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Housing Finance Boss Blocked Principal Reductions, Hid Data Showing They Work, Dems Allege [UPDATE]

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Federal Housing Finance Agency acting director Edward DeMarco
Federal Housing Finance Agency acting director Edward DeMarco

WASHINGTON -- Democrats on the House Oversight Committee on Tuesday accused the head of the Federal Housing Finance Agency -- who has refused to follow President Barack Obama's recommendation to help underwater homeowners reduce their loan debt -- of withholding from Congress evidence that principal reduction works.

In a letter to FHFA acting director Edward DeMarco, Reps. Elijah Cummings (D-Md.) and John Tierney (D-Mass.) argued that they had obtained documents from the agency -- that DeMarco had never provided to them -- that show housing officials were well on their way to a plan to help struggling homeowners reduce the principals of their Fannie Mae and Freddie Mac loans. The FHFA oversees the mortgage lending giants.

DeMarco had testified that steps such as principal reduction would end up hurting taxpayers, and pose a "moral hazard" whereby homeowners might intentionally stop making mortgage payments in order to benefit from such a program.

But the new documents reveal another story, and suggest DeMarco's intransigence may be more of an ideological stand that has cost billions, the Democrats said.

"We have now obtained a wide range of internal documents demonstrating that Fannie Mae officials conducted detailed, substantive analyses and concluded years ago that principal reduction programs have enormous potential to save U.S. taxpayers significant amounts of money by reducing overall losses from foreclosures following default," they wrote.

The Obama administration has advocated such reductions of principal, but DeMarco has remained steadfast against them, calling write-downs the "least effective tool in the toolbox." Just last week his agency indefinitely delayed a decision on write-downs.

But according to the Democrats, Fannie Mae data crunchers seem to have thought differently from DeMarco, who took over after President George W. Bush's appointee left the position. He has led the FHFA since, and remains there because the Senate has blocked President Obama's nominee for the job, Joseph Smith.

"These documents reveal how Fannie Mae officials worked with Citibank beginning in 2009 to develop a 'shared equity' principal reduction pilot program that ultimately was terminated for unspecified reasons," the lawmakers wrote. "The documents show that Fannie Mae officials strongly supported the concept of principal reduction and fully evaluated its risks and benefits as they obtained the necessary internal approvals to finalize the program."

According to the documents that Tierney and Cummings cite, the Citibank program would have cost less than $1.7 million to implement but could have saved Fannie $410 million. Yet the program was canceled at the "11th hour" for no clear reason.

"Despite the clear conclusion reached by Fannie Mae officials that principal reduction would reduce losses to the taxpayer, this pilot program was prevented from ever getting off the ground," the lawmakers wrote. "It remains unclear why you failed to mention this in your testimony and why you failed to disclose this principal reduction program to the Committee."

"This was not merely a missed opportunity, but a conscious choice that appears to have been based on ideology rather than Fannie Mae's own data and analyses," they argued. "The documents make clear that Fannie Mae officials concluded as far back as 2009 that principal reduction programs had enormous potential to save the U.S. taxpayers significant sums of money, even when compared to other types of modifications, such as forbearance."

The documents, which haven't yet been made public, are certain to increase pressure on DeMarco to permit loan value write-downs on mortgages controlled by Fannie Mae and Freddie Mac, which include about half of all home loans in the United States. DeMarco, as head of the FHFA, has had effective control over the mortgage giants since they were bailed out by taxpayers in 2008.

The Obama administration, many state attorneys general and housing groups have all called on DeMarco to permit principal reductions. They argue that allowing deeply underwater borrowers to write off some portion of their debt is the best way to keep many of these people in their homes. Past studies, including one by the Treasury Department, have found that principal reduction can also save money for investors, such as Fannie and Freddie, who benefit financially when borrowers stay in their homes.

"There is an overwhelming drumbeat that this is the way to go," Tierney told The Huffington Post on Tuesday. "There is a substantial benefit to people who are underwater, to the financial community, to taxpayers, to everyone."

The new documents appear to show that federal housing officials agreed, and indeed, the banking industry agrees. In February, five of the biggest banks -- including Citibank -- agreed to offer as much as $10 billion in principal reduction to troubled homeowners as part of the national mortgage settlement.

But homeowners with Fannie Mae or Freddie Mac loans don't qualify because DeMarco's office opposes such a step.

Last month, DeMarco said a new analysis by his agency found that writing down some underwater mortgages could save Fannie Mae and Freddie Mac $1.7 billion, based on an offer by the Treasury Department to triple incentives for investors like the mortgage giants to offer principal reductions. But he said the analysis did not incorporate other potential costs, including the risk that otherwise current homeowners might "strategically default" just so they could take advantage of the savings.

In the letter to DeMarco, Cummings and Tierney wonder why DeMarco has not concluded -- as Fannie Mae, the banks, the Treasury Department and Congressional Democrats all have -- that principal reduction is a vital step.

The internal Fannie Mae documents show that company officials tested out the Citibank loan forgiveness in 2009 and determined that new default rates on loans that received the benefit "are far below rates on other modification portfolios," according to the nine-page letter.

The program was shut down in July 2010, and three days later, a Fannie Mae official explained in an internal email that Citibank was surprised. Even before they agreed to forgive $10 billion in debt as part of the mortgage settlement, the largest banks were already permitting principal reduction as an option for borrowers who were struggling with their mortgages.

Tierney, in an interview, declined to reveal the source for the internal documents, and said it is still "unclear" why the pilot program was shelved. "It seems as though someone with an ideological bent just killed it," he said.

In the letter to DeMarco, Tierney and Cummings said the new information calls into question DeMarco's previous statements about the cost to taxpayers of principal reduction.

"[W]e have very serious concerns about your public statements, your previous responses to us, and your failure to provide Congress with complete and accurate information about these important matters," Cummings and Tierney said.

They called on DeMarco to release before May 11 a wealth of other documents relating to internal deliberations about whether to allow mortgage loan write downs.

"My patience has grown thin," Tierney said.

Although housing advocates have called for DeMarco to be fired, the Obama administration has not taken steps to do so. Doing so could leave the administration open to charges of interfering with a nonpartisan position for political reasons.

This post has been updated to include remarks from Tierney and further background about principal reductions.

UPDATE: 4:00 p.m. -- On Tuesday afternoon, DeMarco wrote back to the lawmakers.

"I strongly disagree with any characterization of FHFA's work or motives as anything but in keeping with the professionalism expected of this agency," he said.

DeMarco said that he turned over the documents requested by Cummings and Tierney nearly a month ago. As proof, he made public a letter dated April 12 to the lawmakers that included a summary of the Citibank pilot program. The summary does not mention that Fannie Mae had determined that principal reduction would save taxpayer money, nor does it say who ultimately killed the program, stating only that "At the corporate level, taking into account staff perspectives and experience, the pilots were not pursued or were terminated."

It is unclear whether any additional information about the pilot was included in that letter.

DeMarco's letter continues:

The fact that FHFA continues to consider principal forgiveness alternatives, including recent HAMP program changes initiated by the Treasury Department, belies any ideological tilt on our part, but rather a strict analytical-based approach to gathering and evaluating data to determine what options best fit within the legal constraints that fall upon this agency as conservator for the Enterprises [Fannie Mae and Freddie Mac]. FHFA continues its analysis and continues its discussions with the Treasury Department.
...
FHFA has a duty to ensure the Enterprises provide assistance to troubled homeowners and FHFA has a duty to conserve the assets and property of the Enterprises so as to protect taxpayers. How best to accomplish these separate goals, especially in light of the uncertainties associated with initiating a principal forgiveness program, is a challenging policy question. Such a policy question, especially as it has to do with public funds being taken from one group of citizens to provide a benefit to another group of citizens, should be determined by Congress.

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