Realty Check

FHA May Show Negative Reserves For Mortgage Losses


The Federal Housing Administration (FHA), in a report due out Friday, could disclose that its reserves for future mortgage-insurance claims dipped into negative territory for the first time in almost a quarter of a century.

Fotog | Getty Images

Every year, the FHA, the government insurer of home loans, is required to issue an independent analysis of the "economic net worth and soundness" of its insurance fund.

This is the fund that pays lenders on loans that go bad, which is why FHA loans are available for borrowers with relatively lower credit scores. The FHA insures roughly $1.1 trillion in mortgages.

The report also looks at the FHA's capital reserves, which are there to cover future loan losses.

For the past three years, those reserves have fallen below the congressionally mandated 2 percent of the portfolio, or around $22 billion, but have not gone negative. They did go negative back in the very early 1990s.

Last year, projections were that the reserves would show an increase to $9.4 billion, but they also said there was a 50 percent chance that they would fall below zero.

A report out Thursday from the Mortgage Bankers Association showed that reserves fell in the third quarter but remain above where they were in the first quarter of 2012 due to a big jump in foreclosure starts and inventories for FHA loans. (Read More: Foreclosure Discounts Drying Up.)

Of all FHA loans, 11.14 percent are either in the foreclosure process or seriously delinquent, according to the Mortgage Bankers Association. While that's still high, it is a vast improvement from a year ago when the number was 12.09 percent.

"The facts on the ground are encouraging, but the projections about the future, the estimates, when you take in all the income from all the loans as of September 30th and subtract all the costs, you're going to have a net negative of several billion," suggested Brian Chappelle, a former FHA official and now a partner at mortgage consulting firm Potomac Partners. "They're on a financial ledge."

The fact is that the FHA has $30 billion on hand now to pay out its current claims, and so they are not likely to need a draw from the U.S. Treasury, but this is a warning sign for the future. The reserve funds are needed for the future.

Yes, home prices are improving and delinquencies are falling, but housing is not out of the woods yet. (Read More: Home Prices Rise, but Analysts See Pressure Ahead.)

The independent actuaries made some very aggressive claims about where house prices are going, and those claims figure into their math on how well their loans will perform. Their projections were for reserves of 5 to 6 percent a year for 2014-2016. Sources said those estimates may be cut, and that could then have a dramatic effect on the portfolio.

Other things have changed as well, specifically the FHA's "streamline" refinance program that allows current FHA borrowers to refi without an appraisal. A lot of borrowers took advantage of this recently, but some of the loans are not performing well because the mortgages are underwater (the loan is larger than the value of the home). (Read More: Why Home Refinancing Boom Is Different This Time.)

The FHA has tried to avert financial disaster by raising mortgage insurance premiums this year, but that may not be enough. The FHA took on a huge segment of the mortgage market when credit crashed, up to 40 percent of new originations in 2010. FHA loans, by definition, are riskier because they only require a 3.5 percent down payment.

While its most recent book of business is performing very well, thanks to much higher credit score standards, there is still a big mess to clean up from the housing crash, and a slow recovery in home prices is not enough to fix everything.

—By CNBC's Diana Olick

Click on ticker to follow real estate news:

US Home Builders

—Toll Brothers

—DR Horton

—Hovnanian Enterprises


—Ryland Group

—Lennar Corp

—Beazer Homes USA

—Meritage Homes

—KB Home

Construction & General Building Materials

—The Home Depot

—Lowe's Companies

—The Sherwin-WIlliams Company

—E. I. du Pont de Nemours and Company

—Apogee Enterprises

Questions? Comments?

Follow me on Twitter @Diana_Olick or on Facebook at