This is the accessible text file for GAO report number GAO-10-876R entitled 'Mandate on Department of Housing and Urban Development's Alternative Credit Pilot Program' which was released on July 30, 2010. This text file was formatted by the U.S. Government Accountability Office (GAO) to be accessible to users with visual impairments, as part of a longer term project to improve GAO products' accessibility. Every attempt has been made to maintain the structural and data integrity of the original printed product. Accessibility features, such as text descriptions of tables, consecutively numbered footnotes placed at the end of the file, and the text of agency comment letters, are provided but may not exactly duplicate the presentation or format of the printed version. The portable document format (PDF) file is an exact electronic replica of the printed version. We welcome your feedback. Please E-mail your comments regarding the contents or accessibility features of this document to Webmaster@gao.gov. This is a work of the U.S. government and is not subject to copyright protection in the United States. It may be reproduced and distributed in its entirety without further permission from GAO. Because this work may contain copyrighted images or other material, permission from the copyright holder may be necessary if you wish to reproduce this material separately. GAO-10-876R: United States Government Accountability Office: Washington, DC 20548: July 30, 2010: The Honorable Christopher J. Dodd: Chairman: The Honorable Richard C. Shelby: Ranking Member: Committee on Banking, Housing, and Urban Affairs: United States Senate: The Honorable Barney Frank: Chairman: The Honorable Spencer Bachus: Ranking Member: Committee on Financial Services: House of Representatives: Subject: Mandate on Department of Housing and Urban Development's Alternative Credit Pilot Program: When potential borrowers apply for a mortgage loan, lenders typically use borrowers' credit scores--which are based on their credit payment histories, debt, length of credit history, new credit accounts or requests, and types of credit used--to help determine their creditworthiness. However, some borrowers have limited or no credit histories, and lenders are unable to determine their creditworthiness using this traditional method. For these nontraditional borrowers, lenders may assess creditworthiness through alternative means, including the compilation of performance on rental payments; utility, phone, and cable television bills; and insurance or tuition payments. While some lenders have developed statistical scoring methods to determine borrowers' creditworthiness based on these data, others rely on the judgment of their staff to make determinations on a case-by- case basis, according to Department of Housing and Urban Development (HUD) officials. HUD permits lenders that originate mortgages insured by HUD's Federal Housing Administration (FHA) to establish a borrower's credit history through alternative means and has provided guidance to FHA lenders for evaluating these nontraditional credit histories. According to HUD officials, 7,319 nontraditional borrowers were approved for FHA-insured mortgages in fiscal year 2009. Section 2124 of the Housing and Economic Recovery Act of 2008 (HERA) requires HUD to develop a pilot program establishing an automated process for providing FHA lenders with alternative credit rating information for borrowers who have insufficient credit histories to determine their creditworthiness using traditional methods.[Footnote 1] Section 2124 of HERA also directs GAO to report by July 30, 2010, on (1) the number of additional borrowers served using the automated process and (2) the impact of the process on the safety and soundness of FHA's insurance funds. To respond to the mandate, we obtained documentation and interviewed officials from HUD about the pilot program. At this time, HUD has not established an automated process for providing alternative credit information. Therefore, no FHA borrowers have been served using such a process and there has been no impact on FHA's insurance funds. However, we discuss the status of the pilot program below. We conducted this performance audit from June 2010 to July 2010 in accordance with generally accepted government auditing standards. Those standards require that we plan and perform the audit to obtain sufficient, appropriate evidence to provide a reasonable basis for our findings and conclusions based on our audit objectives. We believe that the evidence obtained provides a reasonable basis for our findings and conclusions based on our audit objectives. In July 2009, HUD published a notice in the Federal Register to solicit comments on the design of the pilot program. In September 2009, HUD awarded a contract to a consulting firm to study the feasibility of developing an automated process and to propose a design for the pilot program.[Footnote 2] The contractor reported to HUD in June 2010 on its findings and concluded that there are sufficient sources of alternative credit data--and scoring methods using such data--to move forward with the pilot program. Specifically, the contractor noted that several vendors aggregate data that are often used for making credit decisions through alternative means and that cover a large portion of the nontraditional borrower population. In addition, other vendors have developed methodologies and tools to analyze these data to produce nontraditional credit scores, which could be used to support the pilot program if they can be independently validated as being effective for managing credit risk. Based on these findings, in July 2010 the contractor recommended that HUD implement the pilot program in two phases. In the first phase, called the proof-of-concept phase, the contractor proposed to examine the performance of existing FHA-insured mortgages that were approved using alternative credit information. Specifically, the contractor would analyze statistical relationships between mortgage performance and alternative credit data to determine whether there are indicators, criteria, and parameters that could be used in an automated decision tool, according to HUD officials. The contractor recommended allowing 300 days for the completion of the proof-of-concept phase. If the proof-of-concept phase is successful, they will move to a production phase, during which the contractor would create an automated decision tool based on their findings and HUD would recruit lenders to participate. This second phase would continue for several years in order to evaluate the performance of the mortgages approved using the decision tool. HUD officials said they have reviewed the contractor's reports and agree with the findings and recommendations. They plan to exercise the option year on their contract with the consulting firm in order to begin the proof-of-concept phase in fiscal year 2011, provided that funding is available. HUD officials provided comments on a draft of this report. They agreed with our facts and observations. They also provided technical comments, which we incorporated as appropriate. We are sending copies of this report to the Secretary of HUD and other interested parties. This report will also be available at no charge on GAO's Web site at [hyperlink, http://www.gao.gov]. If you have any questions or need additional information, please contact me at (202) 512-8678 or sciremj@gao.gov. Key contributors to this report were Steve Westley, Assistant Director; Don Brown; John McGrail; and Jennifer Schwartz. Signed by: Mathew J. Scirč: Director, Financial Markets and Community Investment: [End of section] Footnotes: [1] Pub. L. No. 110-289. [2] The contract, which was for 1 year with an option for an additional year, specified a number of tasks for the contractor to perform, such as determining in the first year how a pilot could most effectively be established and evaluated. The major task during the option year, if exercised, would be to develop an automated reporting tool. [End of section]