In recent years, the Federal Housing Administration (FHA), within the Department of Housing and Urban Development (HUD), has faced fiscal challenges, as has the rest of the mortgage insurance industry. Since 2009, the insurance fund under which FHA insures almost all of its single-family mortgages has not met minimum statutory capital requirements. Also, declining balances in the insurance fund’s capital reserve account and higher than expected claims on loans insured before 2010 have resulted in FHA requiring additional funds to have sufficient resources for all future insurance claims on its existing portfolio. The federal role in housing finance remains on GAO’s high-risk list in part because of these difficulties and because FHA’s portfolio of insured mortgages has continued to grow.
With mortgage foreclosures at historic levels in recent years, FHA is faced with disposing of a high volume of foreclosed properties—known as real estate-owned (REO) properties—that it acquires after the foreclosure process is completed on a defaulted FHA-insured loan. As GAO reported in June 2013, FHA disposed of more than 400,000 REO properties from January 2007 through June 2012. Other federally related entities that operate housing finance programs—including the Department of Veterans Affairs’ (VA) Loan Guaranty Service, as well as the two government-sponsored housing enterprises, Fannie Mae and Freddie Mac—also have experienced increasing numbers of REO properties in recent years. All of these entities seek to sell or otherwise dispose of their REO properties in order to recover some portion of the loss on the original failed loans.
REO properties generally must be maintained, repaired when appropriate, evaluated to determine an appropriate selling price, and marketed for sale. Conducting these activities effectively can help ensure that FHA maximizes returns and minimizes maintenance and other holding costs. Achieving higher recoveries on REO property sales and lower maintenance and other costs related to properties after foreclosure sale generally would have positive effects on the financial condition of the insurance fund.
FHA and other federally related entities acquire REO properties from mortgage servicers when borrowers default on insured or guaranteed mortgage loans and no third party purchases the property at the foreclosure sale.
Since the period covered in our analysis, FHA disposed of 131,700 properties from July 2012 through August 2013.
GAO reported in June 2013 that FHA’s performance in selling its REO properties lagged behind the performance of both Fannie Mae and Freddie Mac (the enterprises). Its combined 2007-2012 returns, measured by the net execution rate (net sales proceeds divided by independently assessed property values), were about 4 to 6 percentage points below the enterprises’ returns (see fig.).
FHA’s Aggregate Net Execution Rate Relative to the Enterprises’ Rates for REO Dispositions, January 2007 through June 2012
Note: The year 2012 represents data from January 1, 2012, through June 30, 2012. The figures that GAO reports for execution rates are aggregate calculations for individual years and the entire period rather than averages of the execution rates for individual property dispositions. The results are not controlled for the effects of property characteristics. These calculations did not include all dispositions for each entity because of missing values for certain data elements. VA did not have the property-level data available that are necessary to calculate net execution rates.
Differences in combined returns between FHA and the enterprises persisted even after controlling for certain differences in their properties’ characteristics (e.g., value, location, and local market conditions).
Further, while the enterprises took an average of around 200 days after foreclosure to dispose of REO properties, FHA took about 340 days—more than 60 percent longer (see fig.). FHA also took longer than VA.
Average Disposition Timelines by Entity for REO Dispositions, January 2008 through June 2012 (All Years Combined)
Notes: The enterprises generally acquire REO properties within 24 hours of foreclosure sales, and VA generally acquires properties within 15 days. The REO sale date represents the closing date of the REO sale. The results are not controlled for the effects of property characteristics. The calculations did not include all dispositions for each entity because of missing values for certain data elements.
aVA did not have data available for its REO properties’ initial valuation dates.
A similar pattern persisted even after controlling for certain property differences. In the first half of 2012, FHA’s disposition returns and timelines generally improved relative to the enterprises’ returns and timelines.
For FHA, unlike the others, a significant part of the time between the foreclosure sale and the REO sale is taken by loan servicers who must complete certain activities before conveying title to FHA. GAO originally reported in April 2002 and noted again in its June 2013 report that while other government entities maintain unified custody of foreclosed properties and are responsible for maintaining the properties from the time of foreclosure sale until the properties are sold, FHA divides property custody between its mortgage servicers and REO contractors, which operate largely independently of one another.This divided approach to property custody in the post-foreclosure sale period could delay the initiation of critical steps necessary to sell REO properties quickly.
In June 2013, GAO reported that if FHA’s execution rate and disposition time frame had equaled those of the enterprises in 2011, it could have increased its proceeds from the sale of REO properties by as much as $400 million and decreased the costs it incurs while holding these properties—which can include items such as taxes, homeowners’ association fees, and maintenance costs—by up to $600 million for the year.
FHA and the enterprises used similar strategies to dispose of their REO properties, but FHA did not use some practices that the enterprises and private mortgage servicers used that may have the potential to improve its sales performance. For example, FHA did not repair its properties to increase their marketability, something both enterprises did. And unlike the enterprises, FHA did not incorporate information from multiple sources in setting list prices or consistently take into account market conditions when reducing prices. Instead, it relied on one appraisal in setting initial prices and often reduced the prices by set amounts.
In addition, FHA’s oversight of the contractors that it used to maintain and dispose of REO properties had weaknesses, and FHA did not use some of the oversight tools other entities used that might prove effective. First, government internal control standards require complete, updated policies and procedures to guide program oversight. As of June 2013, FHA had not updated its REO disposition handbook since 1994, even though the agency implemented a different program and contractor structure in 2010. In the absence of a central source of updated guidance, GAO and FHA internal auditors found inconsistencies in both contractor activities and staff oversight across FHA’s four regional offices that oversee REO activities. Second, FHA had not implemented a uniform system for evaluating contractor performance. For instance, FHA had yet to implement a proposed version of the type of scorecard that the enterprises used to assess differences in contractor performance. Further, FHA aimed to inspect 2 to 6 percent of its REO properties annually, although other entities with REO properties required more inspections, with some reporting inspecting between 25 and 35 percent monthly. Finally, FHA had not taken steps to ensure that the listing brokers marketing its REO properties were located close enough to the properties to have adequate knowledge of local markets. Without implementing more effective activities to evaluate contractor performance and ensure compliance with program requirements, FHA’s REO properties may continue to remain on the market longer and sell for lower prices than properties held by the enterprises.
To increase the potential for higher financial returns from FHA’s disposition of REO properties, GAO recommended in June 2013 that the Secretary of HUD direct the Commissioner of FHA to take the following two actions:
In addition, to provide for the most effective acquisition and sale of REO properties, GAO recommended in April 2002 that the Secretary of HUD establish unified property custody as a priority for FHA and determine and implement the optimal method for establishing unified property custody, including seeking additional statutory authority if necessary. GAO’s June 2013 report again noted that taking this action could assist the agency in achieving financial benefits.
FHA may realize financial benefits of hundreds of millions of dollars by implementing these recommendations. For example, if FHA had performed as well as the enterprises in disposing of REO property in 2011, it could have potentially increased sales proceeds and reduced maintenance and other holding costs by a total of as much as $1 billion, resulting in higher financial returns to the insurance fund.
The information contained in this analysis is based on the reports in the related GAO products section. To assess the effectiveness of FHA’s REO property dispositions, GAO analyzed disposition data from FHA and the other federally related entities, including all REO properties disposed of from January 2007 through June 2012. GAO created regression models to assess the extent of differences between FHA’s performance and that of the two enterprises after accounting for some differences in the characteristics of the properties they acquired. To determine how FHA and the other entities oversaw the contractors that managed and disposed of their REO properties, GAO reviewed program regulations, requirements, and policies and interviewed staff from these entities as well as from some private sector mortgage servicers that also acquired and disposed of REO properties.
Table 14 in appendix IV lists the program GAO identified that might have opportunities for cost savings or revenue enhancement.
In commenting on the June 2013 report on which this analysis is based, HUD agreed with GAO's recommendations. HUD also identified actions that it has taken or planned to take in response to GAO's recommendations. For example, HUD wrote that it is conducting trial programs using multiple valuations to set initial list prices and conducting limited repairs of certain properties to analyze their effect on net proceeds, and that it will implement several actions to improve oversight of the program. HUD estimated that it would complete actions in response to most of the recommendations by June 30, 2014.
In contrast to HUD's comments on the June 2013 report, a communication to Congress from the FHA Commissioner in September 2013 raised several reasons why the agency could not likely achieve the additional sales proceeds and reduced holding costs that GAO's analysis had projected. These included that FHA takes possession of properties at a later time after the foreclosure sale than the enterprises do, that it would still incur most of the costs regardless of when it takes possession, and that the location of its properties result in lower net proceeds. However, GAO found that if HUD changed its processes to shorten the overall time it takes to dispose of REO properties, it could achieve higher net proceeds and incur lower overall costs. In addition, because GAO controlled for differences in property characteristics of each of the entities' REO inventories and because appraised values take into account property conditions and local market factors, GAO continues to maintain that implementing the various actions it recommended could reduce costs and improve marketing results.
In response to GAO's 2002 recommendation to establish unified property custody, HUD subsequently determined that it would not be advisable for the agency to establish unified property custody as an objective for the agency, and it did not implement the recommendation. The analysis in GAO's June 2013 report once again highlights the need for FHA to consider whether the potential benefits from unified property custody, such as shorter REO disposition timelines and lower holding costs, outweigh any costs and challenges associated with acquiring REO properties from servicers closer to the foreclosure sale date. If FHA obtained custody of REO properties sooner after the foreclosure completion, it would have more control over disposition outcomes, could possibly realize cost savings, and could limit any potential negative effects from distressed properties remaining unsold for longer than is necessary.
GAO provided a draft of this report section to HUD for review and comment. In an email received on February 10, 2014, a coordinator from FHA’s Office of the Comptroller provided comments from the Office of Economic Affairs within HUD's Policy Development and Research Office that also cited reasons why HUD would not likely be able to achieve the additional proceeds and costs savings GAO projected. These reasons included differences in the locations and value of HUD's properties. GAO continues to believe that HUD could achieve these savings since GAO's analysis incorporated differences in property locations and values.
The email also noted that GAO did not assess whether it could achieve better REO returns by employing alternative disposition means other than selling properties individually and that GAO had not provided evidence that undertaking repairs of more properties would increase returns. However, GAO's June 2013 report recommended that HUD identify and implement changes in current practices or requirements that could improve REO disposition outcomes and identified several specific areas for accomplishing this goal. Considering the benefits and costs of alternative disposition models relative to traditional REO dispositions would be a worthwhile goal consistent with this recommendation and GAO continues to maintain that implementing the recommendations in that report—which HUD already has agreed to do—would likely improve HUD's returns on any properties it continues to sell individually. Finally, GAO found that the enterprises repaired more properties than FHA and experienced higher returns on these properties, and reported that HUD had begun a small pilot project in 2011 to assess the impact of repairs on its properties’ marketability. As a result, GAO reaffirms its recommendation that HUD conduct the analysis necessary to determine whether repairing certain of its properties would increase the amount of net proceeds from its REO sales.
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