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I’m often amazed when supposed experts issue opinions on subjects that I actually know something about. It is frightening how often the so-called experts are completely wrong. Here is a recent example.

I usually try to limit political comments in this blog since it is primarily intended to be a training and guideline update source designed to help loan officers originate and close FHA loans. However a June 21, 2008 editorial in the Wall Street Journal entitled “The FHA Time Bomb” has such a smörgåsbord of misinformation and misdirection that I feel compelled to comment.

I am equally certain that some of my political bias may slip through in my comments. So I must step out in front of that and make sure everyone knows that, in spite of having spent most of my career as a specialist and expert on government backed loan programs, my political views are distinctly libertarian. When I see a problem, my very first instinct is to think that too much government caused it. However, when I look at the evidence gathered to support a particular policy viewpoint, I try to keep my political predispositions at bay until I see what the numbers really tell me.

The Wall Street Journal (WSJ) editorial begins by stating that FHA just announced that it “suffered a $4.6 billion dollar loss last year.” First, in spite of the way it was widely reported, this was not exactly what FHA Commissioner Brian Montgomery said. Here is the exact quote from his testimony before Congress:

Currently, FHA is solvent. In fact, we have a reserve of about $21 billion.

However, as a result of our annual re-estimate, we had to book an additional of $4.6 billion in unanticipated long-term losses, mostly due to the increased number of certain types of seller-funded loans in the FHA portfolio.

I’m not completely sure yet, but maybe this statement should be looked at a little more closely. First, Commissioner Montgomery uses the present tense to describe FHA’s reserve fund of $21 billion. Then he says a “re-estimate” is responsible for FHA having to “book” an additional $4.6 billion in unanticipated long term losses.

Does this mean that FHA has $21 billion after deducting $4.6 billion? Maybe some astute commenter can clue me in on exactly what this means, but it does not appear to say that FHA lost $4.6 billion last year. In fact, it seems to closely resemble the recent losses “booked” by many lenders which are simply predictions on how much a particular loan portfolio might end up losing.

In addition, he blames the losses on “seller-funded” loans which I assume means seller funded non-profit down payment assistance programs. This will be addressed later in the post.

So now we get to the real reason for the announcement. Government regulators often have their own political agendas and I smell one here. I hear rumblings and rumors, but have not seen proof, that this fight to get rid of non-profit down payment assistance might possibly be related to the political influence of private mortgage insurance companies who are losing business to FHA right now.

For more details on what I think about the studies FHA uses to blame this problem on non-profit down payment assistance, please see my June 11, 2008 post entitled “FHA Guidelines: FHA Down Payment Assistance On The Chopping Block?” and also take a look at this excellent May 2006 article in Realty Times by David Reed entitled “Non-profits and No Down Payment: A Second Opinion” which was published soon after the studies were made public.

Further, no one seems to pay attention to the fact that, in the same testimony, Commissioner Montgomery also said:

Since September 2007, FHA has helped pump more than $76.1 billion of mortgage activity into the housing market; more than $30.3 billion of that investment came through FHASecure.

I would like to direct you to Peter Miller’s June 23, 2008 post on FHA Mortgage Guide entitled “Bush To Congress: FHA Reform Bill Faces Veto“, as well as “HUD Numbers Don’t Add UP“, “The Truth and Nearly The Whole Truth“, and many others on the same subject which you can find in the list in the right sidebar beside those articles. Why should we trust the other numbers in the same speech without more detail?

To add to the confusion, here is Commissioner Montgomery’s testimony before Congress on November 2, 2007 just after the end of fiscal year 2007:

Homeownership and, more importantly, homeownership retention have long been a priority for FHA. We believe borrowers with FHA-insured mortgages have unparalleled access to loss mitigation alternatives that help them weather personal financial crises and reinstate delinquent loans. In Fiscal Year 2007, FHA provided loss mitigation support to 91,000 borrowers, 86,500 of whom were able to keep their homes.

While not every one of these borrowers will be successful in the long term, historically 89 percent of all borrowers who benefit from loss mitigation still have active loans two years after the assistance. This success is responsible in part for a reduction in both the number and percentage of FHA foreclosures from a high of 1.74 percent in FY 2004 to 1.45 percent in FY 2007.

By the way, the fiscal year for FHA runs from October 1st of the previous year through September 30th of the year in which it is numbered. Neither May nor June 2008 corresponds with any fiscal quarter that would seem to be a natural point to report the $4.6 billion loss. The timing of this announcement appears to be more politically motivated than anything else.

Next the WSJ editorial gripes that the housing bill being debated on the Senate floor at the time would “expand the FHA portfolio to about 1.5 million mostly high-risk subprime mortgages” and wonders why Congress wants FHA to get into that market when all the private lenders are bailing out of it. This completely ignores the fact that FHA is not in any way slated to just take over subprime mortgages. There is a whole qualification and underwriting process that will occur for every individual loan brought into the FHA system.

The WSJ editorial further points out that the Senate bill raises FHA limits and states – with no proof or reasoning – that this “puts the taxpayers on the hook for tens of billions of additional losses.” Again, this ignores the credit standards for approval of the loans.

However, to be fair I also have a problem with raising the FHA limits. Except I actually have a reality based line of reasoning for my concerns. Many of the areas with higher prices – for which the FHA limits are being raised – are absolutely loaded at present with stated income, no income documentation, and negative amortization Option ARM loans whose borrowers will never qualify for an FHA loan because they never really made enough money to qualify for the home they bought. So the few FHA loans that will be possible in those markets are going to be made in areas where values will still continue to fall in spite of the best efforts of FHA to stabilize the market. Whereas, I completely disagree on the causal relationship between down payment assistance and defaults, I thoroughly believe in the causal relationship between falling values and defaults.

Next the WSJ editorial attacks down payment assistance programs as a “scam”. I have addressed this issue already, but I would I would like to point out that the editorial states incorrectly that “Until recently, lenders even got a tax write-off for their ‘charitable contribution.’ Everyone won – except the taxpayer.” I have no idea where the author of the editorial pulled this from unless they misunderstood the IRS notice to sellers stating they could not deduct the down payment assistance program fee from their taxes. This was always the rule. The IRS was just reminding sellers of this and requiring the non-profit agencies to notify the parties involved. Lenders never took such a tax deduction, although I’m sure saying so adds a little extra emotional punch to the editorial in today’s anti-lender environment.

The WSJ editorial next states that the reason for such a large loss by FHA is “financial mismanagement”. The editorial states that the upfront mortgage insurance premium was lowered from 2.25% to 1.5% in 2000 and the losses would have been zero had the higher insurance rate been reinstated.

The WSJ is often fond of pointing out the very true fact that lower tax rates produce more total tax receipts. Given that FHA’s portion of the mortgage business was in decline even with the 1.5% premium, similar logic would seem to indicate that fewer good (i.e. non-defaulting) mortgages would have fallen into the FHA bucket at the 2.25% rate while the percentage of defaulting mortgages would have been higher. In addition, the editorial completely ignores that risk based mortgage insurance premiums take effect for FHA mortgages in July 2008

Interestingly, as part of the ammunition for the editorial, the Wall Street Journal publishes a relatively useless chart showing the recently announced figures from the Mortgage Bankers Association regarding mortgage delinquencies. This chart which is supposed to be such an indictment of the FHA mortgage insurance program actually shows FHA delinquency rates to be amazingly steady over the years.

Those of you familiar with how the FHA “Neighborhood Watch” system works may be thinking right now of another factor which might be at work here as well. Once a loan is delinquent in FHA’s system, it continues to show as a default for the next two years even after the borrower has brought the payments up to date! So if the FHA delinquency figures are being obtained from that system, they may be grossly overstated.

Take a look at Peter Miller’s FHA Mortgage Guide post “Government Loans Show Low Foreclosure Rates” to get a better idea of what is going on with these numbers. Also take note of Commissioner Montgomery’s statements referenced above on actual FHA foreclosure numbers.

Everyone needs to sit back, take a breath and remember that the FHA program was always intended for riskier borrowers and will almost always have higher delinquency rates than prime mortgages.

All the above having been said, I still do believe that great caution should be observed in trying to use FHA as the solution to the foreclosure problems. There are deep problems going on in the economy that take more than a few feel good bills in Congress to resolve. All the hysteria over mortgages may be throwing up a smokescreen that diverts attention to the real problems caused by fundamental problems in our financial system and a bankrupt government.


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Filed under: Down Payment Assistance • FHA Updates • How FHA Works • Industry Information

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