Critics of Fannie Mae and Freddie Mac have argued for years that the quasi-governmental secondary market giants competed unfairly in the mortgage market, had grown too large and too dominant, and posed outsized risks to taxpayers. The implosion of the credit markets and near failure of the GSEs, triggering a multi-billion-dollar governmental rescue that is still ongoing, seemed to prove their point.
But the introduction to what promises to be a lengthy debate over the future of the GSEs has made it clear that eliminating the companies – and with them, the federal government’s role in the housing market – won’t be the slam-dunk outcome some had assumed.
Rejecting demands to eliminate the GSEs or privatize them, Bill Gross, who heads the massive bond fund Pacific Investment Management Co., said the companies should instead be nationalized, cementing the government’s housing role rather than diluting it.
“To suggest that there’s a large place for private financing in the future of housing finance is unrealistic,” Gross said at a conference the Obama Administration sponsored to solicit input on how to restructure the GSEs. “Government is part of our future,” Gross insisted. “We need a government balance sheet. To suggest that the private market come back in is simply impractical. It won’t work.”
Treasury Secretary Timothy Geithner also made it clear that the Administration is looking for ways to improve the existing housing finance structure, but is not planning to dismantle it. Continued government support is essential, he said, “to make sure that Americans can borrow at reasonable interest rates to buy a house even in a downturn.”
Still, some industry executives and academics are suggesting a continuing but far more limited government role in the housing market, guaranteeing only cataclysmic financial losses, but otherwise leaving the home finance business entirely to the private sector. Even Rep. Barney Frank (D-MA), once among the GSEs’ staunchest supporters, is now calling for their elimination. “They should be abolished,” he told Fox Business in a recent interview. “The only question is what do you put in their place.”
RETHINKING HOME OWNERSHIP?
As federal policy makers and industry executives ponder the government’s role in housing (see related item), some analysts are beginning to raise more fundamental questions about the value of home ownership generally, and the wisdom of the federal tax deductions that support it.
The mortgage interest deduction alone costs the federal government $100 billion annually; eliminating it “is the most logical way” to help reduce the federal budget deficit and reduce the risk of soaring mortgage interest rates in the future, according to Mark Zandi, chief economist of Moody’s Analytics.
His suggestion drew expected resistance from the audience he was addressing - a real estate forum hosted by the U.S. Chamber of Commerce - prompting this response from Zandi: “There is no other sector in the economy that has received more support than the [housing industry], and it’s time to give back,” he said. Industry executives, he argued, should “embrace” his suggestion instead of resisting it.
Restating his argument at the government conference on housing finance reform (see related item), Zandi insisted, “We aren’t getting our money’s worth” from the mortgage interest deduction and other federal programs designed to promote home ownership. Equally important, Zandi noted, faced with the burgeoning federal deficit, “we can’t afford [the cost].”
Administration officials aren’t likely to propose eliminating tax breaks that are widely perceived to be politically untouchable, but there have been indications that policy makers are listening to arguments that federal housing policy has been skewed too much toward home ownership at the expense of rental housing.
“We have to be very pro-homeownership,” David Stevens, Commissioner of the Federal Housing Administration, told USA Today. “But we strongly believed in a balanced housing policy,” that focuses on rental housing as well. As the continuing foreclosure crisis illustrates, Stevens noted, “not everybody was prepared to own a home.”
CHINK IN THE BANKRUPTCY ARMOR
A federal appeals court has found a chink in the armor limiting consumer access to bankruptcy protection. The bankruptcy reform legislation Congress enacted in 2005 requires consumers seeking to file for bankruptcy to obtain credit counseling. But the Second U.S. Circuit Court of Appeals has ruled that the failure to obtain counseling does not invalidate a bankruptcy petition and does not terminate the automatic stay (barring credit collection efforts) a filing triggers.
The court upheld a bankruptcy judge’s decision to “strike” or suspend bankruptcy petitions, but not to invalidate them for failure to meet the consumer counseling requirement.
“Although an individual may be ineligible to be a debtor under the Bankruptcy Code for failure to satisfy the [counseling requirement], the [statutory] language does not bar the debtor from commencing a case by filing a petition; it only bars the case from being maintained as a proper voluntary case under the chapter specified petition,” the three-judge appellate panel concluded in Adams v. Zarnel, the lead case in three separate cases consolidated for this appeal. As a result, the court ruled, the automatic stay becomes effective with the filing and remains in effect, even if the debtor has not initially met the counseling requirement.
“Much of the value of the stay is in the clarity of its implementation,” the court said, explaining, “If it were unclear whether the stay was in place immediately following a debtor’s filing for bankruptcy, creditors would likely continue their collection efforts.”
The bankruptcy judge whose decision triggered the appellate ruling questioned the value of the counseling, the bankruptcy code now requires. That requirement, he noted, “was intended to provide debtors with education as to all of their options when experiencing financial difficulty before a resort to bankruptcy protection was necessary.” But as a policy matter, the judge said, counseling has “not proven to be of assistance to debtors in seeking relief outside of the bankruptcy context.”
CHANGES IN VALUE
Fannie Mae is making it more difficult for mortgage lenders to adjust the appraised value of residential properties in order to facilitate loan approvals. New underwriting rules taking effect this week target “appraisal cuts” through which some lenders will reduce the appraised value of a property if the amount is too high to support the proposed underlying loan.
Under Fannie’s new policy, outlined in a June letter, a lender questioning an appraisal must first try to resolve concerns directly with the appraiser. If that effort is unsuccessful, the lender can either obtain a desk or field review of the appraisal, or obtain a second appraisal to justify the altered value. The second appraisal must meet the same criteria applied to the first review, however, the policy guidance states, explaining: “For example, if the original appraisal was based on an interior and exterior inspection of the property, then the new appraisal must, at a minimum, also be based on an interior and exterior inspection of the property.
“Any request for a change in the opinion of market value must be based on material and substantive issues and must not be made solely on the basis that the opinion of market value as indicated in the appraisal report does not support the proposed loan amount,” Fannie’s new policy emphasizes. Lenders must also “pay particular attention and institute extra due diligence for those loans in which the appraised value is believed to be excessive or where the value of the property has experienced significant appreciation in a short time period since the prior sale,” the guidance adds.
The new policy statement also reminds lenders of their obligation to use appraisers “who have the requisite knowledge to perform a professional quality appraisal for the specific geographical location and particular property types.”
ON THE RISE
In the shambles of the home finance market, it is possible to find at least one sector that is still growing - fraud. The number of suspicious activity reports involving mortgage fraud increased by 4 percent in 2009 compared with the previous year, according to the most recent report from the Financial Crimes Enforcement Network (FinCEN). The number of fraud-related filings in the fourth quarter alone increased by 6 percent compared with the same period in 2008.
Separately, CoreLogic reported that losses resulting from mortgage fraud increased by 17 percent last year after declining by nearly 60 percent between 2006 and 2008. The CoreLogic data, compiled for the Wall Street Journal, also indicate that 0.7 percent of the residential mortgage loans originated last year, totaling about $14 billion, were based on fraudulent applications.
“Fraud continues to be a pervasive issue, growing and escalating in complexity,” a recent report from the Mortgage Asset Research Institute, concluded, citing easy Internet access to financial records and the vulnerability of struggling homeowners among the factors driving the increase.
Reflecting this trend, the Mortgage Fraud Risk index compiled by Interthinx is at its highest level since 2004. The index increased by 11 percent year-over-year in the first quarter, according to Interthinx, which found that 6 of the 10 metropolitan statistical areas deemed to be at the highest risk for mortgage fraud a year ago are still among the top 10 today.
Not surprisingly, the states hardest hit by the housing decline also rank highest on the fraud index, which lists Arizona as riskiest, followed by Nevada, California, Florida, and Michigan.
