Mortgage Financing: Level of Annual Premiums That Place a Ceiling on
Distributions to FHA Policyholders (Correspondence, 09/08/2000,
GAO/RCED-00-280R).

Pursuant to a congressional request, GAO provided information on the:
(1) number of borrowers insured by the Mutual Mortgage Insurance Fund
who might have been eligible to receive dividends from their mortgage
insurance if the Federal Housing Administration (FHA) had been required
to pay distributive shares in FY 1999; and (2) amount of annual premiums
these individuals paid.

GAO noted that: (1) in fiscal year (FY) 1999, between 132,508 and
186,032 FHA borrowers who had voluntarily terminated their mortgages
might have been eligible for distributive shares if FHA had paid such
shares; (2) specifically, 186,032 FHA borrowers who had voluntarily
terminated their mortgages in FY 1999 had received their mortgages in FY
1992 or earlier, and these mortgages were originated in years that
produced profitable mortgages; (3) furthermore, 53,524 of these
borrowers had their loans originated in FY 1992; (4) some of these
borrowers would not have been eligible for distributive shares because
they had their loans for less than 7 years when they voluntarily
terminated them in 1999; (5) the remaining 132,508 borrowers had loans
originated before 1992; (6) thus, the number of borrowers who
voluntarily terminated their mortgages in 1999 and may have been
eligible for distributive shares is between 132,508 and 186,032; and (7)
using a similar methodology, GAO determined that the total annual
premiums paid by these borrowers was between $271 million and $395
million.

--------------------------- Indexing Terms -----------------------------

 REPORTNUM:  RCED-00-280R
     TITLE:  Mortgage Financing: Level of Annual Premiums That Place a
	     Ceiling on Distributions to FHA Policyholders
      DATE:  09/08/2000
   SUBJECT:  Mortgage programs
	     Financial management
	     Budgetary reserves
	     Insurance premiums
	     Mortgage loans
IDENTIFIER:  Mutual Mortgage Insurance Fund

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GAO/RCED-00-280R

FHA Distributive Shares United States General Accounting
Office

Washington, DC 20548 Resources, Community, and

Economic Development Division

B- 285175 September 8, 2000 The Honorable Rick Lazio Chairman, Subcommittee
on Housing

and Community Opportunity Committee on Banking and Financial Services House
of Representatives

Subject: Mortgage Financing: Level of Annual Premiums That Place a Ceiling
on Distributions to FHA Policyholders

Dear Mr. Chairman: From 1943 to 1990, the programs supported by the Federal
Housing Administration's (FHA) Mutual Mortgage Insurance Fund paid
distributive shares to homeowners who had voluntarily terminated their
mortgages by paying off the mortgage on time, or early, such as when
refinancing. 1 In 1990, after the Fund began experiencing substantial
losses, the Congress required FHA to stop paying distributive shares until
the Fund had accumulated adequate reserves- current cash plus the net
present value of future cash flows. While not defining what level of
reserves are adequate, the Congress required that the Secretary take steps
to ensure that the Fund achieve minimum reserves equaling 2 percent of the
insurance- in- force. Thus, in determining whether there is a surplus for
distributing to borrowers, the Secretary must now take into account the
actuarial status of the entire Fund. 2 After several years of improved Fund
performance, the reserve was estimated to have first met the 2- percent
minimum requirement in 1995 and was estimated to have reached 3.66 percent
in 1999. FHA has not renewed paying distributive shares and believes that it
would only be prudent to consider doing so if the Fund's capital ratio
exceeded 3 percent.

1 Because the risk of an insurance claim is usually the greatest during the
first 7 years of a mortgage, FHA generally did not pay distributive shares
to borrowers who had terminated their mortgages within 7 years of receiving
them.

2 In contrast, borrowers who had voluntarily terminated their mortgages
within a specified time period- now 7 years- have received refunds of their
up- front insurance premiums regardless of the actuarial status of the Fund.

B- 285175

GAO/ RCED- 00- 280R Distributive Shares 2 You asked us to report on the
number of borrowers insured by the Mutual Mortgage

Insurance Fund who might have been eligible to receive dividends, or
distributive shares, from their mortgage insurance if FHA had been required
to pay distributive shares in fiscal year 1999. You also asked us to provide
information on the amount of annual premiums these individuals had paid
because this amount serves as the maximum amount of any distributive share
they might have been eligible to receive. 3

In summary, we found that in fiscal year 1999, between 132,508 and 186,032
FHA borrowers who had voluntarily terminated their mortgages might have been
eligible for distributive shares if FHA had paid such shares (see table 1).
Specifically, 186,032 FHA borrowers who had voluntarily terminated their
mortgages in fiscal year 1999 had received their mortgages in fiscal year
1992 or earlier, and these mortgages were originated in years that produced
profitable mortgages. Furthermore, 53,524 of these borrowers had their loans
originated in fiscal year 1992. Some of these borrowers would not have been
eligible for distributive shares because they had their loans for less than
7 years when they voluntarily terminated them in 1999. The range of
estimates we provide recognizes this. The remaining 132,508 borrowers had
loans originated before 1992. 4 Thus, the number of borrowers who
voluntarily terminated their mortgages in 1999 and may have been eligible
for distributive shares is between132,508 and 186,032. Using a similar
methodology, we determined that the total annual premiums paid by these
borrowers was between $271 million and $395 million.

3 The amount of any such payment is based on the extent to which the annual
premiums paid by a group of homeowners exceeded the actual cost of insuring
that group of homeowners. However, in no event can the size of a
distributive share for an individual homeowner exceed the amount of the
annual premium the homeowner had paid over the life of the mortgage. Some
groups of mortgages, especially those originated in the 1980s, had revenues
that were lower than their costs and would thus not have been eligible to
receive any distributive shares.

4 Actually, all of these loans were originated prior to 1980. Loans
originated in fiscal years 1980 through 1991 are not included here because
either they did not pay annual premiums and/ or they were not profitable.
Loans originated between September 1, 1983, and June 30, 1991, did not pay
annual premiums, and loans originated in fiscal years 1980 through 1986 and
1988 through 1991 were not profitable.

B- 285175

GAO/ RCED- 00- 280R Distributive Shares 3

Table 1: Data on FHA Borrowers Who Terminated Their Mortgages in Fiscal Year
1999 and Might Have Been Eligible for Distributive Shares

Eligible mortgages terminated in fiscal year 1999 and originated in fiscal

year 1991 or earlier a Eligible mortgages terminated

in fiscal year 1999 and originated in fiscal year 1992

or earlier b Total number of mortgages 132,508 186,032 Total annual premiums
$270,678,146 $394,858,427

Average annual premiums $2,043 $2,123 Note: Includes only those mortgages
for which borrowers had paid required annual premiums and had voluntarily
terminated in fiscal year 1999 and which were originated in a year that
produced profitable mortgages.

a Loans originated in fiscal years 1980 through 1991 are not included here
because either they did not pay annual premiums and/ or they were not
profitable. Thus, only loans originated prior to fiscal year 1980 are
included. Data on loans originated prior to 1975 are from summary FHA data.

b Includes loans originated prior to fiscal year1980 and in fiscal year
1992. Source: GAO's analysis of FHA's data.

For several reasons, actual distributions are likely to be less than the
amount of premiums paid. First, for some groups of borrowers, the amount by
which revenues exceed the costs associated with them may be less than the
full amount of the annual premiums they paid. According to FHA's chief
actuary, it would be reasonable to assume that rebates would have been equal
to about 2 percent of the original value of the mortgage for eligible
borrowers if FHA had paid distributive shares in 1999. Since the average
value of the mortgages of eligible borrowers was about $35,500, 5 the
average distributive share would be about $710. 6 In comparison, borrowers
who terminated their mortgages last year paid, on average, between $2,043
and $2,123 in annual premiums. Second, any distributions are likely to be
less than the total amount calculated because the Department of Housing and
Urban Development (HUD) is not always able to locate eligible recipients.
HUD officials said that, historically, HUD has located 80 to 90 percent of
the eligible recipients but expected the Department would have better
success now because of improved databases.

Scope and Methodology

To determine the number of insured borrowers who might have been eligible to
receive distributive shares in fiscal year 1999 and the amount of annual
premiums they had paid, we determined how many homeowners had received their
mortgages in fiscal year 1992 and in earlier years, had paid annual
premiums, and had voluntarily terminated their mortgage in 1999. We obtained
data for fiscal years 1975 through 1999 from FHA's A- 43 database, which
provides current and historical information on

5 This is a weighted average for loans originated prior to fiscal year 1980
and in fiscal year 1992. For loans originated between fiscal years 1975 and
1979 and in fiscal year 1992, the weighted average is based on the
proportion of terminating loans that originated in a given eligible year.
This calculation assumes that loans terminating in 1999 were typical of all
loans originating in a given year.

6 In the future, FHA might include in the cost of each group of mortgages
contributions toward the capital reserve, and therefore the amount of any
distribution could be lower than it had been in the past.

B- 285175

GAO/ RCED- 00- 280R Distributive Shares 4 the mortgage loans that FHA
insures. We used data reported by

PricewaterhouseCoopers in 1999 on the economic value or profitability of
mortgages by year of origination to identify the years between 1975 and 1999
in which mortgages that were profitable originated. All data on loans
originated prior to 1975 that were prepaid in fiscal year 1999 were provided
by FHA in summary form. FHA also provided summary data, including data on
annual insurance premiums, for loans originated in fiscal years 1975 through
1979. Using FHA summary data for borrowers who originated their mortgages in
these years and terminated them in 1999 would have resulted in a 7- percent
lower average annual premium than our data show for these years. We did not
reconcile the differences between the summary data FHA provided and the
results of our analysis of FHA's A- 43 database. We also reviewed program
regulations and handbooks concerning distributive shares.

We performed our work from July through August 2000 in accordance with
generally accepted government auditing standards.

Agency Comments and Our Evaluation

We provided a draft copy of this report to HUD for its review and comment.
HUD had concerns in four areas of the draft report. First, HUD stated that
our report appeared to strongly imply that FHA should have been paying
distributive shares since the Mutual Mortgage Insurance Fund reached the
congressionally mandated minimum capital ratio of 2 percent in 1995. This
certainly was not intended, so we clarified the report to show that before
distributive shares may be declared, the Secretary must first determine that
the Fund had accumulated adequate reserves, but what constitutes an adequate
capital ratio is not defined. We also added information to reflect FHA's
belief that a capital ratio in excess of 3 percent would be prudent before
considering reinstituting distributive shares.

Second, HUD stated that we appeared to inaccurately estimate in many
respects the number of persons who may have been qualified for distributive
share payments in fiscal year 1999. Of particular concern was the exclusion
of data on loans originated prior to 1975. HUD provided summary data for
these years, which we have included in the report.

Third, HUD was concerned that we seemed to assume that it is proper to
pursue a very aggressive method of calculating the amount of each
distributive share. HUD suggested that eligible borrowers should be
restricted to those who received mortgages in years where the mortgages
produced sufficient profits to set aside funds equal to 2 percent of their
outstanding loan balance. We did not use this criteria because the law
specifies that the Secretary shall take into account the actuarial status of
the entire Fund when determining whether there is a surplus for
distribution. Using FHA's criteria would make loans originated in fiscal
year 1992 ineligible. We provide an estimate that excludes loans originated
in fiscal year 1992. In addition, we note that in the future FHA might
include in the cost of each group of borrowers contributions toward the
capital reserve and that therefore the amount of distributions could be
lower than it had been in the past.

B- 285175

GAO/ RCED- 00- 280R Distributive Shares 5 Fourth, HUD stated that the report
does not clearly explain FHA's existing refund

policy for borrowers who prepay within 7 years of loan origination. We have
added information to make clear FHA's continuing practice of refunding up-
front mortgage insurance premiums.

HUD's comments are in enclosure I. --- We are sending copies of this report
to interested congressional committees and the Honorable Andrew M. Cuomo,
Secretary of Housing and Urban Development. We will also make copies
available to others upon request.

Please call me on (202) 512- 7631 if you or your staff have any questions
about this report. Key contributors to this report were Nancy Barry, DuEwa
Kamara, Mathew Scire, and Salvatore Sorbello, Jr..

Sincerely yours, Stanley J. Czerwinski Associate Director, Housing and

Community Development Issues

B- 285175

GAO/ RCED- 00- 280R Distributive Shares 6

B- 285175

GAO/ RCED- 00- 280R Distributive Shares 7

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