Citi settlement underlines FHA reserve concerns

by Karen Lawson
February 15th, 2012

Citigroup recently agreed to pay $158 million to settle charges that it improperly processed roughly 1,000 FHA loans over the past decade. More than 30 percent of the FHA loans made by Citi since 2004 have defaulted, and the complaint in the case alleged that Citi failed in many cases to verify the borrower’s ability

to meet the loan payments.

The settlement comes as the FHA continues to face challenges regarding the agency’s financial reserves, which remain below government-mandated minimums. High rates of default on FHA loans, as was seen among the Citibank loans, have been a drain on the agency’s insurance reserves, which exist to compensate lenders who suffer defaults under the program.
FHA reserves: The bad news and the good news

FHA reserves for reimbursing lenders for losses from defaulted FHA loans remain below the legally required minimum level of 2 percent of its mortgage insurance liability. The FHA reserve fund for paying mortgage insurance claims is self-funded by premiums paid by FHA mortgage borrowers, but due to the unprecedented drain on its reserves, FHA could be forced to seek other funding sources for maintaining its required levels.

The good news is that FHA is slated to receive $1 billion from a recent settlement with four loan servicing organizations. This settlement is separate from the Citigroup settlement.
FHA seeking approval for raising loan limits in high cost areas

In a move that appears counter-intuitive at least and suicidal at worst, the FHA also wants to raise loan limits in high priced areas such as Hawaii and California. The plan involves providing upside-down borrowers in these areas with opportunities for refinancing to FHA loans.

Taking on the additional risk of insuring larger loans when home values continue declining may seem foolhardy, but if approved, time will tell whether this plan stems the tide of foreclosures or further sinks FHA mortgage insurance reserves.

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