Do We Need FHA Reform in 2009?

by Peter G. Miller
July 22nd, 2009

There’s a new effort on Capitol Hill to reform the FHA mortgage program, legislation that would get to an important question: Why do some borrowers — and some lenders — default?

The bill is HR 3146, the grandly named 21st Century FHA Housing Act of 2009. It’s actually a short piece of legislation that would beef up the FHA to handle the growing volume of loans that are underwritten by the program.

The most important part of the bill is probably section five. It would monitor the program and require the FHA to “conduct an ongoing review of mortgages on single family housing originated during the preceding 12 months and insured pursuant to this Act under which the mortgagor has become 60 or more days delinquent with respect to payment under the mortgage during the first 90 days of the term of the mortgage to determine which mortgages should not have been originated or insured and the characteristics of such mortgages, and which lenders have relatively high incidences of such delinquent mortgages.”

This language sounds fairly bland but what it really gets to is this: Why do some lenders have high default levels while other do not?

Part of the answer is geographic. You’re going to have more foreclosures in hard-hit areas where unemployment is raidly rising then in places where the economy is fairly smooth. These foreclosures are a by-product of the lousy economy created during the past eight years and not particularly because of anything associated with the FHA mortgage program.

You can pretty much bet that section five will be opposed by the lending industry because it would give HUD ammunition to identify and then dump incompetent mortgage companies from the program.

However, if I were a competent FHA mortgage lender I would be elated by the proposal. I would want HUD to go through the records of failing loans with great care to assure that they were properly underwritten. In those cases where loans were not properly documented then I would want HUD to suspend the lender.

Why? Less competition. If I were a lender I wouldn’t mind competing with lenders who play by the rules, but when lenders get business by failing to follow FHA guidelines that’s business that I didn’t get and money that I didn’t make.

The plain purpose the proposed FHA mortgage legislation is to hold down claims against the FHA reserve fund. That makes sense, however what people generally do not know is that despite growing loan volume claims have actually fallen.

According to stats provided to me by the FHA, fiscal 2003 was the recent year with the most claims — 84,343. And what about fiscal 2008, a banner year as borrowers caught on to the value of the program? In the last fiscal year, the period which ended last September 30th, the FHA had just 60,418 claims.

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