The administration has taken very seriously its responsibility to ensure that FHA is operating on sound financial footing while minimizing risk to taxpayers. Since I took office as FHA Commissioner in July 2009, we have implemented a broad range of actions demonstrating steadfast stewardship of the fund, while carefully ensuring that we continue to serve communities nationwide.
Specifically, over the past year, this administration has announced and implemented the most sweeping combination of reforms to FHA credit policy, risk management, lender enforcement, and consumer protections in its history. These reforms have strengthened our financial condition and minimized risk to taxpayers as we continue to fulfill our mission.
I want to thank both chambers of Congress…for the partnership and cooperation exhibited in passing H.R. 5981, which provides FHA the authority to modernize its premium structure. As you know, this authority was granted through unanimous consent in the Senate and passed by voice vote in the House before being signed into law by President Obama on Aug. 11. FHA has moved quickly to implement a new premium structure, which will take effect on Oct. 4. Similar authority was included in H.R. 5072, the broader FHA reform measure, which this committee passed in May and which passed the full House of Representatives in June. While the swift work of Congress has allowed us to implement the premium change, which is important for FHA’s ability to generate greater revenues for taxpayers in line with the president’s fiscal-year 2011 budget proposal, we at HUD remain committed to comprehensive FHA reform which will provide the tools we need to continue our efforts.
On Jan. 20 of this year, FHA proposed taking a series of administrative steps to mitigate risk and augment the Mutual Mortgage Insurance Fund’s capital reserves. These proposals included increasing the mortgage insurance premium, imposing a firm floor on allowable credit scores, requiring a higher downpayment for borrowers with lower credit scores, further tightening the minimum credit score required for borrowers with low downpayments, reducing the maximum permissible seller concession to match the industry norm, and implementing a series of significant measures aimed at increasing lender responsibility and enforcement. We have followed through with each of these reforms.
In conjunction with updated downpayment and credit score guidelines published on Sept. 3, the changes to FHA’s premium structure are projected to result in an additional $4.1 billion in FHA receipts in fiscal year 2011.
With the 2010 fiscal year coming to a close, the independent actuary is in the process of completing its annual study and projections of the capital reserve ratio of the FHA MMI Fund. We expect to deliver the finding of this independent study to Congress in November, which will include the official measure of the capital reserve ratio.
In the interim, I am pleased to inform you that tangible, measureable progress is being made to improve loan quality and performance compared to past years. The independent actuary projected that more than 71% of FHA’s losses over the next five years will come not from newly insured loans, but loans already on our existing books when this administration took office.
Indeed, the early-period delinquency rates for FY 2009 and FY 2010 loans are much lower than the early-period delinquency rates for loans insured in FY 2007 and FY 2008. This improvement suggests that ultimate claim rates on loans endorsed in FY 2009 and FY 2010 should be markedly better than the ultimate claim rates of loans endorsed in FY 2007 and FY 2008.
As detailed in FHA’s third-quarter report to Congress, it was clear that FHA’s loan characteristics and financial performance are better than had been forecast in the FY 2009 actuarial review.
On Aug. 2, FHA delivered its third-quarter report to Congress highlighting the status of the single-family MMI Fund programs. As mentioned above, FHA has conducted rigorous analytical reviews, established new reporting protocols and procedures, and announced some of the most extensive policy changes in its history. Under the supervision of our new chief risk officer, these changes have been made to better protect the safety and soundness of the MMI Fund while continuing to serve our mission and support the stabilization of the housing market.
As part of our commitment to increased transparency and to provide Congress with better information and data on the performance and operations of the MMI Fund, we enhanced our quarterly report to include the financial status of MMI Fund cash flows, early payment delinquencies and serious delinquency rates.
As I noted earlier, the third-quarter report shows that many aspects of the fund are in better shape. Specifically, the amount of cash reserves in the fund is nearly $3 billion higher than forecasted in last year’s actuarial report.
There are other positive signs as well. FHA’s portfolio shows the average credit score on current insurance endorsements has risen from 634 in 2007 to nearly 700 today. Loan performance, as measured by serious delinquency and early period delinquency rates, has improved significantly, with the first year-over-year decline in new 90-day delinquencies in years. And actual claim payments to date are $3.7 billion lower than had been projected by the independent actuary although this is somewhat offset by lower than projected property recoveries.
The two key ways in which we have strengthened FHA fund solvency have been to increase revenues and engage in better risk management. Therefore, we have been focused on restructuring our mortgage insurance premiums and putting in place mechanisms and policies to protect the FHA for the future.
In October 2009, we hired the first chief risk officer in the organization’s history. On July 28, we received Congressional approval to formally establish this position and create a permanent risk management office within FHA, for which the risk officer is now deputy assistant secretary. With this new office and additional staffing, we have begun to expand our capacity to assess financial and operational risk, perform more sophisticated data analysis, and respond to market developments.
Additionally, FHA introduced policy changes and improved lender oversight and enforcement to increase the quality of FHA insured loans. From my first day as FHA commissioner, I began a thorough review of our loan practices and organizational capacity and gaps. Over the past 12 months we have introduced a number of new policies and taken several steps within our existing authority, all aimed at strengthening the quality of FHA-insured loans while focusing on ways to improve our operations.
In April, we published Final Rule “Federal Housing Administration: Continuation of FHA Reform – Strengthening Risk Management Through Responsible FHA-Approved Lenders.” Most significantly, this rule eliminated FHA approval for loan correspondents and increased net worth requirements for lenders, thereby strengthening FHA’s counterparty risk management capabilities.
On April 5 of this year, FHA raised its upfront mortgage insurance premium from 175 basis points to 225 basis points across all FHA product types (purchase, conventional to FHA refinances, and FHA to FHA refinances).
Subsequently, passage of H.R. 5981 granted us the authority to adjust the FHA annual premium. As stated in previous testimony and noted in the proposed budget, once this authority to adjust FHA’s annual premium was granted, we would move to lower the upfront premium simultaneously with an increase to the annual premium.
Effective Oct. 4, FHA will reduce upfront premiums from 225 basis points to 100 basis points and increase the annual premium to 85 basis points from 50 basis points for loans with loan-to-value ratios up to and including 95% and to 90 basis points from 55 basis points for LTVs above 95%.
We are confident this new premium structure is sound policy, more in line with private mortgage insurers’ pricing, and will facilitate the return of private capital to the mortgage market. In addition, the estimated value of this change is approximately $300 million per month of additional income to the MMI Fund.
Beyond steeply increasing lender enforcement, we’ve strengthened credit and risk controls—toughening requirements on our Streamlined Refinance program, making several improvements to the appraisal process and to condominium policies, and publishing a final rule in the Federal Register outlining new downpayment and credit score requirements.
Specifically, FHA implemented a “two-step” FICO floor for FHA purchase borrowers, which will reduce both the claim rate on new insurance as well as the loss rate experienced on those claims. A minimum downpayment of 10% is now required of purchase borrowers with FICO scores below 579, and a minimum downpayment of 3.5% is required for those with FICO scores at 580 and above. In addition, applicants with credit scores below 500 are no longer eligible for FHA insurance.
Currently, we have a proposed rule in the Federal Register which is in the comment period to reduce the maximum permissible seller concession from its current 6% level to 3%, which is in line with industry norms. The current level exposes the FHA to excess risk by creating incentives to inflate appraised value. FHA’s experience shows that loans with high levels of seller concessions are significantly more likely to go to claim. Experience to date on loans insured from FY 2003 to FY 2008 suggests that claim rates on high-concession loans are 50% higher or more than those on low-concession loans. We anticipate the final rule to be published before the end of this calendar year.
Within our single-family operations, we have made significant progress in our post-endorsement review process. This year we implemented a new algorithm for selecting recently insured loan files for post-endorsement technical reviews. This enhancement gives us a more precise way to conduct quality control reviews. Today, loans are selected for review based on a cascade of loan level characteristics that target risk, making our efforts much more effective and efficient.
David Stevens is the Commissioner of the Federal Housing Administration.
