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GAO-10-827R: 

United States Government Accountability Office: 
Washington, DC 20548: 

September 14, 2010: 

The Honorable Christopher J. Dodd:
Chairman:
The Honorable Richard C. Shelby:
Ranking Member:
Committee on Banking, Housing, and Urban Affairs: 
United States Senate: 

Subject: Mortgage Financing: Opportunities to Enhance Management and 
Oversight of FHA's Financial Condition: 

The Department of Housing and Urban Development's (HUD) Federal 
Housing Administration (FHA) has helped millions of families purchase 
homes through its single-family mortgage insurance programs. In recent 
years, FHA has experienced a dramatic increase in its market role due 
to the contraction of other mortgage market segments. FHA insures 
almost all of its single-family mortgages under its Mutual Mortgage 
Insurance Fund (Fund), which is reviewed from both an actuarial and 
budgetary perspective each year.[Footnote 1] On the basis of an 
independent actuarial review, FHA reported in November 2009 that the 
Fund was not meeting statutory capital reserve requirements as of the 
end of fiscal year 2009, as measured by the Fund's estimated capital 
ratio (i.e., economic value divided by the unamortized insurance-in- 
force).[Footnote 2] 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. 

In light of FHA's changing market role and financial condition, you 
asked us to examine (1) how estimates of the Fund's capital ratio have 
changed since 2001, the primary factors contributing to recent 
changes, and the budgetary implications of changes in the Fund's 
financial performance; (2) how FHA and its actuarial review contractor 
evaluate the financial condition of the Fund, including the Fund's 
performance under different economic scenarios; (3) the steps FHA has 
taken to improve the financial condition of the Fund, and how it has 
interpreted statutory requirements pertaining to the Fund; and (4) the 
performance of FHA's mortgage portfolio from 2005 through 2009, and 
the extent to which key characteristics of FHA-insured mortgages have 
changed in recent years.[Footnote 3] In July 2010, we briefed your 
offices on the results of this work. This report provides a summary of 
those results, and enclosure I contains the more detailed briefing 
materials. We incorporated HUD's comments in this report where 
appropriate. 

Background: 

FHA's single-family programs insure private lenders against losses 
from borrower defaults on mortgages that meet FHA criteria for 
properties with one to four housing units. FHA insures a variety of 
mortgages for initial home purchases, construction and rehabilitation, 
and refinancing. In 2009, FHA insured almost 2 million single-family 
mortgages representing more than $300 billion in mortgage insurance. 
The agency has played a particularly large role among minority, lower- 
income, and first-time homebuyers. In 2009, almost 80 percent of FHA- 
insured home purchase loans went to first-time homebuyers, 32 percent 
of whom were minorities. FHA also generally is thought to promote 
stability in the market by ensuring the availability of mortgage 
credit in areas that may be underserved by the private sector or that 
are experiencing economic downturns. As the recent housing and 
economic recession set in, FHA's share of the market for home purchase 
mortgages grew sharply, rising from about 5 percent in 2006 to nearly 
30 percent in 2009. 

Legislation sets certain standards for FHA-insured loans. FHA 
borrowers who are purchasing a home are required to make a cash 
investment of at least 3.5 percent of the current purchase price. This 
investment may come from the borrowers' own funds or from certain 
third-party sources. However, borrowers are permitted to finance their 
mortgage insurance premiums and some closing costs, which can create 
an effective loan-to-value (LTV) ratio--that is, the ratio of the 
amount of the mortgage loan to the value of the home--of close to 100 
percent for some FHA-insured loans. Congress also has set limits on 
the size of the loans that may be insured by FHA, which can vary by 
county. In calendar year 2010, the limits range from $271,050 to 
$729,750 for one-unit properties in the continental United States. 

The Fund is supported by borrowers' insurance premiums. FHA has the 
authority to establish and collect a single up-front premium (in an 
amount not to exceed 3.0 percent of the amount of the original insured 
principal obligation of the mortgage) and annual premiums of up to 1.5 
percent of the remaining insured principal balance, or 1.55 percent 
for borrowers with down payments of less than 5.0 percent. As of 
September 1, 2010, FHA charged a 2.25 percent up-front premium and a 
0.50 or 0.55 percent annual insurance premium, depending on the size 
of the down payment. 

The Omnibus Budget Reconciliation Act of 1990 (Pub. L. No. 101-508) 
required the Secretary of HUD to take steps to ensure that the Fund 
attained a capital ratio of at least 2 percent by November 2000 and 
maintained at least a 2 percent ratio at all times thereafter. The act 
also required an annual independent actuarial review of the economic 
net worth and soundness of the Fund. The actuarial review estimates 
the economic value of the Fund as well as the capital ratio to 
determine whether the Fund has met the capital standards in the act. 
The analysis considers the historical performance of the existing 
loans in the Fund, projected future economic conditions, claim and 
loss rates, and projected mortgage originations. The Fund met the 
capital ratio requirement from 1995 through 2008. The annual actuarial 
review is now a requirement in the Housing and Economic Recovery Act 
of 2008 (HERA), which also requires that the Secretary of HUD submit 
an annual report to Congress on the results of the review. 

Under the Federal Credit Reform Act of 1990 (FCRA), FHA and other 
federal agencies must estimate the net lifetime costs (i.e., credit 
subsidy costs) of their loan insurance or guarantee programs and 
include the costs to the government in their annual budgets.[Footnote 
4] Credit subsidy costs represent the net present value of expected 
lifetime cash flows, excluding administrative costs. For a mortgage 
insurance program, cash inflows consist primarily of fees and premiums 
charged to insured borrowers and proceeds from sales of foreclosed 
properties, and cash outflows consist mostly of payments to lenders to 
cover the cost of claims. Annually, agencies estimate credit subsidy 
costs by cohort--the loans agencies commit to guarantee in a given 
fiscal year. When estimated cash inflows exceed expected cash 
outflows, a program is said to have a negative credit subsidy rate. 
When the opposite is true, the program is said to have a positive 
credit subsidy rate--and therefore requires appropriations. 
Historically, FHA has estimated that its loan insurance program is a 
negative subsidy program and, as a result, has generated budgetary 
receipts that reduce the federal budget deficit. On the basis of these 
negative subsidy estimates, FHA built up substantial balances over the 
years in a budgetary account known as the capital reserve account. 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--for example, increases 
due to higher-than-expected claims. Reserves needed to cover estimated 
credit subsidy costs are held in the Fund's financing account. 
[Footnote 5] 

Generally, agencies are required to produce annual updates of their 
subsidy estimates--known as reestimates--for each cohort on the basis 
of information on actual performance and estimated changes in future 
loan performance. Beyond changes in estimation methodology, each 
additional year provides more historical data on loan performance that 
may influence estimates of the amount and timing of future claims. 
Economic assumptions (such as house prices and interest rates) also 
can change from year to year. FCRA recognized the difficulty in making 
credit subsidy estimates that mirrored actual loan performance and 
provides permanent and indefinite budget authority for reestimates 
that reflect increased program costs. These upward reestimates 
increase the federal budget deficit, unless accompanied by reductions 
in other government spending or an increase in receipts. 

Summary: 

After increasing earlier in the decade, the Fund's capital ratio 
dropped sharply in 2008 and fell below the statutory minimum in 2009, 
when a combination of economic and market developments created 
conditions that simultaneously reduced the Fund's economic value 
(numerator of the ratio) and increased the insurance-in-force 
(denominator of the ratio). According to annual actuarial reviews of 
the Fund, from 2001 through 2006, the capital ratio rose from 3.8 
percent to 6.8 percent, but fell to 3.0 percent by the end of 2008 and 
to 0.5 percent by the end of 2009. Major factors contributing to the 
declines in 2008 and 2009 included the following: 

* More pessimistic forecasts of economic conditions--house prices, in 
particular--which increased the number of predicted insurance claims 
and losses associated with those claims, thereby reducing the Fund's 
economic value. The economic value declined from $21.3 billion at the 
beginning of 2008 to $3.6 billion by the end of 2009. 

* The contraction of other segments of the mortgage market and 
legislated increases in the loan amounts eligible for FHA insurance, 
which resulted in higher demand for FHA-insured mortgages and 
increased FHA's insurance-in-force. From the beginning of 2008 to the 
end of 2009, the insurance-in-force rose from $332 billion to $715 
billion. 

At the same time, the Fund's condition from a budgetary perspective 
also has worsened. In recent years, the Fund's capital reserve account 
has covered large upward reestimates of FHA's credit subsidy costs 
(through transfers to the financing account). As a result, balances in 
the capital reserve account have fallen dramatically. At the end of 
2007, the balance stood at $22.0 billion, but it is estimated to drop 
to $3.5 billion by the end of 2010. If the reserve account were to be 
depleted--a scenario that an FHA budget official told us was a 
possibility within the next few years--FHA would need to draw on 
permanent and indefinite budget authority to cover additional 
increases in estimated credit subsidy costs. 

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.[Footnote 6] Annual actuarial 
reviews of the Fund use statistical models to estimate the probability 
that loans will prepay or result in insurance claims on the basis of 
certain loan and borrower characteristics (such as LTV ratios and 
borrower credit scores) and key economic variables (such as house 
prices and interest rates). In recent years, FHA and its contractor 
have enhanced these models by incorporating additional variables that 
are related to loan performance and developed an additional model to 
predict loss rates on insurance claims. Also, consistent with 
recommendations that we made in a prior report, the actuarial reviews 
began in 2003 to analyze the impact of more pessimistic economic 
scenarios--for example, nationwide declines in home prices--than they 
did previously.[Footnote 7] However, FHA, its financial statement 
auditor, and mortgage market and budget analysts have identified a 
number of potential issues with the current review methodology. For 
example: 

* The reviews rely on a single economic forecast to produce the 
estimate of the capital ratio (baseline estimate) 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. As a 
result, baseline estimates of the capital ratio may tend to 
underestimate insurance claims and mortgage prepayments and therefore 
may tend to overestimate the Fund's economic value. In a 2003 report, 
the Congressional Budget Office (CBO) concluded that FHA could project 
the Fund's cash flows more accurately by using a methodological 
approach--known as stochastic modeling--that involves running 
simulations of hundreds of different economic paths to produce a 
distribution of capital ratio estimates.[Footnote 8] 

* The reviews impute initial LTV ratios for streamline refinance 
mortgages (refinancing from one FHA-insured loan to another) in a 
manner that may provide inaccurate starting points for assessing the 
default risk of this growing segment of FHA's portfolio, particularly 
in areas where house values fell substantially between the start of 
the original loan and the streamline refinancing. 

* The reviews use forecasts of a national house price index, rather 
than more localized indexes, to capture the impact of future house 
price movements on loan performance. However, the geographic 
distribution of FHA's business may not always be representative of the 
nation as a whole and could change over time. 

FHA officials told us that they were planning to require the actuarial 
review contractor to use a stochastic simulation model for the 2011 
actuarial review. These officials said that the model would be used to 
examine the implications of extreme economic scenarios on the Fund but 
that decisions about whether to use the model to estimate the Fund's 
capital ratio had not been made. FHA officials told us that they plan 
to address the other two issues in the 2010 actuarial review. 

To help improve the financial condition of the Fund, FHA has raised 
premiums and made or proposed policy and underwriting changes, but 
certain legislative requirements concerning FHA’s administration of 
the Fund provide limited direction and have required interpretation 
by FHA. For example, FHA raised its up-front premiums, is planning to 
increase down-payment requirements for riskier borrowers, and has 
proposed reducing allowable seller contributions at closing. Additionally, 
to rebalance its premium structure while achieving a net increase in net 
premium revenue, FHA proposed raising the statutory ceiling on the annual 
premium and lowering the up-front premium. Consistent with this proposal, 
Congress enacted legislation in August 2010 raising the ceiling on the 
annual premium.9 Budget estimates indicate that the rebalancing of the 
premium structure and the policy changes regarding down-payment requirements 
and seller concessions will, if implemented, increase the balance in the 
Fund’s capital reserve account by $1.9 billion (according to a CBO estimate) 
or $5.8 billion (according to an FHA estimate) in 2011. Additionally, FHA 
has increased enforcement against noncompliant and poorly performing lenders 
and sought legislative approval to expand its lender enforcement authority. 
However, some of the legislative requirements for FHA’s management of and 
reporting on the Fund’s condition provide limited directions to FHA. For 
example:

* The Omnibus Budget Reconciliation Act of 1990 requires FHA to 
maintain a capital ratio of at least 2 percent "at all times" after 
November 2000 but does not specify time frames for reattaining a 2 
percent ratio should it fall below that level. FHA officials told us 
that while they have not set a deadline for restoring the ratio to the 
minimum level, they intend to do so as quickly as possible, consistent 
with FHA's statutory operational goals, such as providing mortgage 
insurance to traditionally underserved borrowers.[Footnote 10] 

* The same act defines the capital ratio as the economic value of the 
Fund divided by the "unamortized insurance-in-force" (generally 
understood as the initial insured loan balances) but then defines 
unamortized insurance-in-force as the remaining obligation on 
outstanding mortgages (generally understood to describe the amortized 
insurance-in-force). Although FHA has reported the capital ratio as 
calculated with the amortized and the unamortized insurance-in-force, 
it traditionally has emphasized the capital ratio calculated using the 
unamortized insurance-in-force (as generally understood) for assessing 
compliance with the 2 percent minimum requirement. However, for the 
2009 review, FHA shifted emphasis to the amortized insurance-in-force--
a measure that, as we noted in a prior report, better represents the 
Fund's potential liability.[Footnote 11] This change makes little 
difference now, but as the large volume of recent FHA-insured loans 
matures and borrowers pay down their loan balances, using the 
amortized figure will result in a somewhat higher capital ratio than 
using the unamortized figure. 

* A provision in HERA states that if the Secretary of HUD determines 
there is a substantial probability that the Fund will not maintain its 
"established target subsidy rate," the Secretary may make programmatic 
or premium adjustments.[Footnote 12] However, neither HUD nor Congress 
has established a target subsidy rate for the Fund. FHA officials told 
us that the meaning of the term was not clear (indicating it could 
refer to a credit subsidy rate), but they have interpreted the term to 
mean the capital ratio.[Footnote 13] 

* HERA also requires FHA to provide quarterly reports to Congress that 
include "updated projections of [the Fund's] annual subsidy rates to 
ensure that increases in risk to the Fund are identified and mitigated…
and the financial soundness of the Fund is maintained."[Footnote 14] 
On the basis of its interpretation of this requirement, FHA has 
reported the credit subsidy rate for only the current loan cohort and, 
because credit subsidy rates generally are only updated annually, has 
reported the same rate each quarter in a given fiscal year.[Footnote 
15] Because FHA's credit subsidy rates are already reported in the 
President's budget, FHA's interpretation does not provide new 
information. While FHA's quarterly reports do provide information on 
major factors affecting subsidy rates (such as claim, prepayment, and 
loss rates), the agency has other information that could provide 
insight into the future direction of the subsidy rates (such as cohort-
level delinquency trends and economic forecasts). 

In the absence of more explicit directions, the priority that FHA 
should place on restoring the capital ratio versus its operational 
goals may be unclear, and Congress may not be receiving all of the 
information that it would find useful to monitor the Fund's financial 
condition. 

Data on the performance and characteristics of FHA-insured mortgages 
illustrate the challenges and uncertainties 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. More 
specifically, FHA experienced increases in serious delinquency rates 
(percentage of active loans 90 or more days delinquent or in 
foreclosure) beginning in 2008 and continuing through 2009 after 
seeing a more stable pattern from 2005 through 2007. As of the last 
quarter of calendar year 2009, FHA's serious delinquency rate reached 
a historical high of 9.4 percent, a figure moderated by the fact that 
a large proportion of FHA's active loans are relatively new and have 
had limited time to potentially experience performance problems. 
[Footnote 16] Although making direct comparisons across market 
segments is complicated by a number of factors--including differences 
in the age and geographic distribution of the mortgages in each 
segment--FHA's serious delinquency rate was lower than the 
corresponding rate for subprime mortgages (30.6 percent) and higher 
than the rate for prime mortgages (7.0 percent) at the end of calendar 
year 2009. This pattern is consistent with FHA maintaining stricter 
underwriting standards than the subprime market but generally serving 
borrowers who would have difficulty in obtaining prime mortgages. In 
recent years, changes in key loan and borrower characteristics of FHA-
insured mortgages suggested some improvement in credit quality at loan 
origination. For example: 

* As the contraction of the conventional mortgage market reduced 
mortgage options, even for borrowers with favorable credit histories, 
the proportion of FHA borrowers with stronger credit scores (680 and 
above) increased from 28 percent in 2008 to 44 percent in 2009. 

* The percentage of loans with down-payment assistance funded by home 
sellers fell from about 19 percent in 2008 to 0 percent as a 
legislative ban on this assistance took effect in 2009. As we 
discussed in a prior report, loans with this type of assistance have 
significantly higher-than-average insurance claim rates.[Footnote 17] 

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 (35 percent of the amortized 
insurance-in-force as of May 31, 2010). The 2009 cohort was projected 
to perform better than the 2006 cohort in the long run. However, it is 
unclear from the early performance of the 2009 cohort whether this 
projection will hold. 

Conclusions: 

Because of the severe downturn in the nation's housing sector and 
FHA's expanded role in supporting the mortgage market, concerns about 
FHA's finances have grown. Of particular concern is the rapid decline 
in the Fund's estimated capital ratio to a level below the statutory 
minimum. Prior actuarial reviews have produced estimates of the Fund's 
capital ratio using economic forecasts that do not fully account for 
variability in the conditions the Fund may face. FHA is undertaking a 
number of enhancements to its modeling and estimation processes, 
including the use of stochastic simulation, that could help address 
this and other methodological issues. Prudent implementation of these 
enhancements could improve the reliability of future capital ratio 
estimates and produce useful information about the Fund's ability to 
withstand economic stresses and meet statutory capital reserve 
requirements. 

Congress has enacted a number of statutory provisions concerning FHA's 
management of and reporting on the Fund's financial condition. These 
provisions are a key component of Congress's oversight of FHA but, in 
some cases, do not provide FHA with clear or specific directions. More 
specifically, the statutes do not specify a time frame for restoring 
the capital ratio to its required minimum level, define unamortized 
insurance-in-force in a way that is commonly understood, indicate what 
is meant by the term "target subsidy rate," or clearly stipulate the 
extent of the information FHA should include in quarterly reports. 
Enhancement and clarification of these legislative provisions may help 
reinforce FHA's accountability for restoring and maintaining the 
capital ratio at the statutorily required level and improve 
transparency of the Fund's financial condition. However, establishing 
a deadline for FHA to restore the capital ratio to 2 percent would 
require careful deliberation because it involves trade-offs. In 
particular, lawmakers would need to consider how FHA's actions to meet 
a deadline (e.g., through changes to insurance premiums, program 
participation, or underwriting standards) would affect the agency's 
ability to meet its statutory operational goals and support the 
mortgage market. In addition, clarifying the definition of unamortized 
insurance-in-force could have some effect on the size of the estimated 
capital ratio. Clarification of the other provisions would help to 
ensure FHA compliance and assist Congress in overseeing FHA's 
management of the Fund. 

Matters for Congressional Consideration: 

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 should the ratio fall below that level, taking into account 
FHA's statutory operational goals and role in supporting the mortgage 
market during periods of economic stress, and: 

* clarifying (1) the definition of the Fund's capital ratio-- 
specifically, whether the denominator of the ratio was intended to be 
the amortized insurance-in-force; (2) the definition of the phrase 
"established target subsidy rate" used in HERA; and (3) the nature and 
extent of information that FHA should be reporting on subsidy rates 
pursuant to HERA, recognizing that subsidy rates are generally only 
reestimated once a year under current budget processes. 

Recommendations for Executive Action: 

To enhance actuarial assessment of and reporting on the Fund, we 
recommend that the Secretary of HUD (1) require FHA's actuarial review 
contractor to use stochastic simulation of future economic conditions, 
including house prices and interest rates, to estimate the Fund's 
capital ratio and (2) include the results of this analysis, whether 
used as a replacement for or supplement to the current methodology, in 
FHA's annual report to Congress on the financial status of the Fund. 

Agency Comments: 

We provided a draft of this report to the Department of Housing and 
Urban Development for its review and comment. HUD provided technical 
comments, which we incorporated into the report where appropriate. 

Scope and Methodology: 

To examine how estimates of the Fund's capital ratio have changed 
since 2001, we analyzed information from the actuarial reviews for 
2001 through 2009. To determine the primary factors contributing to 
recent changes in the capital ratio, we examined the 2007, 2008, and 
2009 actuarial reviews and interviewed FHA officials and the actuarial 
review contractor about the results of these reviews. We also reviewed 
FHA's audited financial statements for 2008 and 2009 to understand key 
financial inputs used in the actuarial reviews. To examine the 
budgetary implications of changes in the Fund's financial performance, 
we reviewed relevant circulars and guidance from the Office of 
Management and Budget and analysis from CBO to describe the functions 
of and relationships between the FHA budget accounts and to understand 
the requirements and budgetary treatment of federal credit programs. 
We also reviewed the HUD appendixes to the President's budget (for 
2004 through 2011) and federal credit supplements (for 1994 through 
2011) to analyze trends in the balance of the capital reserve account 
and credit subsidy estimates and reestimates for the Fund. 

To evaluate how FHA and its actuarial review contractor assess the 
financial condition of the Fund, we reviewed the 2007, 2008, and 2009 
actuarial reviews and the last two actuarial review contracts to 
characterize the methodology used to estimate the Fund's capital ratio 
and economic value. We also reviewed existing studies and reports 
evaluating the methodology, including the independent auditor's report 
accompanying the audit of FHA's financial statements for 2008 and 
2009. We also interviewed housing market researchers; an actuarial 
consultant to FHA's independent financial statement auditor and 
private mortgage insurers; and staff from FHA, FHA's actuarial 
contractor, FHA's independent financial statement auditor, HUD's 
Office of Inspector General, and CBO about the methodology. To assess 
the extent to which actuarial reviews of the Fund have evaluated the 
impact of different economic scenarios on the Fund's financial 
condition, we analyzed the baseline and alternative economic scenarios 
in the 2004 through 2009 actuarial reviews and the associated 
estimates of the capital ratio. We also compared the 3-year house 
price assumptions used in these scenarios with recent housing market 
experience, as measured by changes in the Federal Housing Finance 
Agency's national house price index. 

To assess the extent to which FHA took steps to improve the financial 
condition of the Fund, we reviewed the agency's mortgagee letters, 
budget submissions, regulatory proposals, and actuarial reviews to 
identify FHA's actions to manage the Fund. For actions taken or 
proposed after the 2009 review, we examined FHA and CBO estimates of 
the budgetary impact of these measures. We also interviewed 
knowledgeable FHA and CBO officials to ensure that we understood key 
assumptions behind their estimates. To assess how FHA has interpreted 
requirements regarding the management of and reporting on the Fund, we 
reviewed and summarized laws and regulations that were pertinent to 
these requirements. We also interviewed knowledgeable FHA officials to 
obtain their interpretation of these requirements. 

To describe the performance of FHA's mortgage portfolio from 2005 
through 2009 and the extent to which key characteristics of FHA-
insured mortgages have changed in recent years, we analyzed data from 
the Mortgage Bankers Association's National Delinquency Survey, FHA's 
Office of Evaluation, FHA's reports to Congress on the status of the 
Fund, and the 2009 actuarial review of the Fund. We analyzed 
descriptive statistics and identified trends in the performance of FHA-
insured mortgages (e.g., serious delinquency rates); loan 
characteristics (e.g., loan type and loan purpose); and borrower 
characteristics (e.g., credit score and down-payment assistance). We 
also reviewed other relevant FHA reports and analysis and interviewed 
knowledgeable FHA staff to identify major reasons for any observed 
changes in the performance and characteristics of FHA-insured loans. 

We conducted this performance audit from September 2009 to September 
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. 

As agreed with your offices, unless you publicly announce the contents 
of this report earlier, we plan no further distribution until 30 days 
from the date of this letter. At that time, we will send copies of 
this report to the appropriate congressional committees, the Secretary 
of Housing and Urban Development, and other interested parties. In 
addition, the report will be available at no charge on GAO's Web site 
at [hyperlink, http://www.gao.gov]. 

If you or your staffs have questions about this report, please contact 
me at (202) 512-8678 or sciremj@gao.gov. Contact points for our 
Offices of Congressional Relations and Public Affairs may be found on 
the last page of this report. GAO staff who made key contributions to 
this report are listed in enclosure II. 

Signed by: 

Mathew J. Scirè: 
Director, Financial Markets and Community Investment: 

Enclosures - 2: 

[End of section] 

Enclosure I: Briefing to the Senate Committee on Banking, Housing, and 
Urban Affairs, July 2010: 

Financial Condition of FHA's Mutual Mortgage Insurance Fund: 

Briefing to the Committee on Banking, Housing, and Urban Affairs: 
United States Senate: 

July 2010: 

For more information, contact Mathew J. Scirè at (202) 512-8678 or 
sciremj@gao.gov. 

Overview: 
* Objectives; 
* Scope and Methodology; 
* Summary; 
* Background; 
* Changes in the Fund's financial condition; 
* Methodology for assessing the Fund; 
* Federal Housing Administration (FHA) actions to strengthen the Fund 
and interpretation of statutory requirements; 
* Changes in the performance and characteristics of FHA-insured 
mortgages. 

Objectives: 

1. Examine how estimates of the Fund's capital ratio have changed 
since 2001, the primary factors contributing to recent changes, and 
the budgetary implications of recent changes in the Fund's financial 
condition.[A] 

2. Assess how FHA and its actuarial review contractor evaluate the 
financial condition of the Fund, including the Fund's performance 
under different economic scenarios. 

3. Describe the steps FHA has taken to improve the financial condition 
of the Fund, and how the agency has interpreted statutory requirements 
pertaining to the Fund. 

4. Describe the performance of FHA's mortgage portfolio from 2005 
through 2009, and the extent to which key characteristics of FHA-
insured mortgages have changed in recent years. 

[A] Unless otherwise indicated, all years in this document are fiscal 
years. 

Scope and Methodology: 

To address our review objectives, we: 

* analyzed actuarial reviews of the Mutual Mortgage Insurance (MMI) 
Fund for 2001 through 2009. 

* analyzed federal budget documents, including Department of Housing 
and Urban Development (HUD) budget appendixes and federal credit 
supplements for 1994 through 2011, and reviewed relevant Office of 
Management and Budget (OMB) circulars. 

* reviewed relevant Congressional Budget Office (CBO) studies and 
estimates. 

* reviewed laws and regulations pertinent to FHA's administration of 
the Fund, as well as FHA policy changes and regulatory and legislative 
proposals. 

* analyzed FHA and industry data on the characteristics and 
performance of mortgages insured by FHA, focusing on the period from 
2005 through 2009. 

* interviewed officials from FHA, FHA's actuarial review contractor, 
HUD's Office of General Counsel, HUD's Office of Inspector General, 
the independent financial statement auditor of FHA's financial 
statements, CBO, and OMB. We also interviewed selected housing market 
researchers and an actuarial consultant to FHA's independent financial 
statement auditor and private mortgage insurers. 

Summary: 

After increasing earlier in the decade, the Fund's capital ratio 
dropped sharply in 2008 and fell below the statutory minimum in 2009, 
as economic and market developments created conditions that reduced 
the Fund's economic value (numerator of the ratio) and increased the 
insurance-in-force (denominator). At the same time, balances in the 
budgetary account that records the Fund's capital reserves (reserves 
in excess of those needed to cover FHA's estimated long-term insurance 
costs) fell dramatically. 

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. For example, the current method 
does not fully account for variability in economic conditions the Fund 
may face. 

To help improve the financial condition of the Fund, FHA has raised 
insurance premiums and made or proposed policy and underwriting 
changes, but certain legislative requirements concerning FHA's 
administration of the Fund provide limited direction and have required 
interpretation by FHA. 

As in other mortgage market segments, the performance of FHA-insured 
mortgages deteriorated as the economy weakened and home prices fell in 
2008 and 2009. At the same time, changes in key loan and borrower 
characteristics of these mortgages suggested some improvement in 
credit quality at loan origination. FHA is closely monitoring the 
performance of the large 2009 loan cohort, which will have a major 
influence on the Fund. 

Background: 

Through its single-family mortgage insurance programs, FHA insures 
lenders against losses from defaults on mortgages that meet FHA 
criteria. 

* FHA borrowers who are purchasing a home are required to make a cash 
investment of at least 3.5% of the contract sales price. 

* Limits on the size of the loans FHA may insure can vary by county. 
They currently range from $271,050 to $729,750 for one-unit properties 
in the continental U.S. 

FHA has played a large role among minority, lower-income, and first-
time homebuyers and is thought to promote market stability by ensuring 
the availability of mortgage credit in areas that may be underserved 
by the private sector or are facing economic downturns. 

* In 2009, 79% of FHA-insured home purchase loans went to first-time 
homebuyers, 32% of whom were minorities. 

FHA insures nearly all of its single-family mortgages under its MMI 
Fund. 

* FHA currently charges a 2.25% up-front insurance premium and a 0.5% 
annual premium (0.55% for borrowers with down payments of less than 
5.0%). 

* The Fund's cash inflows include borrower premiums and proceeds from 
sales of foreclosed properties, and cash outflows include insurance 
claims paid to lenders and holding costs for foreclosed properties. 

The Omnibus Budget Reconciliation Act of 1990: 

* defined the Fund's capital ratio as the Fund's economic value 
divided by the unamortized insurance-in-force. 

* required HUD to take steps to achieve a 2% ratio by November 2000 
and maintain a ratio of at least that level at all times thereafter. 

* required an annual independent actuarial review of the Fund to 
determine if the Fund was meeting the capital standards in the Act.[A] 

The Federal Credit Reform Act of 1990 (FCRA) requires federal agencies 
to estimate the expected net lifetime costs, known as credit subsidy 
costs, of their loan guarantee programs and report them in their 
annual budgets. 

* The credit subsidy cost is the net present value of all expected 
cash flows, excluding administrative costs, and can be expressed as a 
rate (net present value of cash flows divided by the dollar amount of 
loans insured). Negative subsidy costs (i.e., net cash inflows) are 
counted as offsetting receipts that reduce the federal budget deficit. 

* Credit subsidy costs are separately estimated for each annual cohort 
of loans and are reestimated each year based on information about the 
actual performance of the loans and estimated changes in future loan 
performance. 

[A] The annual actuarial review is now a requirement in the Housing 
and Economic Recovery Act of 2008. 

Changes in the Fund's Financial Condition Annual Estimates of the 
Capital Ratio: 

The Fund's capital ratio increased earlier in the decade-—reaching a 
peak of 6.8% in 2006—-but declined sharply in 2008 and fell below the 
statutory minimum in 2009 to about 0.5%. 

[Figure: Refer to PDF for image: vertical bar graph] 

Minimum capital ratio: 2.0%. 

Year: 2001; 
Capital ratio (percentage): 3.75%. 

Year: 2002; 
Capital ratio (percentage): 4.52%. 

Year: 2003; 
Capital ratio (percentage): 5.21%. 

Year: 2004; 
Capital ratio (percentage): 5.53%. 

Year: 2005; 
Capital ratio (percentage): 6.02%. 

Year: 2006; 
Capital ratio (percentage): 6.82%. 

Year: 2007; 
Capital ratio (percentage): 6.40%. 

Year: 2008; 
Capital ratio (percentage): 3.10%. 

Year: 2009; 
Capital ratio (percentage): 0.51%. 

Source: GAO analysis of FHA data. 

[End of figure] 

Changes in the Fund's Financial Condition: Annual Estimates of the 
Economic Value and Insurance-in-Force: 

The combination of a relatively stable economic value (numerator of 
the ratio) and a declining insurance-in-force (denominator) over much 
of the decade increased the capital ratio. In 2008 and 2009, the 
economic value fell as the insurance-in-force rose, dramatically 
lowering the ratio. 

[Figure: Refer to PDF for image: vertical bar and line graph] 

Year: 2001; 
Economic value: $18.51 billion; 
Unamortized insurance in force: $493 billion. 

Year: 2002; 
Economic value: $22.63 billion; 
Unamortized insurance in force: $500 billion. 

Year: 2003; 
Economic value: $22.74 billion; 
Unamortized insurance in force: $436 billion. 

Year: 2004; 
Economic value: $21.98 billion; 
Unamortized insurance in force: $397 billion. 

Year: 2005; 
Economic value: $21.62 billion; 
Unamortized insurance in force: $359 billion. 

Year: 2006; 
Economic value: $22.02 billion; 
Unamortized insurance in force: $323 billion. 

Year: 2007; 
Economic value: $21.23 billion; 
Unamortized insurance in force: $332 billion. 

Year: 2008; 
Economic value: $12.91 billion; 
Unamortized insurance in force: $430 billion. 

Year: 2009; 
Economic value: $3.64 billion; 
Unamortized insurance in force: $715 billion. 

Source: GAO analysis of FHA data. 

[End of figure] 

Changes in the Fund's Financial Condition: Reasons for Decline in 
Economic Value: 

The economic value of the Fund declined by: 

* $8.4 billion from 2007 to 2008; 

* $10.2 billion from 2008 to 2009. 

For both periods, major reasons for the declines included: 

* more pessimistic economic forecasts—-house prices, in particular—-
which increased the likelihood that FHA borrowers would end up in a 
position of negative home equity, thereby resulting in higher 
projected insurance claims. 

* less favorable assumptions about FHA's net losses on loans that 
result in insurance claims (loss severity). As discussed later in this 
briefing, part of the increase in projected loss severity rates in the 
2009 review stemmed from an enhancement in estimation methods. 

Another major reason for the decrease in the economic value from 2007 
to 2008 was greater loan volume than originally estimated for the 2008 
loan cohort, which is currently projected to be unprofitable. 

Changes in the Fund's Financial Condition: Reasons for Increase in the 
Insurance-in-Force: 

After dropping substantially from 2003 through 2006, the dollar volume 
of loans FHA insured grew dramatically in 2008 and 2009 as a result of 
the sharp contraction of other segments of the mortgage market and 
legislated increases in the loan amounts eligible for FHA insurance. 
FHA's share of the mortgage market followed a similar trend. 

[Figure: Refer to PDF for image: vertical bar and line graph] 

Year: 2001; 
Loan volume: $152 billion; 
Market share: 6.8%. 

Year: 2002; 
Loan volume: $140 billion; 
Market share: 4.9%. 

Year: 2003; 
Loan volume: $153 billion; 
Market share: 4.0%. 

Year: 2004; 
Loan volume: $84 billion; 
Market share: 3.0%. 

Year: 2005; 
Loan volume: $56 billion; 
Market share: 1.9%. 

Year: 2006; 
Loan volume: $55 billion; 
Market share: 2.0%. 

Year: 2007; 
Loan volume: $77 billion; 
Market share: 3.4%. 

Year: 2008; 
Loan volume: $243 billion; 
Market share: 16.1%. 

Year: 2009; 
Loan volume: $357 billion; 
Market share: 17.0%. 

Source: GAO analysis of FHA data. 

[End of figure] 

Changes in the Fund's Financial Condition: Budget Accounting for the 
Fund: 

Budget information for the Fund appears in three accounts: program, 
financing, and capital reserve. 

Annual appropriations: 
Provides aggregate limitation on loan guarantees and budget authority 
for program casts. Credit subsidy (if positive) to Program Account. 
Administrative costs to Program Account. 

Permanent and indefinite budget authority: 
Federal Credit Reform Act provides permanent and indefinite budget 
authority to pay upward subsidy reestimates. Upward subsidy 
reestimates (if capital reserve account is depleted) to Program 
Account. 

Program account: 
Records the budget authority and outlays for credit subsidy and 
administrative costs. Credit subsidy (including upward reestimates) to 
Financing Account[A]. 

Financing account: 
Records the lifetime cash flows for insured loans and holds reserves 
against expected credit subsidy costs. Negative subsidy — and downward 	
subsidy reestimates to Capital reserve account. 

Capital reserve account: 
Accumulates and earns interest on negative credit subsidy and downward 
subsidy reestimates and pays upward subsidy reestimates to the program 
account. Upward subsidy reestimates to Program account. 

Source Federal budget documents and OMB guidance. 

[A] The financing account appears in the budget for informational and 
analytical purposes, but is not included in the budget totals for 
budget authority or outlays. The financing account is required to 
record lifetime cash flows for loans insured in 1992 and thereafter. 

Note: When the present value of cash inflows exceeds cash outflows, a 
loan guarantee program is said to have a negative subsidy cost. When 
the present value of cash outflows exceeds cash inflows, the program 
is said to have a positive subsidy cost and therefore requires 
appropriations. Upward subsidy reestimates reflect higher-than-
expected program costs, while downward subsidy reestimates reflect 
lower-than-expected costs. 

[End of figure] 

Changes in the Fund's Financial Condition: Original Versus Reestimated 
Subsidy Rates: 

Comparing FHA's original estimates of credit subsidy rates with the 
most recent reestimates of these rates shows that the reestimates have 
been in the upward (i.e., less favorable) direction for all annual 
loan cohorts after 1992. For the 2003 through 2009 cohorts, the 
current reestimated rate is positive, meaning that the present value 
of expected lifetime cash outflows exceeds expected lifetime cash 
inflows. 

[Figure: Refer to PDF for image: vertical bar graph] 

Rates above 0: subsidy required; 
Rates below 0: subsidy not required. 

Year: 1992; 
Original estimated credit subsidy rate: -2.6; 
Current reestimated credit subsidy rate: -3.22. 

Year: 1993; 
Original estimated credit subsidy rate: -2.70; 
Current reestimated credit subsidy rate: -2.67. 

Year: 1994; 
Original estimated credit subsidy rate: -2.79; 
Current reestimated credit subsidy rate: -1.82. 

Year: 1995; 
Original estimated credit subsidy rate: -1.95; 
Current reestimated credit subsidy rate: -0.78. 

Year: 1996; 
Original estimated credit subsidy rate: -2.77; 
Current reestimated credit subsidy rate: -1.10. 

Year: 1997; 
Original estimated credit subsidy rate: -2.88; 
Current reestimated credit subsidy rate: -1.09. 

Year: 1998; 
Original estimated credit subsidy rate: -2.99; 
Current reestimated credit subsidy rate: -1.57. 

Year: 1999; 
Original estimated credit subsidy rate: -2.62; 
Current reestimated credit subsidy rate: -1.45. 

Year: 2000; 
Original estimated credit subsidy rate: -1.99; 
Current reestimated credit subsidy rate: 0. 

Year: 2001; 
Original estimated credit subsidy rate: -2.15; 
Current reestimated credit subsidy rate: -0.19. 

Year: 2002; 
Original estimated credit subsidy rate: -2.07; 
Current reestimated credit subsidy rate: -0.10. 

Year: 2003; 
Original estimated credit subsidy rate: -2.53; 
Current reestimated credit subsidy rate: 0.09. 

Year: 2004; 
Original estimated credit subsidy rate: -2.47; 
Current reestimated credit subsidy rate: 0.31. 

Year: 2005; 
Original estimated credit subsidy rate: -1.80; 
Current reestimated credit subsidy rate: 2.64. 

Year: 2006; 
Original estimated credit subsidy rate: -1.70; 
Current reestimated credit subsidy rate: 3.83. 

Year: 2007; 
Original estimated credit subsidy rate: -0.37; 
Current reestimated credit subsidy rate: 5.56. 

Year: 2008; 
Original estimated credit subsidy rate: -0.25; 
Current reestimated credit subsidy rate: 3.07. 

Year: 2009; 
Original estimated credit subsidy rate: -0.05; 
Current reestimated credit subsidy rate: 0.47. 

Source: GAO analysis of federal budget data. 

[End of figure] 

Changes in the Fund's Financial Condition: End-of-Year Balances in the 
Fund's Capital Reserve Account: 

In recent years, the capital reserve account has covered large upward 
reestimates of FHA's credit subsidy costs (through transfers to the 
financing account). As a result, balances in the capital reserve 
account have fallen dramatically. If the account were to be depleted, 
additional increases in credit subsidy costs would require FHA to draw 
on the permanent and indefinite budget authority granted to federal 
credit programs. 

[Figure: Refer to PDF for image: vertical bar graph] 

Year: 2002; 
Balance: $22.8 billion. 

Year: 2003; 
Balance: $26.2 billion. 

Year: 2004; 
Balance: $23.5 billion. 

Year: 2005; 
Balance: $23.3 billion. 

Year: 2006; 
Balance: $22.0 billion. 

Year: 2007; 
Balance: $22.4 billion. 

Year: 2008; 
Balance: $19.1 billion. 

Year: 2009; 
Balance: $10.6 billion. 

Year: 2010, estimated; 
Balance: $3.5 billion. 

Source: GAO analysis of federal budget data. 

[End of figure] 

FHA's Methodology for Assessing the Fund: Approach Used in Actuarial 
Reviews: 

Annual actuarial reviews use econometric models to estimate the 
probability that loans will prepay or result in insurance claims: 

* Explanatory variables that are part of the model include: 
- loan characteristics (e.g., loan-to-value ratio, loan size); 
- borrower characteristics (e.g., credit score, source of down-payment 
assistance); 
- key economic variables (e.g., house prices, interest rates). 

Modeling results are used as inputs to a cash flow model to estimate 
the net present value of expected cash flows of existing and future 
loan cohorts over a 30-year period.[A] 

* The cash flow model calculates four types of cash flows: (1) up-
front insurance premiums, (2) annual insurance premiums, (3) claim 
losses, and (4) premium refunds. 

* The Fund's economic value is the sum of the net present value of 
expected cash flows and the Fund's existing capital resources (e.g., 
Treasury securities, cash, and property assets). 

The estimates of the economic value and FHA data on the insurance-in-
force constitute the two components of the Fund's capital ratio. 

[A] The net present value of future cash flows is the present value of 
estimated future cash inflows minus the present value of estimated 
future cash outflows. 

FHA's Methodology for Assessing the Fund: Key Enhancements to 
Actuarial Reviews Since 2004: 

Table: 

Year implemented: 2004; 
Enhancement: 
* Switched from cohort-level to loan-level econometric model; 
* Implemented method for estimating the dispersion of individual house 
price appreciation rates around the market average. 

Year implemented: 2005; 
Enhancement: Included source of down-payment assistance in the 
econometric model. 

Year implemented: 2007; 
Enhancement: Incorporated borrower credit scores at the loan level in 
the econometric model. 

Year implemented: 2009; 
Enhancement: Implemented additional econometric model to predict loss 
severity rates based on different loan, borrower, and economic 
variables rather than assuming loss severity rates were constant over 
time and different economic environments. 

[End of table] 

FHA's Methodology for Assessing the Fund: Baseline and Pessimistic 
Economic Scenarios: 

The actuarial reviews estimate the Fund's capital ratio under both 
baseline and alternative (optimistic and pessimistic) economic 
scenarios. Even before the recent recession, the reviews considered 
the impact of adverse scenarios on the Fund's financial condition. 

However, the actuarial reviews do not provide the likelihood of the 
alternative scenarios, and the scenarios were developed primarily to 
evaluate the sensitivity of the actuarial model to different 
assumptions rather than to run economic stress tests on the Fund. 

[Figure: Refer to PDF for image: vertical bar graph] 

Percentage change in house prices: 

Review Year: 2004; 
Assumed house price change over subsequent 3 years, Pessimistic 
scenario: -5.6%; 
Assumed house price change over subsequent 3 years, Baseline scenario: 9.6%. 

Review Year: 2005; 
Assumed house price change over subsequent 3 years, Pessimistic 
scenario: -4.5%; 
Assumed house price change over subsequent 3 years, Baseline scenario: 10.8%. 

Review Year: 2006; 
Assumed house price change over subsequent 3 years, Pessimistic 
scenario: -5.4%; 
Assumed house price change over subsequent 3 years, Baseline scenario: 9.9%. 

Review Year: 2007; 
Assumed house price change over subsequent 3 years, Pessimistic 
scenario: -9.6%; 
Assumed house price change over subsequent 3 years, Baseline scenario: 
0.2%. 

Review Year: 2008; 
Assumed house price change over subsequent 3 years, Pessimistic 
scenario: -18.4%; 
Assumed house price change over subsequent 3 years, Baseline scenario: -10.5%. 

Review Year: 2009; 
Assumed house price change over subsequent 3 years, Pessimistic 
scenario: -8.4%; 
Assumed house price change over subsequent 3 years, Baseline scenario: -4.3%. 

Source: GAO analysis of FHA and FHFA data. 

Note: The baseline figure for the 2007 review year was 0.2 percent. 
The actual change in the FHFA national house price index was 12.0% for 
2005-2007, -5.9% for 2006-2008, and -10.3% for 2007-2009. 

[End of figure] 

FHA's Methodology for Assessing the Fund: Potential Limitations to 
FHA's Methodology: 

FHA, its financial statement auditor, and mortgage market and budget 
analysts have identified a number of potential limitations with the 
methodology used in recent actuarial reviews. 

Variability of Key Economic Variables Not Fully Incorporated into 
Estimates: 

The estimate of the capital ratio made using baseline economic 
assumptions is used to determine whether the capital ratio is meeting 
the statutory minimum. However, significant uncertainty surrounds the 
baseline assumptions, especially for a period as long as 30 years. 

Under the current actuarial review methodology, the baseline estimates 
of the capital ratio use a single economic forecast and, as previously 
noted, incorporate estimates of the dispersion of individual house 
prices around this forecast. However, this approach does not fully 
account for the variability of future house prices and interest rates 
that the Fund may face. 

An alternative to the current methodology, known as stochastic 
simulation, involves running simulations of hundreds of different 
economic paths (in contrast to the current approach, which focuses on 
a limited number of selected scenarios). The simulations would produce 
a distribution of capital ratio estimates. 

The distribution would provide information that could help FHA assess 
the Fund's vulnerability to severe economic scenarios and manage its 
financial risk. For example, information on the percentage of 
simulations that produce a capital ratio of less than 2%, could help 
FHA decide whether premium or policy changes were warranted. 

Additionally, the middle value of the distribution of estimates could 
be used for determining FHA's compliance with the 2% capital ratio 
requirement. 

In a 2003 report, CB0 concluded that FHA could project the Fund's cash 
flows more accurately by using stochastic simulation. Additionally, an 
actuarial consultant to a number of private mortgage insurance 
companies told us that stochastic simulation was a common practice 
within that industry. 

FHA has recognized the value of this approach and taken some initial 
steps toward implementing it. 

* FHA's actuarial review contracts since 2004 have identified 
stochastic simulation as an area for further research. However, FHA 
officials told us that other research priorities had prevented them 
from pursuing this issue further. 

* For the 2010 review, the actuarial review contractor will examine 
alternative economic scenarios that include third-party forecasts of 
multiple house price paths. 

* FHA officials told us that they were planning to require the 
actuarial review contractor to develop a stochastic model for the 2011 
review. The officials said that model would be used to examine the 
implications of extreme economic scenarios on the Fund but that 
decisions about whether to use the model to estimate the Fund's 
capital ratio had not been made. 

Despite the potential advantages of stochastic simulation, the results 
may be more difficult to explain than the results of FHA's current 
approach. Additionally, the quality of the results from a simulation 
model is highly dependent on the reasonableness of the assumptions 
used for the potential volatility of economic variables. 

Reliance on National House Price Index: 

To capture the impact of future house price movements on loan 
performance, past actuarial reviews have used forecasts of a national 
house price index.[A] However, the geographic distribution of FHA's 
business may not always be representative of the nation as a whole and 
can change over time. 

[A] As previously noted, the reviews estimate the dispersion of 
individual house price appreciation rates around the market average. 

* The proportion of FHA's business in California rose from 2% in 2005 
to 12% in 2009. Over that period, home prices in California dropped 
more sharply than the national average. 

Recognizing this limitation, FHA officials told us that they would be 
using forecasts of house prices at the metropolitan statistical area 
level in the 2010 actuarial review. 

Imputation of Loan-to-Value (LTV) Ratios for Streamline Refinances: 

In recent years, streamline refinance mortgages (expedited refinancing 
from one FHA-insured loan into another) have constituted an 
increasingly large share of FHA's annual business volume, growing from 
5% (about 20,000 loans) in 2007 to 18% (about 330,000 loans) in 2009. 
These mortgages generally do not require an appraisal—thus, the LTV 
ratios at loan origination are not known.[A] 

[A] The LTV ratio is the amount of the loan divided by the appraised 
value of the home. The higher the LTV ratio, the less cash borrowers 
will have invested in their homes and the more likely it is that they 
may default on mortgage obligations. 

Prior actuarial reviews have imputed initial LTV ratios for these 
loans based on average LTVs ratios for non-streamline FHA mortgages 
originated in the same time frame and geographic location. However, 
these imputed values may not provide an accurate starting point for 
assessing the default risk of these loans, particularly in areas where 
house values fell substantially between the start of the original loan 
and the streamline refinancing. 

FHA officials told us that to address this issue, the actuarial review 
contractor will match streamline refinances to their predecessor loans 
and use metropolitan area-level house price indexes to adjust the LTV 
ratios for the streamline refinances to reflect any changes in house 
value that were not captured by the imputation method. 

Other Concerns: 

The independent auditor of FHA's financial statements and some 
mortgage market researchers have expressed additional concerns about 
the actuarial review methodology but FHA generally has disagreed with 
their conclusions. These concerns include the following: 

* The actuarial reviews do not use the current delinquency status of 
loans as a predictive variable and therefore may not be capturing the 
impact of rising delinquency rates on insurance claim trends in the 
near term. While acknowledging that delinquencies could be useful for 
short-run forecasts, FHA has questioned their value as a variable in a 
long-range actuarial analysis. 

* The actuarial reviews do not use unemployment data (e.g., trends in 
initial unemployment claims) for making near-term projections of 
insurance claims. FHA has indicated that there is little evidence that 
unemployment data are useful in predicting future claims, partly 
because unemployment effects are captured by the effects of house 
price and interest rate changes. 

FHA Actions to Strengthen the Fund and Interpretation of Statutory 
Requirements: Steps Taken or Proposed by FHA: 

FHA has taken or proposed a number of steps to improve the Fund's 
financial condition. 

Table: 

Action or proposal: Increase up-front insurance premium for most 
mortgages; 
From: 1.75% (of original principal balance); 
To: 2.25%
Implemented through: Mortgagee letter[A]; 
Status as of July 2010: Effective April 5, 2010. 

(Note: Proposal below, if implemented, would supersede this action.) 

Action or proposal: Rebalance premium structure: Raise annual premium; 
From: 0.50% or 0.55%[B] (of remaining principal balance); 	
To: 0.85% or 0.90%[B]; 	
Implemented through: Legislation (needed to raise premium ceiling); 
Status as of July 2010: Passed by the House in June 2010. 

Action or proposal: Rebalance premium structure: Lower up-front 
premium; 
From: 2.25% (of original principal balance)
To: 1.00%; 
Implemented through: Potential mortgagee letter[A]; 
Status as of July 2010: To accompany increase in annual premium. 

(Note: Rebalancing would increase net premium revenue.) 

Action or proposal: Raise minimum credit score to qualify for loan 
with a 3.5% cash investment; 
From: 500 (as measured by FICO score); 
To: 580 (borrowers with scores from 500-579 must make a cash 
investment of 10% or greater[C]); 
Implemented through: Administrative action requiring 30-day notice; 
Status as of July 2010: HUD published notice on July 15, 2010, seeking 
public comment. 

Action or proposal: Reduce allowable seller concessions at closing; 
From: 6% (of the home price); 
To: 3%; 
Implemented through: Administrative action requiring 30-day notice; 
Status as of July 2010: HUD published notice on July 15, 2010, seeking 
public comment. 

Source: FHA. 

[A] Mortgagee letters are written instructions that FHA periodically 
issues to all of its approved lenders (mortgagees). 

[B] The lower percentage applies to 30-year loans with initial LTVs of 
95% or less, and the higher percentage applies to 30-year loans with 
initial LTVs above 95%. 

[C] Borrowers with FICO scores below 500 would be ineligible for FHA 
financing. 

[End of table] 

From a budgetary standpoint, FHA has estimated that the rebalancing of 
the premium structure and the policy changes regarding minimum credit 
scores and seller concessions will, if implemented, increase the 
balance in the Fund's capital reserve account by $5.8 billion in 2011. 
However, CBO has estimated a smaller increase of $1.9 billion based on 
less optimistic assumptions about claim, prepayment, and loss severity 
rates. 

* FHA has not estimated the impact of the changes on the Fund's 
economic value but will incorporate these changes into the next 
actuarial review. 

In addition to these changes, FHA has hired a chief risk officer, 
increased enforcement against noncompliant and poorly performing 
lenders, and sought legislative approval to expand its lender 
enforcement authority. According to FHA officials, the financial 
impact of these actions is difficult to estimate. 

FHA Actions to Strengthen the Fund and Interpretation of Statutory 
Requirements: Interpretation of Capital Ratio Requirements: 

Certain legislative requirements relating to FHA's management of and 
reporting on the Fund's condition provide limited direction and have 
required interpretation by FHA. 

Table: 

Statutory requirement: The Omnibus Budget Reconciliation Act of 1990 
required FHA to maintain a capital ratio of at least 2 percent “at all 
times” but did not specify time frames for the agency to reattain a 2 
percent ratio should it fall below that level; 
How FHA has interpreted the requirement: FHA officials told us that 
while they have not set a deadline for restoring the ratio to the 
minimum level, they intend to do so as quickly as possible, consistent 
with FHA’s statutory operational goals such as providing mortgage 
insurance to traditionally underserved borrowers. 

Statutory requirement: The Act defined the capital ratio as the 
economic value of the Fund divided by the “unamortized insurance-in-
force” (i.e., the original insured loan balances) but then defined 
unamortized insurance-in-force as the remaining insured loan balances 
(generally understood to describe the amortized insurance-in-force); 
How FHA has interpreted the requirement: FHA has traditionally 
emphasized the capital ratio using the unamortized insurance-in-force, 
but for the 2009 review shifted emphasis to the alternative 
definition. The effective difference between the two definitions 
currently is insignificant because FHA’s insurance portfolio is 
predominantly made up of recent loans that have had little time to 
amortize (making the difference between the amortized and unamortized 
loan balances small). However, the difference may grow over time as 
the loans mature and borrowers pay down their balances. 

Statutory requirement: The Housing and Economic Recovery Act of 2008 
(HERA) states that if the HUD Secretary determines that there is a 
substantial probability the Fund will not maintain its “established 
target subsidy rate,” the Secretary may make programmatic or premium 
adjustments; 
How FHA has interpreted the requirement: FHA officials told us that 
the meaning of “established target subsidy rate” was not clear—
indicating it could refer to a credit subsidy rate—but have 
interpreted it to mean the capital ratio. 

Statutory requirement: HERA also requires FHA to provide quarterly 
reports to Congress that include “updated projections of [the Fund’s] 
annual subsidy rates to ensure that increases in risk to the Fund are 
identified and mitigated.” 
How FHA has interpreted the requirement: In the quarterly reports, FHA 
has provided the credit subsidy rate for only the current loan cohort 
and in a given fiscal year has reported the same rate each quarter 
because credit subsidy rates generally are only reestimated 
annually.[A] 

[A] Credit subsidy rates may be updated more than annually to reflect 
midyear policy changes. According to FHA officials, the credit subsidy 
rate included in their report for the third quarter of 2010 will be 
higher than the rate shown in prior reports because it will reflect 
FHA's April 2010 increase to its upfront insurance premium from 1.75 
percent to 2.25 percent. 

[End of table] 

Changes in the Characteristics of FHA-insured Mortgages: Serious 
Delinquency Rates by Market Segment: 

As in other segments of the mortgage market, FHA experienced increases 
in serious delinquency rates (percentage of active loans 90 or more 
days delinquent or in the foreclosure process) beginning in 2008
and continuing through 2009. As of the last quarter of calendar year 
2009, FHA's serious delinquency rate reached a historical high of 9.4% 
before declining to 9.1% in the first quarter of 2010. 

[Figure: refer to PDF for image: vertical bar graph] 

Calendar year: 2005; 
Prime: 0.86%; 
Veterans Administration: 2.93%; 
FHA: 6.13%; 
Subprime: 6.32%. 

Calendar year: 2006; 
Prime: 0.86%; 
Veterans Administration: 2.65%; 
FHA: 5.78%; 
Subprime: 7.78%. 

Calendar year: 2007; 
Prime: 1.67%; 
Veterans Administration: 2.83%; 
FHA: 6%; 
Subprime: 14.44%. 

Calendar year: 2008; 
Prime: 3.74%; 
Veterans Administration: 4.12%; 
FHA: 6.98%; 
Subprime: 23.11%. 

Calendar year: 2009; 
Prime: 7.01%; 
Veterans Administration: 5.42%; 
FHA: 9.42%; 
Subprime: 30.56%. 

Calendar year: 2010 (end of first quarter); 
Prime: 7.08%; 
Veterans Administration: 5.29%; 
FHA: 9.1%; 
Subprime: 30.21%. 

Source: GAO analysis of Mortgage Bankers Association's National 
Delinquency Survey. 

[End of figure] 

Changes in the Characteristics of FHA-insured Mortgages: Borrower 
Credit Score: 

From 2005 through 2009, some risk attributes of FHA-insured mortgages 
improved, but the performance of FHA's portfolio worsened as the 
housing recession set in. 

The proportion of FHA borrowers with stronger credit scores (680 and 
100 above) at loan origination increased from 24% in 2005 to 44% in 
2009. This trend is associated with the contraction of the 
conventional mortgage market, which reduced mortgage options even for 
borrowers with strong credit histories. 

[Figure; refer to PDF for image: stacked vertical bar graph] 

Percentage of borrowers: 

Year: 2005; 
Credit score range: 680 and above: 24.3%; 
Credit score range: 560-679: 65.0%; 
Credit score range: below 560: 10.7%. 

Year: 2006; 
Credit score range: 680 and above: 25.4%; 
Credit score range: 560-679: 64.6%; 
Credit score range: below 560: 10.0%. 

Year: 2007; 
Credit score range: 680 and above: 20.4%; 
Credit score range: 560-679: 65.9%; 
Credit score range: below 560: 13.6%. 

Year: 2008; 
Credit score range: 680 and above: 28.0%; 
Credit score range: 560-679: 63.6%; 
Credit score range: below 560: 8.4%. 

Year: 2009; 
Credit score range: 680 and above: 47.6%; 
Credit score range: 560-679: 51.0%; 
Credit score range: below 560: 1.3%. 

Source: GAO analysis of FHA data. 

[End of figure] 

Changes in the Characteristics of FHA-insured Mortgages: Down-payment 
Assistance: 

The percentage of loans with down-payment assistance funded by home 
sellers fell from 23 percent in 2005 to 19 percent in 2008, then 
dropped to 0 percent as a legislative ban on this assistance took 
effect in 2009. Loans with seller-funded down-payment assistance have 
significantly higher-than-average claim rates. 

FHA has indicated that without seller-funded down-payment assistance 
loans in its portfolio, the Fund's estimated capital ratio as of 
September 30, 2009, would have been greater than the 2 percent 
statutory minimum. 

Year: 2005; 
Percentage of loans with seller-funded down-payment assistance: 23.3%. 

Year: 2006; 
Percentage of loans with seller-funded down-payment assistance: 24.4%. 

Year: 2007; 
Percentage of loans with seller-funded down-payment assistance: 23.0%. 

Year: 2008; 
Percentage of loans with seller-funded down-payment assistance: 19.0%. 

Year: 2009; 
Percentage of loans with seller-funded down-payment assistance: 3.0%. 

Source. GAO analysis of FHA data. 

[End of figure] 

Changes in the Characteristics of FHA-insured Mortgages: Loan Type: 

The percentage of FHA-insured mortgages with adjustable interest rates 
fell from 12% in 2005 to less than 1% in 2009. 

Year: 2005; 
Percentage of loans, Fixed-rate mortgages: 89.2%; 
Percentage of loans, Adjustable-rate mortgages: 10.8%. 

Year: 2006; 
Percentage of loans, Fixed-rate mortgages: 97.4%; 
Percentage of loans, Adjustable-rate mortgages: 2.6%. 

Year: 2007; 
Percentage of loans, Fixed-rate mortgages: 98.9%; 
Percentage of loans, Adjustable-rate mortgages: 1.1%. 

Year: 2008; 
Percentage of loans, Fixed-rate mortgages: 98.9%; 
Percentage of loans, Adjustable-rate mortgages: 1.1%. 

Year: 2009; 
Percentage of loans, Fixed-rate mortgages: 99.2%; 
Percentage of loans, Adjustable-rate mortgages: 0.8%. 

Source: GAO analysis of FHA data. 

[End of figure] 

Changes in the Characteristics of FHA-insured Mortgages: Loan Purpose: 

As a proportion of FHA's annual business, purchase loans declined 
during 2005-2009, while fully underwritten refinances grew. The 
proportion of streamline refinances fell from a high of more than 20% 
in 2005 to about 5% in 2008, then rebounded to about 20% in 2009. 

[Figure: refer to PDF for image: multiple line graph] 

Year: 2005; 
Purchase loans: 69%; 
Fully underwritten refinances: 9%; 
Streamline refinances: 22%. 

Year: 2006; 
Purchase loans: 73%; 
Fully underwritten refinances: 18%; 
Streamline refinances: 9%. 

Year: 2007; 
Purchase loans: 65%; 
Fully underwritten refinances: 30%; 
Streamline refinances: 5%. 

Year: 2008; 
Purchase loans: 57%; 
Fully underwritten refinances: 36%; 
Streamline refinances: 6%. 

Year: 2009; 
Purchase loans: 54%; 
Fully underwritten refinances: 28%; 
Streamline refinances: 18%. 

Source: GAO analysis of FHA data. 

[End of figure] 

Changes in the Characteristics of FHA-insured Mortgages: Serious 
Delinquency Rate by Month after Loan Origination: All Loans: 

FHA is closely monitoring the early performance of the 2009 loan 
cohort, which will have a major influence on the Fund's condition 
because of its large size (35% percent of the amortized insurance-in-
force as of May 31, 2010). The 2009 cohort was projected to perform 
better than the 2006 cohort in the long run. However, it is unclear 
from the early performance of the 2009 cohort whether this projection 
will hold. 

Percentage of loan cohort in serious delinquency status: 

Months since loan closing: 1; 
2006: 0.00%; 
2007: 0.00%; 
2008: 0.00%; 
2009: 0.00%; 

Months since loan closing: 2; 
2006: 0.00%; 
2007: 0.00%; 
2008: 0.00%; 
2009: 0.00%; 

Months since loan closing: 3; 
2006: 0.01%; 
2007: 0.01%; 
2008: 0.02%; 
2009: 0.01%; 

Months since loan closing: 4; 
2006: 0.25%; 
2007: 0.38%; 
2008: 0.30%; 
2009: 0.15%. 

Months since loan closing: 5; 
2006: 0.59%; 
2007: 0.93%; 
2008: 0.71%; 
2009: 0.32%. 

Months since loan closing: 6; 
2006: 0.94%; 
2007: 1.51%; 
2008: 1.22%; 
2009: 0.56%. 

Months since loan closing: 7; 
2006: 1.31%; 
2007: 2.16%; 
2008: 1.84%; 
2009: 0.87%. 

Months since loan closing: 8; 
2006: 1.73%; 
2007: 2.90%; 
2008: 2.54%; 
2009: 1.24%. 

Months since loan closing: 9; 
2006: 2.14%; 
2007: 3.64%; 
2008: 3.36%; 
2009: 1.67%. 

Months since loan closing: 10; 
2006: 2.57%; 
2007: 4.40%; 
2008: 4.22%; 
2009: 2.13%. 

Months since loan closing: 11; 
2006: 2.97%; 
2007: 5.21%; 
2008: 5.14%; 
2009: 2.65%. 

Months since loan closing: 12; 
2006: 3.45%; 
2007: 6.10%; 
2008: 6.11%v
2009: 3.33%. 

Months since loan closing: 13; 
2006: 4.09%; 
2007: 7.44%; 
2008: 7.02%; 
2009: 3.71%. 

Months since loan closing: 14; 
2006: 4.56%; 
2007: 8.36%; 
2008: 8.11%; 
2009: 4.37%. 

Months since loan closing: 15; 
2006: 5.01%; 
2007: 9.26%; 
2008: 9.14%; 
2009: 5.07%. 

Months since loan closing: 16; 
2006: 5.42%; 
2007: 10.15%; 
2008: 10.28%; 
2009: 6.04%. 

Months since loan closing: 17; 
2006: 5.79%; 
2007: 10.99%; 
2008: 11.11%. 

Months since loan closing: 18; 
2006: 6.16%; 
2007: 11.73%; 
2008: 12.32%. 

Months since loan closing: 19; 
2006: 6.57%; 
2007: 12.63%; 
2008: 13.23%. 

Months since loan closing: 20; 
2006: 6.94%; 
2007: 13.52%; 
2008: 14.15%. 

Months since loan closing: 21; 
2006: 7.26%; 
2007: 14.37%; 
2008: 15.10%. 

Months since loan closing: 22; 
2006: 7.60%; 
2007: 15.35%; 
2008: 15.96%. 

Months since loan closing: 23; 
2006: 7.98%; 
2007: 16.34%; 
2008: 16.61%. 

Months since loan closing: 24; 
2006: 8.42%; 
2007: 17.39%; 
2008: 17.59%. 

Source: GAO analysis of FHA data. 

Note: The last month shown for the 2009 cohort is May 2010. 

[End of figure] 

Changes in the Characteristics of FHA-insured Mortgages: Serious 
Delinquency Rate by Month after Loan Origination: Streamline 
Refinances: 

Looking at streamline refinance mortgages separately, the 2006 and 
2009 cohorts were projected to perform about the same in the long run, 
but the early performance of the 2009 cohort is worse. As previously 
noted, streamline refinances became a larger part of FHA's overall 
portfolio in recent years. 

Percentage of loan cohort in serious delinquency status: 

Months since loan closing: 1; 
2006: 0.00%; 
2007: 0.00%; 
2008: 0.00%; 
2009: 0.00%. 

Months since loan closing: 2; 
2006: 0.00%; 
2007: 0.00%; 
2008: 0.00%; 
2009: 0.00%. 

Months since loan closing: 3; 
2006: 0.00%; 
2007: 0.03%; 
2008: 0.04%; 
2009: 0.03%. 

Months since loan closing: 4; 
2006: 0.36%; 
2007: 0.51%; 
2008: 0.75%; 
2009: 0.35%. 

Months since loan closing: 5; 
2006: 0.79%; 
2007: 1.14%; 
2008: 1.76%; 
2009: 0.80%. 

Months since loan closing: 6; 
2006: 1.31%; 
2007: 1.83%; 
2008: 2.93%; 
2009: 1.38%. 

Months since loan closing: 7; 
2006: 1.58%; 
2007: 2.68%; 
2008: 4.34%; 
2009: 2.10%. 

Months since loan closing: 8; 
2006: 2.09%; 
2007: 3.67%; 
2008: 5.90%; 
2009: 2.87%. 

Months since loan closing: 9; 
2006: 2.48%; 
2007: 4.35%; 
2008: 7.31%; 
2009: 3.68%. 

Months since loan closing: 10; 
2006: 2.69%; 
2007: 5.28%; 
2008: 8.88%; 
2009: 4.49%. 
				
Months since loan closing: 11; 
2006: 3.05%; 
2007: 6.19%; 
2008: 10.25%; 
2009: 5.23%. 

Months since loan closing: 12; 
2006: 3.50%; 
2007: 7.12%; 
2008: 12.00%; 
2009: 6.08%. 

Months since loan closing: 13; 
2006: 4.23%; 
2007: 8.96%; 
2008: 13.45%; 
2009: 6.81%. 

Months since loan closing: 14; 
2006: 4.65%; 
2007: 9.73%; 
2008: 15.39%; 
2009: 7.86%. 

Months since loan closing: 15; 
2006: 4.94%; 
2007: 10.79%; 
2008: 16.63%; 
2009: 8.44%. 

Months since loan closing: 16; 
2006: 5.49%; 
2007: 11.64%; 
2008: 17.98%; 
2009: 9.36%. 

Months since loan closing: 17; 
2006: 5.80%; 
2007: 12.50%; 
2008: 18.79%. 

Months since loan closing: 18; 
2006: 6.11%; 
2007: 13.52%; 
2008: 21.46%. 

Months since loan closing: 19; 
2006: 6.49%; 
2007: 14.45%; 
2008: 22.33%. 

Months since loan closing: 20; 
2006: 6.70%; 
2007: 15.53%; 
2008: 23.45%. 

Months since loan closing: 21; 
2006: 7.11%; 
2007: 16.15%; 
2008: 23.94%. 

Months since loan closing: 22; 
2006: 7.25%; 
2007: 17.19%; 
2008: 24.39%. 

Months since loan closing: 23; 
2006: 7.44%; 
2007: 18.19%; 
2008: 24.00%. 

Months since loan closing: 24; 
2006: 8.15%; 
2007: 19.06%; 
2008: 24.42%. 

Source: GAO analysis of FHA data. 

Note: The last month shown for the 2009 cohort is May 2010. 

[End of figure] 

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(202) 512-4800, U.S. Government Accountability Office: 
441 G Street NW, Room 7149, Washington, D.C. 20548: 

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[End of Enclosure I] 

Enclosure II: GAO Contact and Staff Acknowledgments: 

GAO Contact: 

Mathew J. Scirè, (202) 512-8678 or sciremj@gao.gov: 

Staff Acknowledgments: 

In addition to the individual named above, Steve Westley, Assistant 
Director; Serena Agoro-Menyang; Dan Alspaugh; Joseph Applebaum; Marcia 
Carlsen; Tom McCool; Carol Henn; John McGrail; Marc Molino; Susan 
Offutt; José R. Peña; Bob Pollard; Barbara Roesmann; and Heneng Yu 
made key contributions to this report. 

[End of Enclosure II] 

Footnotes: 

[1] In addition, the annual independent audits of FHA's financial 
statements review the Fund from a financial accounting perspective and 
provide information used in the actuarial and budgetary reviews of the 
Fund. 

[2] The economic value of the Fund is the sum of existing capital 
resources plus the net present value of future cash flows. The 
unamortized insurance-in-force is generally understood as the initial 
insured loan balances. However, as we discuss later in this report, a 
legislative provision defines unamortized insurance-in-force as the 
remaining obligation on outstanding mortgages, a definition generally 
understood to mean the amortized insurance-in-force. 

[3] Unless otherwise stated, the years shown in this report are fiscal 
years. 

[4] The credit subsidy cost can be expressed as a rate. For example, 
if an agency commits to guarantee loans totaling $1 million and 
estimates that the present value of cash outflows will exceed the 
present value of cash inflows by $15,000, the estimated credit subsidy 
rate is stated as 1.5 percent. 

[5] The financing account records lifetime cash flows for loans 
insured in 1992 and thereafter. This account appears in the budget for 
informational and analytical purposes but is not included in the 
budget totals or budget authority or outlays. 

[6] For the 2009 actuarial review, FHA used a second contractor to 
conduct an actuarial analysis of Home Equity Conversion Mortgages 
(HECM), which were added to the loans included in the Fund, starting 
with 2009 insurance commitments. Because HECMs currently have a small 
influence on the Fund's financial condition, we use the phrase 
"actuarial review contractor" to refer to the contractor that 
conducted the actuarial analysis of non-HECM loans. 

[7] GAO, Mortgage Financing: FHA's Fund Has Grown, but Options for 
Drawing on the Fund Have Uncertain Outcomes, [hyperlink, 
http://www.gao.gov/products/GAO-01-460] (Washington, D.C.: Feb. 28, 
2001). 

[8] Congressional Budget Office, Subsidy Estimates for FHA Mortgage 
Guarantees, a CBO paper (Washington, D.C.: November 2003). 

[9] Congress enacted Pub. L. No. 111-229 on August 11, 2010, which 
increased the ceiling on the annual insurance premium from 0.5 percent 
to 1.5 percent for borrowers with initial LTVs of 95 percent or less, 
and from 0.55 to 1.55 percent for borrowers with initial LTVs above 95 
percent. The legislation also states that the Secretary of HUD may 
adjust any initial or annual premium by publishing a notice in the 
Federal Register or by issuing a mortgagee letter (a written 
instruction to FHA-approved lenders). 

[10] Requirements for the Federal Deposit Insurance Fund provide an 
example of a deadline for restoring financial reserves to at least a 
statutory minimum if they should drop below that level. Congress 
originally set a 5-year deadline but extended it to 8 years in 2009. 
12 U.S.C. § 1817(b)(3). 

[11] GAO, Mortgage Financing: FHA Has Achieved Its Home Mortgage 
Capital Reserve Target, [hyperlink, 
http://www.gao.gov/products/GAO/RCED-96-50] (Washington, D.C.: Apr. 
12, 1996). 

[12] 12 U.S.C. § 1708(a)(6). 

[13] FHA, like other agencies, estimates credit subsidy rates for 
individual loan cohorts. 

[14] 12 U.S.C. § 1708(a)(5)(E). 

[15] Credit subsidy rates may be updated more than annually to reflect 
midyear policy changes. According to FHA officials, the credit subsidy 
rate included in their report for the third quarter of 2010 will be 
more favorable than the rate shown in prior reports because it will 
reflect FHA's April 2010 increase to its up-front insurance premium 
from 1.75 percent to 2.25 percent. 

[16] In the first quarter of 2010, FHA's serious delinquency rate 
dropped to 9.1 percent. 

[17] GAO, Mortgage Financing: Additional Action Needed to Manage Risks 
of FHA-insured Loans with Down Payment Assistance, [hyperlink, 
http://www.gao.gov/products/GAO-06-24 (Washington, D.C.: Nov. 9, 2005). 

[End of section] 

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