Tag Archives: Government National Mortgage Association

The Next Taxpayer Bailout for the Mortgage Market?

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The HUD Office of the Inspector General issued an audit on Nonbank Oversight by Ginnie Mae. This audit is one of those dry government documents that contain whispers of crises to come. The worrisome sentence is buried at the end of the audit: “If disruption in servicing occurs, Ginnie Mae may need to request additional funds from the U.S. Treasury to pay investors.” (8) To understand what is at stake, it is worth reviewing the background of the audit:

The Housing and Urban Development Act of 1968 created the Government National Mortgage Association (Ginnie Mae), a wholly owned U.S. Government corporation within the U.S. Department of Housing and Urban Development, to pursue the creation of a mortgage-backed security market for government-insured loans. Through its mortgage-backed securities programs, Ginnie Mae guarantees securities backed by pools of mortgages and issued by mortgage lenders approved by Ginnie Mae. Ginnie Mae refers to these mortgage lenders as Ginnie Mae issuers.

Ginnie Mae depends on its issuers to take full responsibility for servicing, remitting, and reporting activities for the mortgages in every pool. If the borrower fails to make a timely payment on its mortgage, the issuer must use its own funds to ensure that the investors receive timely payment. If an issuer cannot ensure the timely payment of principal and interest to investors, Ginnie Mae, in accordance with its guaranty, defaults the issuer, acquires the servicing of the loans, and uses its own funds to manage the portfolio and make any necessary advances to investors. Ginnie Mae’s risk for loss occurs almost entirely at the point of issuer default, when Ginnie Mae must step in and exercise its guaranty. Counterparty risk refers to the risk of issuer default.

Following the financial crisis, the demand for government-insured loans increased, which created an increased demand for Ginnie Mae’s product. Ginnie Mae’s total remaining principal outstanding increased from $427.6 billion in 2007 to $1.7 trillion in 2016. This represents a 300 percent increase. The chart below shows the growth of the outstanding remaining principal balance of Ginnie Mae’s mortgage-backed securities programs from 2007 to 2016.

In addition to an increase in demand for Ginnie Mae’s products, Ginnie Mae’s issuer base had shifted dramatically since the financial crisis. Banks retreated from mortgage lending, causing a shift in Ginnie Mae’s issuer base from banks to nonbanks. For the purpose of this report, a bank refers to an institution licensed to receive deposits and make loans, whereas a nonbank refers to institutions that offer only mortgage-related services. In 2014, Ginnie Mae reported that 6 of its top 10 issuers were nonbanks. The chart below illustrates the shift in Ginnie Mae’s issuer base since 2010.

When banks dominated Ginnie Mae’s issuer base, Ginnie Mae outsourced a significant portion of its risk management to bank regulators, such as the Federal Deposit Insurance Corporation, the Federal Reserve, the Office of the Comptroller of the Currency, and the National Credit Union Association. While the Consumer Financial Protections Bureau regulates nonbanks for consumerrelated issues, nonbanks are not subject to the same safety and soundness regulation as banks. No equivalent regulator exists for nonbanks. Therefore, Ginnie Mae must function as the first line of defense to evaluate nonbank institutions for financial and operational soundness. Ginnie Mae’s Office of Issuer and Portfolio Management is responsible for overseeing Ginnie Mae issuers concerning all matters related to participation in its mortgage-backed security programs, including monitoring issuer participation and executing issuer defaults.

Unlike banking institutions, nonbanks tend to have complex financial and operating structures and frequently use subservicers instead of servicing the loans in their portfolios. Additionally, nonbanks rely on credit lines for funding, which may limit a nonbank’s access to liquidity to meet the financial obligations of being a Ginnie Mae issuer. Banking institutions have standardized corporate ownership and lines of business, substantial liquidity, and the ability to service the loans in their portfolios.

Our audit objective was to determine whether Ginnie Mae responded adequately to changes in its issuer base. (3-4, charts omitted)

Unfortunately, the audit found that Ginnie Mae has come up short in dealing with the risks that it now faces. Time will tell whether it meaningfully responds to these deficiencies.

Are the FHA’s Losses Heartbreaking?

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The Inspector General of the Department of of Housing and Urban Development issued an audit of FHA’s Loss Mitigation Program (2014-KC-0004).  The Office of the Inspector General (the OIG) did the audit because of its “concern that FHA might have incurred costs while allowing lenders to make large amounts of money by modifying defaulted FHA-insured loans. Our audit objective was to determine the extent to which loans modified under the FHA program generated gains for the lenders.” (1)

The OIG found that

Lenders generated an estimated $428 million in gains from the sale of Government National Mortgage Association securities when modifying defaulted FHA loans in fiscal year 2013. These loan modifications were completed as part of FHA’s loss mitigation program. None of these lender generated gains were used to offset FHA’s insurance fund costs. As a result, FHA missed opportunities to strengthen its insurance fund. (1)

Given that the FHA had to be bailed out for the first time in its 80 year history, the findings of this audit are a bit heartbreaking, at least for a housing finance nerd like me.  $428 million would cover more than a quarter of the amount that Treasury had to advance to the FHA, no small potatoes.

The OIG found that the FHA “may have missed opportunities to strengthen its insurance fund. Lenders could be required to offset gains they obtained from the sale of securities for incentive fees and claims for modified loans that redefault.” (5)

The Auditee Comments and the OIG’s Evaluation of Auditee Comments make it clear that the extent of the gains had by lenders is very contested because the OIG did not “know the costs of the lenders.” (17) This seems like a pretty important missing piece of the story. Nonetheless, I hope that HUD, as the parent of both the FHA and Ginnie Mae, takes questions raised by this audit seriously to ensure that public monies are being put to their best use.