Can the FHA Handle a New Expanded Mortgage Role?

Many are concerned that HUD may already be strapped for cash due to ongoing efforts to stem the tide of foreclosures. But as the FHA, its main component, takes on more responsibility and greater debt, HUD will be faced with newer and bigger challenges.

In recent years, the US Department of Housing and Urban Development (HUD), and the Federal Housing Administration (FHA), its component, fell out of vogue as private lenders captured a lion's share of the mortgage market. Private lenders thrived by offering cheap loans, teaser rates, and no-money-down mortgages, even for people with bad credit and no verifiable assets or income. That made the prudent underwriting guidelines and standards of an FHA mortgage look unappealing by comparison, and the FHA watched its share of the mortgage market fall from the historical average of 18 percent down to a mere 2 percent.

Safe and sound with an FHA mortgage

But too many of those consumers who flocked to other lenders wound up in loans that led to foreclosure. In some cases, they were pressured into inappropriate mortgages that cost too much.  Some were actually victimized by outright mortgage fraud.

History often repeats itself, and now, FHA mortgages are making a serious comeback. With Fannie Mae and Freddie Mac in trouble, and many private lenders facing collapse, HUD has been forced to assume a much more proactive role in calming the mortgage markets and providing a steady supply of home loans. New federal programs meant to stem the tide of foreclosures expanded the authority of the FHA to insure an additional $300 billion worth of troubled loans, while also letting homeowners refinance hazardous subprime loans into FHA-backed mortgages. Already this year, the FHA share of the mortgage market has jumped from last year's 2 percent level to nearly 15 percent.
 

Mortgage fraud and other obstacles

Not everyone is confident that the FHA can handle the increase in business. Even before this recent surge, it was already showing signs of vulnerability.  About 30 percent of existing FHA mortgages involved down payment assistance, which is usually provided by non-profit organizations in exchange for financial support from homebuyers.  This concept was so controversial, that it's been discontinued. Many of those loans entered foreclosure, and the FHA suffered record high mortgage losses in 2007, which forced it to dip into its cash reserves. In 2007, HUD also opened more than 150 mortgage fraud investigations related to FHA mortgages.

Now, the FHA is being asked to take on larger numbers of bad loans through refinancing, and the Congressional Budget Office estimates that about one out of every three of those will eventually go into foreclosure. Plus, a higher volume of loans usually means an increased likelihood for mortgage fraud. If the FHA is unable to maintain financial stability through this onslaught of new challenges, the American taxpayer will be liable for the losses. That could be the undoing of one of our most reliable agencies, and add downward momentum to an already depressed economic outlook.