Housing agency's financial cushion sinks

The Federal Housing Administration's financial cushion has fallen to a dangerously low level, but government officials maintain the agency should avoid a taxpayer bailout under "most economic scenarios."

The agency, a major source of funds for first-time homebuyers, faces mounting concerns that it will eventually need an infusion of cash. FHA losses have increased with the unemployment rate as more homeowners default on their loans. About 17 percent of FHA borrowers are at least one payment behind or in foreclosure, compared with 13 percent for all loans, according to the Mortgage Bankers Association.

Agency officials, however, said Thursday the agency won't need a rescue unless the economy slips back into a severe recession. In that worst-case scenario, home prices in 10 large cities would fall another 28 percent and unemployment would soar to 12.5 percent from the current level of 10.2 percent.

Already, FHA's reserves have fallen to $3.6 billion, compared with $685 billion in outstanding insured loans for the fiscal year ended Sept. 30. That's a ratio of 0.53 percent and far below the 2 percent threshold required by Congress.

"It is absolutely critical that going forward, we build that cushion back up," said Housing Secretary Shaun Donovan.

Also Thursday, RealtyTrac Inc., a foreclosure listing firm, reported that the number of households that received a foreclosure-related notice fell in October, the third straight monthly decline.

"Foreclosures are still far higher than we want them to be, but we do appear to have them on the right path now," Donovan said.

The FHA does not make loans, but rather offers insurance against default. Borrowers are willing to pay for the insurance because FHA loans only require down payments of 3.5 percent of the purchase price.

Donovan, however, said the agency is considering raising its insurance premiums for borrowers as well as the 3.5 percent down payment requirement. Legislation introduced by Rep. Scott Garrett, R.-N.J., would hike the down payment to 5 percent.

"The administration has to stand up and say, 'This is what's best for the taxpayer,'" Garrett said.

While agency officials say they are making more loans to far more creditworthy borrowers than in the past, critics say FHA borrowers are still vulnerable to default, particularly if job losses keep climbing and the recent increase in home prices reverses course.

Edward Pinto, a financial consultant and an FHA critic, expects the agency to need a taxpayer rescue of $40 billion within two or three years. A big problem, he said, will come from condominium loans. The FHA's efforts to limit riskier activities, he said, are bound to fall short because the agency consistently faces pressure to keep its standards relaxed to promote homeownership.

"Even though they're tightening up, they're not tightening up fast enough," Pinto said.

If FHA decides to require higher down payments or insurance fees it would likely raise the hackles of real estate agents and mortgage lenders because fewer people would be able to get loans.

Since the collapse of the subprime lending market, the government has taken up the slack. The FHA has insured about one in five new loans made this year, and about half of all loans to first-time homebuyers. The FHA now insures about 5.5 million mortgages, up from about 4 million three years ago.

"If we didn't have FHA out there, it would be a very different landscape," said Peter Thompson, a loan officer with Wintrust Mortgage in Downers Grove, Ill. "Most of these first-time homebuyers who are really the ones keeping things going right now wouldn't qualify at all."