AARP, NRMLA, and now, the CFPB, have worked 
        together to discourage inappropriate and misleading advertising 
        language.

    Both our Government partners and our members have had a laser focus 
on providing this beneficial product to America's seniors and 
delivering it with the highest ethical values and integrity. At the 
same time, they have adjusted the program when necessary to keep it 
aligned with the requirements of and maintain the security provided by 
FHA insurance.
    The history of the HECM program demonstrates that its participants 
have been thoughtful, careful and responsible. The program has resulted 
in the growth and development of an important financial management tool 
that we are able to offer because of the sharing of risk between the 
public and private sectors.
    The lessons learned from the HECM program helped spawn a new market 
of proprietary reverse mortgages, which prior to the financial crisis 
of 2009, had started expanding and grew to over 10 percent of the 
reverse mortgage market. Today, we are beginning to see preliminary 
indications that investors are studying the opportunity for proprietary 
reverse mortgage products and are poised to return to this market as 
the economy stabilizes.
Emergence of HECM as a Proactive Tool for Personal Financial Management
    While HECM was initially created to help seniors supplement their 
retirement income by simply adding in a stream of monthly payments to 
the homeowner, or creating a stand-by line of credit, use of the loan 
has evolved to help a number of seniors facing differing circumstances. 
In some cases, a HECM is utilized to pay off an onerous mortgage and/or 
other debts. This enables the senior to eliminate monthly payments and 
deploy their regular cash flow to cover day-to-day living expenses, 
while being able to remain in the home, rather than having to sell it 
and move. In other cases, reverse mortgages have been utilized to cover 
costs for in-home care, allowing borrowers to avoid costly stays in 
nursing homes--helping to avoid costs that might ultimately have to be 
borne by Medicaid.
    With the introduction of the HECM Saver, which provides lower risk 
to the FHA insurance fund and lower upfront costs to consumers, the 
program has drawn interest from financial planners working with older 
clients. Many retirees experience peaks and troughs in their cash needs 
over time. As a result, they are often forced to liquidate assets at 
inopportune times. Rather than selling stocks into a down market, or 
cashing in Certificates of Deposit (CDs) or other financial instruments 
before maturity and possibly incurring penalties for doing so, 
utilization of a HECM Saver can provide cash for immediate needs and 
then be repaid back into the HECM line of credit when investment values 
are higher or when CDs mature. The net result, according to models run 
by leading financial planners, is that the client will have a larger 
amount of money available to meet their needs through retirement and 
fund longevity.
Importance of Counseling for Reverse Mortgage Borrowers
    A challenge with reverse mortgages is that, to many prospective 
borrowers, the notion is somewhat counterintuitive. How a reverse 
mortgage works, how the amount of money available to a homeowner is 
determined, and how HECMs are priced are topics that are often not 
fully understood by seniors considering utilizing this helpful tool. As 
a result, Congress wisely established a statutory requirement that 
every prospective borrower must meet with an independent third-party 
reverse mortgage counselor before actually completing a formal 
application for a HECM loan.
    Analyzing how a reverse mortgage might fit into the picture for any 
particular borrower and learning how to assess the various options 
available is not a simple task--particularly for older homeowners who 
might not have been in the financial markets for awhile, for newly 
widowed individuals whose loss of their spouse's Social Security 
creates financial insecurity, for seniors struggling to make ends meet, 
or for those trying to plan ahead to maximize their resources and 
sustain their financial independence.
    Counseling has become a hallmark of the HECM program. It is a very 
effective consumer safeguard and its impact can be seen in the limited 
and isolated number of instances where there has been evidence of fraud 
or elder financial abuse within the HECM program. NRMLA regularly 
surveys Attorneys General offices in all States, Divisions of Banks, 
and Departments of Consumer and Elderly Affairs, and all report a very 
low or no incidence of complaints about reverse mortgages. NRMLA 
believes that the mandatory counseling is a significant contributor to 
the integrity of the HECM program.
    The opportunity for every prospective reverse mortgage client to 
consult with an independent, professional reverse mortgage counselor 
prior to formally submitting a loan application is a critical step that 
helps consumers make sound decisions. The reverse mortgage counselors 
are employed by HUD-approved, community-based and nationally designated 
nonprofit counseling organizations, and each individual counselor must 
be qualified by passing a HUD-administered exam and meeting continuing 
education requirements.
    The counseling covers several key aspects as delineated in the 
statute that created the HECM program. First of all, Sec. 255(d)(2)(b) 
of the National Housing Act requires that:

        To be eligible for insurance under this section, a mortgage 
        shall have been executed by a mortgagor who has received 
        adequate counseling as provided in subsection (f), by an 
        independent third party that is not, either directly or 
        indirectly, associated with or compensated by a party involved 
        in originating or servicing the mortgage, funding the loan 
        underlying the mortgage or engaged in the sale of annuities, 
        investments, long-term care insurance or any other type of 
        insurance or financial product.

    Sec. 255(f) further requires:

        The Secretary shall provide or cause to be provided adequate 
        counseling for the mortgagor, as described in Subsection 
        (d)(2)(b). Such counseling shall be provided by counselors that 
        meet qualification standards and follow uniform counseling 
        protocols.

        The protocols shall require a qualified counselor to discuss 
        with each mortgagor information which shall include--

            1. Options other than a home equity conversion mortgage 
        that are available to the homeowner, including housing, social 
        service, health, and financial options;

            2. Other home equity conversion options that are or may 
        become available to the homeowner, such as sale-leaseback 
        financing, deferred payment loans, and property tax deferral;

            3. The financial implications of entering into a home 
        equity conversion mortgage;

            4. A disclosure that a home equity conversion mortgage 
        might have tax consequences, affect eligibility for assistance 
        under Federal and State programs, and have an impact on the 
        estate and heirs of the homeowner; and

            5. Any other information that the Secretary may require.

    The result of this has been the development of a robust network of 
committed counseling organizations and qualified individuals to deliver 
the HECM counseling, either in face-to-face sessions or via telephone, 
depending on each client's personal choice and mobility. This 
counseling network has ably served the needs of older homeowners 
considering HECM loans and has grown in capacity and sophistication as 
the decisions that go into evaluating a HECM get ever more complex.
    One particular area that has emerged, and both NeighborWorks and 
National Council on Aging (NCOA), two of the primary providers of 
reverse mortgage counseling and training, are to be commended for 
stepping up to the plate to deal with the issue, is providing remedial 
counseling to reverse mortgage borrowers who have had setbacks in their 
financial affairs and have had difficulties meeting their obligations 
to pay property taxes and insurance. Failure to pay these so-called 
``property charges'' represents a technical default under the HECM 
program.
    When a borrower falls into technical default, the loan servicer is 
obligated to pay such charges on their behalf to protect the FHA 
insurance fund and begin working with the borrower to bring the account 
current. HECM counselors play an integral role in providing remedial 
assistance and advice for borrowers in technical default.
    As a result of these remedial counseling services, many HECM 
borrowers facing this situation have been able to arrange a repayment 
plan to reimburse the lender's advances, protecting FHA from possible 
payouts for claims, while preserving the homeowner's ability to 
continue living in his/her home--a win-win solution for all involved.
    Standards for HECM counseling are very specific and stringent. They 
are the product of an ongoing collaborative effort among a varied group 
of stakeholders including HUD, senior advocacy groups, gerontology 
experts, housing counseling professionals and experienced lenders. They 
have proven to be very effective to date and have been considerably 
enhanced with the introduction of updated HECM counseling protocols 3 
years ago.
Current Issues Impacting the HECM Program
1. Performance of Various Years ``Books of Business''
    There is concern about the overall health of FHA's Mutual Mortgage 
Insurance Fund (MMIF), of which HECM is a part. In the invitation to 
testify at today's hearing, the Committee has asked if the current 
state of FHA is due to the unprecedented decline in the housing market 
or if the mission of FHA is flawed?
    Clearly, to us, FHA is fulfilling a mission that is necessary and 
useful in helping older Americans remain in and maintain their homes. 
Aging in place is the most cost effective alternative for many 
households. HECM is a critical resource for helping seniors do so.
    The financial challenges the program faces are directly a result of 
the decline in the housing market over the past few years. The major 
factor creating stress on the program is the diminution of housing 
values from 2009 through part of 2012. Because HECM loans rely on the 
future value of the home for repayment, diminished values have an even 
more severe impact on reverse mortgages than on other types or mortgage 
loans.
    The earlier books of business under the HECM program, loans made 
from 1990 through 1996, essentially paid-off successfully before home 
values crashed in 2009. The books of business originated from 1997 
through 2008, had all been projected to perform in an actuarially sound 
manner and only became a challenge as a result of the unforeseen 
collapse in the housing markets. Because these loans were made with 
lower loan limits and expected interest rates that were higher than the 
actual rates in recent years, as home price appreciation improves, many 
of these loans will get back on track. In fact, earlier this week, 
Standard & Poor's reported that home prices in January 2013 increased 
6.8 percent from January 2012, a significant improvement from the 
forecast utilized in the FHA actuarial assessment conducted last June. 
In Phoenix, a particularly troubled market, prices are up 23 percent in 
the past year; Atlanta is up 9.9 percent; Detroit is up 13.6 percent.
    The loss severity of the 2010 and 2011 books of business has been 
moderated somewhat by cuts in the Principal Limit Factors (loan to 
value calculations) and increased Mortgage Insurance Premiums mentioned 
earlier in this testimony. The improved outlook for home price 
appreciation will have a strong positive impact on these portfolios.
    The 2012 and 2013 books of business were assessed to have a 
positive economic value in the recent actuarial review. Furthermore, 
FHA has adjusted its expectation of future home price appreciation for 
these newer loans, utilizing a more conservative estimate of 2 percent 
per annum (in the 2013 book), rather than the 4 percent that had been 
utilized historically, further enhancing the expectation of positive 
performance for these portfolios.
    That leaves the problematic portfolio of loans originated in 2009, 
when home values were at their peak, and before FHA cut the Principal 
Limit Factors and raised the Mortgage Insurance Premiums for the later 
books. However, with stronger performance in the housing markets and 
the improvements we are witnessing in home price appreciation, plus the 
vastly improved outlook for newer loans, we believe FHA has the 
opportunity to ``earn'' its way out of the negative estimate of 
economic value for the 2009 HECM portfolio, particularly if given the 
tools necessary to properly manage its risks going forward.
2. Ability of FHA To Act Expeditiously in Making Program Changes To 
        Manage Risk and Strengthen the HECM Program
    One of the challenges HUD has faced in managing the HECM program 
has been its inability to move swiftly in making programmatic changes 
that could enhance the security and financial performance of the Mutual 
Mortgage Insurance Fund. Reverse mortgages are a relatively new concept 
and there has been a learning curve as HUD and the industry have 
observed how these loans perform. While some of the lessons to date 
have been translated into program improvements as described earlier in 
my testimony, others await implementation. Unfortunately, during the 
downturn, HUD was unable to move fast enough in making some desired 
changes.
    This is due to the circuitous route that HUD must follow to modify 
its regulations. Changes to many aspects of the HECM program must be 
made in accordance with the Federal Administrative Procedures Act and 
generally take up to 2 years to be implemented. If FHA is granted the 
authority to modify the HECM program through the issuance of Mortgagee 
Letters, in lieu of Rule changes, program changes and enhancements 
could be implemented in a matter of months, not years.
    There are a few adjustments that FHA can currently do by Mortgagee 
Letter, such as changing the principal limit factors--something that 
they are currently doing to essentially implement a moratorium on the 
Fixed-Rate (full draw) HECM Standard loan option. However, there are 
other thoughtful, longer-term solutions to strengthen the program that 
currently require pursuing the formal regulatory development process.
    Changes that FHA would like to implement, and which the industry 
supports, include:

  A.  Establishing a financial assessment process, essentially a new 
        approach to underwriting, being developed specifically for HECM 
        borrowers, that would require lenders to ascertain a 
        prospective borrower's likely ability to meet all of his or her 
        obligations under the loan, including paying taxes and 
        insurance;

  B.  Requiring set-asides or escrows for taxes and insurance;

  C.  Introducing restrictions on initial draws and/or utilization of 
        funds.

    Both Assistant Secretary for Housing/Federal Housing Commissioner 
Carol Galante, in recent testimony before this Committee, and the 2012 
Independent Actuarial Report on the Mortgage Mutual Insurance Fund 
suggested that it would be helpful if Congress provided HUD with the 
authority to make such changes through the issuance of Mortgagee 
Letters. NRMLA urges Congress to quickly grant HUD that authority.
3. Authorization Cap
    A major issue faced by the reverse mortgage industry is that, while 
the HECM program was made permanent back in 1998, there has been a 
statutory limit on the number of loans FHA is authorized to insure. 
Although the cap has been routinely raised or suspended by Congress in 
a series of consecutive appropriations measures and continuing 
resolutions, the existence of the cap deters some industry participants 
from making the commitment required to fully embrace reverse mortgage 
lending, thus keeping competition in the market at a minimal level.
    NRMLA urges Congress to support the continued availability of Home 
Equity Conversion Mortgages by permanently removing the cap on the 
number of HECMs that FHA may insure to minimize any possible disruption 
in the availability of this importance personal financial management 
tool.
    While there might be some concern about monitoring the program to 
assure that it operates on a fiscally sound basis, the review 
undertaken annually in the budget process provides that opportunity. 
There are also opportunities for review whenever this Committee 
conducts its periodic and helpful oversight of the program, or of FHA 
generally.
4. Tax and Insurance Defaults
    Homeowners with HECM loans are required to keep their properties 
properly insured, plus pay taxes and any applicable homeowner 
association fees. If they fail to do so, the loan servicer is required 
to advance such funds on their behalf, from the borrower's line of 
credit, if funds are available, or from the loan servicer's own funds 
if no funds are available in the HECM account. Once a loan servicer 
advances funds for these purposes, it is required to work with the 
borrower to recover the funds advanced through a repayment plan. If the 
borrower continues to fail to meet that obligation, the loan is in 
``technical default'' and the loan servicer must go to HUD and request 
permission to call the loan due and payable.
    Earlier on, some HECMs were made to homeowners who eventually 
proved to be unable to meet these obligations. This has resulted in 
several new initiatives to minimize issues caused by technical 
defaults. FHA now requires loan servicers to report delinquent 
borrowers in a more timely fashion and to work with them and a special 
task force of counselors trained in remedial strategies for dealing 
with such defaults.
    Counseling protocols have been enhanced to make sure that the 
responsibility for paying these so-called property charges is 
explicitly discussed upfront in counseling sessions with all borrowers. 
Lenders have become much more direct in discussing this obligation with 
prospective borrowers and are beginning to implement procedures 
designed to identify applicants who might not be able to meet their 
obligations.
    The items discussed earlier in my testimony, including financial 
assessment as part of the loan origination process, and the 
establishing of tax and insurance set-asides, would help address this 
issue. Right now, HUD may only implement these items through the formal 
promulgation of regulations. We believe these items should be 
implemented quickly and, once again, urge Congress to give FHA the 
authority to address such items through the issuance of Mortgagee 
Letters, a much more expedient process.
Conclusion
    The FHA Home Equity Conversion Program has been a useful tool, 
helping hundreds of thousands of seniors maintain their homes and lead 
more financially stable lives. The program has been administered 
thoughtfully, carefully and responsibly by a partnership of 
stakeholders including HUD, the lending community, senior advocacy 
groups like AARP and National Council on Aging, and the housing 
counseling network. This has allowed the reverse mortgage concept to 
gain a foothold and prove the value of this important personal 
financial management tool as a component of retirement finance and 
funding longevity.
    We thank the Members of this Committee for your continual interest 
in the HECM program and hope that we can count on Congress to 
demonstrate its support by granting HUD the authority to make 
programmatic changes swiftly and by eliminating or permanently 
suspending the cap on the number of HECM loans that FHA is authorized 
to insure.
                                 ______
                                 
                PREPARED STATEMENT OF PHILLIP L. SWAGEL
 Professor in International Economic Policy, Maryland School of Public 
                     Policy, University of Maryland
                           February 28, 2013
    Chairman Johnson, Ranking Member Crapo, and Members of the 
Committee, thank you for the opportunity to testify on the financial 
condition of the Federal Housing Administration. I am a professor at 
the University of Maryland's School of Public Policy and a faculty 
affiliate of the Center for Financial Policy at the Robert H. Smith 
School of Business at the University of Maryland. I am also a visiting 
scholar at the American Enterprise Institute and a senior fellow with 
the Milken Institute's Center for Financial Markets. I was previously 
Assistant Secretary for Economic Policy at the Treasury Department from 
December 2006 to January 2009.
    Reforms are urgently needed to ensure that the Federal Housing 
Administration (FHA) plays its important role in helping to expand 
access to mortgage financing for low- and moderate-income families who 
have the financial wherewithal to become homeowners. The fiscal 
condition of the FHA has deteriorated considerably in recent years, to 
the point at which the FHA nearly required a bailout last year and 
might well be required to draw on the Treasury this year to ensure its 
continued solvency. The FHA continues to have an outsized share of the 
housing market, especially for purchase loans, and thus displaces 
private sector activity, while providing backing for some houses worth 
more than $700,000--a level at odds with its mission. Moreover, the FHA 
underprices its insurance according to the appropriate measures 
reported by the Congressional Budget Office (CBO), meaning that 
taxpayers are not fully compensated for the housing risk they are 
taking on through FHA's guarantees.
    Over the past several years as its financial outlook has worsened, 
we have all learned the hard way that the FHA grew too large and took 
on too much risk. Indeed, the Government Accountability Office (GAO) 
earlier this month added the FHA to its high-risk list, reflecting the 
need for actions to ``restore FHA's financial soundness and define its 
future role.'' \1\ The financial fallout of this risk is encapsulated 
in the 2012 independent actuarial review indicating that the economic 
value of the FHA's Mutual Mortgage Insurance Fund (MMIF) is negative 
$16.3 billion. This is a continuation of the deterioration of the 
MMIF's economic value from positive $4.7 billion in 2010 and positive 
$2.6 billion in 2011, and comes despite useful actions taken by the FHA 
to improve its risk management and lender enforcement.
---------------------------------------------------------------------------
     \1\ See, Government Accountability Office, 2013. ``High-Risk 
Series: An Update'', Report GAO-13-283, February.
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    The first step in solving a problem is to acknowledge that one 
exists. This was not always the case with this Administration, as can 
be seen in the dismissive response of the Department of Housing and 
Urban Development in 2011 to warnings from outside analysts such as 
Wharton Professor Joe Gyourko that the FHA was underestimating its 
risks on single-family mortgage guarantees, and that the capital 
position of the FHA needed to be improved to deal with these risks. \2\ 
In this regard, it is laudable that the 2012 actuarial review adopts 
technical recommendations from the GAO, the HUD inspector general, and 
others to better model the risks and potential losses facing the FHA. 
These changes, along with a more realistic outlook for economic 
variables such as home prices, account for a good deal of the worsening 
of the FHA economic value. This revised outlook is not welcome news, 
but it is best to understand the risks clearly so that the FHA can take 
the actions necessary to be in a position to fulfill its mission.
---------------------------------------------------------------------------
     \2\ See, Joe Gyourko, November 21, 2011. ``Response to HUD on FHA 
Risk Evaluation'', available on http://real.wharton.upenn.edu/gyourko/
Working%20Papers/
Response%20to%20HUD%20on%20FHA%20Risk%20Evaluation%20Nov%20%2021%202011-
jg.pdf
---------------------------------------------------------------------------
    The mission of the FHA is not flawed. Indeed, it is admirable that 
78 percent of FHA home purchase loans in fiscal year 2012 went to 
first-time homebuyers, and that the FHA helped support around half of 
the home purchase loans made to African American and Hispanic 
borrowers. The key is for steps to be taken so that the FHA can 
continue to fulfill its mission in as effective a fashion as possible 
while protecting taxpayers.
    More needs to be done to safeguard the financial stability of the 
FHA and thus to ensure that it carries out its mission; to protect 
taxpayers against even greater losses and the possibility of a future 
bailout; and to boost overall U.S. economic growth by ensuring that the 
private sector and not the Government plays the leading role in 
allocating capital. I focus below on policy measures that would achieve 
these goals while better targeting Government resources that are 
deployed in the form of support for home ownership through the FHA to 
families who most need assistance to become homeowners.
    To be sure, the unwelcome financial condition of the FHA reflects 
the effects of the collapse of the housing bubble, ensuing recession, 
and subpar growth of jobs and incomes over the past 4 years. The 
combination of these developments led to elevated losses on FHA-
guaranteed mortgages originated from 2000 to 2009, and especially on 
loans made starting in 2007 when the shutdown of subprime lending led 
riskier borrowers to migrate toward FHA-backed loans. The effects of 
these loan guarantees are still felt, as indicated in the most recent 
figures for the National Delinquency Survey released by the Mortgage 
Bankers Association that show a slight increase in delinquencies for 
FHA-backed loans at the end of 2012 when delinquency rates for other 
types of loans continued to decline.
    These various factors affecting FHA-backed loans provide an 
explanation of the FHA's situation but not an excuse. Indeed, the 
negative value of the MMIF came about because the underwriting 
standards, insurance pricing, and other practices of the FHA have 
taxpayers provide an underpriced guarantee with 100 percent coverage of 
the mortgages taken out by risky borrowers, many with scanty 
downpayments and thus little protection against home price declines.
    Some of the practices which brought about the FHA's problems have 
changed, with an end to seller-funded downpayments, some changes to 
practices for home equity conversion mortgages (HECM; so-called reverse 
mortgages), and increased actions to address problematic originators 
and underperforming servicers. But more needs to be done to protect 
taxpayers, to target FHA activities more effectively, and to ensure 
that the costs, risks, and benefits of FHA activities are transparent , 
accurately accounted for in Government books, and understood by policy 
makers and the general public. In doing so, the FHA should return to 
its traditional share of about 10 to 15 percent of the housing finance 
market so that Government does not take on an inappropriately high 
level of risk and distort the housing market.
    In considering reforms, it is important both to address the present 
solvency concern and to ensure that the FHA is focused on its core 
mission while avoiding risks that pose a threat to its future solvency. 
Maintaining an oversized FHA is not the best approach to addressing 
solvency either today or into the future. With insurance premiums that 
appear still to underprice risk, a continued large footprint for the 
FHA compounds the solvency risks rather than addresses them. Moreover, 
maintaining an outsized role for the FHA means increased distortions in 
the broad housing market as the Government seeks to artificially boost 
demand for housing--an approach that in the past led to considerable 
suffering for borrowers who prematurely attempted to take on the 
financial responsibilities of home ownership. It is intrinsically 
proconsumer to strengthen underwriting standards to ensure that 
borrowers are capable of staying in their homes. The FHA Emergency 
Fiscal Solvency Act considered by the Committee in 2012 is a useful 
starting point for reform but is not enough. Additional measures are 
needed to ensure the solvency of the FHA, reduce its market share, and 
improve its efficiency, effectiveness, and ability to manage risk.
    Measures that should be taken as part of FHA reform include:

  1.  Improve the pricing of FHA insurance. As was included in the FHA 
        Solvency Act, it would be useful to increase both the minimum 
        and maximum annual premiums on FHA loans and to utilize the 
        scope for pricing insurance in line with risks. In the 
        meantime, the FHA should use its existing authorities to 
        tighten its insurance pricing. These steps will mean higher 
        costs for homebuyers, but this reflects the risks borne by 
        taxpayers. At the very least, the FHA should use its existing 
        scope to raise annual insurance premiums until the MMIF regains 
        its minimum required 2 percent capital ratio.

     An important consideration is that Fannie Mae and Freddie Mac are 
        taking steps to increase the pricing of the insurance they 
        offer on mortgages and also eventually to require private 
        capital in a first-loss position ahead of the Government 
        guarantee. Absent corresponding action by the FHA, borrowers 
        who might otherwise qualify for conforming loans backed by 
        Fannie and Freddie will migrate toward the FHA and its less 
        stringent underwriting standards. This could lead to increased 
        risk for the FHA and thus greater net exposure for taxpayers 
        since loans backed by the FHA are riskier than those backed by 
        Fannie and Freddie. This concern is illustrated by the 
        experience starting in 2006 when the shutdown of subprime 
        origination resulted in borrowers turning to FHA-backed loans 
        for mortgages, with dire consequences for the financial 
        condition of the FHA.

  2.  Require higher downpayments for additional categories of 
        relatively risky borrowers. The FHA is unusual in allowing 
        borrowers to have relatively modest downpayments. While this 
        helps first-time homeowners who have not accumulated the 
        resources for larger downpayments, a lesson of the recent 
        crisis is that housing prices go down as well as up, and that 
        ensuring that borrowers have equity in their home is vital to 
        avoid foreclosures and to safeguard the stability of the 
        housing market. As noted above, it is intrinsically proconsumer 
        to ensure that homebuyers get into houses and mortgages that 
        they can sustain. The FHA now requires 10 percent downpayments 
        for borrowers with FICO scores below 580. It would be useful to 
        add a tier with a required downpayment of 5 percent for 
        borrowers with FICO scores from 580 to around 620 (with the 
        precise cutoff depending on an evaluation of risk factors). As 
        an alternative, borrowers could be offered a choice of 
        retaining the lower downpayment with a shorter loan term such 
        as 20 rather than 30 years. The goal is to ensure that risky 
        borrowers build up an sizable equity stake in their homes 
        relatively quickly. The Committee should also consider whether 
        borrowers with very low FICO scores such as 500 to 580 should 
        be eligible for FHA-backed loans in the first place.

  3.  Reduce FHA loan limits in order to shrink the FHA market share 
        and focus Government assistance on homebuyers who most need 
        assistance. The current loan limit of up to $729,000 means that 
        the FHA is serving a population far outside of its mission, and 
        this would still be the case if the FHA loan limit is allowed 
        to revert to $629,500. It is misguided to assert that the FHA 
        should continue to insure these high-dollar loans because they 
        are profitable and will help to recapitalize the MMIF. As 
        discussed below, the FHA books profits under Government 
        accounting procedures that understate the risks of its 
        activities. Indeed, the FHA loan limit exceeds that for 
        mortgages guaranteed by the U.S. Government through support for 
        Fannie Mae and Freddie Mac, even though the underwriting 
        requirements for those two firms are more conservative than 
        those of the FHA. Moreover, the FHA activity displaces the 
        private sector to the detriment of the overall U.S. economy. 
        Even if jumbo loans above the GSE conforming loan limits were 
        profitable for the FHA, it would be better to allow the private 
        sector to gauge the creditworthiness of people seeking to buy 
        homes of three-quarters of a million dollars or more (including 
        the downpayment on top of the maximum loan amount). It is 
        noteworthy that the recent report from the Bipartisan Policy 
        Center's (BPC) Housing Commission calls for loan limits for 
        Government-backed loans to be set at $275,000 in order to focus 
        public support on families most in need (and then would 
        accompany this with increased spending to support affordable 
        housing for both owner-occupied and rentals). \3\
---------------------------------------------------------------------------
     \3\ For the recommendations of the BPC commission, see, http://
bipartisanpolicy.org/projects/housing.

  4.  Use Fair Value accounting to evaluate the costs involved with FHA 
        lending activities. As explained by the group of eminent 
        academics at the Financial Economists Roundtable of the Wharton 
        Financial Institutions Center at the University of 
        Pennsylvania, the current accounting of FHA guarantees under 
        the Federal Credit Reform Act of 1990 (FCRA) systematically 
        understates the costs and risks of FHA activities. \4\ The 
        understating of risk comes about because the FCRA accounting 
        treatment ignores several types of risks that are borne by 
        taxpayers when making guarantees on private sector activities. 
        As an illustration, under the FCRA accounting treatment, the 
        Federal Government would book a profit if it simply buys a loan 
        from the private sector at the accurate market price. The 
        profit comes about because the FCRA rules discount the future 
        cash flows from the loan by the interest rate on Treasury 
        securities rather than the higher interest rate that was used 
        by the private lender when it made the loan. In reality, the 
        Federal Government does not have any inherent advantage over a 
        private lender at managing the risk of a loan and there is no 
        reason to believe that an otherwise identical loan is any more 
        valuable if owned by the Federal Government rather than by a 
        private lender. The profit booked in this example is illusory; 
        it is an artifact of the FCRA accounting treatment. This 
        illusion of profits is the case now with the accounting 
        treatment of FHA guarantees. The FHA books a profit when it 
        guarantees loans to riskier borrowers and on less stringent 
        terms than loans that private sector lenders would be willing 
        to make.
---------------------------------------------------------------------------
     \4\ See, ``Accounting for the Cost of Government Credit 
Assistance'', October 16, 2012 statement of the Financial Economists 
Roundtable. Available on http://fic.wharton.upenn.edu/fic/
Policy%20page/FER%20Statement%202012%2010-16-12%20final.pdf

     Use of the fair value accounting treatment would not reduce the 
        merits of FHA activities in any way. Fair value accounting 
        would simply measure the risks involved more accurately. The 
        CBO assessment of these risks indicates that the 1.9 percent 
        profit rate (that is, the negative 1.9 percent subsidy rate) 
        for FHA loan guarantees calculated under the FCRA accounting 
        treatment is more accurately measured as a 1.5 percent cost (a 
        positive subsidy rate) using fair value accounting. \5\
---------------------------------------------------------------------------
     \5\ See, the May 18, 2011 CBO letter to Representative Paul Ryan 
on ``Accounting for FHA's Single-Family Mortgage Insurance Program on a 
Fair-Value Basis'', Available on http://www.cbo.gov/sites/default/
files/cbofiles/ftpdocs/120xx/doc12054/05-18-fha_letter.pdf

     Opposition to the use of fair value accounting seems to reflect 
        the outcome of a higher cost rate and the concern that 
        assigning a cost rather than a profit to FHA activities would 
        lead to less Government support for the FHA. I do not agree. 
        The activities of the FHA are a vital part of the overall 
        Government support for housing. These activities are so 
        important that they should be undertaken and paid for with a 
        clear recognition of the costs and risks. Use of fair value 
        accounting is not a mechanism by which to reduce the scope of 
        FHA activities, but rather a move toward a transparent 
        understanding of their costs. Indeed, the experience of the 
        past several years illustrates that the risks of FHA activities 
---------------------------------------------------------------------------
        have been consistently underestimated.

     Fair value accounting is used to accurately gauge the costs of 
        Government support for Fannie Mae and Freddie Mac, and a 
        variant of fair value accounting has been used to measure the 
        costs and risks of Government support through the TARP. It is 
        no less important to accurately measure the costs of FHA 
        guarantees.

  5.  Expand indemnification authority so that the FHA can pursue 
        claims against all lenders. The FHA has requested improved 
        indemnification authority along several dimensions, as well as 
        authority to terminate origination and underwriting approval, 
        to change the compare ratio requirement to provide greater 
        flexibility, and authority to transfer servicing. These are 
        useful steps to take. Indeed, the FHA should fully pursue 
        inappropriate actions on the part of originators and servicers. 
        At the same time, it should be recognized that greater 
        indemnification authority is an important step, but not a cure-
        all for the FHA solvency issues, present or future.

     A useful accompanying step on the part of the FHA would be to 
        provide clearer information on the rules and procedures 
        governing underwriting standards and quality control reviews, 
        and on the factors that lead to an indemnification request. The 
        FHA should provide feedback to lenders on an ongoing basis to 
        minimize defects and losses to the FHA and to reduce the risk 
        borne by lenders. Taking these clarifying steps could reduce 
        the use of so-called lending overlays under which originators 
        impose more stringent lending standards than required by the 
        FHA.

  6.  Require increased capital at the FHA and plans to maintain 
        capital levels. The current requirement of a 2 percent capital 
        ratio has proven inadequate, suggesting that reform should 
        increase the capital maintained against losses. This would 
        mirror developments in other parts of the financial sector, 
        where firms such as banks are appropriately being required to 
        maintain increased capital levels. Any time the capital level 
        is projected to dip below the required level, the FHA should be 
        required to provide a plan to Congress on how it will restore 
        the needed capital level. This added accountability of the FHA 
        is important for providing Congress with a mechanism with which 
        to monitor FHA performance.

  7.  Further reduce maximum allowable seller concessions to avoid 
        inflated appraisal values. FHA has taken important steps 
        through administrative actions to address seller concessions. 
        It would be useful to codify these changes in legislation.

  8.  Improve transparency with better information on foreclosure risks 
        and costs. FHA reporting to Congress and the public could 
        usefully provide more detailed information on the factors and 
        combinations of factors that are associated with increased risk 
        of loss for the MMIF. It would be especially useful to 
        establish a program to review the cause of early period 
        delinquencies of FHA-backed loans.

  9.  Make the FHA risk office permanent. This useful innovation should 
        be codified in legislation.

  10.  Impose consequences in the event that the FHA requires a bailout 
        from the Treasury. At the minimum, the necessity of drawing 
        money from the Treasury should trigger an automatic report to 
        Congress with an explanation for the bailout and a plan to 
        avoid future bailouts. More frequent independent actuarial 
        studies of the MMIF should be required when the fund is below 
        its required capital ratio.

    In addition to these steps, Congress should consider other actions 
in the context of FHA reform legislation, including:

  1.  Income tests on FHA borrowers to focus the mission. An income 
        test would ensure that the FHA serves borrowers who most need 
        assistance. It is hard to understand why a family with a high 
        annual income purchasing a home that costs over $700,000 should 
        be eligible for an FHA-backed loan. To be sure, most FHA-backed 
        borrowers are not in this category, but there is no reason for 
        such homebuyers to be eligible in the first place. It is 
        especially worrisome that the FHA views these borrowers as a 
        way to book profits rather than as the diversion of Government 
        resources away from families who truly need assistance to 
        become homeowners.

  2.  Increase the role of private capital and reduced the Government 
        exposure to credit risk. It would be useful to examine 
        possibilities for FHA-backed loans to be made in which there is 
        first-loss private capital ahead of the Government guarantee. 
        This could be at the individual loan level such as by including 
        private mortgage insurance (PMI), or at the level of the 
        mortgage-backed security (MBS). Having private capital ahead of 
        the Government guarantee would protect taxpayers while 
        providing incentives for improved origination quality (since 
        investors will require this to take on the first-loss risk of 
        FHA-backed loans). An additional step to reduce the Government 
        exposure to risk would be for the FHA guarantee to cover less 
        than 100 percent of potential mortgage losses. This is already 
        done by the Veterans Administration (VA) in providing 
        guarantees for mortgages, and VA-backed loans have considerably 
        more favorable performance in terms of fewer delinquencies than 
        FHA-backed loans. This is not surprising since private 
        investors exposed to credit risk in the VA loan program have 
        ``skin in the game'' and thus incentives to focus on careful 
        loan origination.

  3.  Require private capital in a first-loss position ahead of FHA 
        guarantees on multifamily and health-related mortgages. The 
        multifamily divisions of Fannie Mae and Freddie Mac both 
        require private capital ahead of their guarantees, and have 
        considerably better loan performance than for multifamily 
        residential mortgages bundled into commercial mortgage backed 
        securities. This again reflects the beneficial incentives 
        brought about when market participants have their own capital 
        at risk.

  4.  Restrictions on FHA backing for borrowers with recent 
        foreclosures. The FHA might specify that borrowers who have 
        been foreclosed on in the past several years are not eligible 
        for FHA-backed loans.

    Putting these reforms into statute is important for providing 
certainty to borrowers and to all participants in the housing industry. 
The details of each of these ideas should be tested by the Committee 
against careful underwriting analysis.
    An important broad point is that changes in other parts of the 
housing finance system will affect the FHA. The qualified mortgage (QM) 
rule from the Consumer Financial Protection Bureau is likely to lead 
private originators to avoid non-FHA loans with debt-to-income ratios 
above 43 percent. With the FHA still willing to provide a guarantee for 
borrowers with higher debt service burdens, it would be natural to 
expect a migration of risky borrowers to the FHA. This illustrates the 
importance of strengthening underwriting standards at FHA. Careful 
underwriting helps protect taxpayers against risk, but strong 
underwriting standards are also intrinsically proconsumer in that they 
help ensure that borrowers get into homes that they can sustain.
Conclusion
    The solvency challenge facing the FHA requires legislative action. 
Indeed, reform of the FHA is essential to ensure that the FHA remains 
effective at carrying out its mission; to protect taxpayers; and to 
ensure that Government actions do not unduly interfere in the 
allocation of capital by the private sector and thereby detract from 
U.S. economic growth.
    Several years into the economic recovery, the FHA market footprint 
is still enlarged relative to the historical norm and the agency faces 
challenges managing risk. FHA activities are evaluated using an 
accounting framework that understates the potential costs to taxpayers 
from the risks taken on through the FHA guarantees. And the FHA serves 
buyers of homes that are too costly to be plausibly related to the 
mission. It is vital to take immediate steps to stabilize and refocus 
the FHA. These steps should not wait for other developments.
    FHA reform further can be helpful for setting the stage for 
subsequent reforms of the housing finance system, notably including 
reform of the Government-sponsored enterprises (GSEs) of Fannie Mae and 
Freddie Mac. Looking ahead, as the FHA returns to its historical market 
share of 10 to 15 percent, and as the GSEs eventually are reformed, 
this will put in place the conditions for a larger share of mortgage 
financing to be performed without a Government guarantee. To avoid the 
prospect of an immense amount of new lending landing on bank balance 
sheets and making big banks even larger, it will be useful instead to 
have a larger scale restart of private label securitization. It would 
be useful in this regard for the Committee to examine the impediments 
to nonguaranteed securitization.
    It is important to move forward immediately with FHA reform, but 
not to stop there. Over time, reforms of the U.S. housing finance 
system are needed to best serve American families, to protect 
taxpayers, and to once again make it possible for the housing sector to 
make a strong and sustained contribution to U.S. economic growth and 
job creation.
                                 ______
                                 
               PREPARED STATEMENT OF SARAH ROSEN WARTELL
                       President, Urban Institute
                           February 28, 2013
Introduction
    Chairman Johnson, Ranking Member Crapo, and Members of the 
Committee, I thank you for the opportunity to testify today about the 
Federal Housing Administration's (FHA) current financial condition and 
the challenges that the agency faces in the aftermath of the housing 
crisis.*
    I am Sarah Rosen Wartell, president of the Urban Institute. For 20 
years, I have worked on housing finance policy issues. I began my 
career in public policy with a 5-year stint as an official at FHA, 
advising FHA Commissioner Nicolas Retsinas and HUD Secretary Henry 
Cisneros on housing finance, mortgage markets, and consumer protection. 
I held a variety of positions at FHA including deputy assistant 
secretary for operations and associate general deputy assistant 
secretary for housing, and I helped develop a 1995 proposal (never 
adopted by Congress) to transform FHA into ``a results-oriented, 
financially accountable [Government corporation known as the Federal 
Housing Corporation that would] utilize the strengths of private market 
partners to expand home ownership opportunities, . . . [while 
continuing] to serve the needs of working families who require low-
downpayment loans, and residents in central cities, older 
neighborhoods, and other underserved markets, and develop more 
affordable rental housing.'' \1\
---------------------------------------------------------------------------
      * Sarah Rosen Wartell is the president of the Urban Institute. 
She is indebted to Ed Golding, Sharon Carney, Taz George, Brian 
Chappelle, and Ellen Seidman for their assistance in preparing this 
testimony and Mark Willis and other participants in a roundtable on the 
future of FHA for helping to shape some of the concepts described 
herein. The views expressed, however, are solely her own and should not 
be attributed to the Institute, its employees, or any other person or 
organization with which she is affiliated.
     \1\ ``Reinvention'', by Henry Cisneros, June 29, 1995, available 
at http://archives.hud.gov/remarks/cisneros/whyhud/reinvent.cfm.
---------------------------------------------------------------------------
    After HUD and my subsequent tenure as deputy assistant to the 
president at the National Economic Council in the White House, I served 
as a consultant to the bipartisan Millennial Housing Commission, where 
I wrote about how FHA faced management weaknesses and growing risk with 
inadequate risk management tools. I proposed single-family risk-sharing 
as one potential strategy to help FHA protect taxpayers while serving 
its mission more effectively. \2\ Later, in 2007, at the Center for 
American Progress, I convened the Mortgage Finance Working Group, a 
cross-sector coalition of individuals working to understand and develop 
policy responses to the emerging mortgage market crisis. Now, at the 
Urban Institute, I am responsible for leading an organization that 
provides research and analysis on a wide array of issues, from tax 
policy to community development to health care and more. The Institute 
is working to launch a new research initiative with the capacity to 
provide data and independent analysis to inform policy makers on 
housing finance questions.
---------------------------------------------------------------------------
     \2\ Sarah Rosen Wartell, ``Single-Family Risksharing: An 
Evaluation of Its Potential as a Tool for FHA'', June 2002, available 
at http://govinfo.library.unt.edu/mhc/papers.html.
---------------------------------------------------------------------------
    This testimony describes the role that FHA has played historically 
and during the most recent financial and housing market crises. As the 
Committee requested, I also look at the origin of losses expected from 
the FHA insurance portfolio. In short, these losses stem in part from 
specific products that proved costly and FHA's difficulty in quickly 
identifying and shutting down problematic originators and 
underperforming servicers; however, these losses stem in larger part 
from rapidly falling home values amidst a foreclosure crisis and job 
losses arising from the deepest recession in many, many decades.
    In short, many of these costs are inevitable--the result of FHA 
playing an indispensable countercyclical role, without which losses to 
the U.S. economy, U.S. homeowners, and U.S. taxpayers through the 
conservatorship of Fannie Mae and Freddie Mac would have been far 
greater. But some of these costs might have been avoided if FHA had 
more analytic capacity and additional tools and authorities to act 
nimbly to manage, price, and mitigate risk.
    Looking forward, the Fund's capital reserve must be replenished. 
And FHA's role can be more targeted to supporting lower-wealth, 
moderate-income families through the reduction of loan limits. Congress 
also can enhance FHA's capacity to act quickly to reduce the level of 
defaults and the severity of losses. I will describe some of the steps 
that could be taken that would give FHA officials the ability to act 
quickly to make programmatic changes that would reduce losses. These 
steps offer good prospects for further reducing risks to the Fund and 
protecting taxpayers now and in the future.
    At the same time, I caution against extreme measures that would 
prevent FHA from serving its core missions: (1) providing the critical 
countercyclical backstop necessary to break a vicious cycle of housing 
market decline and the accompanying flight of private capital; and (2) 
ensuring access to credit for creditworthy borrowers who have limited 
private-market options. And I argue that we cannot answer some critical 
questions about FHA's role in a vacuum without understanding the shape 
of the mortgage finance system after the conservatorship of Fannie Mae 
and Freddie Mac comes to an end and the Government's role in the 
conforming market is scaled back.
The Historic and Recent Role of FHA
    FHA has played a critical role over the years in promoting 
sustainable home ownership. Before the creation of FHA, families put 
off home ownership until they had accumulated sufficient wealth to buy 
a house outright or to borrow just a small fraction of the funds. 
Balloon payments were typical, so interest rate shifts could mean the 
inability to refinance and the loss of a home. As a result, home 
ownership, with its many positive societal benefits, was delayed and 
often never realized.
    At the time FHA was created in 1934, the home ownership rate stood 
at approximately 46 percent. FHA demonstrated that, with proper 
underwriting and due care not to layer risk, those with very little 
wealth but steady employment could responsibly borrow money to purchase 
a house. FHA pioneered the long-term, self-amortizing, low-downpayment 
mortgage that allowed millions of American families to afford home 
ownership. Partially as a result of FHA, home ownership rose to almost 
63 percent by 1970.
    The research literature shows that home ownership correlates with 
improved outcomes for children, reduced crime, and higher civic 
participation. Home ownership is still the primary form of wealth 
creation for middle-class families. For families in the middle income 
quintile, approximately half of net worth is from housing equity. \3\ 
Families that delay home ownership by 10 years will have, on average, 
$42,000 less in net assets at retirement. \4\ At the same time, of 
course, foreclosure is adversely correlated with surrounding home 
values and outcomes for children and crime. \5\ \6\ In other words, 
sustainable home ownership has positive benefits, but indiscriminate 
home ownership does families and society no favors. The goal must be a 
balanced policy offering affordable and family friendly rental housing 
options along with ``home ownership done right'' for those ready and 
eager to sustain a mortgage.
---------------------------------------------------------------------------
     \3\ Mauricio Soto, ``Family Net Worth before the Recession'', The 
Urban Institute, March 2010, available at www.urban.org/publications/
412078.html.
     \4\ Roya Wolverson, ``Rent Nation'', TIME, September 24, 2012, p. 
52 (citing Signe-Mary McKernan, whose calculations are based on Gordon 
B.T. Mermin, Sheila R. Zedlewski, and Desmond J. Toohey, ``Diversity in 
Retirement Wealth Accumulation'', The Urban Institute, December 2008, 
available at www.urban.org/UploadededPDF/411805).
     \5\ ``Do Foreclosures Cause Crime?'' Furman Center for Real Estate 
& Urban Policy, February 2013.
     \6\ Atif Mian, Amir Sufi, and Francesco Trebbi, ``Foreclosures, 
House Prices, and the Real Economy'', National Bureau of Economic 
Research working paper, May 2012.
---------------------------------------------------------------------------
    While FHA mortgages total roughly $1 trillion of the $10 trillion 
mortgage debt outstanding, or approximately 10 percent of the market by 
dollar, the program plays a disproportionate role among first-time 
homebuyers. Historically, FHA served approximately half of first-time 
homebuyers. Recently, it has been closer to three-quarters. \7\
---------------------------------------------------------------------------
     \7\ Edward Szymanoski, William Reeder, Padmasini Raman, and John 
Comeau, ``The FHA Single-Family Insurance Program: Performing a Needed 
Role in the Housing Finance Market'', U.S. Department of Housing and 
Urban Development working paper, December 2012.
---------------------------------------------------------------------------
    In addition to supporting first-time homebuyers, FHA serves markets 
that have historically been either underserved or poorly served by 
private markets. The availability of refinancing and the ability to 
``trade up'' and purchase subsequent homes are important ways in which 
limited wealth is acquired in minority and underserved communities. In 
2010, FHA-insured mortgages accounted for nearly 60 percent of all 
originations among African American and Hispanic households, compared 
to 33 percent among all white households. Similarly, FHA-insured 
mortgages are more likely to be in communities with below-median 
income. \8\ When the private sector serves these markets, it has often 
been with subprime mortgages with default rates significantly higher 
than those of FHA-insured mortgages; these mortgages have led to loss 
of homes at an alarming rate.
---------------------------------------------------------------------------
     \8\ Ibid.
---------------------------------------------------------------------------
    This point is worth emphasizing: while FHA defaults are too high 
right now, its default rates are still well below the subprime lending 
originated in the last decade principally with private-label 
securitization. (See, Figure 1.) Thus, when FHA serves communities of 
color and minority homebuyers, the outcomes have typically been better 
than when the private market did so without Government support. To be 
clear, I am not saying that the performance is good enough. 
Unfortunately, at times realtors and others steered borrowers to FHA-
insured mortgages and originated loans with too little focus on 
capacity to repay, with adverse implications for not only the 
individual borrowers, but the communities as well. We must continue to 
strive to improve the performance of FHA lending, for the benefit of 
the homeowners, their communities, and the taxpayers. But we also must 
recognize that--absent FHA--availability of credit, homeowner equity, 
and community stability in many underserved communities would be even 
more limited.
Figure 1


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]




    FHA's role as a provider of credit to minority and underserved 
borrowers could prove especially important given changing demographics, 
unless the private market proves more adept at serving these 
homebuyers. The housing market will be ever more diverse, with 
minorities expected to make up 70 percent of new net households over 
the decade. \9\
---------------------------------------------------------------------------
     \9\ Alejandro Becerra, ``The 2011 State of Hispanic Home Ownership 
Report'', National Association of Hispanic Real Estate Professionals, 
March 2012.
---------------------------------------------------------------------------
    In addition to promoting home ownership, FHA plays a critical role 
as a countercyclical force in the housing market and economy. Figure 2, 
which plots FHA's market share and GDP growth, demonstrates starkly 
this countercyclical role. When credit markets are booming and credit 
spreads are low, FHA's market share naturally shrinks. The funding 
advantage that FHA/GNMA has over the private market is much lower 
during good times. Furthermore, the administrative challenges of FHA 
lending are a disincentive to lender participation when there is ample 
private credit available.
Figure 2


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]




    During times of economic stress, however, private credit providers 
pull back as they eschew risk, and the share of FHA-insured lending 
grows. Then, as markets normalize and private lenders begin taking more 
risk and seeking greater returns, FHA market share falls again. As the 
recession moves further into the past, the FHA share will likely 
continue to fall. In the 1990s and early 2000s, FHA share typically 
ranged between 10 and 15 percent, but it fell to less than 5 percent in 
the years immediately preceding the crash. As of mid-2012, the share 
has settled back to around 15 percent. \10\ Note that FHA policies tend 
to be relatively stable; it is the private sector that is either 
accelerating or decelerating.
---------------------------------------------------------------------------
     \10\ Ibid.
---------------------------------------------------------------------------
    Given the extent of the hardship Americans have endured in recent 
years, it is difficult to imagine that the economic downturn could have 
been more severe if not for the stabilizing role that FHA played. 
Consider a homeowner who finds her income limited and can no longer 
afford her mortgage, or needs to move to another part of the country to 
find work or care for a relative. If credit continues to flow, other 
purchasers can buy the home, allowing the homeowner to recapture her 
equity and/or downsize without destroying her credit. But if lending to 
all but borrowers with pristine credits and high downpayments 
disappears, the homebuyer cannot sell and the value of the home 
declines precipitously, leaving others in the neighborhood with lost 
equity. This outcome creates ripple effects throughout the community, 
ultimately affecting consumption and employment.
    Economist Mark Zandi of Moody's estimates that, absent FHA-insured 
lending, home values might have fallen another 25 percent, resulting in 
3 million more job losses and a reduction of economic output of $500 
billion. \11\ By this estimate, the value of the housing stock would 
have fallen in total by half, not the third that it did fall.
---------------------------------------------------------------------------
     \11\ Jesse Eisenger, ``New Target in Finger-Pointing Over Housing 
Bubble'', New York Times, January 9, 2013. http://dealbook.nytimes.com/
2013/01/09/new-target-in-finger-pointing-over-housing-bubble/
---------------------------------------------------------------------------
    In addition to serving an indispensable countercyclical role for 
the housing market in times of crisis, FHA played on important part 
historically in standard setting and testing new underwriting. Before 
the creation of FHA, mortgages were relatively short-term loans with 
the principal due at the end of the term. FHA introduced the idea of a 
self-amortizing long-term mortgage. FHA mortgages initially had a 20-
year term. Now 15-year and 30-year products are standard for both FHA 
and the market. More recently, FHA has worked to set standards around 
reverse mortgages. Going forward, as we gain insight on how credit 
counseling can reduce mortgage risk, how alternative credit histories 
like rent and utility payments help predict loan performance, and how 
the availability of reserves and repair escrows improve loan 
performance, FHA could again play a role in piloting new prudent 
underwriting standards to gain sufficient evidence under various 
conditions to attract private capital to measure and price the risk 
appropriately.
    FHA-insured mortgages, along with mortgages backed by the Veterans 
Administration (VA) and the Rural Housing Service (RHS), form the basis 
of GNMA mortgage-backed securities (MBS). These securities are valued 
by the capital markets for their liquidity--that is, the ability to 
trade large volumes at a market price at low transaction costs. This 
liquidity is the product of the full faith and credit guarantee, the 
standardization of product, and the scale or size of the market. The 
result is a market with low transaction costs and transparent prices. 
This liquidity benefits not only the investor, but also the borrower 
through lower mortgage rates. One study suggested that interest rates 
fell by more than 50 basis points when GNMA securitization was 
introduced in the 1970s. \12\
---------------------------------------------------------------------------
     \12\ Deborah G. Black, Kenneth D. Garbade, and William L. Silber, 
``The Impact of the GNMA Pass-Through Program on FHA Mortgage Costs'', 
Papers and Proceedings of the Thirty-Ninth Annual Meeting of the 
American Finance Association 36, No. 2 (May 1981): 457-69.
---------------------------------------------------------------------------
    The above discussion focused on FHA's role in the single-family 
mortgage market. FHA also plays a valuable role in the multifamily 
finance market. In this market, as well, FHA provides a countercyclical 
role, helps preserve housing units as affordable, and finances parts of 
the market that tend to be underserved, such as financing for 
apartments for low-income households.
Current State of FHA's MMI Fund
    The important roles that FHA plays in the housing market and the 
larger economy described above entails taking risk. FHA tries to price 
for that risk accurately to absorb costs under most likely 
circumstances but, like most housing market participants, it rarely 
gets it just right.
    Like most insurance, during good times, the excess of premiums 
collected over the cost of claims builds up in the FHA fund, creating a 
capital reserve. But, low downpayment mortgages will experience 
elevated defaults when house prices fall and unemployment rises. Given 
that we have seen the worst housing downturn since the Great 
Depression, we should not be surprised to see that defaults increased 
and the MMI Fund experienced significant outflows.
    A few observations:

    The countercyclical nature of the FHA has helped. During 
        most of the worst origination years in the market 2005 through 
        2008, FHA had relatively low volumes. Thus, although the 
        performance of those books was poor, as it proved to be for 
        most market participants, the absolute size of the losses was 
        less than it would have been if the poor performing books of 
        business were above average in size.

    The greatest net cost to the FHA Fund was at the pivot 
        point--when private capital was fleeing the market and 
        originators accustomed to generating lower-quality product 
        looked for new outlets. Too much of that weak product ended up 
        in FHA's portfolio before FHA could tighten its own standards. 
        According to HUD reports, the worst years were 2007 and 2008:

        The (single-family) books-of-business insured prior to 2010 are 
        expected to generate large losses for the MMI Fund. The peak 
        book for losses per-dollar of insured loans is 2007, the year 
        that also has experienced the greatest total decline in home 
        values. When that book is finally closed, its total cost is 
        expected to exceed 11.3 percent of the initial dollar volume of 
        loans insured. Though the 2008 book has a lower loss-per-dollar 
        (7.7 percent), that book was three times as large as 2007, and 
        therefore, has expected dollar losses that are more than twice 
        those of 2007 book ($13.2 billion versus $6.4 billion). \13\
---------------------------------------------------------------------------
     \13\ U.S. Department of Housing and Urban Development,`` Annual 
Report to Congress Regarding the Financial Status of the FHA Mutual 
Mortgage Insurance Fund'', Fiscal Year 2012, November 16, 2012, at 42-
43.

    As standards tightened across the industry and FHA 
        tightened its own rules, while private lender competition for 
        high-quality credit borrowers disappeared, the credit quality 
        in FHA's book of business grew tremendously. So newer books of 
        business start to have net economic value for FHA, allowing it 
        to begin to rebuild its capital. By 2010, early defaults had 
        dropped dramatically and premium income had grown, leaving 
        actuaries to predict that the economic value of the post-2009 
        books of business would speed the replenishment of the FHA 
---------------------------------------------------------------------------
        fund.

    This phenomenon is typical of many insurance markets: the 
        new books following the collapse are replenishing the fund. 
        This diversification across time is an important element of 
        insurance markets where there is high correlation of outcomes 
        within the pool, such as property and casualty insurance. As 
        former FHA Commissioner John Weicher, now of the Hudson 
        Institute, tells the story, this pattern is very similar to 
        that which FHA experienced in 1980 to 1982. \14\
---------------------------------------------------------------------------
     \14\ Presentation by John Weicher at the American Enterprise 
Institute, January 24, 2013, available at http://www.aei.org/files/
2013/01/24/-john-weicher-fha-presentation_110740723232.pdf.

    The increase in loan limits mandated by Congress also 
        appears to have helped FHA to replenish the Fund. At a time 
        when private capital and the GSEs were accepting only pristine 
        credit with high downpayments, higher LTV larger dollar loans 
        for FHA appear to have strengthened the performance of the 
        Fund. \15\ As economic times improve and private capital 
        returns, however, these non- mission-related, high-dollar 
        insured loans should no longer flow into FHA's portfolio where 
        they inflate the total amount of insurance exposure of the 
        taxpayers, regardless of the economic value of those books of 
        business.
---------------------------------------------------------------------------
     \15\ U.S. Department of Housing and Urban Development, slidedeck 
on ``Annual Report to Congress, Fiscal Year 2012 Financial Status FHA 
Mutual Mortgage Insurance Fund'', November 16, 2012, available at 
http://portal.hud.gov/hudportal/documents/
huddoc?id=111912FHAActRevPolResp.pdf.

    We learn (or relearn) from these periods that certain 
        products and practices disproportionately contribute to loss. 
        In general, reduced documentation, an abundance of second 
---------------------------------------------------------------------------
        mortgages, and lax appraisals increase losses.

    In the case of FHA, seller-funded downpayment assistance 
        (SFDPA) and other seller contributions had much the same effect 
        as second mortgages, which, along with lax appraisals, 
        increased defaults in the program. For example, cumulative to 
        date claim rates on the 2005 originations are over 20 percent 
        when there was assistance from nonprofits compared to a rate of 
        9 percent when there was no assistance. \16\ The Actuary 
        estimated that SFDPA loans reduced the economic net worth of 
        the MMI Fund by $15 billion. If FHA had never insured any SFDPA 
        loans, the last actuarial report would have still shown a 
        positive economic value for the Fund.
---------------------------------------------------------------------------
     \16\ Ibid.

    The Home Equity Conversion Mortgage (HECM) program--the FHA 
        program that first pioneered the reverse mortgage--has proven 
        to be another major source of loss for FHA. When Ginnie Mae 
        designed a securitization vehicle for HECMs in 2008, the 
        product took off, with many lenders originating loans that 
        allowed borrowers to take large cash amounts out of home value 
        at one time, leaving them with limited resources to pay 
        property taxes and other ongoing expenses. A well designed HECM 
        converts home equity into an annuity at reasonable rates for 
        living expenses. Performance of HECMs is especially vulnerable 
        to home value fluctuations. FHA has tightened these standards 
        significantly, but its authority to make changes is limited, 
        and the slow pace of the rulemaking process necessary to return 
        the program to its intended purpose has left the door wide open 
        with FHA continuing to incur losses as program changes make 
---------------------------------------------------------------------------
        their way through the regulatory process.

    Three primary strategies exist to mitigate or manage mortgage risk 
and protect the taxpayer. They are (1) improving underwriting and 
quality control; (2) expanding loss mitigation efforts; and (3) 
adjusting mortgage insurance pricing and increasing revenue. FHA has 
taken steps in each of these areas and must continue to press forward 
with this agenda. Steps taken by FHA include:

  1.  Improving underwriting and quality control: In 2010, FHA 
        eliminated seller-funded downpayment assistance loans. It also 
        imposed a 90 percent LTV limit for borrowers with FICO scores 
        below 580, thereby increasing required downpayments to avoid 
        the most severe risk layering. They also improved lender and 
        servicer performance standards through the development of a 
        uniform seller-servicer contract. And FHA put in place 
        ``Neighborhood Watch''--an early warning system that, by 
        comparing delinquency data for originators against others, 
        allows them to identify and take action to bar from the program 
        those lenders who are producing a disproportionate share of 
        early defaulting loans. FHA seeks greater authority to see 
        indemnification from many lenders as well.

  2.  Expanding loss mitigation: While the housing market is rebounding 
        (it was reported this week that the Case-Shiller national 
        composite house price index increased 7.3 percent for 2012), 
        delinquencies will remain elevated for several more years with 
        employment and wage growth weak and many homes still 
        underwater. Thus, it is important for FHA to work aggressively 
        to avoid claims and reduce the size of those that cannot be 
        avoided. Loss mitigation is especially important in communities 
        with a high concentration of delinquent loans because the 
        spillover effects of foreclosures producing further house price 
        declines will hit the Fund doubly hard. FHA has stepped up its 
        loss mitigation efforts. It changed REO disposition processes, 
        revised modification treatment to address better delinquent 
        loans, and has created an alternative resolution process for 
        negative-recovery loans. FHA also has made a major effort to 
        sell defaulted notes to servicers who may be able to avoid 
        foreclosures or get better recoveries, thus reducing losses to 
        the Fund. It also started the Claim Without Conveyance program 
        so that a lender, rather than foreclose and convey a property 
        to FHA in order to submit an insurance claim, can sell the 
        property directly and submit a claim to FHA without FHA ever 
        taking title to the home. These practices allow FHA to take 
        advantage of the superior ability of private servicers to 
        manage REO efficiently and improve recoveries.

  3.  Adjusting mortgage insurance pricing and increasing revenue: HUD 
        has raised fees in order to increase revenue and strengthen the 
        economic value of the MMI Fund. Since 2009, it has increased 
        the Mortgage Interest Premium four times. The Actuary estimates 
        these changes produced more than $10 billion in additional 
        economic value for the Fund. \17\ There are limits, of course, 
        to how much premiums can and should be increased to recover 
        costs incurred from earlier books of business. There is an 
        inherent unfairness to making current home purchasers pay too 
        much more because insurance was underpriced in an earlier era. 
        However, at a time of record low interest rates and still-
        limited competition from the private sector to serve most FHA 
        borrowers, the market can bear higher prices without FHA being 
        adversely selected.
---------------------------------------------------------------------------
     \17\ Ibid.

    While more can and needs to be done, much progress has already been 
made in addressing some of the remediable sources of recent losses.
New Tools for FHA To Act Quickly To Manage and Mitigate Risk
    A key pattern emerges from looking at FHA's recent performance. 
When FHA incurred losses that it might have avoided--that is, those 
losses which were not fundamental to FHA's countercyclical role or the 
inevitable consequence of calamitous economic and housing market 
conditions--the losses stemmed from the slow pace of change at FHA and 
the ways in which a Government agency cannot typically act as quickly 
as a private company can to protect itself against risk.
    Think about the steps taken by the capital market investors to 
reduce their exposure to mortgages quickly as the market meltdown 
began. Think about how financial institutions tightened underwriting 
standards virtually overnight and dropped products that were proving to 
be expensive as soon as the costs were understood. Officials at a wide 
range of institutions exposed to mortgage credit risk, even at the 
GSEs, were able to comparatively quickly take steps to stop the 
bleeding. But not so at FHA.
    For example, FHA officials have been asking Congress for 
legislative changes to reduce losses in key programs since 2010. If 
some of those provisions had been adopted sooner, some fraction of 
taxpayer losses would have been avoided. For example, Commissioner 
Galante testified 2 weeks ago before that House that, 3 years later, 
HUD is still awaiting authority to seek indemnification from direct 
endorsement lenders and the ability to quickly terminate a lender's 
ability to originate FHA insured loans.
    Similarly, HUD has made far too little progress in implementing 
changes to the HECM program to better serve its intended purpose 
because they must complete an extremely slow and cumbersome rulemaking 
process. In general, in rulemakings about tightening criteria for FHA 
loan programs, there is little constituency for protecting the taxpayer 
from losses and enormous energy invested in the status quo from program 
participants. An eerily similar tale can be told about the seller-
funded downpayment assistance loan program.
    I do not wish to point fingers at Congress. These are extremely 
technical underwriting, loss mitigation, and pricing decisions that, to 
my mind, do not lend themselves well to legislative deliberation. 
Congress should provide a statutory framework, set appropriate goals 
and tolerance for risk, and provide effective oversight. My proposal 
would leave these essential legislative functions in Congress' hands.

    ``Risk management emergency powers: emergency authority to 
        suspend issuing insurance under risky terms and conditions.'' I 
        propose a way to respond to this problem, create greater 
        transparency, and ensure opportunity for effective 
        congressional oversight. Congress should give the HUD secretary 
        special emergency powers to suspend FHA insurance programs or 
        make emergency modifications to the program when the secretary 
        finds that continuation under current program terms exposes the 
        taxpayers to ``elevated risk of loss'' and ``fails to serve the 
        public interest.'' Any such emergency action to terminate 
        insurance would need to be accompanied by analyses of (1) the 
        potential cost savings to the FHA Fund and the taxpayer risk 
        that would be avoided; and (2) whether the program objectives 
        established by Congress would be furthered or harmed by 
        temporarily suspending insurance until program terms and 
        conditions can be altered. The emergency authority proposed 
        here would be time limited, requiring the HUD secretary to 
        complete all appropriate administrative procedures to make the 
        change permanent (or seek congressional authorization if a 
        statutory mandate was involved). Congress could at any time 
        vote to disapprove the use of the emergency powers by the 
        secretary if they felt the risk was not properly assessed or 
        the change was not necessary to meet public ends.

    FHA has also faced difficulty in establishing early warning risk 
indicators and in taking steps quickly to stop specific originators 
from continuing to add loans to FHA's insurance portfolio which are 
markedly more likely than others to end in default. Commissioner 
Galante testified 2 weeks ago that HUD sought changes to the ``statute 
governing the Credit Watch Termination Initiative to provide greater 
flexibility in establishing the metric by which FHA compares lender 
performance.'' Specifically, the secretary seeks to compare early 
defaults and claims by a range of factors including geography, 
underwriting, or populations served.
    To my mind, the HUD secretary's request of Congress is too timid. 
It is in the public interest to empower the HUD secretary, who is 
overseeing a trillion dollars of taxpayer risk exposure, to use any 
early warning indicator that evidence suggests is predictive of losses, 
provided that its use does not discriminate or otherwise violate the 
law. When HUD officials know that taxpayers are being exposed to undue 
risk, it shocks the conscience to say that they must continue to accept 
such loans for insurance pending administrative procedures and 
overcoming burdens of proof. We should want FHA staff to be able to 
continuously refine its early warning indicators, be transparent about 
the risks that it is seeing, and take steps quickly to adopt new tools 
as they become available.
    I do understand that the implementation of the FHA Compare Ratio, 
like any other early warning indicator, will potentially have 
unintended consequences that do not serve the public's interest. But it 
seems to me appropriate to shift the burden of proof, so that it is 
easier to protect taxpayers against risk and harder to continue to 
originate questionable loans for the FHA insurance portfolio.

    Early warning risk indicators. Congress should give the HUD 
        secretary the authority to establish appropriate risk 
        indicators on an ongoing basis and to use these indicators to 
        limit access to participation in FHA insurance programs where 
        these indicators suggest a lender, servicer, or other program 
        participant is more likely to exposure the taxpayers to risk. 
        When program participants can overcome a burden of proof that 
        they do not pose undue risk or that a better indicator is 
        available, then FHA's decisions can be subject to scrutiny. But 
        the goal should be to give the taxpayers--not program 
        participants--the benefit of the doubt.

    Another concern is that FHA tends to adopt new programs or program 
changes for its entire portfolio. There are exceptions, of course. FHA 
did begin to pilot note sales before expanding the program. But too 
often, unlike private-market participants that will try out a new 
business practice or insure a small portfolio and test performance 
before applying a strategy to the whole business, the statutory and 
regulatory environment for FHA leads to ``all or nothing'' policy 
changes. The length of the administrative procedures required also 
leads to full implementation rather than testing, because an 
evolutionary or phased change strategy would require iterative 
regulatory changes and sap so much administrative energy. These 
practices inherently increase risks to the Fund because new policies go 
into effect without enough evidence of their likely impact.

    Risk reduction pilots--authority to pilot new policies to 
        test their costs and benefits before implementation. Congress 
        should give FHA express authority to implement pilot programs 
        quickly where the goal it so better understand, measure, and 
        mitigate risk. Full implementation would follow normal 
        administrative procedures. So, for example, FHA could test 
        whether a new alternative underwriting standard (e.g., 
        incentives for prepurchase counseling), or loss mitigation 
        procedures, or REO disposition approach can achieve program 
        objectives in a cost-effective manner.

    Finally, an ongoing concern is whether FHA has the systems, 
technology, and analytical prowess to reengineer business practices to 
reduce risk, to understand emerging risks in their portfolio before it 
is too late, and so on. Giving the HUD secretary authority to hire for 
risk management, analytic, and technological systems staff on a more 
generous pay scale could close some of the gap between private-market 
participants and those charged with protecting the taxpayer from 
economic harm. Bank regulators are compensated slightly better than 
other Government officials so that the agencies can attract the talent 
with financial knowledge and analytic skills for effective financial 
regulation. And regulators can use funds assessed on those they 
regulate to support the operations, systems, and other needs of the 
agency to protect taxpayers from losses from insured depository 
institutions.

    Allow FHA to hire for select positions at elevated 
        compensation levels to ensure that FHA can attract appropriate 
        insurance, financial, and risk management skills. Also provide 
        FHA with the ability to use insurance premiums for systems and 
        analytical model acquisition to strengthen their capacity to 
        mitigate risk.
Summary
    Mr. Chairman, Senator Crapo, and Members of the Committee, it is 
clear that the health of FHA's MMI Fund has suffered because of losses 
resulting in part from problematic products and processes. Of course, 
rapidly falling house values due to a persistent economic recession and 
deep foreclosure crisis were the driving factor. Many of these losses 
were inevitable--and many result from FHA's critical role of ensuring 
credit flow and availability, which is particularly relevant during 
recessionary periods. However, it is also clear that better analytic 
capacity and management tools and the capacity to move more quickly to 
protect the taxpayer from losses could improve FHA's ability to manage, 
price, and mitigate risk and to, ultimately, protect the Fund.
    FHA has taken important steps to stem losses where avoidable in 
outstanding books of business and to prevent insuring higher-risk loans 
going forward. They seek additional important authorities that would 
further strengthen the Fund. But those steps, to my mind, do not seem 
to fundamentally change the capacity of FHA to act quickly in the 
taxpayer's interest. Clear goals established by Congress, greater data 
transparency, and more authority to respond rapidly to changing 
conditions and new insights, to manage and mitigate risk, would go a 
long way to strengthening the Fund going forward and ensure that FHA 
does not again become so perilously close to requiring taxpayer 
support.
    FHA's place in the housing finance system in the long term will 
depend on how policy makers resolve questions about the shape of the 
housing finance market and whether a limited, priced and paid for 
Government guarantee of high-quality mortgage-backed securities is 
available in a reformed system, after the demise of Fannie Mae and 
Freddie Mac in their current form. We must not take steps now, absent 
those larger discussions, that would make it impossible for FHA to 
continue to play its indispensible countercyclical role and its ever-
important mission of ensuring credit is available to worthy borrowers 
who have limited options in the private market. But we can seize this 
opportunity to strengthen FHA's risk management capacities immediately. 
For whatever role is assigned to FHA in the long term, we all will be 
better served if they have the capacity to manage better the risk they 
take on in fulfilling that mission.
    Thank you.
                                 ______
                                 
              PREPARED STATEMENT OF TERESA BRYCE BAZEMORE
                    President, Radian Guaranty, Inc.
                           February 28, 2013
Introduction
    I am Teresa Bryce Bazemore, President of Radian Guaranty, Inc., a 
leading private mortgage (MI) insurance company. I am testifying today 
at the request of the Committee to discuss the mission and financial 
health of the Federal Housing Administration's (FHA) single family 
insurance program. In my testimony, I will address some of the key 
questions concerning the mortgage crisis and its impact on both FHA and 
the private MI industry and, as requested, suggest ways in which the 
FHA program can be improved.
    Private MI is the private sector alternative to loans insured by 
FHA. Private MI, like FHA, helps qualified low downpayment borrowers to 
obtain an affordable mortgage. Both FHA and private mortgage insurers 
play an important role in making home ownership affordable and possible 
for millions of Americans.
    FHA has been and remains a valuable part of the housing finance 
system. In the past few years, however, FHA has overtaken the mortgage 
insurance market due to increased loan limits, inadequately priced FHA 
premiums, and permissive FHA underwriting. The recent crisis has 
identified areas where FHA should improve its internal controls to 
ensure its continued ability to meet its mission without taxpayer cost. 
FHA has recently taken modest steps to scale back to its historical 
mission of supporting underserved borrowers, including modestly 
increasing premiums and strengthening underwriting requirements. These 
actions are positive steps in the right direction to improve FHA's 
financial condition and reduce taxpayer exposure; however, additional 
reforms, which I discuss in this testimony, are necessary.
    It is also important to be mindful about other actions, such as 
increasing Fannie Mae and Freddie Mac (GSE) guarantee fees or imposing 
additional GSE ``loan level price adjustments'' (LLPAs), that make 
privately insured loans purchased by the GSEs more expensive than 
Government-backed FHA loans and steer borrowers to FHA instead of 
bringing more private sector capital into the housing market.
    Additionally some regulatory proposals, like the proposed risk 
retention and Basel III rules, would provide FHA with a competitive 
advantage over private MI, and therefore, would tilt the playing field 
toward FHA loans and Government insurance and away from private MI.
    Ultimately, housing policies should work to scale back FHA to its 
traditional mission of supporting underserved borrowers, while enabling 
private MI, with its reliance on private capital, to be used by 
borrowers in the conventional market.
The Role of Private MI
    The private MI industry was founded in 1957 and since then has 
helped over 25 million low and moderate income people become homeowners 
by enabling them to buy affordable homes with small downpayments. 
Today, about $900 billion in mortgage loans are currently insured by 
private MI.
    Private MI has played an important role in providing first-time 
homebuyers with access to mortgage financing. Private mortgage insurers 
share this important role with FHA. The most recent National 
Association of Realtors (NAR) report on borrower profiles notes that 46 
percent of first-time buyers had FHA financing while 33 percent 
obtained conventional financing. The GSEs are the key providers of 
conventional financing today, and private MIs are the GSEs' key 
providers of credit enhancement.
    When a borrower places less than 20 percent down to purchase a 
home, the lender is required to obtain private MI in order for that 
loan to be eligible to be subsequently sold to the GSEs. Lenders are 
willing to make low downpayment loans, and the GSEs are willing to 
purchase them, because in the event of a homeowner's default on the 
mortgage, the private MI company pays the owner of the loan a specified 
amount of the unpaid mortgage. More specifically, the combination of 
the private MI coverage and the borrower's downpayment will typically 
cover 25-35 percent of the loan amount--meaning lenders and investors 
are at risk for only the remaining 65-75 percent of the loan amount. 
For example, if a borrower provides a downpayment of 5 percent, a 
lender will typically require MI coverage sufficient to cover 30 
percent of the loan amount such that the downpayment combined with the 
MI cover approximately 35 percent of the loan amount, leaving lenders 
and investors at risk for only 65 percent of the loan amount.
    This practice of requiring private MI in an amount that is 25-35 
percent of the loan reflects the GSEs' prudent determination that this 
amount of coverage has historically been necessary to cover costs 
associated with defaulted loans (interest charges during the delinquent 
period and during foreclosure, legal fees, home maintenance and repair 
costs, real estate brokers' fees, and closing costs) and any losses 
resulting from reselling the property for less than the outstanding 
mortgage loan balance.
    Because the GSEs are now in conservatorship, once the loans are 
purchased by the GSEs, the Government--taxpayers--is now responsible 
for losses that result when borrowers default on those loans that are 
in excess of the amount covered by private MI. In other words, the 
claims paid by private mortgage insurers are used to reduce losses that 
would otherwise be paid by the taxpayer.
    Indeed, over the past 4 years, private mortgage insurers have paid 
approximately $34 billion in claims resulting from foreclosure losses 
to the GSEs that would have otherwise been paid by taxpayers. Moreover, 
private mortgage insurers are projected to pay approximately $50 
billion in total to cover losses from the recent, unprecedented housing 
downturn.
    Importantly, placing the MI company's private capital at risk in a 
``first loss'' position after the borrower means that both the mortgage 
insurer and the borrower have a vested interest in making home loans 
that are affordable not only at the time of purchase, but sustainable 
throughout the years of home ownership. Having their own capital at 
risk also means that mortgage insurers have very clear incentives to 
work with lenders, investors, and community groups to help borrowers in 
default stay in their homes.
    The private MI industry has the resources to pay claims on existing 
loans and will continue to do so because of the rigorous, 
countercyclical capital and reserve requirements imposed by State 
insurance commissioners. Half of each premium dollar earned is required 
to go into a contingency reserve and generally cannot be touched by the 
mortgage insurer for 10 years. This ensures that significant capital 
reserves are accumulated during good times and then drawn upon to 
absorb losses during downturns.
    Private MI companies also continue to insure new mortgages. 
Although capital limitations at a couple of private MI companies has 
meant that those companies are unable to write new business, the other 
private MI companies--including Radian--have increased the amount of 
loans we are insuring. The industry overall has more than enough 
capacity to insure the current and projected volume of low downpayment 
loans. In fact, the industry has attracted over $7 billion in new 
capital throughout the mortgage crisis, and new entrants to the 
industry have raised over $1 billion in capital since the crisis began. 
Looking ahead, private mortgage insurers stand ready to play a critical 
role in the future of housing finance by continuing to safely and 
soundly enable first-time and lower income families to obtain 
affordable and sustainable mortgage loans while protecting taxpayers 
from the losses that result from borrower default.
A Brief History of the Mortgage Crisis as It Affected Private MIs and 
        FHA
    As the housing bubble grew from 2000 to 2007, both FHA and private 
mortgage insurers found themselves at a disadvantage. Their efforts to 
promote responsible underwriting of mortgages for first-time homebuyers 
was undermined by the development of mortgage products the purpose of 
which was to avoid the use of ANY type of mortgage insurance--whether 
FHA insurance or private MI.
    These mortgage products took several forms including piggyback 
loans where the borrower was given two mortgages (a first mortgage and 
a contemporaneous second mortgage) to cover the acquisition of a house 
with effectively zero cash downpayment or even a negative downpayment. 
The often advertised purpose of these loans was to avoid the payment of 
mortgage insurance by the borrower and--less advertised but just as 
important--to avoid the review of the borrower's ability to pay the 
mortgage(s) that was and is inherent in the use of Government or 
private mortgage insurance. In addition, private MI premiums were not 
yet tax deductible at that time while the higher interest paid on the 
second mortgage was tax deductible.
    At the height of the boom, the new products that were developed 
were based on an assumption that house prices could only rise and 
consequently that, even if the borrower could no longer afford the 
mortgage, the worst that would happen would be that they would sell the 
house and the mortgage investor would be repaid in full at no cost to 
the entity securitizing the mortgage or to the taxpayer.
    Both private MI companies and FHA were challenged by the expansion 
of these products. Indeed, at the height of the mortgage bubble, both 
FHA and Ginnie Mae expressed concern that the volume of new FHA loan 
originations was insufficient to maintain the liquidity of the Ginnie 
Mae market.
    In order to remain in the market, the underwriting standards and 
pricing by both FHA and private mortgage insurers weakened. This 
weakening took the form of lower insurance premiums by both FHA and 
private mortgage insurers in an effort to compete against the uninsured 
high loan-to-value (LTV) mortgage products. The weakening also involved 
greater acceptance of the lenders' underwriting decisions, including 
the acceptance of low or no documentation loans by private mortgage 
insurers and the decisions generated through the automated underwriting 
systems employed by Fannie Mae and Freddie Mac. For FHA, the relaxed 
underwriting included the acceptance of seller paid downpayment 
contributions, as well as other underwriting changes.
    As house prices began to fall, certain participants in the mortgage 
market were made aware of problems sooner than others. Lenders holding 
mortgages on their books saw the increase in delinquencies first and 
responded by tightening their proprietary underwriting requirements. To 
continue volume, however, they originated loans regardless of possible 
risk if these qualified for FHA or private MI. The GSEs and private 
mortgage insurers became aware of the higher rate of delinquencies 
later than the lenders and then tightened their underwriting standards 
and raised their premiums, but during the period when lenders shrank 
their piggy-back loan originations and other risky loan originations, 
private mortgage insurers were adversely selected. This ``adverse 
selection'' problem is among those proposed for regulatory reform in a 
recent paper on ways to improve both public and private mortgage 
insurance that was released earlier this year by the Joint Forum.
    Beginning in 2007 and 2008, FHA saw a flood of new mortgage 
originations enter its books as lenders, the GSEs, and private mortgage 
insurers tightened their own underwriting requirements and raised their 
premiums and delivery fees. At the time this occurred, FHA had the 
lowest upfront insurance premium in its post-1990 reform history, and 
its annual premiums were set at a legislative minimum level. As a 
consequence, loans that otherwise would have gone to the subprime 
market or to the expanded approval, Alt-A, and other programs initiated 
by the GSEs instead were channeled by lenders to FHA. This adverse 
selection of FHA--a consequence of inadequate FHA premiums, delegated 
FHA underwriting to lenders, and the difficulty of a Government program 
to quickly respond to a changing mortgage market--resulted in FHA 
holding on its books a large share of subprime-like mortgages that were 
inadequately priced and poorly originated.
Private MIs and the Housing Downturn
    The private MI share of the mortgage market contracted 
significantly as the crisis unfolded in 2008-2010. The entire industry 
faced higher claims requests as house prices fell and borrowers 
defaulted on their loans. Some private mortgage insurers stopped 
insuring new mortgages due to capital limitations. All private mortgage 
insurers were stressed by the significant nationwide house price 
collapse. But during this period of unprecedented stress to the private 
MI industry, private mortgage insurers continued to pay legitimate 
claims. From 2007 through the third quarter of 2012, the private MI 
industry had paid over $30 billion in cash claim payments and $3.6 
billion in claim receivables to Fannie Mae and Freddie Mac alone as 
verified in their SEC filings.
    Another factor contributing to the declining market share of 
privately insured mortgages in this time period were actions by Fannie 
Mae and Freddie Mac that made the loans that they purchased more 
expensive. After the GSEs entered conservatorship in the fall of 2008, 
they increased the fees they charged to purchase the high LTV loans of 
borrowers with moderate credit scores. The combination of higher GSE 
delivery fees, tighter GSE and private MI underwriting, and higher 
private MI premiums caused the private MI share of the insured low 
downpayment mortgage market to shrink significantly. Those actions by 
the GSEs, combined with higher FHA loan limits beginning in 2008, 
resulted in the private MI share of the insured low downpayment 
mortgage market that is served by FHA and private MI combined 
contracting from 77 percent in 2007 to 16 percent in 2010. \1\
---------------------------------------------------------------------------
     \1\ The remaining portion of the low downpayment market is insured 
by other entities such as the U.S. Department of Veterans Affairs (VA) 
and the U.S. Department of Agriculture.
---------------------------------------------------------------------------
FHA and the Housing Downturn
    The delegated underwriting concept underlying the operations of 
FHA, combined with the 100 percent insurance coverage applicable to all 
FHA-insured loans, resulted in a lack of information flowing to FHA as 
to the weakness in the market in general and the need to tighten its 
underwriting and appraisal requirements in particular.
    FHA did not recognize the negative impact of declining house prices 
until 2010. It was then that FHA chose to increase its premiums. By 
then, its market share had increased from 17 percent in 2007 to 68 
percent. By the time the FY2011 actuarial report was issued by the 
Department of Housing and Urban Development, the pre-2009 loans that 
had low premiums and lax underwriting accounted for 51 percent of FHA's 
insurance in force.
    FHA has taken several steps to tighten its underwriting and raise 
its premiums in subsequent years. Whether these steps will be 
sufficient to offset the negative financial impact of FHA's rapid 
growth during a period of collapsing house prices has yet to be 
determined.
    What is clear, however, is that FHA as a Government program 
provided access to credit for many low-downpayment borrowers as the 
housing crash unfolded. This is the role that a Government program 
should play during a period of economic contraction. Unfortunately, the 
structure of FHA as a 100 percent insured Government program that has 
delegated its underwriting to lenders has resulted in significant 
losses to the program.
Recommendations for the Future
    The private MI industry has been gradually increasing its market 
share in recent years. Two new entrants to the private MI industry have 
together brought more than $1 billion in new capital and a third 
company--just announced last week--will be part of a well capitalized 
and well established multibillion dollar reinsurance company. 
Similarly, private MI companies with legacy books of business have 
taken steps both to raise capital and to reinsure their business in 
order to effectively bolster their capital position. In 2012, the 
private MI share of the insured low downpayment market increased from 
26 percent in the first quarter to 35 percent in the fourth quarter.
    However, FHA remains the dominant player in the low-downpayment 
market for several reasons, which continue to jeopardize the FHA's 
financial health and now act to restrain the growth of the private 
sector. Reforms are necessary to scale back FHA to its stated goal of 
returning to its historical mission of supporting underserved borrowers 
and improve the agency's financial position while enabling private MI, 
with its reliance on private capital, to be used by borrowers in the 
conventional market.
    Share the risk with the private sector. Changes are needed both to 
protect the FHA and the U.S. taxpayer and, just as importantly, to 
protect future FHA borrowers who should not be put into homes they 
cannot afford to keep. FHA should be authorized to enter into a modern 
risk-share agreement with private mortgage insurers. Under this risk-
share, the private mortgage insurer will conduct an independent 
underwriting of the FHA borrower and the mortgage being sought. If the 
borrower and the mortgage underwriting terms meet the conditions 
mutually agreed upon between FHA and the private mortgage insurer, then 
the private mortgage insurer will take the first loss on the FHA loan 
with the deeper loss covered by FHA. In this way, FHA and the U.S. 
taxpayer will be protected by an independent underwriting at the front 
end of the loan origination and private capital will be placed at a 
position of first loss risk on any future claim arising from the 
mutually insured loan. In this way the potential FHA borrower also will 
be protected by the upfront private MI underwriting from entering into 
a mortgage that places him or her at risk of foreclosure.
    Focus FHA on low and moderate income borrowers. FHA's loan limits 
have been set at very high levels, which make the program attractive to 
borrowers with comparatively high incomes. In high cost areas, FHA 
insures mortgages up to $729,750. Even at interest rates as low as 3.5 
percent, a borrower needs an annual income of no less than $175,000 to 
qualify for a loan of this size. Nationwide, the FHA has a base loan 
limit of $271,050, which is now almost $100,000 higher than the average 
existing home sold in 2012 according to NAR.
    Additionally, the concept of a Government program targeted to house 
prices and loan amounts, rather than the income of the borrower, no 
longer makes sense. What we have seen over the years is that the FHA 
loan amounts continue to increase while the average American's income 
stagnates. Even when house prices fall in an area, the FHA loan limits 
remain frozen. Thus, through FHA, the U.S. taxpayer is being asked to 
subsidize larger and larger mortgages for those people who can afford 
them without taxpayer assistance.
    In this time of budgetary struggles, asking taxpayers to subsidize 
higher income and wealthy borrowers through Government mortgage 
insurance seems like curious public policy. Rather, the FHA program 
should be targeted to the median income of the household in an area. In 
fact, the Administration's February 2011 white paper to Congress on 
housing finance reform specifically called for limiting FHA eligibility 
to borrowers that have incomes below the median level for their area. 
In this way, FHA will be targeted to serve only the moderate and 
middle-income borrowers who need their help. FHA should not be used by 
higher income borrowers who can afford the highest priced homes in an 
area even where the average family in that same area could not dream of 
affording the same high-priced home.
    Reduce the level of the Government guarantee. Congress should also 
reduce the FHA's guarantee below its current 100 percent level--similar 
to the VA mortgage program. An essential feature of private MI is the 
concept of coinsurance on the part of all parties to the transaction. 
Private MI stands in a first loss position behind the borrower's equity 
and generally is 25 percent to 35 percent of the loan amount, which 
covers most, but not all, of the losses that the parties to the 
mortgage transaction experience so there remains an incentive for all 
parties to avoid foreclosure. FHA, on the other hand, insures 100 
percent of the loan amount if the home goes into foreclosure so that 
the loan originator lacks any meaningful risk of loss. This 100 percent 
guarantee does not properly align incentives between originators and 
the FHA. Reducing the 100 percent coverage amount will provide lenders 
with an incentive to conduct prudent underwriting. It will also reduce 
taxpayer exposure to losses resulting from borrower default, and this 
will reduce the budgetary cost of FHA's program.
    Provide more flexibility for FHA premiums. One major reason FHA is 
in such financial distress is that it historically did not charge 
premiums that were appropriate for the risk. In order to adequately 
protect the FHA fund and the taxpayer and to avoid an unfair Government 
price advantage compared to the private sector, Congress should provide 
FHA with additional authority to adjust its premiums to levels that 
reflect the true risk of the loans that it insures. Doing so will help 
FHA to prevent another costly taxpayer bailout.
    Avoid Government actions that unintentionally drive borrowers to 
FHA. It is important that the Government not take actions that unfairly 
tilt the playing field to Government insured programs like FHA rather 
than private MI, thereby discouraging reliance on private capital in 
the housing market. As policy makers scale back the GSEs, they also 
reduce opportunities for private MI, which means that low-downpayment 
loans will be insured by the FHA. For example, Fannie Mae and Freddie 
Mac, at the behest of Congress and the Federal Housing Finance Agency, 
continue to increase the fees that they charge to borrowers, such as 
GSE guarantee fees and LLPAs beyond what is actuarially sound, thereby 
making privately insured loans purchased by the GSEs more expensive 
than FHA-insured loans. As a result, increasing GSE pricing steers 
borrowers with low downpayments away from privately insured loans that 
are sold to Fannie Mae and Freddie Mac towards Government-backed FHA-
insured loans. Policy makers should discontinue the practice of 
increasing GSE g-fees and LLPAs unless there is demonstrated additional 
risk, and GAO should publish and submit to Congress an annual, 
independent, actuarial review of GSE pricing.
Other Issues Facing the Mortgage Market That Congress Should Address
    Finally, I would like to take this opportunity to draw Congress's 
attention to two important issues that will serve to impede the ability 
of low downpayment borrowers to obtain affordable and sustainable 
mortgage financing in the future unless the correct decisions are made 
by regulators.
    QRM. First, regulators are today considering the appropriate 
mortgages to include within the Qualified Residential Mortgage (QRM) 
exemption to the Dodd-Frank risk retention requirements. The proposed 
rule would limit the QRM exemption to loans with 20 percent 
downpayments. Additionally, regulators have proposed to automatically 
exempt FHA-insured loans from the risk retention requirements.
    As proposed, the rule would significantly and unnecessarily impede 
the availability of private capital to serve low-downpayment borrowers, 
and the U.S. taxpayer will be asked to bear even more of the risk 
associated with low downpayment borrowers.
    Loans with downpayments of 5 percent to 20 percent that otherwise 
meet the standards of a Qualified Mortgage should be included within 
the QRM exemption provided that they have first loss loan level 
insurance coverage by an adequately capitalized mortgage insurer. In 
fact, a 5 percent downpayment loan insured by private MI has 
historically provided more protection to lenders and investors from the 
risk of default than would a 20 percent downpayment. This is because 
when adequate private MI coverage is required on a low downpayment 
mortgage, the combination of the private MI coverage and the borrower's 
downpayment will typically cover 25-35 percent of the loan amount--
meaning lenders and investors are at risk for only the remaining 65-75 
percent of the loan amount instead of 80 percent for a loan with 20 
percent down without private MI. Also, with the elimination of risky 
mortgage terms through the final Qualified Mortgage rule, the low 
downpayment borrower is protected from entering into a risky mortgage. 
With the addition of responsible and independent second underwriting by 
a mortgage insurer, both the borrower and the mortgage securitizer can 
be protected.
    Basel III. Finally, the bank regulators have also proposed rules to 
implement Basel III in the United States. This Committee has rightly 
questioned the regulators about the adverse impact that the pending 
proposal will have on eligible borrowers and small banks. One of the 
most significant problems in the proposed rule is a unique proposal by 
U.S. banking regulators to not recognize private MI as a risk mitigant 
when assigning residential mortgage credit asset risk-weightings based 
on a mortgage's LTV ratio. This means that, as proposed, a loan with 5 
percent down that is insured by private MI would be treated the same as 
a loan with a 95 percent LTV without private MI in terms of the amount 
of capital that a bank must hold for that loan. The final rule should 
continue the current treatment of private MI and permit banks to offset 
some of their capital with that of a qualified private MI, as this will 
significantly increase credit availability for first-time buyers 
without putting either the bank or taxpayer at risk.
Conclusion
    FHA has served and should continue to serve a critical role in the 
housing finance system by providing access to home ownership to those 
low and moderate income borrowers who are unable to obtain loans via 
the conventional market. However, the recent crisis has identified 
issues that should be addressed in order for FHA to continue to play 
this important role. For example, in the report it released this week, 
the Bipartisan Policy Center recommended that Congress lower FHA loan 
limits and increase FHA premiums to return FHA to its traditional role. 
Indeed, FHA reform should be undertaken with a view toward reducing the 
role of the Federal Government in the mortgage market, increasing the 
role of private sector capital, and preventing future taxpayer 
bailouts. This necessarily includes scaling back FHA to its traditional 
role of supporting underserved borrowers and taking steps to improve 
the agency's financial position.
    In examining the range of reforms before the Committee, I urge you 
to:

    Authorize risk-sharing between private MIs and FHA. This 
        will introduce private-sector discipline to FHA underwriting 
        and place private capital in a first loss position ahead of the 
        taxpayer;

    Alter FHA-borrower eligibility standards to target them to 
        low- to moderate-income levels as was recommended in the 
        Administration's February 2011 white paper on housing finance 
        reform, not house prices. This will allocate taxpayer resources 
        to serve the FHA's rightful mission;

    Consider additional reforms, including reducing the FHA's 
        guarantee below its current 100 percent level, much the same as 
        the VA mortgage program. This will properly align incentives 
        between originators and the FHA;

    Require FHA to establish premiums that accurately reflect 
        the true risk of the loans that it insures. This will help to 
        ensure that FHA avoids a costly taxpayer bailout;

    Avoid Government actions, such as GSE price increases, that 
        steer borrowers with low downpayments away from privately 
        insured loans purchased by the GSEs and toward federally 
        insured FHA loans. This will bring more private capital into 
        the housing market; and

    Encourage regulators to provide parity for private MI and 
        the FHA in pending rules, including the QRM and Basel III.
                                 ______
                                 
                 PREPARED STATEMENT OF DAVID H. STEVENS
  President and Chief Executive Officer, Mortgage Bankers Association
                           February 28, 2013
    Chairman Johnson, Ranking Member Crapo, and Members of the 
Committee, thank you for the opportunity to testify on behalf of the 
Mortgage Bankers Association (MBA) on the recent release of the Federal 
Housing Administration's (FHA) Fiscal Year (FY) 2012 Actuarial Review, 
and its findings on the state of the Mutual Mortgage Insurance (MMI) 
Fund.
    My name is David H. Stevens, and I am the President and CEO of the 
MBA. From 2009 to 2011, I served as Assistant Secretary for Housing and 
FHA Commissioner at the U.S. Department of Housing and Urban 
Development (HUD). Thank you for holding this hearing on the actuarial 
soundness of FHA's single-family insurance fund.
    Given that professional experience, and my almost 30 years in real 
estate finance, I understand the importance of having a strong, capable 
leader to navigate the agency through this difficult time in FHA's 
history. I commend the Senate for confirming Carol Galante as FHA 
Commissioner at year's end. Commissioner Galante has been a staunch 
advocate for housing throughout her career, and I know she will work 
tirelessly to protect taxpayers and return FHA to sound financial 
footing. The changes she has announced to date provide comfort that the 
agency is moving aggressively and in the right direction.
    FHA made headlines at the end of 2012 following the revelation that 
its MMI Fund, which holds the accounts for the single-family programs, 
had a negative capital ratio. Conversely, FHA's multifamily rental and 
healthcare programs, which are supported by HUD's General and Special 
Risk Insurance Fund, are fiscally sound. The Actuarial Review of the 
FHA MMI Fund Forward Loans for Fiscal Year 2012, released by HUD on 
November 16, 2012, confirmed that FHA, like most participants in the 
mortgage market, is still dealing with fallout from the recent housing 
crisis. FHA's problems may be exacerbated by its traditional 
countercyclical role and programmatic focus on underserved, minority 
and first-time homebuyers who may not be able to meet the downpayment 
or household wealth requirements for private loans.
    MBA firmly believes that FHA has a vital role in the United States' 
housing finance system and its mission of serving first-time homebuyers 
and underserved populations and playing a countercyclical role should 
continue. Since its inception in 1934, FHA has enabled more than 40 
million families to become homeowners. \1\ In FY2012, 77 percent of FHA 
purchase endorsements were to first-time homebuyers and 33 percent were 
to minority homebuyers. According to HMDA data, in 2011, 56 percent of 
African American homebuyers, and almost 59 percent of Hispanic 
homebuyers financed their purchases with FHA loans. \2\ In 2012, 
applications for Government refinance loans (primarily FHA) were almost 
15 percent of all refinance applications, while applications for 
Government loans to purchase a home were 37 percent of all purchase 
applications. \3\ Thus, recent data confirm that FHA continues to play 
an especially critical role in providing home ownership opportunities.
---------------------------------------------------------------------------
     \1\ U.S. Dept. of Housing and Urban Development, Annual Report to 
Congress Fiscal Year 2012 Financial Status FHA Mutual Mortgage 
Insurance Fund (November 2012) at p. 11. Can be accessed at: http://
portal.hud.gov/hudportal/documents/
huddoc?id=F12MMIFundRepCong111612.pdf.
     \2\ MBA analysis of 2011 HMDA data.
     \3\ Data compiled from MBA Weekly Applications Surveys.
---------------------------------------------------------------------------
    Given FHA's negative financial position, this is the proper time to 
reexamine U.S. housing policy. The policy decisions made today will 
help determine FHA's financial solvency, and whether it can continue to 
fulfill its traditional mission without taxpayer support. Congress, the 
Obama administration, and other stakeholders will need to consider 
requisite trade-offs that seek to balance FHA's financial stability 
against the maintenance of a program that facilitates home ownership 
for slightly higher risk consumers who might not otherwise be able to 
qualify for a loan. It is within this context that MBA provides this 
statement evaluating various policy options that FHA could undertake to 
ensure its long-term viability.
FHA and Its Role in the Housing Market
    FHA has played an important countercyclical role in the mortgage 
markets, both historically and in the most recent housing downturn. As 
private market credit risk appetites grew during the precrisis years, 
FHA began to lose market share. FHA's market share significantly 
declined during the early 2000s, a period when the private market was 
experiencing significant growth due to alternative mortgage products 
and a rise in demand for private label mortgage-backed securities.
    Many of FHA's traditional borrowers--low-wealth families with 
minimal funds for a downpayment--left FHA during the housing boom for 
subprime and other loans that provided lower initial monthly payments. 
As the housing markets heated up, FHA's fully documented underwriting 
was perceived as overly onerous and bureaucratic. From 2003 until 2007, 
FHA's share of the mortgage market hovered between 2 and 7 percent. \4\ 
Its flagship 30-year fixed-rate mortgage was shunned by many borrowers 
looking for lower initial mortgage payments. In addition to FHA's more 
stringent underwriting standards, there was a general belief by many 
market participants, lenders and borrowers alike, that FHA-insured 
loans were too time-consuming, expensive, and complicated compared to 
conventional or subprime loans. As a result, FHA was not the first 
choice for many real estate borrowers, brokers, and lenders.
---------------------------------------------------------------------------
     \4\ U.S. Dept. of Housing and Urban Development, ``FHA Single 
Family Activity in the Home-Purchase Market Through June 2012''. Can be 
accessed at: http://portal.hud.gov/hudportal/documents/
huddoc?id=fhamkt0612.pdf.
---------------------------------------------------------------------------
    During this explosion of subprime lending, FHA was further weighed 
down by seller-funded downpayment assistance programs, which proved to 
be extremely costly to the MMI Fund. These programs often resulted in 
inflated property values and real loan-to-values in excess of 100 
percent. These seller-funded downpayment assistance program loans have 
performed two to three times worse than typical FHA-insured loans, and 
still represent an expected drain on the Fund of about $15 billion in 
the years ahead. \5\ The Actuary estimates that if seller-funded 
downpayment loans were not in FHA's portfolio, the net economic value 
of the MMI Fund would be positive $1.77 billion. \6\
---------------------------------------------------------------------------
     \5\ U.S. Dept. of Housing and Urban Development, ``Annual Report 
to Congress Fiscal Year 2012 Financial Status FHA Mutual Mortgage 
Insurance Fund'' (November 2012), at p. 7. Can be accessed at: http://
portal.hud.gov/hudportal/documents/
huddoc?id=F12MMIFundRepCong111612.pdf.
     \6\ Ibid at p. 25.
---------------------------------------------------------------------------
    As the housing market began to tumble in 2007, the private label 
market contracted precipitously and lenders began to shift as much 
production as possible to FHA, Fannie Mae, and Freddie Mac. The 
Economic Stimulus Act of 2008 increased both conventional and FHA loan 
limits throughout the country and especially in high-cost areas. 
Approximately 75 of the highest cost counties in the Nation saw the FHA 
loan limits more than double from $362,790 to $729,750. Another 500 
counties had new loan limits set between $280,000 and $729,750. The 
remaining 2,500 counties had new loan limits of $280,000, up from 
$200,000. The once dormant FHA experienced high demand from coast to 
coast. \7\ At the height of the housing crisis in 2009 Government loans 
accounted for over 40 percent of the purchase market compared to 34 
percent today. \8\ Most of these loans were FHA-insured. Performing 
this countercyclical role, however, has proven costly for FHA as its 
postcrisis books-of-business, 2008 and 2009 vintage loans, continue to 
show very significant losses, as reflected in the FY2012 Actuarial 
Review.
---------------------------------------------------------------------------
     \7\ Mortgage Bankers Association,`` The Future of the Federal 
Housing Administration and the Government National Mortgage 
Association'' (September 2010), at p. 26. Can be accessed at: http://
www.mortgagebankers.org/files/ResourceCenter/FHA/
TheFutureofFHAandGinnieMae.pdf.
     \8\ Data compiled from MBA Weekly Applications Surveys.
---------------------------------------------------------------------------
FY2012 Actuarial Review
    The Actuarial Review provides an annual assessment of the fiscal 
health of the FHA and its financial outlook at a particular point in 
time. The FY2012 Review showed that the capital ratio of the MMI Fund 
had fallen to negative 1.44 percent, well below its statutory 2 percent 
requirement. In the FY2011 Review, the ratio was 0.24 percent, and the 
ratio for the prior 2 years had been below the statutory 2 percent 
minimum as well. The news that the capital ratio had turned negative 
prompted immediate concerns that FHA might need a draw from the U.S. 
Treasury (Treasury)--the first in the agency's history--and called into 
sharp focus whether FHA's policies need to be adjusted.
    Highlights of the Actuarial Review include:

    The negative 1.44 percent ratio represents a negative 
        economic value of $16.3 billion. This is the first time the 
        Fund has been negative since the early 1990s.

    The economic value indicates the amount of resources the 
        fund has over and above the reserve held for expected losses.

    The Actuarial Review cites several important reasons for 
        the decline in the capital reserve ratio, including:

      A less optimistic House Price Appreciation (HPA) forecast 
        since last year ($10.5 billion reduction).

      Lower historic and projected path for interest rates ($8 
        billion reduction). More borrowers are projected to pay off 
        their mortgages, which reduces future revenues on the current 
        portfolio.

      Refinements to the forecasting model ($10 billion on the 
        forward mortgage portfolio; $3 billion on HECM loans). 
        Following recommendations by the GAO, HUD's Inspector General, 
        and others, the actuary changed the way it calculates losses on 
        defaulted loans. This change in methodology resulted in an 
        estimated $13 billion in reduced economic value compared to 
        last year's projections. Previous models did not adequately 
        model the differential loss severities of preforeclosure sales 
        (short sales) versus conveyances (REO sales). In particular, 
        last year's model did not apply large enough loss severities 
        for very high LTV loans. This year's Review takes a more 
        comprehensive approach towards the modeling of previously 
        modified loans.

    The total capital resources of the Fund at the end of 
        FY2012 were estimated to be $30.4 billion.

    The Actuarial Review finds that there is a 5 percent chance 
        over the next few years that capital resources will go 
        negative.

    Focusing on the forward portfolio, as of the end of FY2012, 
        the Fund is projected to have an estimated economic value of 
        negative $13.48 billion, an unamortized Insurance-in-Force 
        (IIF) of $1,126.27 billion and amortized IIF of $1,053.33 
        billion.

    The economic value of the 2007-2009 books of business is 
        negative 7 percent while the economic value of the 2010-2012 
        books of business is positive 3 percent.

    The FY2012 book of business is projected to contribute an 
        estimated $11.92 billion in present value to the economic value 
        of the Fund.

    The economic value is projected to increase over the next 7 
        years to reach $54.25 billion by the end of FY2019. However, 
        this estimate is subject to assumptions regarding the volume 
        and composition of future books of business.

    HUD also reports that the Home Equity Conversion Mortgage 
        (HECM), FHA's reverse mortgage program, portfolio has a 
        negative economic value, negative 3.5 percent. Adding the 
        economic value of the forward mortgage and HECM program 
        produces a total economic value of negative $16.3 billion.

    Importantly, these findings do not mean that FHA has insufficient 
cash to pay insurance claims, a current operating deficit, or will need 
to immediately draw funds from Treasury. Indeed, the Actuarial Review 
itself does not determine if FHA needs a draw from Treasury; that need 
is determined by the economic assumptions used in the President's 
FY2014 budget proposal. The final determination on a potential draw 
will be made in September 2013.
    Given that the country just went through a severe recession from 
which it is still recovering, it is not surprising that FHA is 
experiencing significant losses on loans made during the crisis, as 
well as losses on the large volume of new business. High unemployment, 
steep home price declines and the seller-funded downpayment assistance 
program loans weighed heavily on the MMI Fund. The Actuarial Review 
estimates that the forward loan portfolio in MMI Fund may not be 
positive until 2014, and will reach the statutory 2 percent threshold 
some time in FY2017; the HECM portfolio is not projected to be positive 
within the timeframe of the Actuarial Review. \9\
---------------------------------------------------------------------------
     \9\ U.S. Dept. of Housing and Urban Development, ``Annual Report 
to Congress Fiscal Year 2012 Financial Status FHA Mutual Mortgage 
Insurance Fund'' (November 2012), at p. 46. Can be accessed at: http://
portal.hud.gov/hudportal/documents/
huddoc?id=F12MMIFundRepCong111612.pdf.
---------------------------------------------------------------------------
    MBA has reviewed the audits of the MMI Fund. These audits used a 
wealth of data and sophisticated modeling techniques. MBA believes that 
minor specification changes in the default model, or subtle differences 
in the treatment of the data, would not have yielded significantly 
different results. Uncertainty regarding the economy is a more 
important factor.
    With regard to economic uncertainty, MBA wishes to underscore that 
the soundness of FHA's financial position is intricately tied to 
whether the assumptions and predictions that were used as the basis for 
the Actuarial Review hold true. While the industry is cautiously 
optimistic about FHA's recent programmatic changes, MBA recognizes the 
severity of the losses stemming from the 2007-2009 books of business 
are so great, and the uncertainty in forecasting economic trends is so 
high, that the possibility of a further decline in the capital ratio 
must be acknowledged.
    Moreover, assumptions regarding certain key variables, including 
the future paths of home prices and interest rates, can significantly 
sway the estimate of Fund value in either direction.
    Importantly, FHA's capital adequacy requirements are designed to be 
analogous to those for private institutions--they minimize the 
likelihood that taxpayers would need to provide funds to FHA. For a 
private sector financial institution, regulatory capital measures are a 
key indicator of financial health. Banks and other financial 
institutions set aside reserves to cover expected losses on lending, 
but also hold capital to cover unexpected losses that may arise from 
changes in economic or financial market conditions or loan performance. 
Regulators require financial institutions to hold sufficient capital to 
minimize the likelihood that they would become insolvent during a 
crisis. FHA's requirements are modeled after these sound and proven 
practices, although, clearly the recent crisis has taken a severe toll 
on the FHA's financial stability which may require additional 
programmatic changes.
National Delinquency Survey Recap From Fourth Quarter 2012
    On February 21, 2013, MBA released its fourth quarter 2012 National 
Delinquency Survey (NDS) results. There were large improvements in 
mortgage performance nationally and in almost every State. The 30-day 
delinquency rate decreased 21 basis points to its lowest level since 
mid-2007. With fewer new delinquencies, the foreclosure start rate and 
foreclosure inventory rates continued to fall and are at their lowest 
levels since 2007 and 2008, respectively. Overall, we believe that 
these improvements in market conditions bode well for FHA as it works 
to improve its financial situation.
    The foreclosure starts rate decreased by the largest amount ever in 
the MBA survey and now stands at half of its peak in 2009. Similarly, 
the 33 basis point drop in the foreclosure inventory rate is also the 
largest in the history of the survey. One cautionary note is that the 
90+ delinquency rate increased by eight basis points, reversing a 
fairly steady pattern of decline and the largest increase in this rate 
in 3 years. While we normally see an increase in this rate in 
individual States when they change their foreclosure laws, 38 States 
had increases in the percentage of loans three payments or more past 
due, indicating that we could see a modest increase in foreclosure 
starts in subsequent quarters.
    The two biggest factors impacting the number of loans in the 
foreclosure process still are the magnitude of the problem in Florida 
and the judicial foreclosure systems in some States. Twelve percent of 
the mortgages in Florida are in the process of foreclosure, down from a 
peak of 14.5 percent last year but still an extraordinarily high rate 
that is impacting the national rate. Florida accounts for almost 24 
percent of all loans in foreclosure in the Nation, but only 7.4 percent 
of loans serviced. In addition, while the percentages of loans in 
foreclosure dropped in almost all States, the average rate for judicial 
States was 6.2 percent--triple the average rate of 2.1 percent for 
nonjudicial States. In those cases, the ultimate reduction in the 
number of loans in foreclosure will have less to do with the recovery 
of the economy and the housing market than with the return to 
reasonable foreclosure timelines.
    The performance of FHA loans was mixed. While the foreclosure 
starts and foreclosure inventory percentages both fell, the delinquency 
percentages generally remained flat or increased slightly, particularly 
the percentage of loans 90 days or more past due. The other loan types 
generally saw declines in delinquency rates in the fourth quarter. 
However, 44 percent of FHA loans that are seriously delinquent were 
made in the years 2008 and 2009, while loans made in those years 
represent a smaller share of FHA's overall book of business.
    After large third quarter increases in the foreclosure starts and 
inventory rates for FHA loans due to actions by some large servicers to 
restart foreclosure processes that had been temporarily halted, these 
rates fell in the fourth quarter. The percent of loans in foreclosure 
for FHA loans decreased to 3.85 percent, and FHA foreclosure starts 
decreased to 0.86 percent. The percent of FHA loans in foreclosure was 
almost 40 basis points lower than the record high of Q2 2012, but 
remained well above historical averages.


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]




Recent FHA Policy Changes
    FHA has made a series of single-family risk management and lender 
oversight and enforcement changes over the last 2 years, such as 
raising the annual mortgage insurance premium several times, increasing 
downpayment requirements from 3.5 percent to 10 percent for borrowers 
with credit scores below 580, eliminating FHA's approval of loan 
correspondents, raising lender net worth requirements in all programs, 
reexamining HECM policies, and establishing the Office of Risk 
Management. By making these changes, FHA has taken substantive steps 
over a short period of time to protect the Fund. The credit profile and 
performance of the FY2010 to 2012 portfolios are testaments to these 
changes: the average FHA credit score for FY2011 was 696 \10\ and the 
delinquency rate was 2.07 percent in the fourth quarter of 2012. \11\ 
Significant performance improvement in the Fund is especially notable 
in the 2010, 2011, and 2012 books of business.
---------------------------------------------------------------------------
     \10\ U.S. Dept. of Housing and Urban Development, ``Annual Report 
to Congress Fiscal Year 2012 Financial Status FHA Mutual Mortgage 
Insurance Fund'' (November 2012), at p. 18. Can be accessed at: http://
portal.hud.gov/hudportal/documents/
huddoc?id=F12MMIFundRepCong111612.pdf.
     \11\ See, Chart on page 7.
---------------------------------------------------------------------------
    More recently, in response to the FY2012 Actuarial Review, FHA 
announced a series of program changes aimed at increasing revenue, 
reducing credit risk, and improving the management of the existing 
portfolio. MBA believes that these recent changes are fiscally prudent 
and warranted given the financial realities described in the Actuarial 
Review. In late January 2013, FHA announced the following 
administrative changes directly aimed at either increasing revenue or 
reducing credit risk:

  1.  Increase in the annual mortgage insurance premium (MIP) of 10 
        basis points for all forward loans, except streamline 
        refinances effective for case number assigned on or after April 
        1, 2013.

  2.  Change in the MIP cancellation policy to require that most loans 
        charge the MIP for the life of the loan, or 11 years, effective 
        June 3, 2013, for loans with case number assigned on or after 
        that date.

  3.  Change in credit policy to require that borrowers with credit 
        scores under 620 must be manually underwritten, effective April 
        1, 2013.

  4.  Consolidation of the HECM Fixed-Rate Standard Program and HECM 
        Saver Program, to allow borrowers to have the predictability of 
        a fixed-rate, but with a lower upfront fee, effective April 1, 
        2013.

    Looking forward, there is shared concern among industry, consumer 
groups, policy makers, and Congress that additional steps may be needed 
to ensure that FHA is financially secure for the long term. At the same 
time, some are concerned that recent decisions and potential upcoming 
programmatic changes may come at the expense of home ownership 
opportunities and potentially cutting off credit to vital sections of 
the market. Both sentiments are valid and deserve serious, thoughtful, 
and balanced consideration.
Policy Considerations
    From MBA's perspective, further programmatic changes at FHA must 
balance three priorities:

  1.  Restoring financial solvency;

  2.  Preserving the housing mission; and

  3.  Maintaining its countercyclical role.

    Congress and this Administration face the challenge of striking a 
balance among these three goals. MBA is currently working with its 
members to evaluate the pros and cons of various policy options to 
determine which ones offer the greatest impact while meeting the 
aforementioned goals. These trade-offs are outlined in MBA's soon to be 
released white paper. Below are selected considerations from our 
findings.
Reducing or Eliminating Risk Layering
    In underwriting borrowers, individual risk factors can sometimes be 
mitigated by compensating factors. FHA's traditional underwriting 
philosophy takes this approach. The key to further improving the credit 
quality of the portfolio going forward is to limit excessive risk 
layering. Doing so could make future FHA business even stronger than 
the 2010-2012 books. Congress and the Administration, however, need to 
recognize that while the losses in the 2008 and 2009 books can be 
reduced and managed through better default management execution at FHA, 
changing credit standards on future books will not lower these embedded 
losses, and may actually harm the housing market recovery.
    Risk-based underwriting, or specifying particular underwriting 
criteria within certain credit boundaries, could be structured in 
various ways to reduce FHA's credit risk. As indicated below, the 
social consequences could be significant if FHA employs overly 
stringent credit controls. Thus, finding the right balance is critical.
            Downpayment Requirement
    A risk management method that FHA has already begun to employ is to 
tier downpayment with credit scores and possibly other loan 
characteristics. Increasing FHA's minimum downpayment requirement would 
immediately improve FHA's risk profile on new business. An increase of 
the minimum downpayment from 3.5 percent to 5 percent would reduce 
expected losses to the MMI Fund through lower default rates and lower 
loss severity in the event of default. This step would increase the 
economic value of future books of business, but obviously would do 
nothing to reduce losses already on the books. It should be noted that 
the Government sponsored enterprises (GSEs), Fannie Mae and Freddie 
Mac, price differently based on LTVs. For example, Fannie Mae charges 
an additional loan level price adjustment of 50 basis points for loans 
with LTVs between 95 and 97 percent.
    FHA has made similar policy changes that increase minimum 
downpayments for certain borrowers. A borrower with a credit score 
below 580 is required to have a 10 percent downpayment. Additionally, 
HUD has proposed raising the minimum downpayment for borrowers with 
loans above $625,500 to five percent.
    FHA could continue this trend by designing a tiered downpayment 
structure based on credit scores where borrowers with the greatest risk 
of defaulting would be required to pay higher downpayments than 
borrowers with better credit scores. A borrower's credit score is a 
predictor of probability of default. FHA could consider a structure 
similar to the following: 3.5 percent minimum downpayment for borrowers 
with credit scores 620 and greater; 10 percent minimum downpayment for 
borrowers with credit scores between 580 and 620; 15 percent 
downpayment for borrowers with credit scores less than 580.
    Changing the singular downpayment structure in a way that is 
contrary to the average pricing/cross-subsidization model that 
currently exists could makes mortgages less affordable for borrowers on 
the margins. Furthermore, it is not clear whether a borrower who could 
accumulate a 10 percent downpayment would still choose a FHA loan, 
which could lead to the loss of higher quality borrowers.
    In short, the social consequences of increasing the minimum 
downpayment requirement could be dramatic. An increase would 
unnecessarily delay a purchase for many Americans who might be 
successful homeowners, with the greatest impact falling on the 
underserved. In particular, a tiered downpayment structure would place 
a greater financial burden on borrowers who may have the least amount 
of savings.
            Credit Score Floor
    In response to the FY2012 Actuarial Review, FHA is requiring 
borrowers with credit scores below 620 to have a maximum debt-to-income 
ratio no greater than 43 percent in order for their loan applications 
to be approved through FHA's TOTAL Scorecard, an automated system used 
by FHA-approved lenders to score the quality of an FHA loan 
application. \12\ Borrowers with credit scores and DTI ratios that do 
not meet these requirements may still obtain an FHA-insured loan, but 
their loan application must be manually underwritten by the lender to 
ensure adequate compensating factors.
---------------------------------------------------------------------------
     \12\ Letter from Acting Assistant Secretary for Housing, FHA 
Commissioner Carol Galante to Senator Robert Corker, December 18, 2012. 
Can be accessed at: http://www.corker.senate.gov/public/_cache/files/
940b16a2-a401-418f-b409-5dca6e176c42/12-18-
12_Letter%20from_Carol_Galante.pdf.
---------------------------------------------------------------------------
    Raising the minimum credit score to 620 for all borrowers would 
reflect the current market standard of private lenders, making FHA less 
subject to adverse selection based on its credit policy. Importantly, 
credit scores are a major factor in evaluating the future performance 
of loans. As the most recent Actuarial Review indicates, there is a 
strong correlation between the credit score and loan performance. As 
the average FHA credit score has risen, performance of the 
corresponding books of business has greatly improved. Borrowers with 
extremely weak credit may be better served by credit counseling and a 
slower path to home ownership, rather than a costlier loan today.
    A downside risk is that raising the minimum credit score to 620 
could reduce affordable credit options for many borrowers, some of whom 
may have qualified for a loan had it not been for a one-time life 
event, such as job loss or medical expenses. FHA has been one of the 
few fully underwritten and documented lending options for borrowers 
with impaired credit. Increasing eligibility standards may make the 
market fertile ground for the growth of a new subprime market and/or 
predatory lending.
            Reserve and Debt-to-Income Requirements
    Tightening FHA's credit box to require 2 month reserves and DTI 
requirements for all borrowers would promote even stronger performance 
than that seen in recent books. Reserves and DTI requirements for all 
borrowers would help homeowners absorb major household expenses, such 
as replacing a heating system or paying for a car repair. These changes 
would positively impact FHA's default rate and should reduce future 
claims. Moreover, this would be another way to verify if borrowers are 
truly financially prepared for the cost of home ownership.
    Conversely, these changes would also delay homebuying for borrowers 
who would potentially need to accumulate additional cash for a 
downpayment.
High-Cost Loan Limits
    In 2011, Congress extended the high-cost loan limits first enacted 
in the Economic Stimulus Act of 2008, thereby maintaining the FHA high-
cost loan limit of $729,750 until December 31, 2013. Importantly, this 
loan limit was only extended for FHA-insured loans; the GSE loan limit 
was lowered to $625,500. According to MBA data, less than 1 percent of 
FHA-insured loans are between $625,500 and $729,750. FHA lending above 
$625,500 is most prevalent in the following areas: Washington, DC (12.9 
percent); California (3.4 percent); Virginia (3.2 percent); and New 
York (3.1 percent). \13\
---------------------------------------------------------------------------
     \13\ Data compiled from MBA Weekly Applications Surveys.
---------------------------------------------------------------------------
    There is evidence that the demand for large loans is growing and 
that these borrowers will be adequately served by the private sector. 
According to MBA's Weekly Application Survey Data, there was a 22 
percent increase in the number of loans between $625,000 and $729,000 
from 2011 and 2012. As the demand for this market grows, the private 
sector will readily expand its offerings to qualified borrowers.
    Allowing the current high-cost area loan limits to expire in 2013, 
and reducing them to the GSE loan limits, would help return FHA's focus 
to serving low-to-moderate income and first-time homebuyers. The 
expiration would not greatly affect national FHA lending and would 
expand the opportunity for private lenders to serve higher income 
borrowers.
    On the other hand, according to FHA data, larger loans tend to 
perform better compared with smaller loans in the same geographical 
area. Also, borrowers are already charged an additional 25 basis points 
for these loans. \14\ Thus, these high-cost loans actually improve the 
performance of the MMI Fund and provide additional revenue. Given that 
loans above $625,000 comprise a small percentage of FHA's portfolio, 
but have significant positive attributes, policy makers may consider 
extending the limits until the MMI Fund is financially stable.
---------------------------------------------------------------------------
     \14\ Integrated Financial Engineering, Inc., ``Actuarial Review of 
the Federal Housing Administration Mutual Mortgage Insurance Fund 
Forward Loans for Fiscal Year 2012'' (November 2012), at p. 48. Can be 
accessed at: http://portal.hud.gov/hudportal/documents/
huddoc?id=ar2012_forward_loans.pdf.
---------------------------------------------------------------------------
    While it would be rational to lower the high-cost FHA limits to 
focus the program on lower-income and lower-wealth borrowers, the 
question is when to make this change. It is also important to recognize 
that making this change is unlikely to contribute positively to the 
financial health of the Fund, but would primarily serve to refocus FHA 
on serving its core mission.
Lender Enforcement
    In recent years, FHA has greatly increased its enforcement of 
agency-approved lenders. FHA has:

    Enhanced monitoring of lender performance and compliance 
        with FHA guidelines and standards (Effective January 21, 2010). 
        \15\
---------------------------------------------------------------------------
     \15\ Mortgagee Letter 2010-02.

    Expanded the Credit Watch Termination Initiative to include 
        evaluation of lender underwriting performance in addition to 
        origination performance (Effective January 21, 2010). \16\
---------------------------------------------------------------------------
     \16\ Mortgagee Letter 2010-03.

    Implemented its statutory authority through regulation of 
        section 256 of the National Housing Act to enforce 
        indemnification provisions for lender's using delegated 
        insuring process (Effective February 24, 2012). \17\
---------------------------------------------------------------------------
     \17\ 24 CFR Part 203.

    According to HUD, heightened enforcement of its requirements for 
FHA-approved lenders has resulted in over 1,600 lenders being withdrawn 
from FHA's program as a result of violations of FHA approval, 
origination, or servicing requirements and the imposition of more than 
$13.8 million in civil money penalties and administrative payments for 
FHA-approved lenders. \18\
---------------------------------------------------------------------------
     \18\ U.S. Dept. of Housing and Urban Development, ``Annual Report 
to Congress Fiscal Year 2012 Financial Status FHA Mutual Mortgage 
Insurance Fund'' (November 2012), at p. 61. Can be accessed at: http://
portal.hud.gov/hudportal/documents/
huddoc?id=F12MMIFundRepCong111612.pdf.
---------------------------------------------------------------------------
    Additionally, the U.S. Department of Justice (DOJ) has recently 
begun filing court actions against lenders under the False Claims Act 
(FCA). The FCA is a Federal law that imposes liability on any person 
who knowingly presents a false or fraudulent claim for payment or 
approval to the U.S. Government. These court actions are based on 
alleged false loan-level certifications and annual certifications by 
lenders. The penalties are severe--lenders can be liable for three 
times the damages sustained by HUD, plus civil penalties of up to 
$11,000 per transaction. Since May 2011, HUD and the DOJ have filed 
and/or settled five cases against lenders, with settlement amounts 
ranging in four cases being $132.8 million, $158.3 million, $202.3 and 
$1 billion. \19\
---------------------------------------------------------------------------
     \19\ Schulman, P.L., Baugher, K.M. (2012), ``Triple Trouble'', 
Mortgage Banking, 72 (10), pp. 61-62.
---------------------------------------------------------------------------
    The prospect of tough administrative and legal enforcement actions 
provides strong incentives for lenders to carefully follow FHA program 
guidelines. These enforcement actions also increase revenue for the MMI 
Fund.
    There is a point, however, where harsh enforcement actions can have 
negative consequences for the FHA and eligible borrowers. While some in 
Congress and other policy makers may believe that additional FHA lender 
enforcement tools and legal actions were necessary to contend with some 
of the real and alleged lending abuses that occurred in the past by 
companies, it is undeniable that the increase in intensity of lender 
enforcement has contributed to lenders constricting credit. Blunt 
tools, such as ``zero-tolerance'' lender enforcement, only serve to 
cause lenders to restrict lending to qualified borrowers for fear that 
minor, unintentional, and immaterial mistakes will be used as reasons 
for requiring indemnifications, or worse, as the basis for a False 
Claims lawsuit. Indemnifications or a FCA lawsuit are problems for all 
lenders, but they could be catastrophic for smaller independent 
mortgage bankers and community banks.
    When lenders must operate their businesses to near-perfect 
standards or potentially face substantial financial penalties, they 
will naturally restrict their underwriting to be well within the 
boundaries of cautious lending. Thus, overlays that include higher 
credit scores, lower debt-to-income ratios, and reserve requirements--
all above and beyond the official FHA program guidelines--become 
necessary buffers to mitigate lender risk. This response from lenders 
directly impacts consumers by eliminating borrowers who could possibly 
be responsible homeowners, but have a few risk factors. Given the high 
stakes of indemnification or lawsuits, it is difficult for lenders to 
justify taking a chance on marginal borrowers--FHA's targeted 
population.
    Let me be clear: as FHA commissioner, I initiated tighter controls 
and enforcement procedures that shut down irresponsible FHA lenders. 
When warranted, this is the right thing to do for the Fund and the 
market. Dishonest or sloppy lenders have no place within the FHA 
program. However, FHA must take a balanced approach to enforcement; 
otherwise FHA's practices could risk lenders cutting off credit that is 
needed to help support the housing market recovery.
    MBA unquestionably supports high standards for all lenders that 
participate in FHA programs in order to protect the agency's viability, 
the lender's reputation, and the reputation of the industry. MBA 
members recognize and accept accountability for instances of fraud and 
negligence within their control. Moreover, lenders take full 
responsibility for underwriting mistakes that lead to loan 
delinquencies and incorporate sophisticated quality control systems to 
minimize the possibility of indemnifications. There must, however, be a 
reasonable margin for human error, especially when the error is not the 
cause of the delinquency or default. MBA would staunchly oppose efforts 
that allow FHA to go beyond reasonable standards of lender enforcement.
Servicing Loss Mitigation
    FHA has taken proactive, appropriate, and aggressive steps to 
manage its 2000 to 2009 books-of-business, which include the agency's 
most costly loans. MBA commends these efforts, given that FHA already 
holds the risk on the loans. MBA also recognizes that additional steps 
may be necessary to further minimize losses. Below are MBA's thoughts 
on various means FHA is judiciously employing or considering to further 
reduce losses.
            Launch Large-Scale Proactive Modification and Partial Claim 
                    Campaigns for Delinquent Borrowers
    During recent years, HUD has promoted several programs to assist 
borrowers retain home ownership, including the introduction of FHA's 
Home Affordable Modification Program (HAMP), which help homeowners 
experiencing financial hardship make their homes more affordable by 
reducing the mortgage payment. Recently HUD made revisions to its loss 
mitigation home retention options making it easier for borrowers to 
qualify for FHA HAMP partial claims \20\ and modifications.
---------------------------------------------------------------------------
     \20\ Under the Partial Claim Option, the Lender will advance funds 
on behalf of the Borrower in an amount necessary to reinstate the 
delinquent loan. The Borrower will execute a Promissory Note and 
Subordinate Mortgage payable to HUD. Currently, these Promissory or 
``Partial Claim'' Notes assess no interest and are not due and payable 
until the Borrower either pays off the first mortgage or no longer owns 
the property.
---------------------------------------------------------------------------
    Enhancing loan modifications and partial claims have the potential 
to achieve HUD's objective of helping more delinquent borrowers return 
to performing status on their mortgages and ultimately reducing losses 
from foreclosures. MBA is encouraged that this effort will yield 
positive results and truly make a difference for many borrowers.
    MBA does recognize, however, that increasing the number of partial 
claims in the short-term will require more cash outlays from the MMI 
Fund. Unsuccessful partial claims are costly to the MMI Fund because 
they prolong the existence of nonperforming loans and increase claim 
obligations, deterioration of the property and other liabilities. 
However, MBA anticipates that the increase in partial claims and other 
loss mitigation solutions will result in long-term savings for HUD.
            Encourage Preforeclosure Sales
    A preforeclosure sale (PFS) is a ``short sale''--a sale of the 
property in satisfaction of a defaulted mortgage even though the 
proceeds are less than the amount owed on the mortgage.
    HUD has acknowledged that preforeclosure sales are beneficial in 
the economic recovery, as well as a cost-savings for HUD. For these 
reasons, HUD plans to take steps to encourage more preforeclosure sales 
as an alternative to foreclosure.
    Preforeclosure sales allow homeowners a quick resolution of a 
mortgage loan in default without experiencing the foreclosure process. 
HUD benefits by avoiding long foreclosure and eviction periods during 
which debenture interest and claim expenses accumulate and when 
property damage can occur.
    Modifying the rules on preforeclosure sales will allow borrowers 
who cannot and do not want to retain their homes dispose of them more 
quickly. However, modifying the rules also may increase strategic 
defaults by borrowers who are capable of repaying their debts. Such a 
result would increase overall losses for FHA. With proper controls, 
however, this risk can be minimized.
            Enhance Servicer Performance Management and Oversight
    HUD is in the process of implementing an enhanced servicer 
performance scorecard that we understand will include the following 
four core areas: (i) foreclosure prevention; (ii) loss mitigation 
engagement; (iii) single-family default monitoring system (SFDMS) 
reporting; and (iv) redefaults. It is expected that the new scorecard 
will become the vehicle to determine loss mitigation incentives and 
treble damages for failing to engage in loss mitigation. Changes to the 
scorecard will require rulemaking and Federal Register notice and 
comment before they become effective. In addition, HUD will issue a 
Mortgagee Letter with further details.
    The new scorecard changes how performance is measured, and will 
likely reduce HUD outlays of loss mitigation incentive payments for 
execution of loss mitigation and could increase the imposition of 
treble damages. This will affect servicers, which depend on loss 
mitigation incentives to cover the enhanced servicing obligations 
imposed on them to administer delinquent FHA borrowers. Also, we are 
concerned the new scorecard will provide, for the first time, a vehicle 
to impose treble damages for reporting issues and issues outside of the 
servicer's controls (such as redefaults) rather than on servicers' 
efforts to offer loss mitigation. We do not believe treble damages are 
the appropriate remedy in these cases. The changes will result in the 
need for additional overlays in origination to reduce the risk of 
default, which in turn will reduce originations to FHA.
            Accelerate Note Sales
    As part of the effort to address the housing market's ``shadow 
inventory'' and to target relief to communities with high foreclosure 
activity, HUD has accelerated the use of note sales through the 
Distressed Asset Stabilization Program (DASP). This program enables HUD 
to sell severely delinquent loans insured by the FHA through a 
competitive bidding process in which loans are sold to the highest 
bidder, including nonprofit and community-based organizations.
    HUD benefits from the program because it does not have the expense 
of an extended foreclosure process, saving considerable money for FHA's 
insurance fund. Borrowers benefit because the new note holders may have 
additional flexibilities to modify loans that FHA servicers do not 
have.
Home Equity Conversion Mortgage (HECM) Program
    The independent actuary projects the economic value of the HECM 
(reverse mortgage) portfolio to be negative $2.8 billion, compared to 
$1.4 billion in FY2011.The major reasons for this steep decline are:

    Updated mortality and termination speeds. Expected 
        termination rates are slower than projected last year, thereby 
        reducing the economic value by $1.9 billion. Survivorship 
        beyond 10 years results in a greater chance of loan balances 
        exceeding property values and HUD realizing a loss.

    Higher rate of property conveyance at termination. 
        Presently, about 70 percent of nonrefinance loan terminations 
        result in the conveyance of properties to HUD compared to about 
        70 percent of property sales being handled directly by owners 
        or real estate executers historically. The new actuarial 
        estimates use updated projection model rates based on this new 
        reality. The change reduces the value of the Fund by $1.9 
        billion.

    Less optimistic baseline house appreciation rates. As 
        discussed in the FY MMI Actuarial section, home price 
        appreciations have been revised since the FY2011 Actuarial 
        Review. \21\
---------------------------------------------------------------------------
     \21\ U.S. Dept. of Housing and Urban Development, ``Annual Report 
to Congress Fiscal Year 2012 Financial Status FHA Mutual Mortgage 
Insurance Fund'' (November 2012), at p. 50. Can be accessed at: http://
portal.hud.gov/hudportal/documents/
huddoc?id=F12MMIFundRepCong111612.pdf

    In response to the actuary findings, HUD has announced significant 
changes to the HECM program. Effective April 1, 2013, FHA consolidated 
the Fixed Rate Standard program with the HECM Saver product, thus 
reducing the maximum amount of funds available to the borrower. \22\ 
The Fixed Rate Standard was attractive to borrowers because it allowed 
borrowers to maintain a fixed rate and withdraw the maximum amount of 
proceeds at loan closing. The HECM Saver allows the borrower to 
continue to have the predictability of a fixed-rate with lower upfront 
costs, but the borrower is not able to draw as much funds as the Fixed 
Rate Standard.
---------------------------------------------------------------------------
     \22\ Mortgagee Letter 2013-01.
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    MBA continues to support the HECM program and the association 
applauds FHA for devising a solution to immediately address problems 
with the HECM program but still allow seniors to have viable reverse 
mortgage options. As the population ages and seniors recover from the 
recent economic downturn, HECMs are an important option for this 
population. Although only a few years old, the HECM Saver is proving to 
be cost effective for borrowers and financially prudent for FHA. FHA is 
appropriately continuing to develop ways to better manage the program 
and ensure its sustainability, such as how to deal with taxes and 
insurance defaults. As Congress considers legislative action to improve 
the HECM program, we would urge you to consider the ramifications of 
restricting the program to such a degree that it will not serve its 
purpose of providing financial options to this important, and growing, 
population.
Potential Impact on FHA From Other Regulatory Initiatives
    Potential changes to FHA cannot be viewed in a vacuum. Over the 
last 5 years, following the mortgage crisis, a host of major rules are 
in the process of changing the face of mortgage finance. Many of these 
changes are welcome and overdue, while others are concerning. All will 
permeate the financial system and FHA. And as these changes come on 
line, their impacts must be carefully assessed through the prism of how 
they will serve consumers and the Nation. Three major rules deserve 
particular attention.
FHA Qualified Mortgage
    The Dodd-Frank Wall Street Reform and Consumer Protection Act 
required the Consumer Financial Protection Bureau (CFPB) to issue rules 
implementing the law's ``Ability to Repay'' provisions and defining a 
class of ``qualified mortgages'' (QM) that would receive enhanced legal 
protection from lawsuits. The law further authorizes HUD, the U.S. 
Department of Veterans Affairs, and the U.S. Department of Agriculture, 
in consultation with the CFPB, to prescribe rules defining types of 
loans they insure, guarantee, or administer that are QM loans, which 
may revise, add to, or subtract from the CFPB's definition. FHA loans 
comprise approximately 30 percent of today's mortgage market. For 
several reasons, MBA has strongly urged the CFPB to eliminate the 
distinction between FHA QM safe harbor and FHA QM rebuttable 
presumption loans or at least raise the APR threshold to better define 
FHA QM safe harbor loans.
    The CFPB's final rule makes clear that the bifurcation between QM 
safe harbor loans and QM rebuttable presumption loans is intended to 
provide greater recourse to subprime borrowers. FHA loans, however, are 
not ``subprime.'' They are subject to Government oversight and 
significant regulation. FHA loans are generally fixed rate and 
adjustable loans are subject to extremely tight adjustment limits to 
protect borrowers. All loans must be fully documented, meet minimum 
downpayment and other requirements, and loans with credit scores under 
620 now must also meet DTI requirements. Given the parameters of the 
FHA program and its regulation of all aspects of the process, MBA 
believes its borrowers are already well protected. Establishing a 
cutoff for FHA safe harbor loans will only add regulatory burden 
without providing any offsetting benefit.
    MBA strongly believes that for the foreseeable future lenders will 
be extremely wary of originating loans that fall outside of the QM safe 
harbor. Consequently, if the threshold is not at least expanded, the 
availability of FHA credit for underserved populations--first-time, 
minority, and low- and moderate-income borrowers--may be unduly 
limited, jeopardizing FHA's ability to fulfill its important role.
Qualified Residential Mortgage
    Another outstanding issue that will have a profound impact on FHA 
is the proposed risk retention rule. The Dodd-Frank Wall Street Reform 
and Consumer Protection Act requires mortgage securitizers to retain 5 
percent of the credit risk unless the mortgage is a Qualified 
Residential Mortgage (QRM). The proposed rule issued by six Federal 
regulators nearly 18 months ago would require families to make a 20 
percent downpayment and meet relatively low DTI and other stringent 
requirements. It is not at all clear from the proposal whether the 
regulators reflected on the relationship between the proposed QRM 
definition and the FHA's eligibility requirements in light of FHA's 
statutory exemption from risk retention. The proposed QRM definition 
appears to conflict directly with the Administration's plan for 
reforming the housing finance system because it would make it far more 
difficult for private capital to reenter the housing finance market. In 
its white paper, the Administration made clear that it intends to 
shrink FHA from its current role of financing one-third of all 
mortgages, and one-half of all purchase mortgages.
    MBA supports FHA's role as a source of financing for first-time 
homebuyers and other underserved groups. However, because of the wide 
disparity between FHA's downpayment requirement of 3.5 percent and the 
QRM requirement of 20 percent, MBA believes the proposed risk retention 
rule would force over-utilization of FHA and other Government programs. 
While FHA should continue to play a critical role in our housing 
finance system, MBA firmly believes that it is not in the public 
interest for a Government insurance program like FHA to dominate the 
market, especially if private capital is ready and willing to provide 
reasonable financing for the same borrowers.
Conclusion
    MBA believes the recent changes announced by FHA are fiscally 
prudent and warranted given the financial realities described in the 
Actuarial Review of FHA's MMI Fund for Fiscal Year 2012. MBA also 
understands that over this next year, examining the potential and need 
for any further legislative FHA reforms will be a top priority for the 
Congress, HUD, and other policy makers as you consider various balanced 
options intended to help FHA maintain its mission focus and remain 
fiscally sound over the long term.
    As that discussion intensifies, MBA stands ready to work with this 
Committee as a resource to ensure that the trade-offs associated with 
these options are fully recognized, appreciated, and seriously 
considered during any subsequent legislative debate.
               RESPONSES TO WRITTEN QUESTIONS OF
               SENATOR MENENDEZ FROM GARY THOMAS

Q.1. How would a reduction in FHA market share affect high-cost 
regions like New Jersey and areas with a higher density of 
condominium markets?

A.1. Any reduction in FHA market share must be as a result of a 
return of the private capital to the Nation's mortgage market. 
In order to best serve the interests of the national and 
regional housing markets and economies, private capital must be 
available to all parts of the country and all components of the 
housing stock, including high-cost communities and condominium 
markets before FHA market share is significantly reduced.
    We do have concerns that lowering the loan limits without 
the private market available would have a significant negative 
impact on many markets nationwide. The current limits are set 
to expire on December 31, 2013, and move to the permanent 
limits of 115 percent of median home price and $625,500. We 
have seen some return of that market in the GSE space, and hope 
that as the year progresses, more liquidity becomes available.
    We also continue to have concerns with the restrictions 
placed on condominium purchases by FHA. We would argue that 
some of these policies actually work to the detriment of their 
stated goal of strengthening the viability of the FHA's pool of 
insured condominium loans. At a recent hearing before the House 
Financial Services Committee FHA Commissioner Carol Galante 
said that there was not any data to show that condominiums were 
any more risky than single-family homes. FHA's data actually 
shows condos performing better than single-family homes. Yet it 
remains difficult to purchase a condominium with FHA due to a 
number of restrictions. We continue to work with HUD to change 
these policies.

Q.2. Your organization is focused on expanding home ownership. 
How do we help the estimated 45 million households in the U.S. 
that are trapped in-between renting and owning, while making 
sure that we don't create another housing bubble?

A.2. Our organization is focused on ensuring that all 
creditworthy borrowers have access to the capital they need to 
enter home ownership, and the tools they require to sustain it. 
Not all of the renter households in our Nation will either want 
to own a home or have the ability to do so. However, the dream 
of home ownership does persist for a significant number of 
households in this pool, and it is up to all of us [Congress 
and the Housing Industry] to ensure that we provide them with 
the education, access to affordable capital, and a finance 
system that is built to promote their success in this endeavor. 
It is to that end that NAR supports home counseling efforts via 
our state and local associations and since May 2005 have 
promoted principles for ``Responsible Lending''.
    Directly after the collapse of the housing finance market, 
NAR embarked on a journey to determine how to best design a 
system for housing finance going forward. Our Principles for 
``Reforming the Secondary Mortgage Market'' were first 
introduced to the housing industry and Congress in late 2009. 
We have since updated them to include principles for promoting 
the return of private capital, and we currently use our updated 
position to advocate for comprehensive, effective, and 
efficient GSE Reform, now (see, link below). 
REALTORS' believe that an effective and efficient 
housing finance system whose focus is on affordable, 
sustainable mortgage products that are in the consumers best 
interest, will be in the industry's and the Nation's best 
interest. Only when we return to a housing finance system that 
functions appropriately, with the correct balance of 
underwriting flexibility and regulatory oversight--as it did 
for nearly 70 years prior to the housing boom and bust--will we 
be able to ensure that any further housing bubbles will not 
have as devastating an effect as the housing bubble that 
occurred during the Great Recession.

Q.3. How helpful are distressed note-sales in limiting FHA's 
future liabilities?

A.3. HUD's FHA distressed note sale may be helpful to the fund 
since FHA has to manage a growing number of distressed loans 
that are likely to go to foreclosure. FHA does not have 
sufficient resources to manage their current portfolio of 
foreclosed homes, and this program will help them quickly move 
through their troubled book of loans.
    Certain characteristics and requirement make this program 
unique in comparison to other program NAR has previously been 
against:
    HUD's program:

    Sells pools of defaulted mortgages headed for 
        foreclosures.

    To qualify for the programs the loan must be:

      At least 6-months delinquent

      The servicer has exhausted all steps in the FHA 
        loss mitigation process

      The servicer has initiated foreclosure 
        proceedings, and

      The borrower is not in bankruptcy.

    Additionally the buyer of the notes must try to 
        modify the mortgage and is unable to foreclose for 6 
        months.

Q.4. In Fiscal Year 2011, over half of all African Americans 
who purchased a home and 49 percent of Hispanics did so with 
FHA financing. Moreover, 78 percent of FHA's borrowers were 
first time homebuyers; the very engine of housing growth over 
the last few decades. These statistics are very telling. Can 
you elaborate on the role FHA plays for these groups, and how 
that relates to the mission of FHA? How might the economy be 
impacted by reductions in home ownership for these demographic 
groups?

A.4. FHA's role for first-time buyers and minority buyers has 
been tremendous. Since 2009, FHA has insured mortgages for more 
than 2.8 million first-time buyers. Were it not for FHA, these 
buyers would not be homeowners, and 2.8 million homes would 
still be on the market. This would have been devastating on our 
Nation's economy.
    The role for minority groups is also significant. As you 
stated, nearly half of African Americans and Latinos who 
purchased a home in 2011 used FHA financing. This role was just 
as critical before the crisis. Even in 2001, more than twice as 
many minority first-time buyers used FHA than a loan that was 
guaranteed by Freddie Mac or Fannie Mae. Without these buyers 
our economy, real estate markets, and most importantly, our 
communities would suffer.
Q.5. How would the change to a Fair Value Accounting system 
impact the ability of HUD to continue a mortgage insurance 
program?

A.5. We are not accountants and cannot speak to the mechanics 
of different accounting models. However, we do not believe that 
treating FHA more like a private company is in our Nation's 
best interest. Were FHA a private mortgage insurance company, 
it likely would have pulled out of market during the downturn 
as virtually all other PMI companies did. Had that happened, 
the housing market would likely still not have recovered. FHA 
counter-cyclical role is crucial to helping our Nation's 
economy during times of duress.
    A fair value accounting method is an inappropriate way to 
analyze a public program like FHA unless the intent is to sell 
its assets at the time of analysis. Market conditions change 
and, therefore, a fair value accounting analysis is only as 
good as the day it is performed and only if the assets were to 
be sold at fire-sale prices. The FHA program should not be 
singled out for a less comparable and highly volatile 
measurement such as fair value accounting.
                                ------                                


       RESPONSES TO WRITTEN QUESTIONS OF SENATOR HEITKAMP
                        FROM GARY THOMAS

Q.1. While the Federal Housing Administration (FHA) has already 
taken several actions to address issues identified in the 2012 
Actuarial Review, it has asked for additional authority and 
others have suggested additional reforms. Do you believe the 
following reforms should be implemented and what impact will 
they have on the housing market?
    Increasing the minimum downpayment requirement from 3.5 
percent to 5 percent.

A.1. The National Association of REALTORS' does not 
support an increase to the downpayment. Increasing the 
downpayment will do nothing to increase FHA's reserves and will 
disenfranchise thousands of otherwise qualified borrowers who 
with careful underwriting could successfully handle their 
mortgage obligations as well as home ownership in general.
    The correlation between downpayment and loan performance is 
significantly less important than the linkage to strong 
underwriting, which FHA continues to have. Borrowers with the 
median income would need approximately 6.5 years to save for a 
5 percent downpayment, assuming that the family directs every 
penny of savings toward a downpayment, and nothing for their 
children's education, retirement, or a ``rainy day.'' Families 
saving for these other necessities will have to wait much 
longer. For example, a median income family that sets aside 
$1000 per year of its savings for college tuition or retirement 
would need nearly 9 years to save for even a 3.5 percent 
downpayment. FHA's most recent estimate was that more than 
300,000 borrowers a year would not be able to make a 
downpayment of 5 percent and still have sufficient reserves and 
resources to obtain the loan.

Q.2. Requiring automatic premium increases when the insurance 
fund falls below a statutory minimum.

A.2. FHA has increased premiums 5 times since 2009. We have not 
opposed these premium increases that were necessary to protect 
the FHA fund. However, we believe FHA is the most appropriate 
arbiter of when to increase premiums. We support legislation to 
provide FHA with flexibility to change program requirements 
when necessary to protect the Fund. These include greater 
flexibility on setting premiums, changing loan policies, and 
other program changes. We believe FHA should have to go through 
some public notice process for significant changes, but don't 
believe the Agency should have to go to Congress for every 
program change.

Q.3. Strengthening the FHA's indemnification authority for all 
lenders.

A.3. We support legislation that provides FHA with authority to 
seek indemnification from direct endorsement (DE) lenders. 
Indemnification protects FHA from insurance claims where the 
lender is guilty of fraud, misrepresentation or noncompliance 
with applicable loan origination requirements. FHA currently 
has authority to require indemnification from lenders with 
Lender Insurance approval only. DE lenders represent 70 percent 
of all approved lenders, and Congress should require that FHA 
receive indemnification from them. This will provide 
significant level of protection for taxpayers when fraud has 
been committed.

Q.4. Giving the FHA authority to transfer servicing.

A.4. NAR does not have policy on this issue.

Q.5. Strengthening the 2 percent capital level.

A.5. FHA's 2 percent capital reserve requirement is simply a 
number arbitrarily assigned to demonstrate FHA's financial 
soundness. We support measures to ensure FHA's financial 
stability and ongoing availability. We do not have any specific 
recommendations related to the level of the capital reserves.

Q.6. The Federal Housing Administration (FHA) has raised 
premiums five times since 2009. What impact has that had on the 
market? Has it encouraged the return of private investment?

A.6. We have seen a significant increase in private investment 
in mortgage markets. Private level of involvement remains low 
but is growing. This could be as a result of a number of 
factors--including growing investor confidence, stabilized 
housing prices, or increased pricing by FHA. NAR welcomes the 
return of the private market and a return of FHA to its 
traditional market share of 10-15 percent of the mortgage 
market. But we are not there yet. The private market is wary of 
regulations like QM, QRM, and Dodd-Frank oversight, and 
uncertain about the future of the secondary mortgage market. 
Regardless of what you do to FHA, a robust private market 
simply isn't willing to return yet. We oppose increasing FHA 
premiums simply to try and force the private market back to 
return. Doing so will simply price buyers out of FHA and reduce 
the size of the market overall.
                                ------                                


               RESPONSES TO WRITTEN QUESTIONS OF
              SENATOR MENENDEZ FROM PETER H. BELL

Q.1. HUD has recently discussed consolidating the HECM Fixed 
Rate Standard and Saver programs. Can you discuss how this 
change might generate savings? What other effects might it 
have?

A.1. As of April 1, 2013, HUD has ``consolidated'' the HECM 
Fixed Rate Standard and Saver programs. What this means, 
essentially, is that a fixed-rate HECM at the higher principal 
limits available from the ``Standard'' is no longer available. 
Any prospective borrower interested in obtaining a HECM with a 
fixed interest rate would have to choose the ``Saver'' option 
with the lower amount of money available.
    The issue with fixed-rate Standard has been that the 
interest accrual on the larger initial draws grows relatively 
quickly, potentially causing the loan balance to exceed the 
value of the home. The Saver addresses this by advancing a 
smaller percentage of the home's value, leaving a larger 
``cushion'' of value to cover the interest accrual over time. 
This will help the program avoid some payouts for claims.
    A primary effect is that borrowers will now choose between 
a variable rate Standard, in which they can draw down less than 
the full principal limit up front and utilize the remaining 
amount over a longer period of time, or Saver loans which have 
a more conservative principal limit (Loan-to-Value). These 
options all present lower risk to the FHA.

Q.2. Over the next decade, the population of seniors 62 and 
over will continue to grow. How important is the HECM program 
considering this growth and the unfortunate reductions in many 
of these same households' retirement wealth?

A.2. There are (depending on the data source) between 60 
million and 70 million ``Boomers'' approaching retirement. Half 
of them have little or no savings. Among the half who have 
savings the average is under $125,000. At the same time, many 
in this cohort have accumulated substantial wealth in their 
homes. That housing wealth will be an important resource for 
funding longevity. A significant proportion of these Boomers 
will live well into their 80s, and many into their 90s.
    The HECM program is an important tool for giving older 
Americans access to that substantial housing wealth. It plays 
an equally important role as an ``incubator'' providing 
valuable data and experience to be used by the private sector 
and investment community to develop complimentary products that 
could enter the marketplace alongside the FHA option.

Q.3. You remark in your written testimony on the evolution of 
the HECM program over the last few decades and the changing 
demographics of its beneficiaries. Could you elaborate on this? 
What problems is HUD facing with respect to HECM loans, 
attributable to these changes?

A.3. When the HECM program was first authorized, the general 
thinking behind it was that it would serve older married 
couples who had lived in their homes for many years and would 
have little or no debt left on their property. Therefore, the 
HECM would provide some supplementary ``income'' on a monthly 
basis to help improve their cash flow and assist in paying 
bills.
    Changes in housing markets generally, higher costs for 
homes in many areas, larger mortgages balances, and the 
opportunity to refinance as interest rates came down, led to 
many older homeowners having significant mortgage balances on 
their property well into their later years. Once the financial 
meltdown wiped out savings, diminished the value of other 
investments, and led to job loss and retirement earlier than 
anticipated, some homeowners found that they could no longer 
make the payments on their existing mortgages.
    The HECM program provided a solution by enabling homeowners 
to pay-off their existing mortgages with HECM loans, 
eliminating the monthly payment so that the cash that had been 
used to make mortgage payments would be available to cover 
other living expenses.
    The problem with this approach, as we have learned, is that 
in some cases, HECM borrowers have still been unable to manage 
their cash flow and meet their obligations, leading them to 
become delinquent in paying taxes and insurance premiums on 
their properties. That has led to an uptick in technical 
defaults for nonpayment of property charges by HECM borrowers 
who had exhausted their reverse mortgage funds and could no 
longer meet their obligations.

Q.4. It has been brought to Congress' attention that assessing 
a HECM applicant's finances may help lenders provide better 
product options, though it may keep some households from 
receiving access to this popular program. How can HUD and 
lenders develop an assessment framework that balances HUD's 
fiscal solvency with fair access for borrowers?

A.4. Once of the solutions to the problem discussed in my 
preceding answer is to implement a ``financial assessment'' of 
prospective borrowers as part of the HECM application process. 
Financial assessment would be a form of limited underwriting, 
but differs from underwriting for forward mortgages, that would 
look at sources of funding available to the homeowner, 
including income from Social Security and pensions, retirement 
savings and assets that can be spent down, and proceeds from 
the HECM loan. The objective of this assessment would be to 
ascertain that the prospective borrower(s) has the ability to 
meet their obligations to pay taxes and insurance, and still 
has enough residual income available to pay other living 
expenses.
    One concern has been that some prospective borrowers might 
be shut out of the program. However, it is our opinion that 
this type of underwriting, for the most part, will disqualify 
prospective borrowers who have a likelihood of failure with the 
HECM loan, but not those with the wherewithal to succeed.

Q.5. How fast and flexible would HUD's response to the HECM 
issue be if it had to rely on the current regulatory rule-
making process? How can we make sure that HUD considers 
stakeholder remarks before issuing ``mortgagee letters'' to 
make policy?

A.5. Under the current rulemaking process, it would take HUD 
18-24 months to implement the changes that all stakeholders 
appear to agree would be appropriate. Furthermore, if any fine-
tuning were required as lessons are learned thru 
implementation, the regulatory development process would have 
to be done again. Alternatively, if given the authority to make 
changes via Mortgagee Letter, HUD could implement changes in 
60-90 days.
    HUD has always been very open to input from the various 
stakeholders interested in the HECM program including senior 
advocacy groups, the counseling community and the industry. We 
all meet and converse frequently and HUD actions are generally 
taken only after deriving consensus among the parties involved. 
If members of Congress are concerned about making sure that HUD 
considers stakeholder concerns, report language can be drafted 
instructing HUD to do so while implementing any program 
changes.
    NRMLA believes that HUD has been a responsible steward of 
the HECM program and has been open and thoughtful in obtaining 
input and feedback. We are comfortable that this would continue 
to be the case.
                                ------                                


               RESPONSES TO WRITTEN QUESTIONS OF
            SENATOR MENENDEZ FROM PHILLIP L. SWAGEL

Q.1. You propose in your testimony that FHA insurance should 
not be offered to borrowers with a foreclosure in the last 
several years. That seems a little broad considering that many 
FHA borrowers with performing loans are defaulting, not because 
of inherently bad credit decisions, but because of our economy. 
How would you discern between these types of borrowers and 
those that are considered ``bad'' credit risks?

A.1. Private market participants see recent foreclosure as a 
risk factor for future default. Industry reports indicate, for 
example, that a foreclosure has a considerable negative impact 
on a borrower's credit score for 7 years, with the impact 
diminishing over time. This suggests that it is appropriate for 
the FHA likewise to consider past loan performance, including 
an outright prohibition on offering FHA insurance to borrowers 
for 5 to 7 years as suggested in my written testimony. Income 
shocks such as unemployment are a key contributing factor to 
foreclosure, particularly in combination with a negative equity 
situation. To be sure, there will be some potential borrowers 
who will have a past default arising from a job loss but then 
find a secure job and have the capacity to make mortgage 
payments in the future. It would be difficult, however, to 
distinguish such potential borrowers from others whose job 
situations are not as secure--this discernment is simply 
difficult. Avoiding inappropriate risks for taxpayers thus 
means unfortunately that some potential borrowers will have to 
wait to become eligible for a mortgage. It should be noted as 
well that this situation provides a motivation for moving 
forward with overall housing finance reform that would 
encourage the return of private capital to fund mortgages, 
including for the return of private capital providers willing 
to take on the risks involved with lending to borrowers who do 
not qualify for Government-backed programs.

Q.2. Of loans originated and insured by FHA in 2010 and after, 
it is reported that 70 percent of performing loans had a 
downpayment of less than 5 percent and approximately two-thirds 
of borrowers had a FICO score of less than 680. Doesn't this 
demonstrate that FHA is a source of strong, performing loans?

A.2. Yes, the FHA supports many performing loans. 
Unfortunately, the FHA also backs many loans that are not 
performing. Indeed, as Joseph Gyourko points out, the 
delinquency rate for FHA-backed loans originated in 2010 and 
after is considerably higher than that for other loans, most of 
which comply with GSE lending standards and thus involve larger 
downpayments and more stringent underwriting standards than 
FHA-supported loans (see, Gyourko's April 2013 paper entitled 
``Unfounded Optimism: The Danger of FHA's Mispriced 
Unemployment Risk'' available on the AEI Web site). This is 
illustrated in the Table below, which is taken from Gyourko's 
paper. FHA vintages, from 2010 on, had a serious delinquency 
rate of 12 percent in the third quarter of 2012, compared to 
only a 4 percent serious delinquency rate for all mortgages 
included in the Mortgage Bankers Association survey (which 
includes FHA loans, meaning that the non-FHA loans had an even 
smaller delinquency rate than 4 percent).


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]




Q.3. Do you agree with the findings of Moody's Analytics that 
the loss of FHA as an institution in 2010 would have meant the 
loss of 3 million jobs, mortgage interest rates increasing by 
6.7 percent, and a 2 percent decrease in the GDP? If not, 
please detail why.

A.3. No. While I have considerable respect for the work of 
Moody's Analytics, I believe that these findings are 
overstated. For mortgage interest rates, for example, the 
policy actions of the Federal Reserve have held mortgage 
interest rates at low levels and would have continued to do so 
regardless of the participation of the FHA. Similarly, without 
FHA lending, potential FHA borrowers would have continued to 
consume housing services. Some households would have taken out 
non-FHA loans (including some who would have waited longer to 
accumulate a downpayment before purchasing a home), while 
others would have rented. The spending on housing would not 
have disappeared from the economy--it would have taken place in 
a different way. This is not a judgment about whether the 
hypothetical absence of the FHA would be good or bad for the 
individual families, but only that the impact on the overall 
macro economy is overstated. The FHA provides a subsidy to some 
borrowers at a cost to the Federal Government and thus to 
overall taxpayers. This is best seen as a transfer of 
resources.

Q.4. Are downpayments by themselves a robust indicator of loan 
riskiness? What are your thoughts on this? How else might loans 
be deemed ``safe'' or ``risky''?

A.4. As discussed by Gyourko, economic research suggests that 
the combination of negative equity and income loss together are 
key indicators of default. Gyourko refers to this as the 
``double trigger'' hypothesis. He goes on to explain that a 
homeowner with negative equity is at risk of default, but the 
vast majority of underwater borrowers remain current. An income 
loss such as unemployment is then the second factor that 
triggers a default. The small downpayment requirements at FHA 
are thus an element that makes these loans risky compared to 
loans with larger downpayments, since homeowners with little 
equity in their homes are more likely to become underwater than 
those with considerable equity. This line of thought suggests 
that the riskiness of a mortgage encompasses multiple factors, 
including the potential homebuyers' income and credit history, 
the type of mortgage product, and the overall and local 
economic environments.

Q.5. How would the change to a Fair Value Accounting system 
impact the ability of HUD to continue a mortgage insurance 
program?

A.5. Use of fair value accounting would mean that the risks of 
Government financial activities such as FHA-backed mortgages 
are more accurately gauged as compared to use of the accounting 
convention of the Federal Credit Reform Act (FCRA). As noted in 
my written testimony, the current FCRA accounting treatment 
allows the FHA to book a profit when it guarantees loans to 
riskier borrowers and on less stringent terms than loans that 
private sector lenders would be willing to make. This is an 
unwelcome artifact of the accounting treatment. Use of fair 
value accounting provides a more accurate assessment of the 
costs involved with FHA activities. The better accounting 
treatment does not change the benefits of FHA activities. So 
long as Congress is willing to devote the funds needed, use of 
a more accurate accounting treatment would not affect the 
ability of HUD to continue a mortgage insurance program.
                                ------                                


       RESPONSES TO WRITTEN QUESTIONS OF SENATOR HEITKAMP
                     FROM PHILLIP L. SWAGEL

Q.1. While the Federal Housing Administration (FHA) has already 
taken several actions to address issues identified in the 2012 
Actuarial Review, it has asked for additional authority and 
others have suggested additional reforms. Do you believe the 
following reforms should be implemented and what impact will 
they have on the housing market?

    Increasing the minimum downpayment requirement from 
        3.5 percent to 5 percent.

    Requiring automatic premium increases when the 
        insurance fund falls below a statutory minimum.

    Strengthening the FHA's indemnification authority 
        for all lenders.

    Giving the FHA authority to transfer servicing.

    Strengthening the 2 percent capital level.

A.1. Yes, I believe that all of the reforms should be 
undertaken. These reforms would increase the protection for 
taxpayers ahead of the risks involved with FHA backing for 
mortgage loans, while providing the FHA with a greater ability 
to go after lenders and services that do not follow agency 
guidelines.
    These steps would have an impact on the housing market, 
generally with a modest negative impact but not entirely. 
Higher downpayment requirements would mean that some potential 
borrowers would have to wait longer to accumulate a 5 percent 
downpayment than the 3.5 percent downpayment. At the same time, 
this would increase the protection for both taxpayers and 
homeowners against default and foreclosure, since there is 
considerable evidence that underwater borrowers are at elevated 
risk of foreclosure (especially in the wake of income shocks). 
Requiring higher insurance premiums and more capital at the FHA 
would protect taxpayers against the need to bail out the FHA 
insurance fund (which might be needed this year), but lead to 
higher mortgage interest rates for borrowers--these higher 
rates would reflect the increased protection for taxpayers.
    The housing market is in recovery and could absorb the 
moderate impacts of these steps to better protect taxpayers 
against the risks involved with FHA-backed mortgages.

Q.2. The Federal Housing Administration (FHA) has raised 
premiums five times since 2009. What impact has that had on the 
market? Has it encouraged the return of private investment?

A.2. Higher insurance premiums for FHA loans correspond to 
greater protection for taxpayers but translate into increased 
mortgage interest rates for homebuyers. As noted in my written 
testimony, analysis by the CBO indicates that FHA premiums are 
still set at rates below those that would correspond to ``fair 
value'' protection for taxpayers--FHA premiums involve a 1.5 
percent cost (a positive subsidy rate) using fair value 
accounting (even though the FHA books a profit on its 
guarantees because it does not fully account for the risks 
involved with its activities). The CBO analysis thus indicates 
that FHA premiums are still underpriced and taxpayers under 
protected even with the premium increases of the past several 
years.
    Increased FHA insurance premiums are one factor that would 
tend to foster the return of private capital to housing finance 
but are just one part. Considerable uncertainty over the legal 
and regulatory treatment of fully private mortgages stands in 
the way of a return of nonguaranteed securitized lending. There 
has been a modest increase in private funding of mortgages over 
the past several years, but the vast majority of loans are 
still backed by the Federal Government through the FHA, the two 
GSEs, and other Government agencies such as the VA and USDA. At 
the same time, the GSEs along with the FHA have essentially no 
MBS-level private capital in front of taxpayers (and the FHA 
has relatively little mortgage-level private capital since it 
allows modest downpayments). It would be useful to institute 
reforms along several dimensions: to continue to rationalize 
the pricing of FHA insurance premiums; to reduce the maximum 
dollar amount of FHA-backed mortgages; and to bring in private 
capital in a first-loss position ahead of Government-backed 
loans.
                                ------                                


               RESPONSES TO WRITTEN QUESTIONS OF
           SENATOR MENENDEZ FROM SARAH ROSEN WARTELL

Q.1. Are downpayments by themselves a robust indicator of loan 
riskiness? What are your thoughts on this? What else might 
regulators, lenders, and servicers look at?

A.1. No one factor makes a loan risky. It is the layering of 
risk that should be controlled rather than single-minded focus 
in all cases on downpayment or equity. Of course, downpayments 
are an important component in determining the default and loss 
risk in a mortgage. Homeowners are less likely to default if 
they have equity in their house and, if there is equity, the 
size of potential loss may be smaller. Also, the ability to 
save for a downpayment is evidence relevant to future payment 
performance. However, downpayment is only one determinant of 
risk and it is very important that loans are assessed 
comprehensively.
    One of the unfortunate consequences of practice and 
regulatory changes in the aftermath of the crisis has been the 
hardening of underwriting, so that each factor is increasingly 
applied as a screen rather than part of a balance of factors 
that together represent the level of risk. Good underwriting 
involves consideration of compensating factors that might 
offset elevated risk that might be reflected by another factor. 
Good credit history, stable income, loan terms (such as a 
quicker amortization schedules as with 15-year mortgages) are 
proven factors. And we need to better measure and prove the 
impact of other compensating factors such as participation in 
high quality credit counseling or matched savings programs. 
Finally, we do not fully understand why certain origination 
channels do a better job of underwriting loans that will 
perform well, even when the borrowers' credit profiles seem 
similar on paper.

Q.2. What role does housing counseling play in FHA insurance? 
Should it be more integrated in the normal underwriting 
process?

A.2. I am confident that housing counseling--both prepurchase 
counseling and default prevention counseling--can reduce risk. 
But not all counseling is equally effective. For example, it is 
not well understood whether mandatory counseling is as 
effective as voluntary counseling. The borrower's motivations, 
the timing of the counseling, the quality of the counseling, 
and many other factors vary--and so the impact of counseling on 
risk is hard to predict in every case. We need more precise and 
rigorous research so that we can give lenders and bearers of 
credit risk greater confidence that they can rely upon the 
availability of high quality counseling in assessing mortgage 
risk.
    One of FHA's reasons for being is to help support positive 
innovation. Well scaled pilot programs that test and evaluate 
rigorously the impact of credit counseling on different kinds 
on loan performance would be a valuable way for FHA to 
contribute to strengthening outcomes for lenders and borrowers 
across the housing system. Learning developed in the FHA 
context could spread across the larger system.
    There are difficult issues to address, however. The first 
is finding a financing mechanism to incorporate housing 
counseling into FHA insurance. With proven risk reduction, it 
might make sense for lenders or insurers to help finance 
counseling. But sometimes the best outcome from counseling is a 
decision to delay a purchase. And the economic incentives may 
not be aligned well in a lender-pay model. An alternative is to 
create an economic or access incentive for the borrower to 
undergo high quality credit education. But if we want to design 
that incentive, we should try to make it commensurate with the 
reduction in risk. Thus, piloting with rigorous evaluation and 
measurement of different funding models is the key to bringing 
housing counseling to scale for FHA and the broader system of 
housing finance.

Q.3. Is it a fair expectation that FHA should at times operate 
less fiscally efficiently to promote credit access for low and 
moderate income borrowers?

A.3. Yes, but not only for the benefit of low and moderate 
income borrowers, but also for the benefit of all of us who 
live and work in the U.S. economy.
    FHA was designed to operate at no net cost to the taxpayer 
over time. However, because FHA does not have private 
shareholders and quarterly reports to investors, it can be the 
patient market participant who can insure across the credit 
cycle. Some books of business will perform well, and FHA can 
build up a capital reserve that will help to offset unexpected 
losses when markets are weak. To the extent losses occur on 
some of this business, FHA has the ability to diversify across 
time and even make up for these losses in subsequent years if 
prior reserves prove inadequate. The FDIC works in a similar 
way.
    This countercyclical role is especially important for 
moderate income homebuyers. It is important for home-sellers 
too, ensuring that credit is available for purchasers so 
families can sell when they need to move or recover equity. In 
times of tight credit, working families and minority community 
especially bear the brunt of limited credit. But all of us 
benefit when FHA is willing to continue to insure into a down 
market, with understanding that those books of business will 
perform less well and could even incur losses that would need 
to be recovered later. This role breaks downward spirals and 
prevents larger losses to all credit providers and the macro 
economy.

Q.4. Many critics of FHA state that loans insured by the agency 
are just like subprime loans. How would you respond to that?

A.4. While FHA defaults are too high right now, its default 
rates are still well below the default rates of subprime 
mortgages originated in the last decade principally funded by 
private-label securitization. Subprime serious delinquency 
rates peaked at approximately 30 percent while FHA mortgages 
peaked at slightly below 10 percent. FHA loans are, on average, 
higher risk than prime, but lower risk than subprime.
    Though FHA loans may often share some risk attributes with 
subprime loans, these attributes alone do not make FHA insured 
loans subprime. FHA mortgages tend to be fully underwritten and 
usually have some compensating factors that limit risk. 
Subprime loans originated last decade often had shoddy 
underwriting and layered risks.

Q.5. FHA Commissioner Galante testified before the House 
recently that there were still outstanding requests for 
additional authority HUD needs to improve the insurance 
program, like indemnification against Direct Endorsement 
lenders and the ability to terminate origination and 
underwriting approval. Can you enlighten us about how these 
would help?

A.5. I believe that there are a wide range of additional 
authorities, some requested by HUD and some that I propose in 
my testimony, that could strengthen the capacity of FHA to 
reduce taxpayer exposure to risk.
    Looking at FHA's recent performance, a key pattern emerges. 
FHA could have avoided some of its losses if it had not been 
for structural barriers to faster change at the agency--
barriers that prevent the type of prompt response a private 
company is able to make to protect itself against risk. FHA 
needs new tools and increased flexibility to act quickly to 
manage and mitigate risk to protect both taxpayers and 
borrowers.
    FHA also needs to have the flexibility to spend insurance 
proceeds for analytic services and better systems to understand 
what risk it is taking and be able to act to reduce excessive 
risk, with a particular focus on how to manage the layering of 
risk on low-downpayment mortgages.
    On the specific authorities that you mention, FHA officials 
have been asking Congress for since 2010 is the ability to 
require indemnification from direct endorsement lenders. FHA 
also would benefit from the ability to more quickly terminate a 
lender's ability to originate FHA-insured loans. Under current 
law, FHA can only hold these lenders accountable for fraudulent 
activity if they ``knew or should have known'' of its 
occurrence. FHA needs to be allowed to impose higher, but also 
clearer, standards so lenders are accountable for fraud in FHA-
insured loans. This is an example of an area where I believe 
current legislation is too prescriptive, requiring FHA to wait 
for legislative action before they can make program changes to 
lower taxpayer risk. The goal should be to give the taxpayers--
not program participants--the benefit of the doubt.
                                ------                                


       RESPONSES TO WRITTEN QUESTIONS OF SENATOR HEITKAMP
                    FROM SARAH ROSEN WARTELL

Q.1. While the Federal Housing Administration (FHA) has already 
taken several actions to address issues identified in the 2012 
Actuarial Review, it has asked for additional authority and 
others have suggested additional reforms. Do you believe the 
following reforms should be implemented and what impact will 
they have on the housing market?
    Increasing the minimum downpayment requirement from 3.5 
percent to 5 percent.

A.1. No. Increasing the minimum downpayment will make financing 
less accessible to many responsible potential borrowers, and 
likely dampen the housing market recovery and reduce low-income 
and minority family home ownership rates. While downpayments 
are an important component in determining the default risk in a 
mortgage, no one factor makes a loan risky and it is the 
layering of risk that must be controlled.
    As I noted in a response to questions from Senator 
Menendez, one of the unfortunate consequences of practice and 
regulatory changes in the aftermath of the crisis has been the 
hardening of underwriting, so that each factor is increasingly 
applied as a screen rather than part of a balance of factors 
that together represent the level of risk. Good underwriting 
involves consideration of compensating factors that might 
offset elevated risk that might be reflected by another factor. 
Good credit history, stable income, loan terms (such as a 
quicker amortization schedules as with 15-year mortgages) are 
proven factors. And we need to better measure and prove the 
impact of other compensating factors such as participation in 
high quality credit counseling or matched savings programs. 
Allowing some of these factors to offset the risk of lower 
downpayments is an appropriate way to make credit available 
while still protecting taxpayers.

Q.2. Requiring automatic premium increases when the insurance 
fund falls below a statutory minimum.

A.2. No. Requiring automatic premium increases when the 
insurance fund falls below a minimum could conflict with the 
countercyclical role of FHA.
    As I noted in response to another question, FHA was 
designed to operate at no net cost to the taxpayer over time. 
However, because FHA does not have private shareholders and 
quarterly reports to investors, it can be the patient market 
participant who can insure across the credit cycle. Some books 
of business will perform well, and FHA can build up a capital 
reserve that will help to offset unexpected losses when markets 
are weak. To the extent losses occur on some of this business, 
FHA has the ability to diversify across time and even make up 
for these losses in subsequent years if prior reserves prove 
inadequate. The FDIC works in a similar way.
    Automatic premium increases would take away the discretion 
of policy makers to assess credit availability, evaluate the 
capacity of the fund to recoup its capital cushion over time, 
and make a decision when premium increases are appropriate. As 
we saw over the most recent crisis, FHA policy makers increased 
FHA premiums in multiple steps. An abrupt process could have a 
destructive impact on credit markets at a time when they are 
most fragile.

Q.3. Strengthening the FHA's indemnification authority for all 
lenders.

A.3. Yes. Currently, FHA can only seek such indemnification 
from lender insurance (LI) lenders. Since 2010, HUD has sought 
to ensure that both direct endorsement (DE) and LI lenders are 
liable to indemnify the secretary for losses on loans they 
originate that do not comply with FHA guidelines. This change 
will provide for equal treatment of both classes of lenders and 
empower the agency to reduce losses. Sound underwriting is 
always important and if anything eliminating abuses will help 
the economy in the long run.

Q.4. Giving the FHA authority to transfer servicing.

A.4. Yes. The failure of lenders to take appropriate loss 
mitigation steps can result in higher than necessary claims to 
the FHA Fund and homeowners losing their homes unnecessarily. 
This authority will not only deal with ineffective servicers 
but create a powerful incentive for better servicing. Reducing 
defaults will have a beneficial effect on neighborhoods and the 
economy.

Q.5. Strengthening the 2 percent capital level.

A.5. A modestly higher level of reserves would help ensure that 
measures are taken sooner to stabilize the fund. And also would 
help prevent pressures, during good times, to reduce premiums 
unnecessarily. By its nature, insurance involves building 
cushions for a rainy day. The key is balancing the goal of 
protection against creating unnecessary homebuyer costs and 
barriers to home ownership. Recognizing that capital can be 
replenished after a crisis helps to find that proper balance.

Q.6. The Federal Housing Administration (FHA) has raised 
premiums five times since 2009. What impact has that had on the 
market? Has it encouraged the return of private investment?

A.6. Both FHA and the GSEs have significantly raised their 
fees. The GSE fee increases have limited the impact of FHA 
premium increases in shifting the market back to conventional 
loans with private mortgage insurance. However, an FHA mortgage 
is now more expensive than a conventional mortgage with private 
mortgage insurance for many borrowers. As a result FHA share 
has now fallen to approximately 25 percent of the purchase 
money originations from a peak of around 35 percent. In effect, 
the market is segmented between the very safe high-LTV loans 
that the GSEs and mortgage insurers capture and the modestly 
riskier loans that FHA insures.
    The credit standards of GSE eligible loans and FHA loans 
are another important factor influencing the market share. The 
pricing differentials should mean that loans will go to the 
GSE/private mortgage insurance channel when possible.
    Funding of loans by private MBS securities has not returned 
at scale yet, but the barriers there have less to do with FHA 
pricing and more to do with the need to clarify servicing 
standards, duties to investors, regulatory treatment of private 
MBS loans, and other issues that are gradually being resolved 
by voluntary industry and regulatory action.
                                ------                                


               RESPONSES TO WRITTEN QUESTIONS OF
          SENATOR MENENDEZ FROM TERESA BRYCE BAZEMORE

Q.1. Is the current FHA 100 percent loan guarantee sustainable? 
Is it a significant roadblock to the private mortgage insurance 
industry? Are there changes in the targeting of the insurance--
perhaps only on a percentage of the loan value rather than the 
entire unpaid principle balance--that might reduce losses to 
the MMIF while keeping mortgage credit available to low and 
moderate income households? Would this credit enhancement be 
sufficient to stimulate lenders to use FHA insurance?

A.1. A 100 percent FHA guarantee exposes the MMIF to 
significant losses in the event of a significant decline in 
home prices, as we have seen over the past few years. Without 
capping the potential losses that FHA can sustain, the premiums 
would need to be re-evaluated and likely increased to make sure 
that the fund has adequate reserves to pay claims during stress 
periods.
    Furthermore, since FHA insures 100 percent of the loan 
amount, loan originators lack any meaningful risk of loss. 
Currently, taxpayers are on the hook for the over $1 trillion 
in mortgages that FHA is insuring. This 100 percent guarantee 
does not properly align incentives between originators and the 
FHA and is particularly untenable given FHA's potential 
financial exposure to taxpayers.
    Private mortgage insurance (MI), on the other hand, places 
private capital in a first loss position behind the borrower's 
equity and generally represents 25 percent to 35 percent of the 
loan amount, which covers most, but not all, of the losses that 
the parties to the mortgage transaction experience. As a 
result, when private MI is used, there remains an incentive to 
avoid foreclosure. Notably, the Federal VA mortgage program 
provides limited coverage of 25 percent to 50 percent for the 
loans insured under its program. Thus, there is no reason to 
believe that a reduced guarantee would create a disincentive 
for lenders to use the FHA program.
    Congress should reduce the FHA's guarantee below its 
current 100 percent level--similar to the VA mortgage program. 
Reducing the 100 percent coverage amount will provide lenders 
with an incentive to conduct prudent underwriting. Reducing the 
100 percent coverage amount will also reduce taxpayer exposure 
to losses resulting from borrower default, and this will reduce 
the budgetary cost of FHA's program. The success of the VA 
program demonstrates that this lower level of coverage results 
in better underwriting and loan performance, which reduces both 
the probability of default and severity of loss.

Q.2. Discuss the lender originations process of FHA's mortgage 
insurance compared to its counterparts at the VA and the 
private mortgage insurance industry?

A.2. The lender origination process differs materially between 
FHA and privately insured conventional loans. With respect to 
FHA loans, most lenders use ``delegated authority.'' The FHA 
guidelines are traditionally more liberal than acceptable 
guidelines for conventional loans on a number of different 
criteria, including credit score, credit history, job history, 
and debt-to-income, among others. There is also minimal front 
end quality control review by FHA and/or an upstream 
correspondent aggregator. Once a lender using delegated 
authority processes and closes a loan (presumably within the 
guidelines of FHA), FHA will insure the loan, providing 100 
percent insurance. Originators know that once an FHA loan is 
closed, it rarely gets reviewed for quality control, and in the 
rare case that a defect, fraud, or misrepresentation is found, 
the originator can simply ``indemnify'' against FHA loss 
instead of buying the loan back and ``owning'' the asset and 
the risk.
    With respect to privately insured conventional loans, on 
the other hand, the review process for approving originating 
companies is significantly more rigorous, and the contract 
stipulations and representations and warrants are more 
stringent. The underwriting (whether delegated or not) and the 
guidelines are more likely to produce a sustainable mortgage. 
The private MI company typically provides coverage in an amount 
that generally represents 25 percent to 35 percent of the loan 
amount, which results in diligent origination and review. Also, 
quality control sampling is undertaken and loan performance is 
closely monitored to mitigate the risk of underwriting error 
and to determine when any changes to guidelines are warranted, 
including opportunities to expand guidelines. Also, privately 
insured conventional mortgages are subject to more quality 
control because, in the case of a defect, fraud, or 
misrepresentation, the GSEs may require a lender to repurchase 
the loan (with interest). The repurchase requirement on 
conventional loans is far more cumbersome and costly to lenders 
than FHA's indemnification process.
                                ------                                


               RESPONSES TO WRITTEN QUESTIONS OF
             SENATOR MENENDEZ FROM DAVID H. STEVENS

Q.1. QM is mostly about consumer protection on individual loans 
and QRM is mostly about securitization of mortgage-backed 
securities and identifying loans that are less likely to 
default. Those two categories often overlap, but are there any 
loans where they don't overlap? Where might the FHA fit in this 
formula?

A.1. QM and QRM are really different sides of the same coin, 
with the end goal being borrowers receiving mortgages that they 
can repay. The final QM rule has eliminated the vast majority 
of the practices that lay at the heart of the housing crisis, 
and creates a standard that ensures borrowers receive loans 
that fit their circumstances. Implementing a narrower rule for 
securitizations could have a devastating impact on access to 
affordable credit by squeezing the credit box even tighter, and 
potentially endanger Congress' nascent reform efforts.

Q.2. Recent reports from Core Logic in February make statements 
that QM and QRM would remove 60 percent of loan originations 
while removing 90 percent of the risk. First, is this a fair 
characterization of what these rules would do? Second, isn't it 
true that these estimates wouldn't come to fruition for several 
years under CFPB's exemption of agency loans into the QM safe-
harbor?

A.2. While we anticipate the impact to actually be smaller 
overall, imposition of a narrower QRM will cause more 
significant damage to the long-term competitiveness of the 
housing finance market due to the increase in the Government's 
market share, driven by virtue of their exemptions from these 
rules.

Q.3. What steps is FHA taking in terms of improvements to risk 
management and fee increases to help mitigate the chances that 
they may require a draw on their permanent budget authority 
from the Treasury?

A.3. In response to the possibility that FHA may need a draw 
from the U.S. Treasury, FHA recently announced a series of 
program changes aimed at increasing revenue, reducing credit 
risk, and improving the management of the existing portfolio. 
MBA believes that these recent changes are fiscally prudent and 
warranted given the financial realities described in the 
Actuarial Review.
    Specifically, in late January 2013, FHA announced the 
following administrative changes directly aimed at either 
increasing revenue or reducing credit risk:

  1.  Increase in the annual mortgage insurance premium (MIP) 
        of 10 basis points for all forward loans, except 
        streamline refinances effective for case numbers 
        assigned on or after April 1, 2013.

  2.  Change in the MIP cancellation policy to require that 
        most loans charge the MIP for the life of the loan, or 
        11 years, effective June 3, 2013, for loans with case 
        numbers assigned on or after that date.

  3.  Change in credit policy to require that borrowers with 
        credit scores under 620 must be manually underwritten, 
        effective April 1, 2013.

  4.  Consolidation of the Home Equity Conversion Mortgage 
        (HECM) Fixed Rate Standard Program and the HECM Saver 
        Program, to allow borrowers to have the predictability 
        of a fixed-rate, but with a lower upfront fee, 
        effective April 1, 2013.

    In addition, FHA proposed decreasing the loan-to-value (LTV 
for) loans above $625,500 from 96.5 percent to 95 percent. MBA 
supports this proposal.

Q.4. We all agree that FHA has a strong role in our economy as 
a countercyclical agent, but as the economy improves, how do we 
ensure that its share migrates back to the private market in a 
responsible manner?

A.4. During the recent financial crisis, when private capital 
stepped back from the marketplace, lenders shifted much of 
their production to FHA-insured loans. As seen in the chart 
below, FHA's market share spiked beginning in 2007, peaked in 
2009, and has steadily declined since then. MBA is working with 
its members to define policy options, such as allowing the 
current high cost loan limits to expire at the end of this 
year, which will ensure that private capital continues to 
reenter the housing finance market in a responsible and 
sustainable fashion. Any decision regarding substantial, 
systemic changes, however cannot be done in a vacuum. Changes 
that shift the role of FHA within the housing finance system 
should be done in conjunction with consideration of the future 
roles of the Government sponsored enterprises (GSEs). 
Adjustments in how the FHA, Ginnie Mae, Fannie Mae, or Freddie 
Mac function within the system can be expected to affect the 
operations, policies, and market share of the others. Prudent 
action is necessary in order to limit unintended consequences 
that could be detrimental to the entire U.S. economy.


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]





Q.5. How would the change to a Fair Value Accounting system 
impact the ability of HUD to continue a mortgage insurance 
program?

A.5. A study performed by the Congressional Budget Office 
(Accounting for FHA's Single-Family Mortgage Insurance Program 
on a Fair Value Basis, May 18, 2011) notes that the costs of 
FHA's single-family mortgage insurance program are recorded in 
the Federal budget using the methodology spelled out in the 
Federal Credit Reform Act of 1990. Under Federal Credit Reform 
requirements, the FHA program would produce budgetary savings 
of $4.4 billion. On a fair value basis, according to the CBO, 
the FHA program costs $3.5 billion. The main difference between 
the estimates under the FCRA approach and fair value accounting 
relates to the effective discount rates used against the same 
projected cash flows. Federal Credit Reform utilizes interest 
rates on Treasury securities whereas fair value estimates are 
discounted using rates that incorporate a premium for market 
risk (i.e., in addition to credit risk). Under fair value 
accounting, estimating the FHA's MMI Fund economic value 
estimates would become more volatile in response to noncredit 
risk related events. In the current situation with FHA on the 
edge of solvency, more volatility could make it harder for 
Congress and HUD to chart a steady course to re-establishing 
the fund's statutory reserve ratio.
                                ------                                


       RESPONSES TO WRITTEN QUESTIONS OF SENATOR HEITKAMP
                     FROM DAVID H. STEVENS

Q.1. While the Federal Housing Administration (FHA) has already 
taken several actions to address issues identified in the 2012 
Actuarial Review, it has asked for additional authority and 
others have suggested additional reforms. Do you believe the 
following reforms should be implemented and what impact will 
they have on the housing market?
    Increasing the minimum downpayment requirement from 3.5 
percent to 5 percent.

A.1. The MBA cautions that while any increase in FHA's minimum 
downpayment requirement would immediately improve FHA's risk 
profile on new business, it could come at an unacceptable 
social cost. An increase of the minimum downpayment from 3.5 
percent to 5 percent for FHA-insured loans would reduce 
expected losses to the Mutual Mortgage Insurance (MMI) Fund 
through lower default rates and lower loss severity in the 
event of default. This step would increase the economic value 
of future books of business, but obviously would do nothing to 
reduce losses already on the books. Moreover, the performance 
of the 2010-2012 books--which have seriously delinquent rates 
of less than half of those for the 2008-2009 books at a 
comparable age--clearly indicates that higher downpayments are 
not a necessary condition for a strong performing book. The 
social consequences of increasing the minimum downpayment 
requirement could be dramatic and would unnecessarily delay a 
purchase for many Americans who might be successful homeowners.

Q.2. Requiring automatic premium increases when the insurance 
fund falls below a statutory minimum.

A.2. Since 2009, FHA has increased the annual mortgage 
insurance premium (MIP) five times. MBA is currently working 
with its members to examine policy options for FHA, including 
tying increases in the MIP to the capital ratio of the MMI 
Fund, which restore FHA's single-family programs to fiscal 
solvency; preserve FHA's traditional housing mission; and 
maintain FHA's countercyclical role.

Q.3. Strengthening the FHA's indemnification authority for all 
lenders.

A.3. In recent years, FHA has greatly increased its enforcement 
of agency-approved lenders. The prospect of tough 
administrative and legal enforcement actions provides strong 
incentives for lenders to carefully follow FHA program 
guidelines. These enforcement actions also increase revenue for 
the MMI Fund. MBA unquestionably supports high standards for 
all lenders that participate in FHA programs in order to 
protect the agency's viability, the lender's reputation, and 
the reputation of the industry. There must, however, be a 
reasonable allowance for human error, certainly when the error 
is not the cause of the delinquency or default. MBA staunchly 
opposes efforts that would allow FHA to go beyond reasonable 
standards of lender enforcement.

Q.4. Giving the FHA authority to transfer servicing.

A.4. MBA would have to consider a number of factors associated 
with granting FHA a right to transfer servicing rights. In 
particular, MBA would need to understand the reach of HUD's 
authority and specifically what causes of action would trigger 
a transfer and on what book of business; what compensation 
would be paid for the valuable servicing asset; the length of 
time permitted to effectuate the transfer; the impact of such 
authority on the price and value of FHA servicing assets, which 
may impact all servicers' balance sheets, not just those 
subjected to transfer; and the impact on borrowers and their 
relationships with servicers, given many borrowers may 
purposely consolidate other financial business with the 
servicer.

Q.5. Strengthening the 2 percent capital level.

A.5. Requiring a higher capital ratio would likely be difficult 
to achieve without disrupting the housing market and FHA's 
ability to carry out its mission. FHA currently has a negative 
capital ratio, and based on the FY2012 Actuarial Report, the 
MMI Fund is not expected to reach its required 2 percent 
capital reserve requirement until 2017. There are really only 
three ways that FHA can increase its net income and build this 
capital ratio: further increasing MIPs; tightening its credit 
standards further and thereby reducing its risk exposure; or 
reducing realized losses through better execution of loss 
mitigation programs, foreclosures and REO disposition. 
Certainly reducing realized losses through better execution of 
loss mitigation programs should be done, but that alone is 
unlikely to be sufficient to significantly improve the capital 
ratio. Tightening the credit box and increasing MIPs can only 
be done prospectively, and each of these would reduce the 
future volumes of new FHA loans, making it even more difficult 
to achieve to a capital ratio above 2 percent.
    With the aforementioned impacts in mind, MBA is still 
evaluating the pros and cons of raising the statutory minimum 
capital ratio.

Q.6. The Federal Housing Administration (FHA) has raised 
premiums five times since 2009. What impact has that had on the 
market? Has it encouraged the return of private investment?

A.6. Increasing the cost of an FHA-insured loan through 
increases in the MIP have helped FHA to achieve its goal of 
reducing market share by encouraging market competition and the 
return of private sector lending. For example, applications for 
conventional mortgages gained 9 percent the week following the 
MIP increase on April 1, 2013, while applications for 
Government insured loans programs fell almost 12 percent the 
same week.


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    Stronger borrowers with mortgage credit options may choose 
the conventional market for mortgages because of better 
pricing, thus reducing FHA's footprint in the marketplace, 
which is one of the agency's stated goals.
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