**Executive Summary**

The 1990 Cranston-Gonzalez National Affordable Housing Act (NAHA)
requires an independent actuarial analysis of the economic net worth and
financial soundness of the Federal Housing Administration\'s (FHA\'s)
Mutual Mortgage Insurance (MMI) Fund. This report presents our findings
with respect to this required analysis for fiscal year (FY) 2007.

The primary purpose of our review was to estimate

-   the *economic value* of the MMI Fund, defined as the sum of existing
    capital plus the net present value of the current books of business,
    and

-   the current and projected *capital ratio*, defined as the economic
    value divided by the total insurance-in-force (IIF).

**A. Status of the Fund**

NAHA mandated that the MMI Fund achieve a capital ratio of at least 2
percent by FY 2000 and maintain above that level in all future years.
The capital ratio of the Fund reached the 2 percent threshold in FY 1995
and has since remained above the mandated level. This year, we estimated
that the FY 2007 capital ratio decreased to 6.40 percent from last
year's 6.82 percent. We also estimated the FY 2014 capital ratio to be
7.25 percent. Exhibit ES-1 provides our estimates of the Fund's current
and future economic values and capital ratios.

#### Exhibit ES-1

+---------+---------+---------+---------+---------+---------+---------+
| **Pr    |         |         |         |         |         |         |
| ojected |         |         |         |         |         |         |
| MMI     |         |         |         |         |         |         |
| Fund    |         |         |         |         |         |         |
| Perf    |         |         |         |         |         |         |
| ormance |         |         |         |         |         |         |
| for FYs |         |         |         |         |         |         |
| 2007 to |         |         |         |         |         |         |
| 2014**  |         |         |         |         |         |         |
|         |         |         |         |         |         |         |
| **(\$   |         |         |         |         |         |         |
| Mill    |         |         |         |         |         |         |
| ions)** |         |         |         |         |         |         |
+=========+=========+=========+=========+=========+=========+=========+
| *       | **E     | **      | *       | **In    | **E     | **Inv   |
| *Fiscal | conomic | Capital | *Volume | surance | conomic | estment |
| Year**  | Value   | Ratio   | of New  | in      | Value   | E       |
|         | of the  | (%)**   | Endo    | For     | of Each | arnings |
|         | Fu      |         | rse-men | ce^c^** | New     | on Fund |
|         | nd^a^** |         | ts^b^** |         | Book of | Bal     |
|         |         |         |         |         | Bus     | ances** |
|         |         |         |         |         | iness** |         |
+---------+---------+---------+---------+---------+---------+---------+
| 2007    | 21,277  | 6.40    | 52,193  | 332,293 | -406    | 　      |
+---------+---------+---------+---------+---------+---------+---------+
| 2008    | 22,748  | 6.67    | 50,149  | 341,012 | 390     | 1,082   |
+---------+---------+---------+---------+---------+---------+---------+
| 2009    | 24,706  | 6.83    | 58,381  | 361,566 | 849     | 1,108   |
+---------+---------+---------+---------+---------+---------+---------+
| 2010    | 26,796  | 6.86    | 65,658  | 390,544 | 892     | 1,199   |
+---------+---------+---------+---------+---------+---------+---------+
| 2011    | 29,053  | 6.87    | 72,556  | 422,986 | 936     | 1,321   |
+---------+---------+---------+---------+---------+---------+---------+
| 2012    | 31,492  | 6.91    | 77,773  | 455,984 | 985     | 1,454   |
+---------+---------+---------+---------+---------+---------+---------+
| 2013    | 34,251  | 7.01    | 86,237  | 488,420 | 1,167   | 1,592   |
+---------+---------+---------+---------+---------+---------+---------+
| 2014    | 37,405  | 7.25    | 92,439  | 515,698 | 1,410   | 1,744   |
+---------+---------+---------+---------+---------+---------+---------+

^a^ All values are as of the end of each fiscal year. The economic value
for future years (FYs 2008 through 2014) is equal to the economic value
of the Fund at the end of the previous year, plus the current year\'s
interest earned on the previous fund balance, plus the economic value of
the new book of business.

^b^ Based on the FHA August 2007 projection.

^c^ Estimated based on the MMI Fund data extract as of May 31, 2007.

In defining the statutory capital ratio, NAHA stipulates the use of
unamortized insurance-in-force as the denominator. However,
\"unamortized insurance-in-force\" is defined in the legislation as
\"the remaining obligation on outstanding mortgages\" -- a definition
generally understood to apply to amortized IIF. Following the convention
of previous actuarial reviews, however, we continue to use the
unamortized IIF as defined in NAHA in calculating the capital ratio. It
is also instructive to consider the capital ratio based on amortized
IIF, which is the basis the Government Accountability Office has used in
its previous reports on the status of the Fund during the 1990's. The
estimated capital ratio using amortized IIF is 6.97 percent for FY 2007
and 7.96 percent for FY 2014. Unless stated otherwise, all capital
ratios mentioned elsewhere in this report refer to the ratio computed
using unamortized IIF as defined in NAHA.

We also subjected the Fund to adverse future economic scenarios
(reported below) and found that the projected capital ratio in each case
remained above 2 percent. **We therefore conclude that the MMI Fund has
met and will continue to meet the NAHA capital requirement.**

## B. Sources of Change in the Status of the Fund

*Change in Economic Value from FY 2006 to FY 2007*

We estimated that the economic value of the MMI Fund was \$21.277
billion as of the end of FY 2007, which represents a decrease of \$744
million over the economic value as of the end of FY 2006 as reported in
the previous year's Actuarial Review. This 3.38 percent decrease in the
estimated economic value of the MMI Fund, together with a 2.87 percent
increase in the unamortized IIF, resulted in a decrease in the capital
ratio of 0.42 percentage points -- from 6.82 percent to 6.40 percent.
That is, the changes in economic value and unamortized IIF contribute
about equally to the decrease in the capital ratio.

*Current Estimate of FY 2007 Economic Value Compared with the Estimate
Presented in the FY 2006 Actuarial Review*

Our estimate of the FY 2007 economic value is \$1.850 billion lower than
the economic value projected for FY 2007 in the FY 2006 Actuarial
Review. The estimated FY 2013 capital ratio is 0.28 percentage points
higher than that estimated in the FY 2006 Review. These differences are
attributed to six changes:

-   updated for the actual origination volume of the FY 2006 book of
    business,

-   updated for special loss reserve for damages related to 2005
    hurricanes Katrina, Rita, and Wilma,

-   updated for the actual termination experiences and other net cash
    flows that occurred during FY 2006,

-   enhanced econometric models,

-   updated economic forecasts by Global Insight, Inc.

-   updated demand volume and composition of new books of business, and

-   updated assumptions of the loss severity rates.

The impacts of each of these changes on the performance of the Fund are
estimated as follows:

-   The actual origination volume in FY 2006 is slightly lower than the
    level forecasted in the FY 2006 Review and reduced the FY 2007
    economic value by only \$1 million.

-   The updated estimation by HUD of the amount of loss reserve for
    damages on 2005 hurricanes is significantly lower than the one
    estimated in the FY 2006 Review and it has been adjusted in the FY
    2007 Review. This adjustment increased the FY 2007 economic value by
    \$505 million.

-   The deviation of the actual claim and prepayment rates experienced
    during FY 2006 from those projected in the FY 2006 Review translated
    into an increase in the FY 2007 economic value of \$156 million.

-   Enhancements to the econometric models added \$472 million to the FY
    2007 economic value. The main enhancement was to improve the
    accuracy in capturing the impact of borrower credit scores in the
    claim and prepayment models. Borrower credit scores turned out to be
    one of the most significant factors in assessing the credit quality
    of individual loans. Loans with higher, *i.e.*, better, credit
    scores are less likely to be claimed and more likely to prepay. This
    has important implications for initial underwriting, portfolio
    evaluation and risk-based pricing.

-   The national house price growth rate showed a significant slowdown
    during FY 2006 and into FY 2007. In addition, the updated economic
    forecasts of Global Insight are much more pessimistic than those of
    a year ago. The expected lower house price appreciation rate caused
    the FY 2007 economic value to drop by \$3.172 billion. This is a
    significant impact, and reinforces the importance for FHA to
    maintain solid underwriting standards and quality control processes
    in order to withstand severe adverse economic conditions.

-   The revised estimates of the origination volume and composition of
    the FY 2007 book of business translated into an increase of FY 2007
    economic value by \$145 million. This includes the impact of
    assumptions related to the concentration in loans receiving
    downpayment assistance from non-profit organizations, which have
    been found to have higher claim rates.

-   The refinement of the loss severity rate assumptions increased the
    FY 2007 economic value by \$45 million. The FHA loss severity rates
    have risen during the past three consecutive years and are likely to
    remain high as house price growth rates are expected to deteriorate
    in the future. However, the application of more detailed estimates
    of loss severity by product type and by states requiring judicial
    foreclosure resulted in a slight increase in economic value due to
    this enhancement.

Exhibit ES-2 provides the details of the changes in the Fund's economic
value between FY 2006 and FY 2007, and their long-term effects on the
capital ratio in FY 2013.

**Exhibit ES-2**

+---------------------------------+-------+--------+--------+--------+
| **Summary of Changes in MMI     |       |        |        |        |
| Fund Estimated Economic Value   |       |        |        |        |
| Between FY 2006 and FY 2007**   |       |        |        |        |
|                                 |       |        |        |        |
| **(\$ Millions)**               |       |        |        |        |
+---------------------------------+-------+--------+--------+--------+
|                                 | C     | FY     | Change | C      |
|                                 | hange | 2007   | in     | orresp |
|                                 | in FY | Ec     |        | onding |
|                                 | 2007  | onomic | FY     |        |
|                                 | Eco   | Value  | 2013   | FY     |
|                                 | nomic |        | C      | 2013   |
|                                 | Value |        | apital | C      |
|                                 |       |        | Ratio  | apital |
|                                 |       |        | (%)    | Ra     |
|                                 |       |        |        | tio^b^ |
|                                 |       |        |        | (%)    |
+---------------------------------+-------+--------+--------+--------+
| FY 2006 Economic Value          |       | 22,    |        |        |
| Presented in the FY 2006 Review |       | 021^a^ |        |        |
+---------------------------------+-------+--------+--------+--------+
| FY 2007 Economic Value          | \$    | 23,046 |        |        |
| Presented in the FY 2006        | 1,025 |        |        |        |
| Review, Excluding the FY 2007   |       |        |        |        |
| Book of Business:               |       |        |        |        |
+---------------------------------+-------+--------+--------+--------+
| Plus: Forecasted Value of FY    | \$81  |        |        |        |
| 2007 Book of Business Presented |       |        |        |        |
| in the FY 2006 Review           |       |        |        |        |
+---------------------------------+-------+--------+--------+--------+
| Equals: FY 2007 Economic Value  |       | **\$23 |        | **6    |
| Presented in the FY 2006        |       | ,127** |        | .73%** |
| Actuarial Review                |       |        |        |        |
+---------------------------------+-------+--------+--------+--------+
| Plus: a. Update Actual          | \-    | \$     | \-     | 6.72%  |
| Origination Volume in the FY    | \$1   | 23,126 | 0.01%  |        |
| 2006                            |       |        |        |        |
+---------------------------------+-------+--------+--------+--------+
| Plus: b. Updated Estimate of    | \$505 | \$     | 0.15%  | 6.87%  |
| Special Loss Reserve for        |       | 23,631 |        |        |
| Damages from 2005 Hurricanes    |       |        |        |        |
+---------------------------------+-------+--------+--------+--------+
| Plus: c. Update Actual          | \$156 | \$     | 0.04%  | 6.91%  |
| Termination Rates and Net       |       | 23,787 |        |        |
| Income during FY 2006           |       |        |        |        |
+---------------------------------+-------+--------+--------+--------+
| Plus: d. Switch to the FY 2007  | \$472 | \$     | 0.35%  | 7.26%  |
| Econometric Model               |       | 24,259 |        |        |
+---------------------------------+-------+--------+--------+--------+
| Plus: e. Update to Global       | \-    | \$     | \-     | 6.41%  |
| Insights August 2007 Economic   | \$    | 21,087 | 0.85%  |        |
| Forecasts                       | 3,172 |        |        |        |
+---------------------------------+-------+--------+--------+--------+
| Plus: f. Update Demand          | \$145 | \$     | 0.63%  | 7.04%  |
| Forecasts and Composition of    |       | 21,232 |        |        |
| Future Books                    |       |        |        |        |
+---------------------------------+-------+--------+--------+--------+
| Plus: g. Change in Loss         | \$45  | \$     | -0.03% | 7.01%  |
| Severity Assumptions            |       | 21,277 |        |        |
+---------------------------------+-------+--------+--------+--------+
| Equals: Estimate of FY 2007     | \$-   | \$     | 0.28%  | 7.01%  |
| Economic Value                  | 1,850 | 21,277 |        |        |
+---------------------------------+-------+--------+--------+--------+

^a^ Economic value as of the end of FY 2006.

^b^ The 2013 capital ratios are presented so they can be directly
compared with those projected in the FY 2006 Review

*Additional Comments*

The estimates presented here reflect projections of events more than 30
years into the future. These projections are dependent upon a number of
assumptions, including economic forecasts by Global Insight, Inc. and
FHA, future demand forecast by HUD, and the assumption that FHA does not
change its policies regarding refunds, premiums, distributive shares,
administrative expense accounting method, and underwriting rules. To the
extent that these or other assumptions are subject to change, the actual
results will vary, perhaps significantly, from our current projections.

Estimation of the equations used for predicting prepayments and claims
requires large amounts of loan-level data, requiring extensive data
processing prior to estimation. In order to complete the Review within
the timeframe required by HUD, we continued to adopt the convention of
using partial-year data for FY 2007. As part of this approach, we
obtained a data extract from FHA that represented activities entered
into the database by March 31, 2007. This data extract contained
loan-level information on both the new endorsement characteristics and
terminations due to prepayments, claims or other reasons. The
endorsement information is further updated by two additional data
extracts by May 31, 2007 and July 31, 2007. Although we have not audited
this data source for accuracy, we have reviewed the data supplied by FHA
for integrity and consistency and believe it to be reasonable.
Additionally, the information contained in this report may not
correspond exactly with other published analyses that rely on FHA data
compiled at a different time or obtained from other systems.

**C. Impact of Economic Forecasts**

The economic value of the Fund and its pattern of capital accumulation
to FY 2014 depend on many factors. One of the most important factors is
the nation's future economy during the remaining lifetime of FHA's books
of business. We captured the most significant factors in the U.S.
economy affecting the performance of the loans insured by the MMI Fund
through the use of the following variables in our models:

-   30-year home mortgage commitment rates

-   Ten-year Treasury rate

-   One-year Treasury rate

-   Average growth rate of national house prices

-   Dispersion of individual house price appreciation rates from the
    national average rate

The projected performance of FHA's books of business, measured by their
economic value, is affected by changes in these economic variables. The
base-case results in this report are based on Global Insight, Inc.
forecasts as of August 2007 for interest rates and national average
house price indices. In addition, we applied house price growth rate
dispersion estimates published by OFHEO, and additional dispersion
parameters estimated to translate the average national-level house price
growth rate to an individual loan level.

We considered four alternative scenarios to assess the strength of the
MMI Fund to withstand difficult market conditions: (1) extended housing
recession for three consecutive years, (2) extended housing recession
combined with high interest rates for three consecutive years,
(3) higher loss severity rates for insurance claim cases, and (4) the
continued high concentration of loans receiving downpayment assistance
from non-profit organizations. These four scenarios do not represent the
full range of possible experiences, but they each represent a
significant variation from the base case. They hence provide insights
into the capability of the MMI Fund to withstand difficult economic
environments. The results of these sensitivity analyses on the Fund's
performance are presented in Exhibit ES-3.

Compared to the base case, the estimated FY 2007 economic values under
one or another of the alternative scenarios could further decrease by
\$2.177 billion, the estimated FY 2007 capital ratio could decrease by
0.65 percentage points to 5.75 percent, and the FY 2014 capital ratio
could be reduced to 5.31 percent. These alternative scenario analyses
suggest that the MMI Fund would continue to meet the NAHA-mandated 2
percent capital ratio through FY 2014 even under these reasonably
stressful economic environments.

Exhibit ES-3

+-------------+---------+----------+------------+---------+-----------+
| **Projected |         |          |            |         |           |
| MMI Fund\'s |         |          |            |         |           |
| Capital     |         |          |            |         |           |
| Ratio Under |         |          |            |         |           |
| Alternative |         |          |            |         |           |
| Economic    |         |          |            |         |           |
| Scenarios** |         |          |            |         |           |
+-------------+---------+----------+------------+---------+-----------+
| **Fiscal    | **Base  | **Low    | **Low      | **High  | **High    |
| Year**      | Case**  | House    | House      | Loss    | Conce     |
|             |         | Price    | Price      | Rate**  | ntra-tion |
|             |         | Growth** | Growth &   |         | of Gift   |
|             |         |          | High       |         | Loans**   |
|             |         |          | Interest   |         |           |
|             |         |          | Rates**    |         |           |
+-------------+---------+----------+------------+---------+-----------+
| FY 2007     | \       | \$19,100 | \$19,829   | \       | \$21,277  |
| Economic    | $21,277 |          |            | $19,860 |           |
| Value       |         |          |            |         |           |
|             |         |          |            |         |           |
| (in \$      |         |          |            |         |           |
| Million)    |         |          |            |         |           |
+-------------+---------+----------+------------+---------+-----------+
| FY 2007     | 6.40%   | 5.75%    | 5.97%      | 5.98%   | 6.40%     |
| Capital     |         |          |            |         |           |
| Ratio       |         |          |            |         |           |
+-------------+---------+----------+------------+---------+-----------+
| FY 2014     | 7.25%   | 5.89%    | 5.31%      | 6.53%   | 6.28%     |
| Capital     |         |          |            |         |           |
| Ratio       |         |          |            |         |           |
+-------------+---------+----------+------------+---------+-----------+

**D. Implications of Recent Problems in the Subprime Mortgage Market**

The recent turmoil in the U.S. subprime mortgage markets and the
deteriorating performance of many subprime mortgage loans naturally
leads to questions about the potential implications for FHA loan
performance and the financial safety and soundness of the MMIF. Although
FHA loan performance has responded to the changes in the economic
environment that are currently affecting subprime loan performance, many
of the problems in the subprime market are attributable to the special
characteristics of subprime mortgage contracts, differences in
underwriting standards for subprime mortgages, a prevalence of
higher-risk borrowers with impaired credit, and borrowers less willing
or able to verify their income and employment that qualified for
mortgage in the subprime market, but would not qualify for FHA-insured
mortgages.

Data show that FHA's recent books of business have never included the
types of mortgages that have been popular in the subprime market. FHA's
concentrations in high loan-to-value ratio loans, in adjustable rate
loans, in streamline refinance loans, and in states with high subprime
activities all declined rapidly during the past few years, which suggest
an *improved* initial credit quality for the FY 2006 and FY 2007 books
of business relative to previous books. Perhaps more importantly, we did
not observe modifications to FHA's underwriting standards or product
designs during the past five years, while the private mortgage market --
the subprime market in particular -- made dramatic changes, relaxing
underwriting rules and embracing new product designs that are
particularly vulnerable to economic fluctuations. As a result, although
FHA may have lost substantial market share during these years,
maintaining consistent underwriting and loan product policies has helped
sustain the credit quality of FHA mortgages and the soundness of the MMI
Fund.

Shortly before the release of this Actuarial Review, there were three
important policy announcements that are related to the MMI Fund: the
introduction of the "FHASecure" plan to help qualified subprime mortgage
borrowers, the House of Representatives passing the proposed "FHA
Modernization" legislation, and FHA's ruling prohibiting endorsement of
loans receiving gifts that are directly or indirectly contributed by the
sellers. Due to time limitations, the potential impacts of these
initiatives were not incorporated in the analyses of this Review.  As
the HUD announcements and the pending legislation could have significant
impacts on the financial strength of the MMI Fund, it is important to
monitor the volume, composition, and performance of the next few new
books of business to see how these changes may affect the actuarial
soundness of MMI programs in the future.