Why the Housing Stimulus and FHA, Fannie Mae and Freddie Mac loan guarantees put Taxpayers (and the economy) at Risk

Buyers, builders, realtors and mortgage companies may love the homebuyer tax credit, but it's just another taxpayer bailout.

HOT: The housing market is sick, but the homebuyer tax credit passed by Congress will only extend the healing process and line the pockets of the building, real estate and mortgage industries. FHA loan guarantees that promote homeownership with little money down also puts taxpayers at risk. Together, they could worsen the economic recession if unemployment falls and foreclosures increase, asDeutsche Bank predicts. HOT now views the FHA as the new AIG and opposes extending the $8,000 tax credit and instead encourages tighter controls and regulatory oversight. See why we opposed the Homebuyer Tax Credit.

THE LATEST: The homebuyer tax credit expired at the end of April. As Congress considers financial industry reforms, it must look at housing financing and possible reforms of the homebuilding industry too because, HOT contends, big vertically-integrated builders taught Wall Street the art of predatory lending in the first place.

What’s Next for Fannie and Freddie?

In his 5/24/10 blog, Wall Street Journal reporter Nick Timiraos examines the challenge of reforming Freddie Mae and Freddie Mac. He addresses several questions and then asks for reader suggestions. HOT responds as JustLaws.

1. Why doesn’t the financial-overhaul bill address Fannie and Freddie?
"... Revamping the housing-finance giants, which own or guarantee around half of the nation’s $10.3 trillion in home mortgages, was never going to be easy. But the fact that, together with the Federal Housing Administration, the companies guaranteed 96.5% of all new mortgages last quarter has made the challenge only greater. ..."

2. Why are Fannie and Freddie still losing money?
"The companies have taken $145 billion in handouts, including $19 billion this quarter, from the U.S. Treasury so far, and that number could rise as foreclosures mount. Each quarter, as more mortgages go delinquent, Fannie and Freddie have to set aside more cash in reserve to cover losses if those loans end up defaulting and the homes they’re secured by go through foreclosure. ..."

3. Why is the government still putting money into the companies?
"... In February 2009, the Obama administration said it would double to $200 billion the amount of aid it was willing to put into each of the two firms. Then in December, it said it would waive those limits, and allow for unlimited sums over the next three years. ..."

4. What would the mortgage market look like today without government support?
"... Mike Farrell, chief executive of Annaly Capital Management, estimates that mortgage rates today would be two to three percentage points higher without government guarantees."

5. What will ultimately happen to Fannie and Freddie?
"Congress has to decide what it wants the housing-finance system of the future to do. 'Everyone acknowledges that the model is broken, that the model was flawed, yet we don’t know how to run a mortgage market without them and we have nothing with which to replace the broken system,' says Howard Glaser, a Clinton administration housing official and housing-industry consultant. ..."

HOT COMMENT (personal opinion as JustLaws rather than official HOT response):

Housing and the mortgage meltdown were market failures in a “free market” economy where special interest legislation created artificial stimulus that benefited some at the expense of others. For the free market to succeed and to restore a healthy housing market, we need to remove the artificial stimulus promoting “The American Dream” of affordable homeownership. We must replace short-term speculation with long-term investments, not just in housing but in Wall Street stock transactions too.

Without “flippers” and real estate speculators or policies pushing homeownership to people better off renting, we would not have had a bubble of oversupply, inflated prices, and predatory lending. On the Wall Street side, imagine if shareholders held CEOs accountable for sustainable, long-term growth rather than quarterly returns. They too would change decision making, and we’d likely see less downsizing and outsourcing, less churn in employment, more emphasis on retraining, and more government investment in education, infrastructure, and scientific research to return our nation to tech leadership. Now how do we get there?

Repeal Glass-Steagall. Require lenders to keep at least 20% of each loan on their books. Require a down payment of at least 20% for federally insured loans. Eliminate mortgage interest tax deductions and homebuyer tax credits. Reign in the housing special interests by regulating the homebuilding industry, which includes vertically-integrated builders with their own mortgage companies. These unregulated builders taught the banks and mortgage companies the art of predatory lending. See “Texas Homebuilding and the Global Collapse” (http://www.homeownersoftexas.org/collapse.pdf).

And here’s the biggie… charge a 5% sales tax on each home sale and stock transaction. People needing homes would still buy, or rent if that made more sense. Landlords would still invest in homes. Speculation would be expensive and discouraged.

Fannie Mae needs ANOTHER $8.4 Billion!

In this 5/11 Wall Street Journal video (http://bit.ly/cfFIwf), Nick Timiraos reports that Fannie Mae, Freddie Mac and FHA now comprise 96.5% of the U.S. mortgage market.

Fannie "has now racked up losses of nearly $145 billion, or nearly double its profits for the previous 35 years. While many of the nation's biggest banks have repaid their government loans and some are back to racking up big profits, Fannie and Freddie are still suffering from the housing-market crisis."

Meanwhile, as reported in this 5/14 CNN article, Fannie and Freddie Won't Pay Down Mortgages.

Buyers rush to get homebuyer tax credits.

Skeptics say housing market will take another dip after program ends at midnight

Austin American-Statesman, 4/29/10, http://www.statesman.com/business/homebuyers-rush-to-take-advantage-of-tax-credits-647899.html

Homebuyers are rushing to take advantage of federal tax credits - due to expire at midnight tonight - of up to $8,000 for first-time purchasers and as much as $6,500 for some current homeowners. Real estate agents called the program a success, and many are expecting the incentive to give the market a boost this spring. But some tax experts criticize it as a giveaway to people who would have bought anyway.

The credit for first-time buyers is thought to have played a considerable role in stimulating home sales this spring. Sales of new homes surged 27 percent last month from a record low a month earlier; it was the biggest monthly increase in 47 years. Sales of previously occupied homes, meanwhile, were up nearly 7 percent in March and are expected to keep climbing.

After the tax credit is gone, however, the surge could prove short-lived. Many analysts project sales will drop sharply in the second half of the year. Some expect prices to plunge as well, especially if mortgage rates rise and a wave of foreclosed homes hits the market.

Congress included the temporary tax credit in the $787 billion stimulus package signed into law a month after President Barack Obama took office last year. The idea was to bring the housing market back to life. Lawmakers, after intense lobbying from the real estate industry, agreed last fall to extend it until April 30.

Nearly 1.8 million households had used the credit as of mid-February at a cost of $12.6 billion, according to the Internal Revenue Service.

The homebuyer tax credit has been one of a number of government stimulus programs that seem to be helping the housing market regain its footing after the worst downturn since the Great Depression. Other measures have included the Obama administration's $75 billion foreclosure prevention plan, the Federal Reserve's $1.25 trillion program to drive down mortgage rates, and about $126 billion in taxpayer spending to stabilize mortgage finance companies Fannie Mae and Freddie Mac.

Skeptics say that these measures are an attempt to manipulate market forces and that they are leaving housing vulnerable to an economic double dip, meaning a recurrence of the recent downturn. Although the number of new foreclosures has come down a bit, nearly 7.4 million borrowers, or 12 percent of all households with a mortgage, had missed payments or were in foreclosure as of March, according to Lender Processing Services Inc.

Some economists say the main effect of the first-time buyer tax credit was to bring would-be homeowners into the market sooner.

"Most of the benefits went to people who would have bought a home anyway," said Patrick Newport, an economist at IHS Global Insight. He estimates that the tax credits will spark only 350,000 to 450,000 additional sales for 2009 and 2010 combined.

In Houston, transit mechanic Stan Henderson, 51, is buying his first home, a three-bedroom, $104,995 house from builder KB Home that is still under construction. Affordable prices and low mortgage rates were part of the draw, he said, but the tax credit "was the straw that stirred the drink."

Material from The Associated Press and the Los Angeles Times.

Cracked Foundation: Reforming Housing Finance

By Roger Lowenstein, NY Times, 4/19/2010(with submitted comments by HOT)
http://www.nytimes.com/2010/04/25/magazine/25fob-wwln-t.html?ref=magazine

Timothy Geithner, a man whose taste for Kierkegaard is usually kept under wraps, recently held forth to the House Financial Services Committee on the “central, existential question” that is facing America or, at the very least, that is facing its reform of housing finance. The Treasury secretary is bedeviled over what to do with Fannie Mae and Freddie Mac, the bailed-out mortgage giants that have cost the taxpayers upward of $125 billion with as yet no end in sight. Shutting them down is not so easy because - get ready for this - since their bailout, in September 2008, Fannie and Freddie have become more, not less, important to the U.S. housing market. At present, 9 of every 10 new mortgages are sold to, or guaranteed by, arms of the U.S. government, the majority of them to Fannie and Freddie. Which is to say, without Uncle Sam, it is not clear that the private market for housing would even exist.

But retaining Fannie and Freddie in their present form is unpalatable; government support of the mortgage twins was among the original sins of the financial crisis. It stemmed from the country’s affection for homeownership - a legacy of a frontier nation that subsidized homesteading for pioneers and encouraged later generations to homestead in the suburbs via the mortgage-interest deduction. Renting was disfavored; federal policy encouraged ownership. But the policy was wrapped around the fiction that federal support promoted self-reliance rather than dependence.

Fannie and Freddie developed as tools of credit enhancement; direct handouts offended laissez-faire sensibilities, whereas loan guarantees were nearly invisible. The practice of disguising government aid dates to the rescue of farmers and homeowners during the Depression. Mortgage capital barely existed and so, in 1934, the New Deal chartered the Federal Housing Administration to stimulate mortgage lending. Within a generation, the government was operating 74 separate programs to bolster credit through guarantees, insurance or outright loans, according to Sarah Quinn, a Ph.D. candidate at the University of California, Berkeley, who researched these programs. The point, Quinn says, was nearly always the same: “to camouflage, hide, or understate the extent to which [the U.S. government] actually intervened in the economy.”

No organizations epitomized the charade so well as Fannie and Freddie. Fannie was created in 1938 to purchase mortgages and allow lenders to write more loans. In the ’60s, when the mortgage industry sputtered, the Johnson administration began to use Fannie to sponsor securitizations - that is, to guarantee pools of mortgages and sell them to investors. A House committee in 1966 saw what was, then and now, the fundamental hazard with such guarantees: to investors “it makes no difference what the quality of these assets are.”

President Johnson was perfectly willing to let Fannie backstop investors, but he had a problem. Every mortgage Fannie purchased went on the government’s books, which were already strained by the Vietnam War. After valiant efforts to manipulate the budget, Johnson hit on a solution - privatize Fannie, so that its expenditures would be somebody else’s problem.

The clever twist was that Fannie, which exited the public sector in 1968, wasn’t wholly separate. Investors viewed Fannie, and its new sibling, Freddie, as having the implicit backing of the Treasury. This lowered the companies’ costs and arguably led to lower interest rates for borrowers.

As long as Fannie and Freddie stuck to conservative underwriting, the arrangement seemed to work. But Congress was eager to use the twins for political purposes, like increasing homeownership and affordable housing. As Dwight Jaffee, a professor at the Haas School of Business at Berkeley, observed, legislators persuaded themselves that Fannie and Freddie could further such causes “basically at no cost.”

[HOT: Who benefited from promoting homeownership? Builders and mortgage lenders clearly benefited and lobbied for the changes, but did homeowners benefit? Really?]

When Fannie and Freddie began to face competition in their business of securitizing loans and providing liquidity to the mortgage market, their profits and stock prices took a nosedive. Seeking to recoup, the firms took more risk. And thanks to their implicit Treasury support, they could borrow virtually at will. Eventually, their debts reached the absurd level of 100 times their capital. When mortgage values tanked, a bailout was unavoidable.

For 19 months, the pair have been wards of the state. No one wants to repeat the experiment in irresponsibility that they represented, but officials are unlikely to yank support as long as the mortgage market remains weak. Geithner, who is developing a plan for Fannie and Freddie, has promised that “private gains will no longer be subsidized by public losses,” but he also insists that “there is quite a strong economic case, a quite strong public-­policy case, for preserving and designing some form of guarantee by the government.”

Are the two agendas - private risk and public assurance - consistent? Peter Wallison, an American Enterprise Institute scholar, fears that Congress could opt for the path of least resistance and revive the twins as government-­sponsored private firms. Yet private companies, Wallison says, cannot perform a public mission, which the twins’ recent history would seem to confirm. If homeownership was the goal, securitization barely made a dent. In 1980, 64 percent of Americans owned their homes; three decades later, the rate is 67 percent. What the twins accomplished during the bubble was to help some people who could not afford mortgages temporarily pose as owners.

Are the firms really so indispensable? Unlike during the Depression, a private market for mortgages does exist (albeit, it is dormant now). The government might consider making a calculated exit. A strategy proposed by Jaffee is for Fannie and Freddie to gradually raise the fees they charge for guaranteeing the value of mortgage securities. At some point, private companies would be able to securitize mortgages for less, and the business would shift to the private sector. Functions the market will not support (like helping affordable housing) are best transferred to the government, financed on-budget.

America may want a private mortgage market, or it might want the security of a subsidized market. What every administration since L.B.J.’s has coveted and what has always been a lie is that we can get a subsidized market free.

For HOT submitted comments: http://www.nytimes.com/2010/04/25/magazine/25fob-wwln-t.html?ref=magazine

Austin-area mortgage lender one of 15 in FHA crackdown

By Alan Zibel, Associated Press, 1/12/2010
http://www.statesman.com/business/real-estate/lakeway-mortgage-lender-one-of-15-in-fha-176036.html

After the housing market went bust, the FHA became the major source of funding for first-time homebuyers. But the agency, which insures about 30 percent of new loans, has seen its losses rise dramatically. Although the agency has avoided a taxpayer rescue so far, its reserves have sunk below the minimum level required by Congress.

There also have been fears that subprime lenders have shifted their business to the FHA after the subprime business went bust.

The agency has already taken action against several problem lenders. One of the nation's biggest mortgage bankers, Taylor, Bean & Whitaker Mortgage Co. of Ocala, Fla., was banned from the FHA program in August and filed for Chapter 11 bankruptcy protection. Another mortgage company, Lend America, was kicked out in November.

On Tuesday, the Department of Housing and Urban Development's inspector general, Kenneth Donohue, said he wanted to determine why defaults are so high among the 15 companies and whether any have committed fraud.

"Many of these target loans didn't last but a short time before defaulting," Donohue said. "We will conduct an investigation, if appropriate, to determine who is responsible and will recommend that appropriate action be taken against individuals and corporations."

The FHA does not make loans but rather offers insurance against default. Borrowers are willing to pay for the insurance because FHA loans require down payments of only 3.5 percent of the purchase price.
[HOT: And USDA loans require no down payment at all. See: "USDA offers Free money but puts taxpayers at risk."]

The lenders targeted by FHA officials include some of its worst-performing active lenders. For example, almost one in five loans made by Alethes LLC of Lakeway over the past two years went into default, compared with a national average of about 5 percent.

"We are reviewing each of these files to determine what commonalities there are, if any," said Danny Smith, president of Alethes, wrote in an e-mail. He later added that the subpoena requested "information which has already been provided."

Two other FHA lenders being scrutinized, Alacrity Lending Co. of Southlake and Pine State Mortgage Corp. of Atlanta, each had default rates of about 15 percent.

"We intend to comply and get as much information to them as fast as we can," said Lonnie Brantley, chief executive of Alacrity.

The government inquiry, he said, applied to a small portion of the company's loans, and he attributed the company's high default rate to "bad economic times."

Pine State Mortgage could not be immediately reached for comment, and the company's Web site was down Tuesday afternoon.

The largest lender under the FHA's magnifying glass was First Tennessee Bank, a subsidiary of Memphis, Tenn.-based First Horizon National Corp.

A spokesman said the company sold its mortgage division in 2008 and scaled back dramatically on new FHA loans since then. That could be artificially inflating the company's default rate because the company is making fewer new FHA loans.

Fannie Mae asks for another $15B in bailout cash

Government-controlled company unveils program to avert foreclosures

Austin American-Statesman, 11/06/2009 (from wire reports)
http://www.statesman.com/search/content/business/stories/other/2009/11/06/1106fannie.html

WASHINGTON - Fannie Mae asked for an additional $15 billion in government aid after posting another big loss in the third quarter as the bill from the housing market bust keeps rising.

Also on Thursday, Fannie Mae reached an agreement to sell about $2.6 billion in unused low-income housing tax credits to unidentified buyers and is waiting on the Treasury Department to approve the transaction.

Separately, Fannie Mae announced a program to give borrowers on the verge of foreclosure the option of renting their homes for a year. At the end of last month, about 4.7 percent of Fannie Mae's borrowers had missed at least three payments.

Troubles at the government-controlled mortgage companies Fannie Mae and Freddie Mac, which were seized 14 months ago, have proved worse than most experts had foreseen. Fannie Mae's latest request would bring the tab for rescuing both companies to about $111 billion. The government has promised up to $400 billion in assistance.

HOT: The FHA is also in financial trouble and may soon need a bailout of its own. Read on....

A Tale of Two Bailouts
It's not the best of times for housing.

by Daniel Gross, Newsweek, 09/24/2009
http://www.newsweek.com/id/216056

I found it tough to get excited about the first anniversary of the Lehman Brothers failure. That's because events in the weeks after Lehman's face-plant were more consequential, and much, much more expensive.

Last October, first responders-the Federal Reserve, the Treasury Department, the Federal Deposit Insurance Corporation, Congress-flooded into the financial sector. They deployed every weapon in their arsenal, and invented some new ones, to stanch the panic: loans, subsidies, direct bailouts, free money, the TARP. In so doing, they exposed taxpayers to massive immediate and potential liabilities. This year's deficit is projected to be $1.58 trillion. The Federal Reserve's balance sheet has swelled from about $880 billion pre-crisis to $2.1 trillion today. Add in the stimulus and all the other measures, concludes Nomi Prins, a former Goldman Sachs managing director and author of the bailout critique It Takes a Pillage, and the public could be on the hook for up to $19.3 trillion.

Of course, that sum is hyperbolic, for some of the financial and fiscal troops deployed to quell the post-Lehman panic have already been recalled, and central bankers are talking about "exit strategies." Banks have paid back about $70 billion of the $200 billion of "investment" the government made through the TARP's capital-purchase program. In January the taxpayers were guaranteeing some $350 billion in commercial paper (the vehicle through which companies borrow short-term funds) under a post-Lehman program. The balance is now down to $43 billion and falling weekly. "It appears that that market is functioning on its own," says Richard Bove, bank analyst at Rochdale Securities. The FDIC has proposed closing the Temporary Liquidity Guarantee Program, an October 2008-vintage plan under which it guarantees debt issued by financial companies. Most significant, on Sept. 18, the Treasury Department removed its year-old guarantee of $3.8 trillion of money-market funds. With a single press release, it lifted a massive weight from the shoulders of taxpayers-$3.8 trillion in dollar bills weighs about 8.7 billion pounds.

The bad news? While the government has pacified the commercial finance, savings, and plain-vanilla banking sectors, it's sending reinforcements into the vast, restive region where the trouble began: housing.

After Lehman, the Fed plunged directly into home lending. It pledged to purchase huge quantities of mortgage-backed securities and bonds issued by Fannie Mae and Freddie Mac, the failed mortgage giants. "We're subsidizing housing more than ever," says Ken Rogoff, the Harvard economist and co-author of This Time is Different, a fine new history of financial debacles.

The Fed's portfolio of mortgage-backed securities has risen from zero last year to $685 billion today. If they go bad, guess who pays? And while the subprime industry may sleep with The Sopranos, there's a new subprime lender in town: the First National Bank of You and Me. During the go-go years, the Federal Housing Authority, the agency that helps lower-income people own homes by purchasing loans made by other lenders, found that its 3 percent down-payment requirement was (absurdly) too stringent. And so it lost market share. In the spring of 2006, the FHA accounted for about 9 percent of mortgages for home purchases, according to the Mortgage Bankers Association. In late August 2009, that figure had risen to 40 percent. Like subprime lenders of old, the FHA lends to people who can't always make their payments. In the second quarter, about 14.4 percent of the FHA's loans were at least one month past due. And since the FHA's cash reserves are already model-thin, it may need its own bailout.

Rogoff points out another reason we should view the glass as half empty. Now that the government has shown the lengths it will go to save bankers from their own mistakes, they'll have faith that it will do so again in the future. "The subsidy is now permanently in place," he says. "There's a sense in which we're not going to be able to exit from any sector completely." To use a martial analogy, we might declare partial victory after a surge. But we're not decommissioning the forces. We're just pulling them back over the horizon.

Back in 2006, the news that President Bush was reading Albert Camus's The Stranger sent policy wonks flocking to bookstores in search of existentialist works. Today, as we seek insight into our current predicament, we might turn to another such classic: Jean-Paul Sartre's No Exit.

Home Is Where the Tax Credit Is
Why the homebuyer subsidy needs to die a natural death. 

By Martha C. White, TheBigMoney.com, 09/27/2009
(http://www.thebigmoney.com/articles/hey-wait-minute/2009/09/27/home-where-tax-credit  )

This incentive was launched by the government earlier this year and is set to expire Nov. 30. But if the real estate and construction industries have their way, the program will go on life support until at least next year and perhaps indefinitely. Several members of Congress have drafted or voiced support for bills calling for extensions or expansions of the initiative. One version, introduced in the Senate by Georgia Republican John Isakson, would extend the program through 2010, raise the credit to $15,000, and be available to all homebuyers, regardless of current housing status or income level. Senate Banking Committee Chairman Christopher Dodd has voiced his support, as has Senate Majority Leader Harry Reid. (It’s worth noting that Reid hails from Nevada, a state that’s been especially hard hit by the real estate crisis.)

Extending the credit and expanding its scope is a bad idea on multiple levels. For starters, let's look at the program's return on investment. According to the IRS, 1.4 million homes have been bought since the credit's inception; the National Association of Realtors gives a somewhat higher figure of 1.8 million to 2 million. (Either way, the program is already going to cost about $15 billion if it winds down as planned, according to the Associated Press.) And yet, according to the NAR’s own math, the tax credit was the make-or-break factor in only 350,000 of those sales. The National Association of Homebuilders, another industry group lobbying to extend the credit, places this figure even lower, at 150,000. In other words, the vast majority of homebuyers would have signed on the dotted line even without the government’s incentive.

As any marketing professional knows, you don't measure a campaign's success by how much it costs but by how much it costs per person to persuade consumers to change their behavior. As the observant bloggers over at Calculated Risk have pointed out, when you divide the number of “conversions” (that is, people who bought a house only because of the tax credit) by the total amount spent on the program, the numbers look very different. Now, instead of the program costing $8,000 per buyer, it costs $43,000-not a great use of taxpayer dollars.

That's not the only problem. The credit also artificially inflates the value of all eligible homes sold by up to $8,000, leaving the buyer with a debt that's greater than the value of the property. Sound familiar? Inflated home values were a big part of what got us into this mess in the first place. Perpetuating this via the tax credit might lessen the pain in the near term, but as we've all learned the hard way, a correction's going to come sooner or later.

What's more, the credit creates skewed incentives. America’s tax code is already tilted heavily in favor of home ownership; if you own your house, you get to deduct the interest you pay on your mortgage as well as your property taxes. Plus, the more house you own, the more you can deduct. Some economists think this encourages buyers to stretch for a McMansion instead of purchasing a more modest abode; following this logic, dropping the income cap and first-time requirement on the tax credit would only increase that effect.

After all, there are already plenty of stimulus efforts aimed at shoring up the housing market. On the monetary policy side, the Fed is keeping interest rates at rock-bottom levels, making it cheaper to borrow money, including mortgages. With regard to fiscal policy, initiatives like the payroll tax cut give Americans more money in their paychecks, letting them build a down payment faster or giving them more per month they can spend on housing.

The real estate association and its allies are right in the sense that the tax credit did spur sales, but there's a serious asterisk after that claim. Take a look at post-Cash for Clunkers auto sales for a recent example. Everyone who might have bought a car later this year rushed to do so before the program expired, and the resulting hangover-dealer traffic slowed to the lowest level in nearly three decades after it ended-isn’t pretty. Much as too many of us did with our home equity, we borrowed into the future to pay today's bills and have nothing left now that the future has arrived.

At best, the homebuyer tax credit was a moderately effective crutch at a time when the residential real estate market needed it most. Take that crutch away come November and the market’s still going to limp for a while. But the alternative means prolonging that healing process and, ultimately, recovery.

Housing Agency's Cash Reserves Will Drop Below Requirement

By Dina ElBoghdady, Washington Post, 09/18/2009
http://www.washingtonpost.com/wp-dyn/content/article/2009/09/17/AR2009091704594.html

The Federal Housing Administration has been hit so hard by the mortgage crisis that for the first time, the agency's cash reserves will drop below the minimum level set by Congress, FHA officials said.

The FHA guaranteed about a quarter of all U.S. home loans made this year, and the reserves are meant as a financial cushion to ensure that the agency can cover unexpected losses.

"It's very serious," FHA Commissioner David H. Stevens said in an interview. "There's nothing more serious that we're addressing right now, outside the housing crisis in general, than this issue."

Until now, government officials have warned that the agency could be forced to (1) ask Congress for billions of dollars in emergency aid or (2) charge borrowers more for taking out FHA-insured loans if the reserves fell below the required level, equal to 2 percent of all loans guaranteed by the agency.

Both options are politically unpalatable. Congress and the public are weary of bailouts after the government spent hundreds of billions of dollars rescuing banks; insurance companies; automakers; and the mortgage finance giants, Fannie Mae and Freddie Mac. Raising premiums for borrowers could increase the cost of buying a home just as a wounded housing market is showing signs of life.

Stevens said that such drastic actions are not needed. He said he is planning to announce Friday several measures that should help the reserves rebound quickly.

The FHA, which is part of the Department of Housing and Urban Development, insures home mortgages against losses, thus helping prospective borrowers obtain loans. It uses the insurance premiums paid by these borrowers to pay for mortgage defaults. Since its creation in 1934, it has never used taxpayer money to cover losses at its flagship home-buying program. But rapidly rising defaults have burned through the agency's reserves, raising the prospect that it would have to take dramatic action.

The reserves are meant to ensure that the agency remains solvent and can continue helping people get mortgages, which in turn supports the housing market and wider economy.

An independent audit due out this fall will show that the agency's reserves will drop below the 2 percent level as of Oct. 1, the start of the new fiscal year, Stevens said.

Although the reserves had remained well above the minimum required level during the housing boom, the audit last year showed they had shrunk to 3 percent as of Sept. 30, compared with 6.4 percent a year earlier. The fund's value was estimated at $12.9 billion, down from $21.2 billion the previous year.

'Not Going to Congress'

Earlier this year, HUD Inspector General Kenneth Donohue told a Senate panel that falling below the reserve's minimum threshold would require an "increase in premiums or congressional appropriation intervention to make up the shortfall."

But Stevens, who became FHA commissioner in July, said these options are not on the table. "We are absolutely not going to Congress and asking for money for FHA," he said. "We're not going to need a special subsidy or special funding of any kind."

He stressed that the agency plans to take other steps that will help beef up the reserves. Some of these measures address fraudulent loans that can contribute to FHA's losses.

For one, he will propose that banks and other lenders that do business with the FHA have at least $1 million in capital they can use to repay the agency for losses if they were involved in fraud. Now, they are required only to hold $250,000. Second, he will propose that lenders also take responsibility for any losses due to fraud committed by the mortgage brokers with whom they work.

In an effort to reduce the risks faced by the agency -- and thus the potential for losses -- Stevens said he plans to hire a chief risk officer by the end of the year. The agency has never had one in its 75-year-history.

Though these changes were in the works before the FHA reviewed the new audit, he said the steps should help fatten up the FHA's loss reserves faster than projected.

The new audit shows that even without any new measures, the reserves will rebound to the required level within two or three years largely as the result of the recovery in the housing market, Stevens said. This calculation is based on projections of future home prices, interest rates and the volume and credit quality of FHA's business.

Agency's Financial Health

The audit appears especially dire because it offers a snapshot of the agency's financial standing at the depths of a severe recession, and it does not take into account the new loans FHA will insure and the new premiums it will collect, Stevens said. The borrowers receiving recent FHA-backed loans have, on balance, been more creditworthy than those the agency is used to catering to, he said.

And while the reserves are at a historic low, Stevens noted that they represent only part of the money the agency maintains to cover losses on insured mortgages. The agency, on an ongoing basis, pays for losses directly out of a second fund. The reserve fund is intended as a backup should losses exceed forecasts. In total, these two funds had $30.4 billion as of June 30, up from $28.3 billion on Sept. 30, 2008, according to Stevens.

The FHA's financial health is in the spotlight in part because of its key role in buoying the housing market.

The agency lost much of its relevance during the housing boom when home prices soared and borrowers raced to aggressive subprime lenders. But after the subprime market collapsed, borrowers flocked back to the FHA, the only option for those who lack stellar credit or hefty down payments. Its historic role in backing loans is more crucial now than ever.

The agency does not lend money; it insures lenders against losses. It has captured 23 percent of all new loans made so far this year, up from just 3 percent in 2006.

But the agency's sudden popularity has alarmed some lawmakers, who regularly question whether the FHA has the resources and expertise to handle its increased workload and avert an avalanche of new defaults.

Listen to Scott Horsley's 10/07/09 NPR report: Debate Over Homebuyer Tax Credit Heats Up. Senator Isakson, a 30-year realtor himself, admits in the interview that bad practices in housing triggered the global financial collapse. And now he wants to extend the tax credit and the bad practices that will surely go with them? What's his motive for that?