Financial Condition of FHA's Mutual Mortgage Insurance Fund
GAO-10-1066T, Sep 23, 2010
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This testimony is on the financial condition of the Federal Housing Administration's (FHA) Mutual Mortgage Insurance Fund (Fund). FHA has helped millions of families purchase homes through its single-family mortgage insurance programs and in recent years, has experienced a dramatic increase in its market role. FHA insures almost all of its single-family mortgages under the Fund, which is reviewed from both an actuarial and budgetary perspective each year. On the basis of an independent actuarial review, FHA reported in November 2009 that the Fund was not meeting the statutory 2 percent capital reserve requirement as of the end of fiscal year 2009, as measured by the Fund's estimated capital ratio--that is, the Fund's economic value divided by the insurance-in-force. Additionally, although the Fund historically has produced budgetary receipts for the federal government, a weakening in the performance of FHA-insured loans has heightened the possibility that FHA will require additional funds to help cover its costs on insurance issued to date. This statement today is based on a report released yesterday, titled Mortgage Financing: Opportunities to Enhance Management and Oversight of FHA's Financial Condition. This statement discusses (1) how estimates of the Fund's capital ratio have changed in recent years and the budgetary implications of changes in the Fund's financial condition; (2) how FHA and its actuarial review contractor evaluate the financial condition of the Fund; (3) the steps FHA has taken to improve the financial condition of the Fund and how the agency has interpreted statutory requirements pertaining to the management of and reporting on the Fund's condition; and (4) changes in the performance and characteristics of FHA-insured mortgages in recent years.
We found that: 1) Recent declines in the Fund's capital ratio to a level below the statutory minimum resulted from a combination of economic and market developments. More pessimistic forecasts of economic conditions increased the number of predicted insurance claims and losses associated with those claims, thereby reducing the Fund's economic value. At the same time, higher demand for FHA-insured mortgages increased FHA's insurance-in-force. The Fund's condition also has worsened from a budgetary perspective. The Fund's capital reserve account holds reserves in excess of those needed to pay for estimated credit subsidy costs and is used to help cover unanticipated increases in those costs. In recent years, balances in this account have fallen dramatically. If the account were to be depleted, FHA would require additional funds to help cover its costs on insurance issued to date. 2) FHA and its actuarial review contractor have enhanced their methods for assessing the Fund's financial condition but still are addressing other methodological issues that could affect the reliability of estimates of the Fund's capital ratio. In particular, past reviews have relied on a single economic forecast to produce the estimate of the capital ratio that is used to determine whether the Fund is meeting the 2 percent capital reserve requirement. This approach does not fully account for the variability in future house prices and interest rates that the Fund may face and therefore may tend to overestimate the Fund's economic value. An alternative to the current approach, known as stochastic simulation, involves running simulations of hundreds of different economic paths and offers the prospect of better estimates of the Fund's economic value. 3) FHA has implemented or proposed a number of steps to help improve the financial condition of the Fund, including adjustments to its insurance premiums and underwriting policies. However, certain legislative requirements concerning FHA's administration of the Fund provide limited direction to the agency. For example, statutory provisions do not specify a time frame for restoring the capital ratio to its required minimum level or clearly stipulate the nature of the information FHA should include in quarterly reports to Congress. 4) Data on FHA-insured mortgages illustrate the challenges facing the Fund as well as improvement in certain risk factors. As in other segments of the mortgage market, the performance of FHA-insured mortgages deteriorated as the economy weakened and home prices fell in 2008 and 2009. However, in recent years, changes in key loan and borrower characteristics of FHA-insured mortgages suggested some improvement in credit quality at loan origination. FHA is closely monitoring the early performance of the 2009 loan cohort, which will have a major influence on the Fund's financial condition because of its large size, but it is too early to tell whether it will perform to FHA's expectations. To enhance actuarial assessment of and reporting on the Fund, we are recommending that the Department of Housing and Urban Development (HUD) (1) require FHA's actuarial review contractor to use stochastic simulation of future economic conditions to estimate the Fund's capital ratio and (2) include the results of this analysis in FHA's annual report to Congress on the financial status of the Fund. Also, to strengthen accountability and transparency in FHA's management of the Fund, Congress should consider establishing a minimum time frame for restoring the capital ratio to 2 percent and clarifying a number of statutory provisions concerning FHA's administration of the Fund.