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Default Rate Is Rising With FHA-Backed Loans

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The Washington Post

Published: January 26, 2009

WASHINGTON - The default rate for mortgages recently insured by the Federal Housing Administration has been climbing, an alarming trend for an agency that is playing a vastly expanded role in the mortgage market and backing roughly a quarter of all the loans made last year.

About 4.31 percent of the FHA-insured loans made in the two years ending Dec. 31 were at least 90 days late, according to the most recent update of an FHA database designed to help the agency detect problems with its lenders and programs. That's the highest in any two-year period since at least 2005.

On a monthly basis, FHA defaults have been rising since summer, according to the Department of Housing and Urban Development, which includes the FHA. Not all defaults result in foreclosure.

The lackluster performance comes at a time of increased scrutiny of the FHA by federal policymakers, some of whom question whether the agency can handle its soaring volume of loans and properly vet the lenders who are making them.

Demand for these mortgages has surged because they do not require the hefty down payments or stellar credit scores that lenders have come to expect from borrowers. In addition, the amount of money people can borrow with FHA-backed loans went up dramatically last year.

Several experts who track the agency attribute the rise in defaults to a batch of bad loans made in 2007, when the subprime market was faltering and borrowers with spotty credit were shoehorned into FHA loans instead.

Given that mortgages typically do not suffer a high default rate in their first year, that suggests that the loans issued in 2007 are "a significant problem," said Brian Chappelle, a banking consultant and former FHA official.

Lenders have since cracked down on which borrowers they qualify for FHA loans and have imposed restrictions that go beyond FHA requirements, including decent credit scores, said Dave Stevens, president of real estate firm Long & Foster, which has a lending affiliate.

"The lenders are protecting themselves now," Stevens said. HUD agrees, adding that restrictions in the market have resulted in better quality loans coming to the FHA. Because of that trend, Chappelle and Stevens say they are optimistic about FHA's future.

Others are less convinced.

"It confirms the fear that FHA, as the lender of last resort, is getting the debris of the mortgage system," said Howard Glaser, a consultant and former HUD official. "They're suffering adverse selection. ... They're totally reliant on lenders to protect taxpayer interest in FHA."

INSURING FHA LOANS
Although the Federal Housing Administration is a government agency, it has been self-sustaining since its creation in 1934, meaning no public money has been used to cover its losses. The mortgage insurance paid by the homeowners go into a fund that provides backing on mortgages made by FHA-approved lenders.

•The FHA insurance fund remains above the point where taxpayers would need to kick in money to cover defaults.

•FHA is required to have enough in its insurance fund to cover defaults by 2 percent of the mortgages it originates.

Last year, the FHA insurance fund was able to cover 6.4 percent of the mortgages originated by the agency.

•The audit concluded that the 2 percent threshold is "barely maintained" and the ratio could dip below that soon if worst-case scenarios are factored in.

The Washington Post

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