Posted in the Wall Street Journal by Nick Timiraos:
The Federal Housing Administration's capital reserves have fallen to razor-thin levels, increasing the likelihood the agency will eventually require a taxpayer bailout, and adding fuel to the debate about how much support the U.S. should provide to the mortgage market.
The FHA has said for months that its reserves for unexpected loan losses would fall short of the required 2% level by this fall. But an audit of the FHA released Thursday showed that reserves have been depleted much faster than the agency and analysts had expected. The FHA's capital-reserve fund fell to $3.6 billion as of Sept. 30, down 72% from a year earlier, leaving reserves at just 0.53% of the $685 billion in total loans insured by the FHA.
Administration officials said the losses, while large, come as the FHA is helping to heal the housing market. "That reserve account is playing exactly the role that Congress intended it to," said Shaun Donovan, secretary of Housing and Urban Development.
Mr. Donovan, whose agency oversees the FHA, also played down the idea that the FHA would need a federal subsidy, except under the most severe economic scenarios. That is because the FHA still has around $30 billion in capital to pay for losses.
But the projected capital losses in 2009 were worse than the most pessimistic assumptions from last year's review, and some housing analysts and economists say it is increasingly likely the agency will need to ask Congress for money in the years ahead.
"If it were private, it would need a substantial capital infusion now, period," said Thomas Lawler, an independent housing economist. "They're a monoline mortgage insurance company that has just gone through the worst housing environment since the Great Depression. How can anyone argue that they wouldn't need more capital now?"
The FHA doesn't make loans but insures lenders against defaults on mortgages that meet standards set by the agency. The volume of loans insured by the agency jumped 75% in the 2009 fiscal year, which ended Sept. 30, as lenders shied away from risk and as policy makers used the agency to help jump-start the ailing housing market.
The FHA's rising losses reveal one of the hidden costs of the U.S. government's extraordinary efforts to rescue the housing market, raising questions about how much more support the U.S. should give to the mortgage market. A sharp pullback by the FHA could undo recent stabilization in the housing market, but the agency's outsize role in the mortgage market could make it harder to attract private lenders back to the market.
"The longer you have government-subsidized mortgage insurance, or government-subsidized mortgages, or a first-time home-buyer tax credit, the harder it is to scale back," said Mr. Lawler.
Even if the FHA doesn't ask Congress for money, the agency probably will need to raise the insurance premiums it collects from borrowers. Officials said a final decision on premiums hadn't been made.
The FHA largely avoided the subprime bust by requiring minimum down payments and documentation of incomes when many lenders didn't. But the New Deal-era agency has seen its market share swell, to around one-quarter of the mortgage market today, up from 2% in 2006, according to Inside Mortgage Finance.
During the second quarter, the FHA backed nearly half of all mortgages made to first-time home buyers, and today it accounts for around half of all new home loans in some of the nation's hardest-hit housing markets.
"The role the FHA is playing in the market right now is helping to...prevent a much worse, more toxic economic decline," said Sarah Rosen Wartell, an executive vice president at the Center for American Progress, a liberal think tank.
The FHA has been particularly exposed to the economic downturn, because it allows borrowers to finance purchases with down payments as low as 3.5%. In a declining housing market, that means borrowers could soon end up owing more than their homes are worth, and raises the risk of default when borrowers face job loss or other hardships. More than half of all FHA-insured loans outstanding had an initial loan-to-value of 95% or more.
Rep. Scott Garrett (R., N.J.) introduced a bill last month that would raise minimum down payments to 5%, something that the agency opposes. "Others are beginning to see that this could be the next major bailout," he said.
David Stevens, the commissioner of the FHA, warned on Thursday that the "biggest mistake" that the agency could make would be to "overcorrect."