Congress Hears Recommendations for FHA Reform from Industry Leaders

The House Financial Services Subcommittee heard testimony today from housing industry leaders on congressional efforts to reform the Federal Housing Administration (FHA).   This is the third hearing this committee has held thus far in the 113^th Congress on the FHA and the financial difficulties that may be affecting its Mortgage Insurance Fund.

Sarah Rosen Wartell, President, Urban Institute recommended several actions she said would  "better enable FHA to assess risk, act more nimbly to mitigate it, and, ultimately, operate more efficiently and sustainably"  She said her recommendations promised quick impact, were both politically and operationally feasible, and not mired in ideological debate.

• Congress should give the HUD secretary special emergency powers to suspend FHA insurance programs or make emergency modifications to the program when the secretary finds that continuation under current program terms exposes the taxpayers to "elevated risk of loss" and "fails to serve the public interest."

• Congress should give the HUD secretary the authority to establish appropriate risk indicators on an ongoing basis and to use these indicators to limit access to participation in FHA insurance programs where these indicators suggest a lender, servicer, or other program participant is more likely to expose the taxpayers to risk. When program participants can overcome a burden of proof that they do not pose undue risk or that a better indicator is available, then FHA's decisions can be subject to scrutiny. But the goal should be to give the taxpayers-not program participants-the benefit of the doubt.

• Congress should give FHA express authority to implement pilot programs quickly where the goal it so better understand, measure, and mitigate risk. Full implementation would follow normal administrative procedures. So, for example, FHA could test whether a new alternative underwriting standard (e.g., incentives for pre-purchase counseling), or loss mitigation procedures, or REO disposition approach can achieve program objectives in a cost-effective manner.

• Allow FHA to hire for select positions at elevated compensation levels to ensure that FHA can attract appropriate insurance, financial, and risk management skills. Also provide FHA with the ability to use insurance premiums for systems and analytical model acquisition to strengthen their capacity to mitigate risk.

Keven Kelly, first vice president of the National Home Builders Association (NAHB) said his group supports reform efforts but urged lawmakers to proceed in a cautious manner so as not to disrupt the nation's housing finance system.

"While there is no doubt that the housing finance system needs to be reformed, the contributions that the FHA made during the economic downturn underscore the need for a government backstop for both the primary and secondary mortgage markets," said Kelly. "In times of crisis, private sources of mortgage credit have been unable or unwilling to meet housing capital needs."

Kelly pointed out that before the downturn hit, FHA's 2006 market share was 3 percent as private institutions competed actively in the market.  "When the housing downturn hit, there was a role reversal, as private players fled the market and FHA-insured mortgages became the only credit option for first-time home buyers, minorities and those with limited downpayment capabilities," he said.

"This dramatic shift is evidence that FHA is performing its mission of providing the federal backstop to ensure that every creditworthy American has access to a stable mortgage product," said Kelly. "As the private market assumes a greater role in the mortgage marketplace, maintaining an appropriate level of government support is essential to preserve financial stability, promote investor confidence and ensure liquidity and stability for homeownership and rental housing."

Noting that the Federal Reserve and leading economists have warned that overly restrictive underwriting requirements are preventing creditworthy borrowers from accessing mortgage credit, Kelly called on lawmakers to take a long-term, holistic approach to housing finance reform, combining discussions of FHA program reforms with those relating to the future roles of Fannie Mae and Freddie Mac.

David Stevens, former Commissioner of FHA and current president of the Mortgage Bankers Association (MBA) stressed that FHA had never before played such an important role in the housing market, especially for borrowers with low downpayments and without high incomes but acknowledged that since the onset of the housing crisis FHA's books had suffered like everyone else's.  The agency however has been proactive in addressing losses in its single family portfolio by raising premiums and downpayment requirements, better regulating its lenders, and establishing the Office of Risk Management.

"Looking ahead, MBA believes further programmatic changes at FHA must balance three priorities: restoring financial solvency; preserving FHA's critical housing mission; and maintaining the agency's countercyclical role," Stevens said.   "There are a number of steps this subcommittee could take to further strengthen FHA and promote the return of private capital.  Loan limits could be lowered from the levels that were necessary at the height of the housing crisis. Downpayment requirements could be adjusted to mitigate for other risk factors, like low credit scores. Risk sharing is another area that, if done prudently, could potentially meet all of the objectives I just listed.

"Similarly, risk-based underwriting could further reduce FHA's credit risk by targeting areas of risk layering. However, the consequences to FHA's traditional borrowers on each of the above suggestions could be significant if FHA employs overly stringent credit controls.  Finding the right balance will be critical."

Stevens also suggested that FHA consider locking in some of the overlays lenders have instituted in recent years, saying this would protect FHA from any erosion in standards as market conditions evolve.

"Also, in recent years, FHA has increased its oversight and enforcement of agency-approved lenders.  Let me be clear: as FHA Commissioner, I initiated tighter controls and enforcement procedures that shut down irresponsible FHA lenders.   When warranted, this is certainly the right thing to do for the fund.  The key is finding the proper tolerances and communicating them clearly to market participants.  When lenders are forced to operate their businesses to near-perfect standards, they will operate well inside of the published standards."

Right now Stevens said with credit standards so tight, the risks to lenders of making mistakes too great, and the rules of the road unclear, lenders tend only to lend to people with perfect credit and limit financing options for FHA's targeted population.  The uncertainty needs to be cleared from the system, he said, and a one created where homeownership is again a doorway to opportunity and borrowers can again feel safe, confident, and secure in their loans, but also a system that thrives in an environment that encourages a competitive, responsible marketplace so business can grow.

Also testifying before the House hearing were Adolfo Marzol, Vice Chairman, Essent US Holdings; Gary Thomas, 2013 President, National Association of Realtors; and Clifford Rossi, University of Maryland.