**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 the results
of our analysis for fiscal year (FY) 2008.

The primary purpose of our review is to estimate

-   the *economic value* of the MMI Fund, defined as the sum of existing
    capital resources 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);

and compare the projected capital ratio with the 2 percent minimum level
mandated by NAHA.

Our results indicate that despite the current severe housing market
decline, the capital ratio is and will remain above 2 percent in future
years under our base-case scenario. We also conclude that the capital
ratio could drop below 2 percent in future years under more-pessimistic
economic scenarios than those represented by our base-case assumptions.

**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 or exceed 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 2008 capital ratio decreased to 3 percent from
last year's 6.4 percent. We have also projected a FY 2015 capital ratio
of 2.9 percent.

Exhibit ES-1 provides our estimates of the Fund's current and future
economic values and capital ratios. The economic value of the Fund is
expected to increase each year. However, total IIF is projected to
increase at an even faster rate. The capital ratio decreases whenever
the rate of increase in total IIF exceeds the rate of increase in
economic value, which is projected to occur during FY 2008 to FY 2013.

#### Exhibit ES-1

+---------+---------+---------+---------+---------+---------+---------+
| **Pr    |         |         |         |         |         |         |
| ojected |         |         |         |         |         |         |
| MMI     |         |         |         |         |         |         |
| Fund    |         |         |         |         |         |         |
| Perf    |         |         |         |         |         |         |
| ormance |         |         |         |         |         |         |
| for FYs |         |         |         |         |         |         |
| 2008 to |         |         |         |         |         |         |
| 2015**  |         |         |         |         |         |         |
|         |         |         |         |         |         |         |
| **(\$   |         |         |         |         |         |         |
| 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** |         |
+---------+---------+---------+---------+---------+---------+---------+
| 2008    | 12,908  | 3.00    | 154,240 | 429,634 | -3,643  |         |
+---------+---------+---------+---------+---------+---------+---------+
| 2009    | 15,823  | 2.52    | 280,404 | 626,968 | 2,384   | 532     |
+---------+---------+---------+---------+---------+---------+---------+
| 2010    | 20,491  | 2.30    | 331,092 | 891,329 | 3,999   | 669     |
+---------+---------+---------+---------+---------+---------+---------+
| 2011    | 26,597  | 2.28    | 357,002 | 1,      | 5,192   | 914     |
|         |         |         |         | 165,450 |         |         |
+---------+---------+---------+---------+---------+---------+---------+
| 2012    | 33,807  | 2.39    | 364,405 | 1,      | 5,957   | 1,254   |
|         |         |         |         | 416,798 |         |         |
+---------+---------+---------+---------+---------+---------+---------+
| 2013    | 41,179  | 2.53    | 359,606 | 1,      | 5,710   | 1,662   |
|         |         |         |         | 626,564 |         |         |
+---------+---------+---------+---------+---------+---------+---------+
| 2014    | 49,030  | 2.71    | 364,344 | 1,      | 5,810   | 2,041   |
|         |         |         |         | 809,316 |         |         |
+---------+---------+---------+---------+---------+---------+---------+
| 2015    | 57,512  | 2.90    | 382,138 | 1,      | 6,055   | 2,427   |
|         |         |         |         | 981,451 |         |         |
+---------+---------+---------+---------+---------+---------+---------+

^a^ All values are as of the end of each fiscal year. The economic value
for future years (FYs 2009 through 2015) 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 2008 projection.

^c^ Estimated based on the MMI Fund data extract as of June 30, 2008.

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\" -- which is
generally understood to describe amortized IIF. Following the convention
of previous Actuarial Reviews, we continue to use the unamortized IIF in
calculating the capital ratio. It is also instructive to consider the
capital ratio based on amortized IIF, which the Government
Accountability Office has applied in its previous reports on the status
of the Fund during the 1990s. The estimated capital ratio using
amortized IIF is 3.22 percent for FY 2008 and 3.06 percent for FY 2015.
Unless stated otherwise, all capital ratios mentioned elsewhere in this
report refer to the ratio computed using unamortized IIF as required by
NAHA.

We also projected the performance of the Fund under multiple alternative
future economic scenarios. For the first time since we began preparing
the Actuarial Reviews in 2004, we found that the alternative adverse
economic scenarios consistently produced capital ratios less than
2 percent at some point over the future forecast period. This is due
mainly to the near-term house price forecast in the base case, which
already pushes the capital ratio close to 2 percent in the base case. We
conclude, therefore, that the 2 percent threshold is barely maintained.
Furthermore, if the future experience is less favorable than in the
base-case scenario, the capital ratio could fall below the 2 percent
level

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

*Change in Economic Value from FY 2007 to FY 2008*

We estimated that the economic value of the MMI Fund was \$12.908
billion as of the end of FY 2008, which represents a decrease of \$8.369
billion over the economic value of \$21.277 billion as of the end of
FY 2007 reported in the previous year's Actuarial Review. The 39.34
percent decrease in the estimated economic value of the MMI Fund,
together with a 29.29 percent increase in unamortized IIF, resulted in a
decrease in the capital ratio of 3.40 percentage points from 6.40
percent to 3.00 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 2008 Economic Value Compared with the Estimate
Presented in the FY 2007 Actuarial Review*

Our current estimate of the FY 2008 economic value is \$9.840 billion
lower than the economic value projected for FY 2008 in the FY 2007
Actuarial Review. Our current estimate of the FY 2014 capital ratio is
4.54 percentage points lower than estimated in the FY 2007 Actuarial
Review. These differences are attributed to the following changes:

-   updating the actual origination volume of the FY 2007 book of
    business,

-   updating the actual capital resources as of the end of FY 2007,

-   updated external economic forecasts,

-   modifications to the econometric loan performance models,

-   projected composition of new books of business,

-   updated FHA demand volume assumptions,

-   incorporation of FHA's risk-based pricing schedule, and

-   updated loss severity assumptions.

Exhibit ES-2 lists the changes in the Fund's economic value between FY
2007 and FY 2008 and their long-term effects on the capital ratio in FY
2014.

# Exhibit ES-2

+---------------------------------+--------+--------+--------+---------+
| **Summary of Changes in MMI     |        |        |        |         |
| Fund Estimated Economic Value   |        |        |        |         |
| Between FY 2007 and FY 2008**   |        |        |        |         |
|                                 |        |        |        |         |
| **(\$ Millions)**               |        |        |        |         |
+---------------------------------+--------+--------+--------+---------+
|                                 | Change | FY     | Change | Corres  |
|                                 | in FY  | 2008   | in     | ponding |
|                                 | 2008   | Ec     |        |         |
|                                 | Ec     | onomic | FY     | FY 2014 |
|                                 | onomic | Value  | 2014   | Capital |
|                                 | Value  |        | C      | R       |
|                                 |        |        | apital | atio^b^ |
|                                 |        |        | Ratio  | (%)     |
|                                 |        |        | (%)    |         |
+---------------------------------+--------+--------+--------+---------+
| FY 2007 Economic Value          |        | 21,    |        |         |
| Presented in the FY 2007 Review |        | 277^a^ |        |         |
+---------------------------------+--------+--------+--------+---------+
| FY 2008 Economic Value          | \      | 22,359 |        |         |
| Presented in the FY 2007        | $1,082 |        |        |         |
| Review, Excluding the FY 2008   |        |        |        |         |
| Book of Business:               |        |        |        |         |
+---------------------------------+--------+--------+--------+---------+
| Plus: Forecasted Value of FY    | \$390  |        |        |         |
| 2008 Book of Business Presented |        |        |        |         |
| in the FY 2007 Review           |        |        |        |         |
+---------------------------------+--------+--------+--------+---------+
| Equals: FY 2008 Economic Value  |        | **\$22 |        | **      |
| Presented in the FY 2007        |        | ,748** |        | 7.25%** |
| Actuarial Review                |        |        |        |         |
+---------------------------------+--------+--------+--------+---------+
| Plus: a. Update Origination     | -\$44  | \$     | -0.01% | 7.24%   |
| Volume in the FY 2007           |        | 22,704 |        |         |
+---------------------------------+--------+--------+--------+---------+
| Plus: b. Update Actual Capital  | -\$484 | \$     | -0.12% | 7.12%   |
| Resources as of the End of FY   |        | 22,220 |        |         |
| 2007                            |        |        |        |         |
+---------------------------------+--------+--------+--------+---------+
| Plus: c. Update to Global       | -\     | \$     | -0.99% | 6.13%   |
| Insights July 2008 Economic     | $4,608 | 17,162 |        |         |
| Forecasts                       |        |        |        |         |
+---------------------------------+--------+--------+--------+---------+
| Plus: d. Switch to the FY 2008  | -\$582 | \$     | -0.90% | 5.23%   |
| Econometric Model               |        | 16,580 |        |         |
+---------------------------------+--------+--------+--------+---------+
| Plus: e. Update Forecast of     | \$659  | \$     | 0.70%  | 5.93%   |
| Future Book Compositions        |        | 17,239 |        |         |
+---------------------------------+--------+--------+--------+---------+
| Plus: f. Update Demand Volume   | -\     | \$     | -2.87% | 3.06%   |
| Forecasts                       | $2,130 | 15,109 |        |         |
+---------------------------------+--------+--------+--------+---------+
| Plus: g. Incorporate FHA's      | \$0    | \$     | 0.12%  | 3.18%   |
| Risk-Base Pricing Schedule      |        | 15,109 |        |         |
+---------------------------------+--------+--------+--------+---------+
| Plus: h. Change in Loss         | -\     | \$     | -0.28% | 2.90%   |
| Severity Assumptions            | $2,201 | 12,908 |        |         |
+---------------------------------+--------+--------+--------+---------+
| Equals: Estimate of FY 2008     | -\     | \$     | -4.35% | 2.90%   |
| Economic Value                  | $9,840 | 12,908 |        |         |
+---------------------------------+--------+--------+--------+---------+

^a^ Economic value as the end of FY 2007.

^b^ The 2014 capital ratios are presented so they can be directly
compared with those projected in the FY 2007 Review.

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

-   The actual origination volume in FY 2007 is slightly higher than the
    level forecasted in the FY 2007 Review and reduced the FY 2008
    economic value by \$44 million.

-   Capital resources as of the end of FY 2007 were estimated in last
    year's Review. The actual number is now available from the FY 2007
    audited financial statements. The difference decreases the FY 2008
    economic value by \$484 million.

-   The national house price growth rate declined significantly during
    FY 2007 and into FY 2008, and the updated Global Insight, Inc.
    economic forecast for FY 2008 is now much more pessimistic than it
    forecasted a year ago. The forecasted lower house price appreciation
    rate caused the FY 2008 economic value to drop by \$4,608 million.
    This is the single most significant impact on the FY 2008 economic
    value.

-   Enhancements to the econometric models reduced the FY 2008 economic
    value by \$582 million. The primary enhancement was improved
    accuracy in estimating the impact of borrower credit scores on
    conditional claim and prepayment rates. Additional model
    enhancements included: (1) utilizing data on relative house prices
    in lieu of relative loan sizes to better capture the position of FHA
    loans in the market and to account for the effects of policy changes
    that allowed the movement of FHA into the jumbo loan market during
    FY 2008; and (2) improved modeling of the performance of
    fully-underwritten purchase and refinance loans.

-   Revised projections of the composition of the FY 2008 book of
    business and later books increased the FY 2008 economic value by
    \$659 million. This reflects the impact of policy changes in minimum
    downpayment requirements, minimum credit scores for loans with high
    loan-to-value ratios, and elimination of loans receiving
    seller-funded downpayment assistance.

-   The origination volumes of the FY 2008 and future books of business
    forecasts by HUD are substantially higher this year. Due to the
    severely negative economic value of the FY 2008 book, the updated
    estimate of the higher origination volume decreased the FY 2008
    economic value by \$2,130 million. This change has the largest
    impact on future capital ratios, reducing the FY 2014 capital ratio
    by 2.87 percentage points.

-   FHA announced that it will set mortgage insurance premiums based on
    the risk of individual insurance contracts. The FHA Modernization
    Act of 2008, included in the Housing and Economic Recovery Act
    (HERA) of 2008, placed a one-year moratorium on the implementation
    of risk-based pricing beginning October 1, 2008. As a result, we
    assume that the risk-based premium will start on October 1, 2009.
    Since this policy change does not affect loans endorsed prior to
    FY 2010, it has no impact on the FY 2008 economic value.

-   The refinement of the loss severity rate assumptions decreased the
    FY 2008 economic value by \$2,201 million. FHA loss severity rates
    have risen over the past three years and are likely to remain high
    as the house price growth rates are expected to decline in the
    future. The updated loss rates are higher than those applied in the
    FY 2007 Review. Generally, loans with longer claim-to-disposition
    lags tend to have larger loss rates. This is due to the higher cost
    of carrying the real estate owned (REO) and greater physical
    deterioration. Furthermore, during the past year, with the weak
    housing market, REO properties experienced a further decline in
    market value, thus contributing to a higher loss severity rate.

In sum, the housing market forecast has the most severe impact to the FY
2008 economic value and the large projected endorsement volume of future
books is the most significant factor in the reduction in the capital
ratio for FY 2014.

# 

*Additional Comments*

The estimates presented in this Review 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., future demand forecasts by HUD, and the assumption that FHA does
not change its policies regarding refunds, premiums, distributive
shares, underwriting rules, and the exclusion of administrative expenses
from actuarial calculations. 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 2008. For this year's Review, we received
a data extract from HUD that represented activities entered into the
database by March 31, 2008. 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
was further updated by two additional data extracts as of July 31, 2008.
Although we have not audited the data for accuracy, we have reviewed the
data provided by HUD 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 HUD
data compiled at different times or obtained from other systems.

**C. Impact of Economic Forecasts**

The economic value of the Fund and its pattern of capital accumulation
to FY 2015 depend on many factors. One of the most important factors is
the nation's future economic condition 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 for interest rates and the national average house price
appreciation rates as of July 2008. In addition, we applied house price
growth rate dispersion estimates published by OFHEO, and additional
dispersion parameters estimated to account for the variation of
individual house price appreciation rates around the average
national-level house price growth rate. The actuarial estimates are
based on the Global Insight, Inc. projection that FY 2009 will suffer
over a 9 percent decline in national house prices. This creates
significant losses for the FY 2008 and FY 2009 books.

We considered five alternative scenarios to assess the strength of the
MMI Fund in withstanding difficult market conditions. The first four
scenarios assume the following additional adverse impacts over the
base-case economic projections: (1) extend the housing recession for one
more year, (2) higher interest rates for three consecutive years,
(3) higher loss severity rates on insurance claims, (4) the continued
endorsement of loans receiving downpayment assistance from non-profit
organizations. A fifth, less pessimistic, economic scenario applies a
house price decline during FY 2009 that is about half that assumed under
the base-case scenario. These five scenarios do not represent the full
range of possible experience, but they each represent a significant
variant from the base case. They demonstrate the sensitivity of the
analysis results to reasonably stressful variations in economic
conditions, and hence provide insight into the capability of the MMI
Fund to withstand even more difficult economic environments. The results
of these sensitivity analyses on the Fund's performance are presented in
Exhibit ES-3.

Exhibit ES-3

  ------------- ---------- ---------- ---------- ---------- ------------- -------------
  **Projected                                                             
  MMI Fund\'s                                                             
  Capital Ratio                                                           
  Under                                                                   
  Alternative                                                             
  Economic                                                                
  Scenarios**                                                             

  **Fiscal      **Base     **Lower    **Higher   **Higher   **Continued   **Less
  Year**        Case**     House      Interest   Loss       Endorsement   Pessimistic
                           Price      Rates**    Rate**     of Down       Economic
                           Growth**                         Payment       Scenario**
                                                            Assistance    
                                                            Loans**       

  FY 2008       \$12,908   \$9,775    \$17,596   \$8,448    \$12,908      \$15,588
  Economic                                                                
  Value                                                                   
  (\$million)                                                             

  FY 2008       3.00%      2.28%      4.10%      1.97%      3.00%         3.64%
  Capital Ratio                                                           

  FY 2015       2.90%      2.45%      1.89%      1.83%      2.11%         3.10%
  Capital Ratio                                                           
  ------------- ---------- ---------- ---------- ---------- ------------- -------------

Compared to the base case, the estimated FY 2008 economic values under
the most severe alternative scenarios could drop by over \$4 billion,
and the estimated FY 2008 capital ratio could decrease by as much as
1.03 percentage points to 1.97 percent. In addition, the FY 2015 capital
ratio could fall to 1.83 percent. Under the two most pessimistic
alternative scenarios, the MMI Fund fails to meet the NAHA-mandated 2
percent capital ratio in FY 2015. Exhibit V-7 in Section V of this
report gives the projected capital ratios for FY 2008 and for each of
the next seven years. Under the four adverse scenarios, there are 23
instances out of a total of 32 annual results where the capital ratio
falls below 2 percent. In other words, if the future experience turns
out to be worse than the base-case assumptions, it is possible that the
capital ratio may fall below 2 percent.

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

The recent developments in the U.S. subprime and Alt-A mortgage markets
have had serious consequences for financial markets in the U.S. and
across the world. 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.
Many of the subprime mortgages were securitized and these securities
sold to investors in the U.S. and across the world. As long as house
prices continued to increase, this system worked. But when house prices
began to decline and defaults on these mortgages started to increase,
this translated into a very negative impact on the prices of these
mortgage-backed securities. The fall in the prices of these securities
had a strong negative impact on other financial markets and on credit
conditions in general. The deterioration of the housing price market
triggered a severe downturn in other financial markets whose full
implications are yet to be seen.

Although the financing of subprime loans has been substantially
discontinued, the consequences of this activity continue to have
far-reaching and profound consequences for credit markets, mortgage
markets and housing finance. Many lenders and mortgage providers have
experienced financial difficulties and have scaled down their lending
activities. Private mortgage insurers have experienced severe losses on
their subprime and Alt-A businesses and have had their credit ratings
reduced. Fannie Mae and Freddie Mac have both realized substantial
financial losses and are presently subject to management and
reorganization by the Federal government to help stabilize the housing
market. The market for conventional mortgages has tightened
considerably. Under these conditions, the volume of FHA business has and
is projected to increase, and this Review reflects an FY 2008 volume
about three times higher than applied in last year\'s Review. House
prices have declined and are projected to continue to decline over the
next two years, having significant negative impacts for the FY 2006 to
FY 2008 books.

Although FHA did not participate directly in the subprime or the Alt-A
markets, the consequences of the collapse of these markets has had a
profound impact on the important determinants of FHA's risk exposure.
These impacts are incorporated in the assumptions used in this Review,
especially in the assumptions concerning the volume and composition of
new business and the projection of future house price changes.

[]{.mark}