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80–775 PDF 2013

S. HRG. 113–15 

OVERSIGHT OF FEDERAL HOUSING FINANCE 

AGENCY: EVALUATING FHFA AS REGULATOR 

AND CONSERVATOR 

HEARING 

BEFORE THE

COMMITTEE ON 

BANKING, HOUSING, AND URBAN AFFAIRS 

UNITED STATES SENATE 

ONE HUNDRED THIRTEENTH CONGRESS 

FIRST SESSION 

ON 

EXAMINING THE OPERATIONS AND REGULATORY PRACTICES AT THE 

FEDERAL HOUSING FINANCE AGENCY 

APRIL 18, 2013 

Printed for the use of the Committee on Banking, Housing, and Urban Affairs 

( 

Available at: http://www.fdsys.gov/ 

COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS 

TIM JOHNSON, South Dakota, Chairman 

JACK REED, Rhode Island 

CHARLES E. SCHUMER, New York 

ROBERT MENENDEZ, New Jersey 

SHERROD BROWN, Ohio 

JON TESTER, Montana 

MARK R. WARNER, Virginia 

JEFF MERKLEY, Oregon 

KAY HAGAN, North Carolina 

JOE MANCHIN III, West Virginia 

ELIZABETH WARREN, Massachusetts 

HEIDI HEITKAMP, North Dakota 

MIKE CRAPO, Idaho 

RICHARD C. SHELBY, Alabama 

BOB CORKER, Tennessee 

DAVID VITTER, Louisiana 

MIKE JOHANNS, Nebraska 

PATRICK J. TOOMEY, Pennsylvania 

MARK KIRK, Illinois 

JERRY MORAN, Kansas 

TOM COBURN, Oklahoma 

DEAN HELLER, Nevada 

CHARLES YI, Staff Director 

GREGG RICHARD, Republican Staff Director 

LAURA SWANSON, Deputy Staff Director 

ERIN BARRY FUHRER, Professional Staff Member 

WILLIAM FIELDS, Legislative Assistant 

GREG DEAN, Republican Chief Counsel 

MIKE PIWOWAR, Republican Senior Economist 

CHAD DAVIS, Republican Professional Staff Member 

DAWN RATLIFF, Chief Clerk 

KELLY WISMER, Hearing Clerk 

SHELVIN SIMMONS, IT Director 

JIM CROWELL, Editor 

(II)

C O N T E N T S 

THURSDAY, APRIL 18, 2013 

Page 

Opening statement of Chairman Johnson ............................................................. 1 

Opening statements, comments, or prepared statements of: 

Senator Crapo ................................................................................................... 2 

Senator Shelby .................................................................................................. 4 

Prepared statement ................................................................................... 28 

Senator Vitter ................................................................................................... 4 

Senator Tester .................................................................................................. 4 

WITNESSES 

Edward J. DeMarco, Acting Director, Federal Housing Finance Agency ........... 5 

Prepared statement .......................................................................................... 28 

Responses to written questions of: 

Senator Crapo ............................................................................................ 47 

Senator Reed .............................................................................................. 48 

Senator Menendez ..................................................................................... 50 

Senator Hagan ........................................................................................... 57 

Senator Shelby ........................................................................................... 58 

Senator Vitter ............................................................................................ 59 

Steve A. Linick, Inspector General, Federal Housing Finance Agency ............... 22 

Prepared statement .......................................................................................... 39 

Responses to written questions of: 

Senator Reed .............................................................................................. 60 

Senator Menendez ..................................................................................... 61 

(III)

(1) 

OVERSIGHT OF FEDERAL HOUSING FINANCE 

AGENCY: EVALUATING FHFA AS REGULATOR AND CONSERVATOR 

THURSDAY, APRIL 18, 2013 

U.S. SENATE, 

COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS, 

Washington, DC. 

The Committee met at 10:02 a.m., in room SD–538, Dirksen Senate Office Building, Hon. Tim Johnson, Chairman of the Committee, presiding. 

OPENING STATEMENT OF CHAIRMAN TIM JOHNSON 

Chairman JOHNSON. I call this hearing to order. 

Before we turn to the hearing, I would like to express my condolences to the people of Boston and to Senator Warren. Our 

thoughts and prayers are with you all. 

As Members of this Committee on both sides of the aisle noted 

during the debate of the Housing and Economic Recovery Act of 

2008, one of the most important aspects of this bill was the establishment of the Federal Housing Finance Agency as an independent regulator. This ensures that it can operate without undue 

political interference and that the appropriations process cannot be 

used as a road block for regulations. 

With this independence, the Banking Committee must exercise 

Congressional oversight to ensure that the agency is properly balancing its attention among the entities it regulates and its role as 

conservator of Fannie Mae and Freddie Mac. HERA also established the FHFA Office of Inspector General, and I am pleased that 

we have both Acting Director DeMarco and Inspector General 

Linick before the Committee today. 

As we turn again to housing finance reform, let me be clear that 

a never-ending conservatorship of Fannie Mae and Freddie Mac is 

not an option. To help remove obstacles to housing financing reform, Senator Crapo and I, along with every Member of this Committee, offered an amendment that was unanimously adopted by 

the Senate to the budget resolution to prevent the GSEs from being 

used as a piggy bank. I will continue working with Ranking Member Crapo to find a bipartisan path forward on sensible long-term 

reforms. So, it is important we understand the current status of the 

conservatorships and how FHFA’s proposed changes will expand or 

limit our options for reforming the housing finance system. 

The FHFA has a large and important role in the housing market, 

regulating two of the largest entities in the market, Fannie Mae 

2 

and Freddie Mac, as well as acting as their conservator to oversee 

business and management decisions to ensure stability in the housing market. I am concerned about continued reports that FHFA 

does not have adequate staff to perform examinations of the entities under its supervision and follow up on enforcement directives. 

Under Mr. DeMarco’s leadership, the FHFA has made significant 

changes to the operations of the GSEs by standardizing some of 

their operations and now seeking to streamline their securitization 

platforms. I look forward to hearing more about this proposal and 

other priorities described in the Conservatorship Strategic Plan as 

well as how the current enforcement challenges raised by the IG 

are being addressed. If the FHFA is going to undertake such a 

massive effort as streamlining the securitization platforms of the 

GSEs, we should be sure that it will also be able to supervise the 

new platform once it is operating. 

I look forward to hearing from our witnesses on these issues, and 

with that, I will turn to Ranking Member Crapo. 

STATEMENT OF SENATOR MIKE CRAPO 

Senator CRAPO. Thank you, Mr. Chairman. 

This September will mark the 5-year anniversary of the Federal 

Housing Finance Agency taking Fannie Mae and Freddie Mac into 

conservatorship, and Mr. Chairman, I again appreciate working 

with you on this and particularly appreciate your comments just 

now that leaving Fannie Mae and Freddie Mac in conservatorship 

is not an option. 

As I noted in a previous hearing, when FHFA Director James 

Lockhart and Treasury Secretary Henry Paulson announced this 

action, Secretary Paulson described the situation as a time out and 

stated, ‘‘We will make a grave error if we do not use this time out 

to permanently address the structural issues presented by the 

GSEs.’’ In the weeks to come, I will describe my views on long-term 

reform. I look forward to engaging in that timely and necessary debate. 

Instead of a time out, these conservatorships have been more 

akin to a perpetual state of limbo, which has no doubt created extraordinary challenges for their management. 

Director DeMarco, you are to be commended for your performance in the extraordinarily difficult and complex role that you were 

given by President Obama nearly 4 years ago. Your success in leading FHFA to preserve the assets of Fannie Mae and Freddie Mac 

has put us into a position to begin making the hard decisions of 

what to do with these entities. You have developed a knowledge 

and expertise that is shared by very few people, having been involved in the conservatorships of these highly complex institutions 

from the very beginning. You have further proven yourself to be a 

technical policy expert rather than a political advocate. And for all 

of these reasons, I can think of no one more qualified and better 

situated than you to manage these conservatorships and assist the 

Congress in making the hard decisions that lie ahead of us. 

Unfortunately, as we approach the 5-year mark of these 

conservatorships, they are beginning to report profits. I say unfortunately, not that they are beginning to report profits. That is 

good. But I fear that we may be in the midst of a closing window 

3 

to make those decisions and enact a meaningful housing reform. 

Because of that, I thank you for your continued service during this 

pivotal moment, despite the many challenges that you continue to 

face. 

Returning to the issue at hand for this hearing, there are a few 

areas that I would like to highlight for our continued oversight. 

The Annual Scorecard released by the FHFA indicates a focus on 

the creation of a single securitization platform, as the Chairman 

has mentioned. I look forward to hearing more details about this 

undertaking. Specifically, how does this platform fit with future entities in a financial world post-reform of our housing finance system? 

The Scorecard also created a goal for the continued shrinking of 

the current footprint within the market for Fannie and Freddie. As 

I noted in a previous hearing, the FHFA’s latest Conservator’s Report showed that the Federal Government, through Fannie and 

Freddie and Ginnie Mae, accounted for an astounding 100 percent 

of the mortgage-backed securities issued during the first three 

quarters of last year. Obviously, this is extremely troubling. So I 

am interested to hear more details about how FHFA plans to address the domination of our mortgage market by the Federal Government. 

The recent profits reported by Fannie and Freddie also present 

new questions. For example, do the profits help with challenges 

such as personnel recruitment and retention, or do they present 

new challenges given that the companies will remain in conservatorship no matter how they perform absent Congressional action? 

I look forward to learning the answers to these and other questions during this hearing. However, I must reiterate that the most 

pressing question in this space is how will we reform our Nation’s 

housing finance system? The greatest aid that we can give both 

prospective and current homeowners is to provide clarity for market participants in regard to future mortgage finance, and for that 

reason, I am hopeful that the Administration will engage with us 

on this important topic in the coming months to shed further light 

on their positions moving forward. 

Mr. Chairman, I believe our work together during the recent 

budget process that you have mentioned showed that we have the 

ability to find common ground. Every one of us on this Committee 

came together and agreed that we needed to end the practice of 

using the GSEs as piggy banks to fund other parts of the Federal 

Government. In doing so, we were able to pass a budget point of 

order against it with unanimous support from this Committee. I 

am very glad that we are working together on these important 

issues and look forward to working with you and all of my colleagues on this Committee once again on a robust, bipartisan process to finally bring about an end to these conservatorships. 

Thank you, Mr. Chairman. 

Chairman JOHNSON. Thank you, Senator Crapo. 

Are there any other Members who wish to make a brief opening 

statement? 

Senator SHELBY. Mr. Chairman. 

Chairman JOHNSON. Senator Shelby. 

4 

STATEMENT OF SENATOR RICHARD C. SHELBY 

Senator SHELBY. Mr. Chairman, I would ask that my written 

statement be made part of the record in its entirety and I just have 

a few brief remarks. 

I think I would be remiss if I did not thank you, Mr. DeMarco, 

for your outstanding service. I applaud your work. You have been 

an extraordinary person in this job, despite what some people 

would say. You were given a tough job, a very tough job, during 

a critical time in our Nation’s housing market. But your commitment to protecting both taxpayers and homeowners, I believe, have 

served our Nation well, and I look forward to hearing from you 

today. Again, I thank you for your work. 

Mr. DEMARCO. Thank you, Senator. 

Chairman JOHNSON. Anybody else? 

Senator VITTER. Mr. Chairman. 

Chairman JOHNSON. Yes. 

STATEMENT OF SENATOR DAVID VITTER 

Senator VITTER. Very briefly, I just want to thank Director 

DeMarco, as well, for his work, and it has been very, very able in 

very tough times. 

And, Mr. Chairman, I want to echo your thoughts and thank you 

for the clear statement, which I think is a clear bipartisan consensus, that significant reform does have to happen to GSEs and 

now is really the time to focus on that. 

And in that regard, I would just encourage all of us, again, there 

is an obvious place to start, I think, and that is with the solid bipartisan Jumpstart GSE Reform Act, which has very broad support 

in this Committee. And I would like to continue to encourage a 

markup of that. It could be the same day as a markup of the 

Menendez-Boxer bill. They could be on the same agenda. I think 

that would work fine. And I think that would be an important 

jumpstart, as the name of the bill implies, to this effort. We have 

not had a markup in this Committee since September 8, 2011. That 

is over a year and a half ago. And I think this would be a very, 

very appropriate and timely and solid markup to get us on this 

path. 

Thank you, Mr. Chairman. 

Chairman JOHNSON. Thank you. 

Senator Tester. 

STATEMENT OF SENATOR JON TESTER 

Senator TESTER. Thank you, Mr. Chairman. 

I want to thank Mr. DeMarco, too. I appreciate your work. It has 

been stellar. 

I want to express my appreciation for you holding this hearing 

today. I think that there are a lot of good signs. Property values 

are rising. The Enterprises are making some money, turning some 

profits. These are all good signs. But I appreciate the statement 

made by both the Chairman and the Ranking Member. I believe 

now is the time to move forward with solutions to restructure the 

finance system, housing finance system, long-term, to provide stability for the long haul. And I would hope that—I would hope that, 

because I think it is so critically important for our economy—I 

5 

would hope that this becomes a top priority for this Committee to 

get this done, to get this out of conservatorship and get a program 

that is going to work for this country for the next generation. 

Thank you, Mr. Chairman. 

Chairman JOHNSON. Thank you. 

I want to remind my colleagues that the record will be open for 

the next 7 days for opening statements and any other materials 

you would like to submit. 

Now, I would like to introduce our first witness. Mr. Edward 

DeMarco is the Acting Director of the Federal Housing Finance 

Agency. Mr. DeMarco has served in this capacity since 2009. 

Mr. DeMarco, please begin your testimony. 

STATEMENT OF EDWARD J. DEMARCO, ACTING DIRECTOR, 

FEDERAL HOUSING FINANCE AGENCY 

Mr. DEMARCO. Thank you, Mr. Chairman. Chairman Johnson, 

Ranking Member Crapo, Committee Members, I am honored to be 

here and I am also grateful for the remarks in your opening statements. 

September 2008 was one of the darkest months in our country’s 

financial history. On September 7, FHFA placed Fannie Mae and 

Freddie Mac into conservatorship supported with financial agreements with the Treasury Department. Markets opened the next 

day and we held our breath to see how the employees, the country, 

and global investors would respond. Our first concern was ensuring 

ongoing liquidity in the mortgage market by ensuring Fannie and 

Freddie kept operating. They did, and the market kept functioning, 

but with a much-needed reassessment of risk. 

As the depth of the housing downturn fully materialized, it was 

imperative to expand foreclosure prevention actions. We needed to 

limit losses to Fannie and Freddie by addressing the daunting challenge of homeowners’ financial distress, compounded by declining 

house prices in a deep and prolonged recession. The Obama administration and FHFA and Fannie and Freddie worked to develop and 

implement what became known as HAMP. While HAMP brought 

some consistency to the loan modification process, we recognized 

that it was not going to help everyone in distress. 

Experimenting with other ideas led to the Servicing Alignment 

Initiative and the development of the Standard Modification Program, where we simplified and aligned the loan mod protocols for 

Fannie and Freddie, making eligibility easier, payments lower, and 

the process simpler than those governing HAMP. 

We kept working. Through a series of steps, we improved and 

lengthened forbearance programs for unemployed homeowners and 

others facing temporary setbacks. We simplified, expanded, and expedited short sales. We kept testing. We kept learning. Our focus 

was two-fold: Keep it simple and get the monthly payment down. 

The latest enhancement to our suite of programs, announced last 

month, adds a streamlined modification option that addresses the 

key remaining impediment, the challenges of the documentation 

process. 

Economic distress did not always mean default, but it did 

produce hardship for families and greater risk to taxpayers. We developed a refinance program called HARP to assist homeowners 

6 

with little or no equity who are unable to refinance. It was not perfect, so we talked with the industry, consumer groups, and Treasury, and we reinvented the program, dubbed HARP 2.0. Today, it 

is working so well and has so much potential to reduce losses and 

assist borrowers that I announced last week I was extending it for 

2 more years. 

Although we have not been able to help every homeowner, we 

have completed 1.3 million loan modifications and a total of 2.2 

million foreclosure prevention transactions that have allowed delinquent borrowers to stay in their homes. We have helped nearly 

half-a-million families exit their homes gracefully without foreclosure. That is a total of 2.7 million foreclosure prevention actions. 

We have also completed 2.3 million HARP refinances. Including 

HARP and all other re-fis, Fannie and Freddie have acquired 16 

million refinance loans since 2009. 

Along the way, we have been relentless in evaluating these programs, in reinventing them to fix design flaws. As you would expect for any complex operation of this scale, operational challenges 

abounded, servicers made mistakes, and borrowers did not always 

respond to offers of assistance. But when you add the foreclosure 

prevention actions we completed and the HARP refinances since 

conservatorship, that totals to some five million delinquent or atrisk families that have received help from these efforts. 

The companies themselves have also made great progress. The need to draw more than $180 billion from taxpayers tells me the 

GSE model is broken beyond repair. But the people of the two companies, many of whom joined after the conservatorships, have 

worked hard to restore the market and their companies. Today, as 

a result of their efforts and improvements in the housing market, 

both companies have generated positive net income, which as taxpayers we should all applaud. 

The first time I appeared before this Committee as Acting Director, Senator Corker asked me a question I could not answer. How 

do we transition away from this mess to a better system? Over the 

past 31⁄2 years, I have thought about that question. My prepared 

statement provides my answer. Our strategic plan for the Enterprise conservatorships and the specific plans in the 2013 Scorecard 

set forth a transition path and FHFA’s efforts to date to get that 

transition going. 

But we cannot complete the transition until we know the final 

destination, and for that, the country needs the Congress to set 

that destination. I am thankful for recent action by this Committee 

toward that end, particularly the budget resolution that prevents 

further use of guarantee fees to fund the Government, and I am 

supportive of the bipartisan Jumpstart GSE Reform Act. But much 

more remains to be done. 

Thank you for having me again and I look forward to our discussion this morning. 

Chairman JOHNSON. Thank you, Mr. DeMarco, for your testimony. 

As we begin questions, I will ask the Clerk to put 5 minutes on 

the clock for each Member. 

Mr. DeMarco, one of your strategic plan’s goals for 2013 includes 

developing risk transfer transactions that would share risk with 

7 

private capital, such as Private Mortgage Insurance. During the recent housing crisis, was PMI able to cover all claims associated 

with loans purchased by the GSEs? If a mortgage insurer were not 

able to cover all of a claim, how would this impact the GSEs? 

Mr. DEMARCO. Mr. Chairman, mortgage insurance did not 

cover—make good on all of the coverage that Fannie and Freddie 

thought they had, but they have made good on most of it. So when 

a mortgage insurance company fails to make good on an insurance 

claim, that loss, then, is accruing to Fannie and Freddie, which 

means it is accrued to the American taxpayer. 

There have been a couple of mortgage insurance companies that 

have failed and they are now in runoff or some other kind of management by their State Insurance Commissioner in which we are 

getting partial payment of claims made to us. The final resolution 

of those insurance claims and how much we actually recover, 

whether it is 100 percent or something less, only time will tell. But 

the majority of the mortgage insurance companies have actually remained solvent and operating and are continuing to make good on 

their claims, and that certainly has reduced loss to Fannie and 

Freddie as a result of having that private capital protection standing in front of them. 

Chairman JOHNSON. Since insurance is regulated at the State 

level, how do the GSEs and FHFA ensure that Private Mortgage 

Insurers are operating soundly, and would that oversight need to 

change if a mortgage insurer participates in the Risk Transfer 

Transaction Program? 

Mr. DEMARCO. So, even if we do not have mortgage insurers participating in risk transfer, the system and mechanisms you mentioned do have to change. We are changing them, and we put that 

in our 2013 Scorecard as one of our priorities for this year. We are 

reexamining and reestablishing eligibility standards for mortgage 

insurers to be eligible to provide that sort of first loss coverage for 

loans Fannie and Freddie purchase. So we are reestablishing those. 

We are also updating the master policy under which mortgage insurance companies provide this protection to Fannie and Freddie. 

So those changes or improvements in the marketplace are being developed right now and those changes will be out there shortly. 

With regard to your question about mortgage insurance being a 

participant in the sort of risk transfer transactions we are envisioning, yes, I do believe that there is a role for them and I look 

forward to their participation as one source of getting private capital more into the game in the mortgage credit risk area. But we 

want to make sure that the mortgage insurance companies that 

participate in that are, in fact, financially sound and capable of 

providing the credit protection that we are seeking to acquire. 

Chairman JOHNSON. Mr. DeMarco, the FHFA recently announced its Streamlined Modification Program for borrowers that 

are 90 days delinquent. Under this program, would a borrower 

need to verify their income, receive an appraisal on the property, 

or provide other documentation for the modification? How does this 

benefit borrowers, taxpayers, and the GSEs? 

Mr. DEMARCO. Under the Streamlined Program, they would not 

have to provide any of those things, Mr. Chairman. We have developed this after a good bit of learning from the challenges we have 

8 

had getting borrowers successfully into loan modification programs. 

It has been a persistent aspect of the loan modification story that 

getting borrowers to be able to fully document their income and circumstances to qualify for a HAMP modification or a standard modification has been a challenge. 

What we are now doing is this is sort of the last chance before 

the borrower gets referred to foreclosure, and in the communication 

to the borrower, we are making clear that if they would provide 

documentation, they would be assessed for what could be a better 

loan modification option for them. But at this point, we are looking 

at borrowers who are seriously delinquent, and we have learned 

from experience over these past several years, if you do not get a 

borrower into some kind of an assistance program in those first 3 

or 4 months, the likelihood that you are going to get them into 

some kind of successful program goes down substantially. 

And we have found that borrowers have responded positively to 

this request. It is simply: sign, agree that this is your new payment, and begin submitting the payment. So we believe, based 

upon the testing and work we have done, the experience we have 

developed, that this, in fact, will lower the losses to taxpayers and 

will help further enhance our efforts to help consumers avoid foreclosure. 

Chairman JOHNSON. One last question. With these recently announced changes to the modification program, would you now support the income verification changes that Senators Boxer and 

Menendez are trying to implement in the Responsible Homeownership Refinancing Act for borrowers who are paying their mortgages 

and trying to refinance? 

Mr. DEMARCO. I believe—so, slightly two different things here, 

Mr. Chairman. The Boxer-Menendez bill is referring to income 

verification having to do with refinances for HARP and it really 

goes to a particular point regarding how to get a cross-servicer to 

be able to do a HARP loan. I believe that we have addressed the 

issues that Senator Menendez has as I understand them. And I 

think that, in fact, the evidence is showing we are getting a good 

bit of cross-servicer participation in the HARP program. We are 

using the income collected there as much to make the underwriting 

system work and be able to transfer the information to the new 

servicer. It is the way the systems are set up, and we have spent 

time explaining that to Senator Menendez. 

Chairman JOHNSON. Senator Crapo. 

Senator CRAPO. Thank you, Mr. Chairman. 

Mr. DeMarco, last fall, the FHFA and the Treasury Department 

agreed to a change in the structure of the dividend calculation, and 

as a part of that, under the new agreement, all profits except for 

a small amount retained for capital are remitted to the Treasury. 

Some have argued that this may have created incentives for Fannie 

and Freddie to assume either more or less risk in a given transaction because they do not possess normal business incentives. 

You have been dealing with the unintended incentives within the 

GSE space since even before the conservatorships began, but are 

you anticipating any new steps that may be needed to ensure that 

the taxpayers remain protected? 

9 

Mr. DEMARCO. I am not, Senator. I am not concerned about that 

particular risk. I think that the management team and the boards 

at Fannie Mae and Freddie Mac are quite anxious to demonstrate 

to the American taxpayer that they have made great strides at 

each company and that they are operating these companies in conservatorship profitably and safely. They recognize their responsibility to the American taxpayer and I think they take that responsibility quite seriously. I do not think that they anticipate or have 

any vision of increasing the risk taking. And in any event, I have 

got a solid supervision team at FHFA monitoring the activities at 

each company, and we would be quite mindful of any increase in 

risk-taking activity at the companies. 

Senator CRAPO. Well, thank you, and I appreciate your attention 

to that. 

On another issue, in my opening statement, I reiterated concern 

about the massive stake the Federal Government has and continues to have within our mortgage markets. The obvious solution 

for this is for Congress to act on reform. In the absence of Congressional action, you have established a reduction in the footprint of 

the GSEs as a fundamental goal over the next year and I am very 

happy to see that. Please describe to us in more detail the risk 

sharing and portfolio reductions targets that you are establishing. 

Mr. DEMARCO. Certainly. Fannie Mae and Freddie Mac have 

three principal lines of business: The single-family mortgage guarantee business, a multifamily business, and a retained portfolio in 

which they buy and hold mortgages and mortgage-related assets. 

What we have done in the 2013 Scorecard is set objective measures 

for each of these lines of business to fulfill the strategic goal of 

gradually shrinking their footprint in the mortgage market. 

So with regard to single-family mortgages, what we have de- scribed is a goal of having $30 billion worth of unpaid principal balance of mortgages to see some kind of risk sharing or risk transfer 

transaction between Fannie and Freddie and private capital. This 

could be done on—accomplished a number of ways. 

The Chairman asked about mortgage insurance, so one way to do 

it is to have mortgage insurance companies provide an insurance 

wrap on a mortgage-backed security. 

Another way to do it is to issue something called a credit-linked 

note, some kind of credit-linked security in which there is a reference pool of mortgages and investors pay in money and that 

serves as sort of real equity backing the credit risk there. And they 

get a return on that from the guarantee fee, but that money sits 

there in trust to absorb losses in the mortgages. 

And the third principal way is through a Senior Subordinated 

Security Structure. This is pretty standard in the asset-backed securities market. It is how Freddie Mac operates its multifamily 

business. And what you do is you issue—you take the pool of mortgage securities and you break it up into two separate pieces. One 

piece is unsecured, or, I am sorry, it is unguaranteed by Fannie or 

Freddie, and so if there are credit losses, those are absorbed by the 

holder of that security. So that is what we are doing in the singlefamily space. 

In the multifamily space, Fannie and Freddie already do virtually all of their lending on a risk shared basis with private capVerDate Nov 24 2008 14:33 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00013 Fmt 6633 Sfmt 6633 L:\HEARINGS 2013\04-18 Z DISTILLER\41813.TXT JASON
10 

ital. So our approach to gradually stepping back their footprint 

there is to say, we want to see your size in the marketplace in 2013 

be 10 percent smaller than it was in 2012. We actually expect the 

multifamily market to be a bit smaller in 2013 than in 2012, but 

I do not want to see their market share growing at a time that we 

are shrinking the companies and the market itself is shrinking. 

The third area is the retained portfolio. With the retained portfolio, the Treasury agreement already calls for a reduction of 15 

percent year over year in the retained portfolio. What we have 

done is said, look, we are going to be able to meet that target the 

next couple of years just through normal runoff. We can do more 

than that. So we are looking at the illiquid portion, the nonagency 

security portion of that portfolio, and we gave each company a target that they must sell 5 percent of the nonliquid assets that they 

had at the start of the year. They have to do that over the course 

of the year. How they do it, when they do it, which assets they do 

it, that is for management’s judgment to make good business decisions in light of the market circumstances. 

Senator CRAPO. Thank you. 

Chairman JOHNSON. Senator Reed. 

Senator REED. Mr. Chairman, thank you very much. Thank you, 

Mr. Director. 

Last year, you declined to participate in Treasury’s Principal Reduction Alternative Program, and you communicated to Congress. 

In part of the letter, you did indicate that FHFA has allowed the 

Enterprises to conduct short sales, deeds-in-lieu, which resulted in 

principal forgiveness, essentially, for the homes. And then in another part of the letter, you said that we cannot do any principal 

forgiveness—and I am paraphrasing—because it would be inconsistent with the mandate, it would promote, or fail to promote the 

stability and liquidity of the marketplace, and several other reasons. 

So you seem to be saying that you have allowed the Enterprises 

to do it, but that it is contrary to your mandate and you could 

never allow them to do it. Can you try to reconcile those two positions? 

Mr. DEMARCO. I will do my best, Senator. Not having the letter 

in front of me, my guess is it is all about context, because, in fact, 

short sales and deeds-in-lieu, to your point, result in principal forgiveness to the borrower. In a short sale, you are allowing the borrower to sell the house for whatever the market price is that they 

can get and you are writing off the rest of it after an assessment 

of whether the borrower has other assets that can be used to help 

pay the mortgage. 

What we did in—but I did say, and my conclusion in that letter 

was that we carefully analyzed the HAMP Principal Reduction Alternative that the Treasury Department had as part of the HAMP 

program, and I concluded after careful analysis by the FHFA team 

that pursuing that program of principal forgiveness, in which you 

are doing a loan modification, writing down principal, and the borrower keeps the house, was inconsistent with our mandate as conservator. And I think we went to some good length to try to explain 

the analysis we did and how we came to that difficult judgment. 

11 

Senator REED. Well, one of the things I find troubling is that 

part of the HAMP was actually providing some resources to the Enterprises for undertaking this, that it would not be a complete 

write-down of their investment or their obligation, but, in fact, 

given HAMP resources, they would be receiving—I think you get 

up to a high of 60 cents on the dollar of forgiveness, which seemed 

to be the policy of the Treasury Department, which would be consistent with the law, which would be—— 

Mr. DEMARCO. Right. 

Senator REED. ——there might be a conflict between your view, 

but it seemed to be, one, a decision inconsistent with what you 

have already admitted that you did, which is allow short sales and 

allow people to forgive principal. 

So as a legal restriction, you seem to have violated that in the 

short sales. But more importantly, I think, in terms of what one 

expects and what I think you try to do, many private financial institutions have, without any assistance from the Federal Government directly, have undertaken loan modifications because it has 

been in the best interest of their shareholders and they are not 

fearful of some systemic reaction, even though they would be the 

first victims of such reaction if it took place. 

So how do you reconcile the fact that this seems to be a commercially reasonable approach, together with the fact that it was substantially subsidized by legislation and policy approved by the Congress? 

Mr. DEMARCO. I believe that the mandate the Congress gave me, 

and I tried to spell this out in my response to Congress last summer, I have a responsibility to consider the overall cost to the taxpayer as well as the benefit to the taxpayer and to the market. And 

the fact that some of these funds were coming from the Treasury 

Department still meant they were coming from the American taxpayer. And we were actually very careful in delineating our analysis to show where these different costs were coming from. 

I did not say—I have never said that it is illegal for FHFA as 

conservator to allow principal forgiveness. What I have said is we 

have a mandate to balance the responsibility to prevent foreclosure 

with the mandate of doing so in a way that minimizes the cost to 

the taxpayer, and we went through in great detail how we came 

to the conclusion and judgment that we drew. 

So it really—the other thing, Senator, is I really do think there 

is a difference between an individual financial institution doing 

this and Fannie Mae and Freddie Mac doing this in terms of the 

systemic market impact, because when an individual financial institution undertakes this for even the largest ones, they are getting 

to select who they do it for. They do not have to announce it to anybody else. They do not have to publish rules that a thousand or two 

thousand mortgage servicers all have to follow. When Fannie Mae 

and Freddie Mac undertake any of these kinds of programs, all 

these rules need to be spelled out publicly and there needs to be 

a compliance regime that goes along with it and I think that it is 

fundamentally different to have Fannie and Freddie doing it. 

Senator REED. Well, I think there is a significant difference, and 

it may be a very positive difference, that very systematic and 

thoughtful loan modifications could have dramatically improved the 

12 

overall market sooner rather than later, could have led longer term 

to savings to taxpayers, because properties that were foreclosed 

and with a loss to the investor and a terrible loss to the homeowner 

could have been avoided, and that did not seem to be part of your— 

at least a relevant part of your calculation. So we will agree to disagree on this issue. Thank you. 

Mr. DEMARCO. I am afraid so, Senator, but I must say, as I tried 

to go through in my opening remarks, I am actually quite proud 

of the work that FHFA and the people at Fannie and Freddie have 

done to pursue loan modifications and to come up with constructive, effective tools to help borrowers in distress. And I went 

through the totals of this and I think that, in fact, over these last 

several years, we have demonstrated both a commitment and a 

leadership role with regard to pursuing loan modifications, with regard to trying to new things, trying to make the system work better. 

We have a policy disagreement, I guess, on a particular tool, but 

it is not reflective of my lack of concern or desire to get effective 

loan modifications done to help people stay in their homes. 

Senator REED. Well, just a final point. This is not just a particular tool. This is probably the most significant Federal initiative 

that the Treasury Department initiated to try to help people who 

were facing mortgage. Billions of dollars that were paid, authorized 

by Congress, directed by Congress—— 

Mr. DEMARCO. Right. 

Senator REED. So this is, I do not think, sort of a disagreement 

on sort of a technical approach. This was a fundamental rejection 

of what we all thought was going to be one of the most significant—and potentially could have been—significant improvements 

not only to the housing market, but to the overall economy. So 

thank you very much. 

Chairman JOHNSON. Senator Shelby. 

Senator SHELBY. Thank you. Mr. Chairman, I have a number of 

questions I would like to submit for the record, if I could, and then 

I have a few that I would like to engage with Mr. DeMarco. 

Chairman JOHNSON. Without objection. 

Senator SHELBY. Mr. DeMarco, I think you rightly point out that 

there is a difference between a private financial institution and 

Fannie Mae and Freddie Mac right now. Freddie Mac and Fannie 

Mae are under a conservatorship of the U.S. Government, is that 

right? 

Mr. DEMARCO. Yes, Senator. 

Senator SHELBY. And so, in other words, they are sitting in the 

lap of the taxpayer. 

Mr. DEMARCO. Yes, sir. 

Senator SHELBY. As opposed to, say, JPMorgan Chase or any of 

these others that are stockholder-owned, which is good. Thank you 

for doing that. 

Let us talk about securitization and the lack of it in the private 

sector. How do we get that jump started? I am not a securitizer, 

but I could see if you packaged a number of quality loans, and 

there was transparency there—— 

Mr. DEMARCO. Right. 

13 

Senator SHELBY. ——either single-family or multifamily, and 

people knew what they were getting, they would be rated very 

high. There would be a market there with no taxpayer guarantee. 

They would stand on their own. Is that not what we really want 

to do as much as we can in the country? 

Mr. DEMARCO. That is my sense that that is what most people 

would like to do, Senator. Yes. I think that is achievable. 

Senator SHELBY. Absolutely. But it seems to me that it makes no 

sense for Fannie and Freddie, in other words, the implied guarantee of the taxpayer, to have 100 percent, or close to it, of the 

mortgages in today’s market. So that seems to be our number one 

challenge as far as getting the private sector back in the market. 

And would that entail, as I said, transparency, a different attitude 

and maybe a lot more due diligence by the buyer of the securities, 

due diligence that we have not seen in a long time by the rating 

agencies, all of those? 

Mr. DEMARCO. I think we need all of that, yes, sir. 

Senator SHELBY. All three. Now, how do we get to the first big 

tranche there? You know, we have got to go measured step by step. 

Mr. DEMARCO. Right. 

Senator SHELBY. I think that is important—— 

Mr. DEMARCO. Right. 

Senator SHELBY. ——as far as Fannie and Freddie are concerned. 

Mr. DEMARCO. Yes. Yes, sir, it is. And I think one of the ways 

we can start to draw this capital back in and start to demonstrate 

how this can work better is, in fact, through some of the steps that 

we are taking, both in terms of the Risk Transfer Transactions, 

where we say, look, private capital out there, here we come. Here 

are some mortgages. We would like you to take on this risk. We 

want you to partner with us in these transactions, and we think 

it is an economically viable opportunity for you to come in. 

And we are going to also, in that process, demonstrate with 

much greater clarity than the markets saw before, especially out of 

Fannie and Freddie, much greater clarity about here is the loan 

level details about what it is you are buying. Here is clarity about 

the legal structure in which this trust will be managed and how 

your interests as an investor are going to be protected over the life 

of this security. So we are trying to develop that right now. 

Senator SHELBY. Is it true—we have a record here—that there 

are fewer and fewer foreclosures in multifamily apartments as opposed to single—— 

Mr. DEMARCO. Yes, sir. 

Senator SHELBY. Is that because there is more skin in the game, 

generally? Even loans that Freddie Mac or Fannie Mae buy, they 

want substantial equity in those loans, is that correct? 

Mr. DEMARCO. That is certainly part of it, Senator. 

Senator SHELBY. But I suppose there is a role out there for multifamily loans that do not have as much skin in the game, but 

should be made for different reasons. 

Mr. DEMARCO. Or that may be a hard market to—— 

Senator SHELBY. Right. 

Mr. DEMARCO. ——bring credit into that market and so forth. 

Yes, sir, I do believe there are roles to consider opportunities where 

the market may not work—— 

14 

Senator SHELBY. Give us the shorthand rendition of where 

Fannie Mae and Freddie Mac are today compared to where they 

were, considering the loans you have put on the books, or actually 

they put on the books, in the last 4 years, and Ginnie Mae, too, 

as opposed to a lot of the other portfolio. How are the new loans 

doing as opposed to the old? 

Mr. DEMARCO. The performance of the new loans is substantially 

better. The credit characteristics of the borrower are better. The 

downpayments are better. The insurance premium that they are 

charging for this is much more appropriate to the risk that is being 

undertaken. So in all aspects, I believe that the quality of the book 

is much sounder, which is very important in these since the American taxpayer is the one right now providing the capital to support 

those mortgage credit guarantees. 

Senator SHELBY. And is your challenge, your basic challenge, 

among others, at Fannie and Freddie, as you look at it, in the old 

portfolio? 

Mr. DEMARCO. Yes, sir. 

Senator SHELBY. And how are you going to surmount that? I 

know rising housing prices and more payments into it help, but—— 

Mr. DEMARCO. Right. So, we are continuing to work through the 

legacy book. We are now starting to make some meaningful 

progress through the preconservatorship book of business. 

One of the things that I set forth in the 2013 Scorecard is that 

by the end of this year, I want the loan quality reviews of that book 

examined and I want all repurchase requests to be made under 

those contracts, those requests to be made by the end of this year. 

And we are continuing with all our loss mitigation efforts on that 

book, as I described in my opening statement. 

Senator SHELBY. Keep doing what you are doing. Thank you. 

Mr. DEMARCO. Thank you, Senator. 

Chairman JOHNSON. Senator Tester. 

Senator TESTER. Yes. Thank you, Mr. Chairman, and thank you, 

once again, Mr. DeMarco. 

I am going to follow up with initially some of the questions that 

the Ranking Member asked about the risk sharing, specifically in 

single-family. You talked about three different areas that you are 

going to be looking for capital, and I guess the question I would 

have is are you going to be evaluating how these work as they 

move forward, I would assume, on each approach—— 

Mr. DEMARCO. Absolutely. 

Senator TESTER. And what kind of—do you have specific metrics 

in mind when doing the evaluation? 

Mr. DEMARCO. First of all, the market is a wonderful thing, because, you know, in doing these sorts of transactions, you get clarity on how the market is pricing mortgage credit risk. So that is 

the first thing we are going to get, is we are going to get actual 

market signals about mortgage credit risk. 

We will also be able to begin discerning market appetite or preference for one structure over another structure, which is why I 

have encouraged Fannie and Freddie in the Scorecard to try multiple approaches to doing these Risk Transfer Transactions, so that 

we can start to demonstrate to the market how we think about it 

and how we are going ahead with it, but then also be able to then 

15 

get that market response of we prefer this structure over that 

structure or whatever the case may be. But those are the sorts of 

things we would be looking for. 

Senator TESTER. OK. And so over the long haul, can you predict 

what successful risk sharing will look like? 

Mr. DEMARCO. I believe that what I am looking for over the long 

haul is to demonstrate—to develop the mechanisms and to demonstrate the concept in 2013 with these various things, and in 2014 

and beyond, as long as the companies are still operating in conservatorship, to have the Scorecard show an increasing share of 

business in the single-family space be transacted this way, because 

this is the other thing the market is going to want to know. If we 

are going to invest in learning what it is you are offering, we want 

to know that it is going to keep coming. So we expect to—consistent with the goal of gradually shrinking the footprint, I would 

envision gradually increasing the portion of the new mortgage flow 

for which we engaged in risk-sharing transactions. 

Senator TESTER. Thank you. I want to talk about the single platform and the impacts of that. How do you envision community 

banks being able to access the single platform, once established? 

Mr. DEMARCO. I think this is a really important area, because 

this is something I care a lot about, Senator Tester, is making sure 

that the country’s mortgage market now and into the future remains something in which local lenders, whether it is a bank or a 

credit union or whatever it is, remains a viable option for a borrower to go to and get a mortgage to buy a home for their family. 

And so I think that one of the key things—one of the real building blocks of what we are doing with the platform—it even started 

before the platform—and that is with data and with getting data 

standards and electronic reporting standards in place that would 

work for the whole marketplace. Because when you do it just one 

way, you develop an industry standard, it is far easier for a community bank to be able to acquire that technology from a vendor 

and be able to put it in their institution, even if they are a small 

institution. 

And so that is what I think is really important and what we are 

doing, with the platform and with our data work, is to build a set 

of mortgage industry standards that the industry itself helps us develop, but you make it a set of single standards everybody works 

on, because that will lower cost and improve the ability of small 

institutions to—— 

Senator TESTER. So, not to put words in your mouth, do you 

think once a single platform is established, it is actually going to 

be easier for community banks to be able to access? 

Mr. DEMARCO. That is my goal. 

Senator TESTER. Good. What is the timing? 

Mr. DEMARCO. I get that question. We are building as fast as we 

can. Let me put it this way. In response to a similar series of questions on the House side last month, I said that I thought that we 

needed to have this developed, up and running, working, over the 

course of the next 5 years. But I will say that I also appreciate that 

this is a big lift that we are doing. It is a big technology lift. It has 

got things that are going to be developed. We will roll it out incrementally. I am not trying to build a Cadillac as the first thing that 

16 

drives off the lot. But we are going to develop this so it will be 

functional for some things initially and it will expand over time. 

Senator TESTER. And not to put words in your mouth, but what 

I heard you say is fully functional in 5 years? 

Mr. DEMARCO. I think that we want to have this thing up and 

running and working over that time period, is what it is we are 

doing to develop that. I do not know whether we will be done faster 

than that or slower than that. I am trying to give a sense of that 

this is a several-year project to be able to develop this and get it 

going, and that gives, in terms of a range of time, some order of 

magnitude, Senator. It is not really a specific timeline. 

Senator TESTER. OK. Thank you. Thank you, Mr. DeMarco. 

Thank you, Mr. Chairman. 

Just a real quick close, and that is that I am going to go back 

to my opening statement. I think the time is ripe to address this 

issue and move it forward. I think there are folks on both sides of 

the aisle that want to quit playing with this like a political football 

and get the job done. I would encourage you to move forward in 

that way. Thank you. 

Chairman JOHNSON. Senator Corker. 

Senator CORKER. Thank you, Mr. Chairman. 

I especially liked Mr. Tester’s comments. Thank you. I agree with 

many of those. 

Mr. DeMarco, I want to thank you for your tremendous public 

service. Of the people that I have met here in Washington in the 

last 6 years and 3 months, I do not know of anybody who has been 

a more stellar public servant. And I think you have been in the 

middle of a political football game that has been taking place. I 

think you have handled yourself extraordinarily well and I think 

you are creating this circuitry to really transition away from the 

system that we have now. So I just want to thank you for that. I 

want to thank you, the way you have worked with people on both 

sides of the aisle to come up with solutions. 

I know you were sandbagging Senator Tester there, talking 

about 5 years. I hope you can do that in the next year-and-a-half. 

[Laughter.] 

Senator CORKER. In the next year-and-a-half, maximum, you 

could have this fully implemented if we would do what we need to 

do here, so I look forward to a much-shortened timeframe. 

I do want to say, if—I know there have been discussions about 

a permanent replacement of some kind for you. I do not know why 

anybody would want to change something that is working so well. 

But I think that if that were to be the case, we certainly should 

hear from the Administration explicitly about what they want to 

happen with Fannie and Freddie before that occurs, and, hopefully, 

the Senate and House will take action to make that explicit, even 

very quickly, as Senator Tester was just mentioning. 

Let us talk a little bit about what you are creating. I know there 

are three ways of getting some private sector cushion, if you will, 

in front of any kind of governmental guarantee. There is a creditlinked note, and I know we have discussed that extensively. 

There is an A and B piece, subordinated piece. In both those 

cases, you have real capital, if you will, in front of losses. 

17 

I know the insurance piece is the third, and I know that is the 

easiest to do because it is very liquid right now. But would you 

agree, in a systemic failure like we have had in the past, if you 

have insurance, and these are monolines and they are under stress, 

you end up in a situation where you likely have no real capital up 

front, is that not true? 

Mr. DEMARCO. Well, it is certainly true that the capital that was 

behind it in an insurance company is not sitting in a trust fund 

that you control or can direct, and that there are competing potential claims on that capital. So, yes, Senator, I take your point that 

it is a different—it has some differences in terms of how much you 

rely on that. 

Senator CORKER. Well, if you had a systemic crisis like we have 

had and you did not have real money, like you would have with a 

senior subcomponent or credit-linked note, typically, I mean, a systemic failure, these entities and monolines would likely fail, too, or 

have extreme stress, and so you would end up in a situation where 

you think you have capital up front, but you may really not have 

capital up front, is that correct? 

Mr. DEMARCO. That is correct. You certainly have a counterparty 

risk there that would have to be carefully managed in a systemic 

event that could be a concern. 

Senator CORKER. So let me ask you this question. I mean, at a 

maximum, you would want to limit exposure to that piece, is that 

not correct? 

Mr. DEMARCO. You would certainly want to manage it very carefully as a key counterparty credit risk. 

Senator CORKER. So moving on down to some of the questions 

Senator Shelby asked, you know, there have been discussions about 

whether there should be any governmental piece. I know that I do 

think with a transparent TBA market and standards set, you could 

probably issue securities. But there is an issue of what happens 

when the market contracts and you have stress and all of those 

kinds of things and keeping liquidity there. 

I do not think you are advocating that there be no Government 

role in housing, is that correct, from the standpoint—— 

Mr. DEMARCO. Yes. That is correct. 

Senator CORKER. Would you expand on that a little bit? I would 

like for everybody to hear this. 

Mr. DEMARCO. Yes. Well, I think that in a $10 trillion singlefamily mortgage market, the Government does not belong at zero 

or at ten. It belongs somewhere in between. Really, the Government can play a key role in terms of standards, rules, transparency, fairness in terms of how the market operates. That can 

go an awful long way to facilitating the effective role of private capital in funding and in bearing the credit risk in the mortgage market. 

But in any event, I have no reason to believe that the FHA program, the VA program, Rural Housing are not going to be still an 

important part of the fabric of the country’s housing finance system. Those are explicit Government guarantee programs. And what 

we do with the Fannie, Freddie part of the market is up to you all, 

and there are ways of having some amount of Government support 

for it—— 

18 

Senator CORKER. And I think when you say ‘‘Government support,’’ you are saying some Government guarantee at some low 

level to keep liquidity, is that correct? 

Mr. DEMARCO. Yes, Senator. That is certainly a viable option. I 

believe that could work. 

Senator CORKER. OK. So just in my last question—I see the 

Chairman reaching for the button—Senator Tester’s comments 

about the community banking industry accessing, I think is very 

important, and we have had numbers of people in our office that 

question, let us say, if you had a 10-percent private sector component up front, whether it was senior sub or whether it was creditlinked note, some people are questioning, with $5 trillion today at 

Freddie and Fannie, whether you could actually have $500 billion 

worth of private capital and question what stress that might create 

for community banks. Of course, this would buildup over time, 

right? It would not happen overnight. 

Mr. DEMARCO. Right. 

Senator CORKER. And so it would not actually be $500 billion 

overnight. You have no concerns about, over time, having plenty of 

private capital up front and for some system to be accessed where 

the community banking system could actually basically link up to 

that private capital to make it easy for them to be a part of the 

market, do you? 

Mr. DEMARCO. That is right. I have no concern with gradually 

moving in that direction and having that amount of capital come 

in, and I have no concern with community institutions having access to it and being real competitors in that marketplace going forward. 

Senator CORKER. Well, thank you for outstanding public service. 

I hope that you are around to see this through, to work with all 

of us to continue to create the circuitry to create the right kind of 

residential mortgage finance in our country. And thank you for 

your extraordinary efforts. 

Mr. DEMARCO. Thank you, Senator. I appreciate that. And if I 

just may, while I am very grateful for those remarks and that kindness, I would like to take a moment here and thank the staff at 

FHFA. I am really blessed to have 600 career employees at FHFA 

who are working incredibly hard as a team to accomplish the 

things that you were talking about. So thank you, Senator. 

Chairman JOHNSON. Senator Warner. 

Senator WARNER. Thank you, Mr. Chairman, and thank you, Mr. 

DeMarco, for being here and your service. 

I also want to pick up on something you mentioned in your opening comments, the fact that there are an awful lot of good folks at 

Fannie and Freddie still, both some who have stayed on—there 

were clear excesses, but a lot of the fact that there are a lot of new 

teams there that are performing quite well—— 

Mr. DEMARCO. I appreciate it. 

Senator WARNER. ——and I appreciate your recognition of their 

activities, as well. 

I am not going to relitigate the point that Senator Reed issued, 

but I do think there may have been a moment in time when the 

macro effect to the overall housing market of having a more aggressive standpoint in terms of principal reduction could have 

19 

jumpstarted the housing recovery quicker. I mean, we can debate 

it back and forth—— 

Mr. DEMARCO. That is the point of view, Senator. 

Senator WARNER. ——but I just want to try to express that. It 

would have had to have been targeted. It would have had to have 

been limited. Because I think for a while, we had this sense of, 

after the immediate crisis, that we, in a sense, said, do no more 

harm as legislators, and candidly, I think it took a lot longer for 

this issue to work through the system than any of us had hoped 

or anticipated, probably you, yourself, as well. 

Mr. DEMARCO. Yes, we agree on that, Senator. 

Senator WARNER. But I do want to really commend you, building 

on what Senator Tester and Senator Corker have said and our conversations, the lack of uniform servicing and pooling agreements, 

and this whole system was a series of—our whole housing finance 

is a series of contracts that were a complete mishmash—— 

Mr. DEMARCO. Right. 

Senator WARNER. ——and I really want to commend you on your 

efforts there. And I do think, as well—I will echo Senator Corker’s 

comment that you were sandbagging Senator Tester. Five years is 

way too long and we need—this is—and I think, again, I know Senator Tester has a great concern about our community banks. I 

think if we do this portal the right way, it can actually be an asset 

for community banks, and I hope—— 

Mr. DEMARCO. I agree. 

Senator WARNER. ——as you look at those resource allocations, 

that you can keep us informed to make sure that we are giving you 

the tools you need. 

I do want to get a couple questions in. One is on multifamily. I 

understand the need to shrink the portfolio, but the multifamily 

book really did not cause the crisis in the first place. 

Mr. DEMARCO. Right. 

Senator WARNER. And I do wonder whether this cutback right 

now on the 10 percent, whether you feel that may affect liquidity 

in the CMBS market. 

Mr. DEMARCO. I do not have a particular concern about that, 

Senator. As I said, I think that the multifamily market is actually 

performing quite well. I think Fannie and Freddie did provide some 

added support to it back in 2009, 2010, when financial markets 

were pretty disrupted. It is a competitive market. It is one in which 

there is a great deal of private capital competing in that space and 

I think that it is—what we have outlined in our Scorecard is consistent with the theme set forth in the strategic plan of trying to 

undertake a responsible gradual shrinkage of the footprint of 

Fannie and Freddie. They will still have a substantial role to play 

in the multifamily market this year. 

Senator WARNER. I just think it is—I think that we do need to 

remember, this is not where the problem originated. 

Mr. DEMARCO. Right. 

Senator WARNER. Having a healthy multifamily business is important. 

I know there was one thing you had thought about, too, that you 

were at least, in terms of your 2012 Strategic Plan, looking at an 

analysis of multifamily to see what would happen if you could do 

20 

a piece of this business, a larger piece of this business without any 

Government backstop. Have you finished that analysis and are 

you—— 

Mr. DEMARCO. We are actually completing our review of what 

was submitted to us and I will look forward to sharing it with you. 

Senator WARNER. Yes. I look forward to seeing that. 

One of the things that we have seen come up in the last—recently a lot is investor-owned purchases, some of these REOs. Some 

concerns, we continue to hear that we are glad to get these properties kind of out of the foreclosure process, but they are actually 

maybe retarding the neighborhoods’ ability to come back and homeowners’ ability to get back into the market in their neighborhoods. 

Can you give us kind of—I know it is a broad issue, but can you 

give us your sense on the good, the bad, the ugly, and what we 

should be conscious of in terms of some of these great movement 

back of investor purchases? 

Mr. DEMARCO. Right. This is a tough issue, because, for one 

thing, you have got sort of different economic situations in different 

markets. Two, you have got anecdotes that are kind of driving sort 

of a sense of a larger picture thing, and the anecdotes can be very 

well true and there could be a good number of them, but when we 

are dealing with hundreds of thousands of REO, they still remain 

anecdotes. 

I do believe that—you know, what we have tried from the beginning of the conservatorships, almost, with regard to REO disposition was to provide an opportunity in the initial marketing of REO 

properties to target local community groups and local housing authorities and purchase of homeowners, people who are going to live 

in the house, not investors. And so the properties were initially 

marketed just to that group, so there is a waiting period before an 

investor can purchase our REO properties. 

Nonetheless, we are selling an awful lot to investors. Whether 

these things that we design, is this is the protocol and so forth, is 

in individual markets and circumstances not working exactly as 

planned or whether it is simply because the bids that we get are 

really much stronger from the investor and that is the way I am 

protecting the taxpayer, is something that we are still—I mean, we 

are doing REO disposition evaluations this year to look into some 

of this to see if we can get a better handle on these stories. But 

I think—my guess is, it is going to end up being a pretty complicated answer. 

Senator WARNER. And I know my time is up. I just want to make 

two quick comments. One is, I think REOs have got to be one of 

your tools in the tool kit. But as we start to hear more and more 

concerns with the market coming back, trying to get us as much 

information and data as possible, and if there are bad actors, sorting through that, I think it is very important. 

And I just want to add one more voice to the Chairman and the 

Ranking Member that we have got a window to get this done and 

I think there is much broader bipartisan consensus on this issue 

than many would suspect and look forward to continuing to work 

with you, Mr. DeMarco, to get it right. 

Mr. DEMARCO. Thank you, Senator. 

Senator WARNER. Thank you, Mr. Chairman. 

21 

Chairman JOHNSON. Senator Vitter. 

Senator VITTER. Thank you, Mr. Chairman, and thank you, Mr. 

Administrator, very much again for all your work. And I think that 

work has been excellent, again, as most Members of the Committee 

do. 

I want to really focus on our needed work here in Congress. In 

that regard, thank you for your very positive words for the 

Jumpstart GSE Reform Act. My question about that is pretty basic. 

What sort of signal do you think it would send the market if the 

Senate were able to pass a broad, bipartisan bill that clearly indicates Congress will take up mortgage finance reform? 

Mr. DEMARCO. I think that is it right there, Senator. By indicating that the Congress of the United States has agreed it does 

not want to use Fannie and Freddie to be funding part of the Government, it then removes that as an issue or a barrier to actually 

doing something to bring these conservatorships to an end and rebuild the housing finance system. I think the markets would take 

that very seriously. 

Senator VITTER. Great. And my second question is really on the 

other end of the spectrum. You know, hedge funds have been lobbying Congress to encourage the sale of Treasury’s preferred 

shares, and to some extent, investors are already speculating that 

the companies will be returned to the marketplace. The price of the 

preferreds has doubled this year for Fannie. What do you think the 

consequences would be of Treasury selling the preferred shares before Congress acts in any way regarding mortgage finance reform? 

Mr. DEMARCO. I am not even sure how that would work, Senator, but I think the Treasury, both in the previous Administration 

and in this Administration, as well as FHFA, have been clear and 

consistent that we view the way out of conservatorship is for the 

Congress of the United States and the Administration to get together on legislation that determines what the future looks like. I 

am not aware of any plan to sell the preferred, and again, I am 

not even sure how that would work in the market. That money— 

there is $180 billion owed back to the American taxpayer, and then 

you have to completely recapitalize the companies after that. 

Senator VITTER. Well, let me restate it. What do you think the 

message would be or the reaction would be if the Congress were 

to propose some movement in that direction or allow some movement in that direction without significant reform like we are discussing? 

Mr. DEMARCO. I think it would certainly generate confusion and 

question in the mortgage market about the role private capital 

would have in the future if there was a thought that there was 

some sort of reconstituting of Fannie and Freddie as they had been 

with the charters they had. It would certainly conflict with the notion that we are trying to bring private capital back into this marketplace. 

Senator VITTER. OK. Well, again, I just want to end by thanking 

you again for your service, and in particular your refusal to bend 

to, quite frankly, political pressure to use Fannie and Freddie as 

a piggy bank for things that would be popular in some forums 

short-term but very, very expensive and counterproductive, including for the taxpayer. But thank you for your work. 

22 

Mr. DEMARCO. Thank you, Senator. 

Chairman JOHNSON. I would like to thank Acting Director 

DeMarco for his testimony—Senator Corker. 

Senator CORKER. Are you ready to go to the other panel? 

Chairman JOHNSON. Yes. 

Senator CORKER. May I ask one question? 

Chairman JOHNSON. Just one. 

Senator CORKER. OK. 

[Laughter.] 

Senator CORKER. I have a six-part question I would like to ask. 

[Laughter.] 

Senator CORKER. I will ask just one. There have been discussions 

about having private capital up top, and I know a number of our 

offices have been working together to try to have a bill to actually 

take action, and I think, candidly, we may be at a place to do that 

very, very soon. It sounds like everyone here that has spoken has 

said the timing is really good for that to occur, and I think you 

agree. 

But there is—one of the components has been to get capital up 

front, say at the 10 percent level through credit-linked notes, senior 

sub, or other, but then, also, to have an FDIC-like mechanism 

where, in the event all of that fails, and the underwriting, which 

will be very stringent, would be in place first. What are your 

thoughts about having an FDIC-like structure for those involved in 

the mortgage industry to have as a catastrophic insurance fund at 

this time? 

Mr. DEMARCO. I think that that could work, Senator. I would 

hope that if Congress legislated something like that, my thoughts 

would be to make sure that the law charges whatever Federal entity was responsible for the fund that, A, the entity was independent, 

had a clear mandate to set appropriate pricing for the risk it was 

taking and not to have that be set in law, but, in fact, give the entity a real mandate and responsibility to be appropriately charging 

for risk in managing that reserve fund, because some day, it will 

get called upon and it needs to be there and it needs to be sufficient if it got called upon. 

Senator CORKER. Thank you, Mr. Chairman, and thank you. 

Chairman JOHNSON. I would like to thank Acting Director 

DeMarco for his testimony and for being here with us today. 

With that, I would like to call forward the second panel, Inspector General Linick, for this hearing. 

[Pause.] 

Chairman JOHNSON. I would now like to welcome our second witness for our hearing today. The Honorable Steve A. Linick is Inspector General of the Federal Housing Finance Agency. He has 

served in this position since September 2010. 

Inspector General Linick, you may proceed with your testimony. 

STATEMENT OF STEVE A. LINICK, INSPECTOR GENERAL, 

FEDERAL HOUSING FINANCE AGENCY 

Mr. LINICK. Thank you, Chairman Johnson, Ranking Member 

Crapo, and Committee Members for inviting me here to testify 

today. I appreciate the opportunity to update the Committee on the 

23 

work of the Federal Housing Finance Agency Office of Inspector 

General. 

We began operations in October of 2010 in the midst of an unprecedented housing and financial crisis of historic proportions. 

Since our beginning, we have published 49 reports and have commenced multiple criminal and civil investigations leading to 156 indictments and 62 convictions. 

Let me begin by noting that FHFA has made progress in its role 

as conservator and regulator. FHFA has launched a number of significant initiatives intended to address key objectives, such as 

aligning Enterprise practices, improving service to borrowers, and 

conserving and preserving Enterprise assets. FHFA has also accepted and begun to implement the vast majority of our recommendations and we continue to monitor their progress. 

Although the agency has made progress, our work continues to 

show that FHFA can improve its role as regulator and conservator. 

We have identified instances in which FHFA has displayed undue 

deference to Enterprise decision making in its capacity as conservator. In its capacity as regulator, we have identified instances in 

which FHFA could be more proactive in risk management. We have 

observed that FHFA has had difficulties identifying new and 

emerging risks potentially affecting the GSEs, issuing guidance 

governing risk management at the GSEs, and providing consistent 

enforcement for policy violations. For example, in a recent report 

on consumer protection, we found that FHFA does not examine 

how the Enterprises monitor compliance with consumer protection 

laws. 

Second, we determined that the Enterprises do not ensure that 

their counterparties from which they purchase loans comply with 

such laws. Similarly, in a report on consumer complaints, we found 

that mortgage servicers, Freddie Mac, and FHFA have not adequately fulfilled their respective responsibilities to address and resolve escalated cases, which are a type of more serious complaint. 

The evidence suggests that most of Freddie Mac’s servicers are 

not complying with the reporting requirements. Ninety-eight percent of Freddie Mac’s servicers had not reported on any escalated 

cases, even though they manage 6.6 million mortgages for Freddie 

Mac. Of Freddie Mac’s eight largest servicers, four did not report 

any escalated cases despite handling more than 20,000 of them. 

Second, Freddie Mac’s oversight of servicer compliance has been 

inadequate. It has not implemented procedures for testing servicer 

compliance, and Freddie Mac has neglected to establish penalties 

for servicers that do not report escalated cases. 

Third, FHFA did not identify the problems through its own examination. Rather than independently testing servicers’ compliance, the FHFA examination team relied exclusively on Freddie 

Mac’s reports, which did not mention the problems. 

In addition, in a 2011 report, we found that the agency had too 

few examiners to oversee the GSEs. As a result, FHFA had scaled 

back planned work during its examinations and examinations took 

much longer than expected to complete. Additionally, we identified 

shortfalls in the agency’s examination coverage, particularly in the 

crucial area of Real Estate Owned property. 

24 

Although the agency has made progress since we issued this initial report, it is not clear that FHFA has achieved the examination 

resources necessary to address this issue. Many of our subsequent 

reports continue to recommend expanded or improved examination 

coverage, and we have initiated follow-up work in this area. 

We are mindful that FHFA’s long-term success is necessarily affected by the uncertainty surrounding the fate of the Enterprises 

and the housing finance system in general. In other words, FHFA 

must effectively direct the Enterprises’ operations while fundamental questions about its role and theirs remain unanswered. 

Given the Committee’s interest, I also want to highlight some of 

our current projects. First, we are assessing a number of FHFA’s 

new or expanded initiatives, including the Servicing Alignment Initiative, the Securitization Platform, the REO Pilot, and HARP 2. 

Additionally, we are conducting follow-up work on the consumer 

protection report I just mentioned. 

My staff and I look forward to continuing to work with your 

Committee to provide independent, relevant, and objective assessments of FHFA’s operations and programs, and I am happy to answer any questions that you may have at this time. Thank you. 

Chairman JOHNSON. Thank you, Mr. Linick. 

During your last appearance before this Committee, we discussed 

the inconsistent enforcement of directives by the FHFA. Is this still 

a problem? If so, does this lack of follow-through pose greater risk 

to the conservatorship and taxpayer dollars, in your opinion? What 

should the FHFA do to improve its enforcement? 

Mr. LINICK. I am concerned about implementation and followthrough, especially of many of these initiatives that have been 

launched. We found in earlier reports that FHFA deferred a lot to 

the Enterprises for decision making in crucial areas, and FHFA is 

going to require strong involvement in these new initiatives. We 

are concerned that there may be crucial decision making by the Enterprises and not by the agency. 

Second, a lot of the new initiatives going forward are going to require strong regulatory oversight and they will require the agency 

to effectively identify risk, manage risk, issue guidelines and directives to the Enterprises, and as you mentioned, enforcement when 

policies are not being followed. Yet we continue to identify shortfalls in all three of these areas and remain concerned that these 

may present a problem in the future. 

Also, going forward these new initiatives will require examiners, 

and as I said in my opening remarks, we have concerns about 

FHFA’s examination resources and their ability to engage in robust 

oversight of these complex programs. 

Chairman JOHNSON. Could you put a number on that in terms 

of what is enough examiners? 

Mr. LINICK. That is a difficult question, and I do not have a number for you. In our report, we found that examination teams for 

Fannie and Freddie were staffed at about half of what they needed 

to be. They scaled back planned work. They were not getting a lot 

of examinations done. 

Since then, it is my understanding that the agency has beefed up 

its examination capacity somewhat. They have strong leadership. 

They have imposed discipline in their examination programs. But 

25 

we continue to issue reports that suggest their examination coverage is still lacking and it is unclear to us whether that is a result 

of a lack of examiners. We have ongoing work now to find out exactly where we stand, and we are monitoring the issue and will report back to the Committee as soon as we get those reports done. 

Chairman JOHNSON. Given the problems in enforcement, should 

the Committee be concerned about the FHFA’s ability to implement 

and oversee programs that would expand the role of servicers and 

mortgage insurers? Without enhanced exams and additional examiners, would these programs pose a risk to the GSEs and potentially the taxpayers, in your opinion? 

Mr. LINICK. Well, I can only speak from our work to date. We 

have done limited work in this area. We have about six reports covering the servicing area. By way of an example, the Servicing 

Alignment Initiative in concept is a good initiative because it aligns 

servicing standards, helps borrowers, and also increases borrower 

contact with servicers. In that instance, we recently did a report on 

consumer complaints. The Servicing Alignment Initiative, which 

was unfolded about a year-and-a-half ago, requires that servicers 

report complaints, serious complaints—improper foreclosure, for example, or if a borrower is not getting foreclosure options and they 

are not able to get the servicer to consider other alternatives apart 

from foreclosure, things like that. Servicers are also required to resolve these complaints within 30 days. 

In our report, we found that while the Servicing Alignment Initiative is a good one, there was a lack of implementation of the initiative, and that is where our concern lies. Servicers were not reporting complaints as required by the rules. There were also instances when they were not resolving cases within the required 30 

days. We also saw problems with Freddie Mac. They were not testing servicers’ compliance and they pretty much missed the problem. And then on the FHFA side, FHFA’s examinations relied on 

Freddie Mac’s reports, which did not really describe the problem, 

and therefore FHFA’s examinations did not catch the problem. 

I use this by way of example to show how these initiatives are 

going to require a lot of oversight, and implementation and followthrough are going to be key. 

Chairman JOHNSON. One last question. Mr. Linick, your office 

has been up and running for over 2 years. In that time, has the 

FHFA made progress implementing your recommendations? 

Mr. LINICK. FHFA has made substantial progress implementing 

our recommendations. They have accepted the majority of our recommendations. We have about 140 at this point. About half of 

them are implemented and the other half are in various stages. 

And I commend the agency for the progress that they made. 

We started our work looking at a variety of controls across a 

number of fronts at FHFA, and now having been at OIG for more 

than 2 years, we are starting to go back, like we are with examination capacity, to see where things stand, and that will be a part of 

our work going forward. 

Chairman JOHNSON. Senator Crapo. 

Senator CRAPO. Thank you, Mr. Chairman. 

I just had a couple of quick questions. First of all, I want to 

thank you for your work, Mr. Linick. We appreciate the oversight 

26 

that you provide and the assistance you provide in making sure 

that the FHFA operates properly. 

My first question relates to the money paid to the Treasury by 

the GSEs. The recent news reports surrounding the profits made 

by Fannie and Freddie and then subsequently remitted to the taxpayer seem to present conflicting information surrounding these 

payments and the debt owed by Fannie and Freddie. Based upon 

your knowledge of the situation, I am hoping you can help to clarify this. 

My question is, do these payments reduce the $187 billion figure 

owed under the Preferred Stock Purchase Agreement? 

Mr. LINICK. The short answer is no. They do not pay down what 

is called the liquidation preference or Treasury’s investments, and 

the way Treasury structured this is like an interest-only loan. In 

other words, the payments to Treasury are like interest payments, 

but they do not pay down the principal, the $187.5 billion. So the 

Enterprises could pay $200 billion in interest and that $187.5 billion would still not be paid down. This was set up by Treasury 

through the PSPAs, the Senior Preferred Stock Purchase Agreements. 

Senator CRAPO. And if the amount that is remitted by the agency 

exceeds the amount of interest that has accrued, what happens in 

that circumstance? 

Mr. LINICK. Again, it does not pay down the liquidation preference. 

Senator CRAPO. It is just a deposit—— 

Mr. LINICK. It is just a deposit. It goes to Treasury. It goes to 

taxpayers. Ultimately, it is up to the Treasury, FHFA, and Congress to figure out what is going to happen in the future. 

Senator CRAPO. And in what way could they pay down the outstanding principal obligation? Is there just no provision for that to 

happen—— 

Mr. LINICK. I am not aware of a provision like that in the PSPAs, 

but I would ask Treasury, obviously, how that would work. But 

based on my knowledge of it, there is no provision to pay that 

down. 

Senator CRAPO. All right. Thank you. 

My last question is really kind of an open-ended question. Both 

you and Director DeMarco have previously noted that the continued open-ended nature of the conservatorships creates challenges 

for the management of both FHFA and the conservatorships for 

Fannie and Freddie. And this is just a general question. Based 

upon your observations and your analysis, what do you see as the 

biggest challenges that are faced to date? 

Mr. LINICK. There is no doubt that uncertainty is the single most 

important challenge. I think this has an effect on oversight, which 

is obviously my role. It affects the agency, the Enterprises, and 

from what I have heard, the market. 

On the agency side, it affects the agency’s ability to recruit examiners and others, retain staff, and also develop long-term resource 

allocations. We do not know the fate of the Enterprises and that 

makes it very difficult. The conservatorship, as you mentioned, was 

meant to be a time out, temporary, and no one anticipated—includVerDate Nov 24 2008 14:33 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00030 Fmt 6633 Sfmt 6633 L:\HEARINGS 2013\04-18 Z DISTILLER\41813.TXT JASON
27 

ing the agency—that it would last this long. It also affects morale 

for the agency. 

On the Enterprise side, it certainly affects morale for them, and 

I have heard from the marketplace that without a set of rules, people do not want to dip their toe into the water. 

Senator CRAPO. So the lesson from that would seem to be that 

the sooner Congress can act, the better it would be in terms of the 

overall success for both the Enterprises and FHFA. 

Mr. LINICK. I would agree with that. 

Senator CRAPO. My last question related to this is are there any 

new challenges that you think might develop, or will the existing 

ones just continue to languish if we continue to—if Congress continues to linger in terms of resolving these issues? 

Mr. LINICK. Well, I think, as I mentioned before, the other major 

challenges as we continue to linger are shortfalls in oversight. Taxpayers, at the end of the day, could suffer if things just go on the 

way they are. I have mentioned that there are shortfalls in the conservatorship oversight and there are shortfalls in the regulatory 

oversight with respect to identification of risk, management of risk, 

and enforcement. I see these things as problems going forward. 

Senator CRAPO. All right. Thank you. 

I have no further questions, Mr. Chairman. 

Chairman JOHNSON. I would like to thank Inspector General 

Linick and Acting Director DeMarco for being here with us today. 

Oversight of the FHFA will continue to be a top priority of this 

Committee and we appreciate your insights. 

This hearing is adjourned. 

[Whereupon, at 11:31 a.m., the hearing was adjourned.] 

[Prepared statements and responses to written questions supplied for the record follow:] 

28 

PREPARED STATEMENT OF SENATOR RICHARD C. SHELBY 

Mr. DeMarco, I would like to start out today by thanking you for your strong leadership at FHFA. 

You were given a tough job during a critical time for our Nation’s housing market, 

and you should commended for your service. 

Your commitment to protecting both taxpayers and homeowners has served our 

Nation well, and we are finally beginning to see signs of recovery. 

Unfortunately, while you have done a superb job at FHFA, Congress has failed 

its task of reforming the GSEs. 

We are more than 41⁄2 years into the conservatorships for Fannie and Freddie. 

These conservatorships were never intended to last this long, yet there is still no 

end in sight. 

It is my hope that this Committee will work together to pass bipartisan legislation 

that reforms our GSEs and prevents taxpayers from footing the bill for future housing bailouts. 

PREPARED STATEMENT OF EDWARD J. DEMARCO 

ACTING DIRECTOR, FEDERAL HOUSING FINANCE AGENCY

APRIL 18, 2013 

Chairman Johnson, Ranking Member Crapo, and Members of the Committee, I 

am pleased to be invited here today to discuss the Federal Housing Finance Agency’s (FHFA) oversight of Fannie Mae, Freddie Mac, and the Federal Home Loan 

Banks (FHLBanks). 

In my testimony today I will focus mainly on FHFA’s role as the conservator and 

regulator of Fannie Mae and Freddie Mac (together, the ‘‘Enterprises’’). As this 

Committee is well aware, the Enterprises have been in conservatorship for more 

than 41⁄2 years. These have been the largest and most complex conservatorships in 

history. Throughout this time FHFA has explained its approach to the 

conservatorships in light of the statutory responsibilities Congress placed on the 

agency as conservator. I have reported to Congress numerous times regarding 

FHFA’s actions in light of these responsibilities, recognizing that the prolonged time 

in conservatorship has required us to adapt to changing circumstances, while remaining consistent with the fundamental responsibilities given us as regulator and 

conservator. I am pleased to provide you today with an update on what we have 

accomplished and where we are headed. 

I would first like to take a moment to thank the Chairman and Ranking Member 

for their introduction of an amendment to the 2014 budget resolution that would 

prevent any additional Enterprise guarantee fees from being used to fund other 

budget items. And I would like to thank all the Members of the Committee for supporting that amendment, which the Senate adopted by unanimous consent. I was 

also glad to see the introduction by Senators Corker, Warner, Vitter, and Warren 

of S.563, the Jumpstart GSE Reform Act. I share the views of the sponsors of S.563 

that now is the time to address reform of the housing finance system. I look forward 

to working with all of you as you move forward on that effort. 

I will begin this prepared statement with a brief review of the goals of FHFA as 

Conservator. Then I will review FHFA’s approach to preparing for increased private 

market participation in housing finance and describe the significant activities that 

FHFA has undertaken during the past year to further our conservatorship goals. 

Next I will touch on the financial condition and performance of Fannie Mae, Freddie 

Mac, and the Federal Home Loan Banks. And finally, I will close with some 

thoughts on the role of Government in housing finance. 

Goals of Conservatorship 

With the financial crisis unfolding, and after substantial consultation with the Department of the Treasury and the Federal Reserve, FHFA placed the Enterprises 

into conservatorship on September 6, 2008. The Housing and Economic Recovery 

Act of 2008 (HERA), which created FHFA, specified two conservator powers, stating 

that the Agency should ‘‘take such action as may be: 

1. necessary to put the regulated entity in a sound and solvent condition; and 

2. appropriate to carry on the business of the regulated entity and preserve and 

conserve the assets and property of the regulated entity.’’ 

From the outset, FHFA stated that the goals of the conservatorships were to help 

restore confidence in the companies, enhance their capacity to fulfill their mission, 

and mitigate the systemic risk that contributed directly to instability in financial 

29 

markets. As supervisor, we have also taken steps to strengthen risk management, 

internal controls, and establish proper governance over all of the Enterprise’s activities. 

As the private mortgage securitization market had already vanished and there 

were no other effective secondary market mechanisms in place, the initial phase of 

the conservatorships was focused on stabilizing the Enterprises’ operations to ensure the continued functioning of the mortgage market during the crisis. This phase 

has been successful; operations of the two Enterprises have largely stabilized and 

the origination market and secondary market for mortgage has continued to function throughout the financial crisis. 

The second phase of the conservatorships has focused on foreclosure prevention 

efforts, which have been critical for helping homeowners in distress and essential 

to meeting the conservatorship mandate to preserve and conserve the Enterprises’ 

assets. These continuing efforts also are consistent with FHFA’s statutory responsibility under the Emergency Economic Stabilization Act to provide assistance to 

homeowners and minimize foreclosures. Nearly 2.7 million ‘‘foreclosure prevention’’ 

actions evidence the success of that effort to date. 

FHFA also clarified that the Enterprises would be limited to continuing their existing core business activities. This type of limitation on new business activities is 

consistent with the standard regulatory approach for addressing companies that are 

financially troubled. And it is even more pertinent for the Enterprises given their 

uncertain future and reliance on taxpayer funds. While there still is legacy credit 

exposure to work through, the second phase of the conservatorships put in place the 

loss mitigation infrastructure to help borrowers and protect taxpayers. At the same 

time, the Enterprises’ new books of business are much stronger than their old ones. 

Today we have a mortgage market that relies heavily on taxpayer support, with 

very little private capital standing in front of the Federal Government’s risk exposure. There seems to be broad consensus that Fannie Mae and Freddie Mac will not 

return to their previous corporate forms. The Administration has made clear that 

its preferred course of action is to wind down the Enterprises. Of the various legislative proposals that have been introduced in Congress, none of them envisions the 

Enterprises exiting conservatorship in their current corporate form. In addition, recent changes to the Preferred Stock Purchase Agreements (PSPAs), replacing the 10 

percent dividend with a net worth sweep, reinforce the notion that the Enterprises 

will not be building capital as a potential step to regaining their former corporate 

status. The amount of funding, essentially the Enterprises’ capital base, available 

under the PSPAs also has become fixed as the Enterprises recently reported yearend 2012 financial results. 

Against this backdrop, FHFA has moved into a third phase of Enterprise conservatorship, embodied in its Strategic Plan for the Operation of the Enterprise 

Conservatorships. 

FHFA’s 2012 Strategic Plan for the Operation of the Enterprise 

Conservatorships 

In early 2012, recognizing that the conservatorships were over 3 years along and 

not likely to end soon, FHFA developed and formally communicated to Congress a 

strategic plan for the companies to pursue while in conservatorship, pending legislative action. This Strategic Plan has three goals: 

1. Build. Build a new infrastructure for the secondary mortgage market. 

2. Contract. Gradually contract the Enterprises’ dominant presence in the marketplace while simplifying and shrinking their operations. 

3. Maintain. Maintain foreclosure prevention activities and credit availability for 

new and refinanced mortgages. 

These goals satisfy our statutory mandate as conservator, are consistent with the 

Administration’s call for a gradual wind down of the Enterprises, and preserve all 

options for Congress while establishing a stronger foundation on which Congress 

and market participants can build to replace the preconservatorship Government 

sponsored enterprise (GSE) model. 

With a focus on transitioning to a more secure, sustainable and competitive model 

for the secondary mortgage market, FHFA established the 2012 Conservatorship 

Scorecard to provide a roadmap for the Enterprises to implement the Strategic Plan. 

The Scorecard had four focus areas all tied to the Strategic Plan and great progress 

has been made in all areas. 

Building upon the 2012 Scorecard, last month FHFA published the Conservator’s 

Scorecard for 2013, again setting forth annual performance targets adhering to the 

strategic goals of build, contract, and maintain. I would like to walk through each 

of these with you now while also highlighting some of the successes of 2012. 

30 

Maintain 

Although it is the third strategic goal, I would like to start with Maintain. Maintaining foreclosure prevention activities and promoting market stability and liquidity so that there is credit availability for new and refinanced mortgages is an important aspect of our work as conservator. Foreclosure prevention efforts were extensive in 2012 as FHFA and the Enterprises continued to simplify, streamline, and 

improve existing programs. More than 540,000 foreclosure prevention actions were 

completed last year alone, bringing the total to nearly 2.7 million since the start 

of conservatorship in 2008. 

Since the start of conservatorship, Fannie Mae and Freddie Mac’s management 

teams have completed over 1.3 million permanent loan modifications, more than 

665,000 repayment plans, and nearly 150,000 forbearance plans. Together they have 

enabled the Enterprises to help more than 2.2 million families who were having 

trouble paying their mortgages remain in their homes. Additionally, the Enterprises 

have made it possible for more than 445,000 other families to gracefully exit their 

home without going through a painful foreclosure process by facilitating short sales 

and deeds-in-lieu of foreclosure. 

Last year the Enterprises also implemented changes to the Home Affordable Refinance Program (HARP) that we announced late in 2011. Those changes included: 

expanding the program to include homeowners with greater than 125 percent loanto-value ratio; clarifying representation and warranty exposure; and incenting shorter-term refinance opportunities through reduced pricing. The results have been impressive: 

• The nearly 1.1 million HARP refinances in 2012, almost equaled the number 

of HARP refinances over the prior 3 years. An additional 97,000 HARP refinances were completed in January of this year. 

• HARP refinances with greater than 105 loan-to-value ratios made up 43 percent 

of total HARP refinances in 2012, compared to 15 percent in 2011. In January 

of this year, 47 percent of HARP refinances were for borrowers with a greater 

than 105 loan-to-value ratio. 

• HARP refinances with greater than 125 percent loan-to-value ratios made up 

21 percent of total HARP refinances in 2012 and nearly 25 percent of total refinances in January of this year. 

• HARP refinances into a shorter-term mortgage made up 18 percent of total 

HARP refinances in 2012 for underwater borrowers, compared to 10 percent in 

2011, and stand at 18 percent of total HARP refinances in January 2013. 

We are very pleased with the success of HARP thus far and look forward to building on this success in 2013. We will soon be implementing a nationwide public relations campaign to educate consumers about HARP and its eligibility requirements. 

The goal of this campaign is to reach as many eligible homeowners as possible and 

educate them on HARP eligibility criteria and the value of refinancing under HARP, 

and motivate them to explore their options and utilize HARP before the program 

expires. HARP is a valuable risk reduction tool for the Enterprises, and I announced 

last week that we will be extending the HARP deadline by 2 years through December 2015. I feel confident that with the changes made to HARP in 2011, the increased consumer awareness through the HARP consumer education campaign and 

the extension of the HARP deadline, every eligible homeowner who wants to refinance through the HARP program will have the opportunity. 

For those homeowners who are seeking a modification we also recently announced 

that the Enterprises will soon be offering a new, streamlined loan modification initiative to minimize Enterprise losses and help troubled homeowners avoid foreclosure and stay in their homes. Starting this July, servicers will be required to 

offer eligible homeowners who are at least 90 days delinquent on their mortgage an 

easy way to lower their monthly payments and modify their mortgage. This new option supplements our existing suite of loan modifications, including the Home Affordable Modification Program (HAMP) and the Enterprise’s standard modification 

program. 

A key element of this new program is that it is essentially automatic and seriously delinquent homeowners are eligible for the program even if they have not provided complete documentation. Since the beginning of the financial crisis a consistent hindrance to assisting troubled borrowers has involved documentation requirements. The Streamlined Modification Initiative should be especially helpful to 

those who are self-employed, part of a multigenerational household, or are simply 

overwhelmed with the document collection burden. All borrowers have to do to take 

advantage of the modification offer is make three on-time trial payments, after 

which their loan will be permanently modified. Servicers will continue to work with 

31 

borrowers throughout the trial period to evaluate all their foreclosure prevention options, as documenting income and financial hardship could result in a modification 

with additional savings for the borrower. This program also fits within our safety 

and soundness goals. 

This new program builds on the principles embodied in the Servicing Alignment 

Initiative that was launched in 2011. The Servicing Alignment Initiative was designed to establish consistent policies and processes for the servicing of delinquent 

loans owned or guaranteed by the Enterprises to make it easier for servicers to 

reach borrowers as early in the delinquency as possible. Early, effective borrower 

outreach and engagement is critical for successful modification solutions. We are excited about the prospects of this new program and look forward to tracking and reporting on its progress. 

A priority since the onset of conservatorship and enumerated under the ‘‘maintain’’ goal is to continue to strengthen the credit risk management practices of the 

Enterprises, and provide more certainty and timely feedback to originators as they 

make decisions on extending credit. Pursuant to this end, last September FHFA and 

the Enterprises announced the start of fundamental changes to the representation 

and warranty framework for conventional loans sold or delivered on or after January 1, 2013. The objective of the new framework is to clarify lenders’ repurchase exposure and liability and inject greater up-front monitoring by moving the focus of 

quality control reviews forward to the time the loan is delivered to the Enterprises 

instead of when it has defaulted. The priorities for 2013 are enhancing the post-delivery quality control practices and transparency associated with the new rep and 

warranty framework, and FHFA’s on-site supervisory teams will continue to review 

the effectiveness of the new framework. 

In addition to the efforts of FHFA, the progress that I have just discussed on foreclosure prevention, refinancing, and maintaining credit availability would not have 

been possible without the commitment of the boards, management, and employees 

of Fannie Mae and Freddie Mac. I am gratified that the leadership and staff at both 

companies remain committed to fixing what is broken and creatively addressing the 

challenging issues we face. I would add that other such examples of their commitment abound. For example, Fannie Mae undertook an important effort to develop 

a bulk approach to selling properties in their real estate owned portfolio, and 

Freddie Mac has been leading efforts to expand loan level disclosures. 

Build 

The first strategic goal is to build a new infrastructure for the secondary mortgage 

market. The Enterprises’ existing proprietary infrastructures are not effective at 

adapting to market changes, issuing securities that attract private capital, aggregating data, or lowering barriers to market entry. These outmoded infrastructures 

must be maintained and updated. An investment of capital—capital that would 

come from taxpayers through the PSPAs—will be necessary for this effort. But to 

the extent possible, we should invest taxpayer dollars to this end once, not twice. 

Hence, updating the Enterprises’ outmoded infrastructures should provide enhanced value to the mortgage market with a common and more efficient 

securitization model. The ultimate goal is to develop a new securitization model that 

will have benefits beyond the current Enterprise business model. To achieve this, 

the new infrastructure must be operable across many platforms and operate in a 

cost effective manner so that it can be used by any issuer, servicer, agent, or other 

party that decides to participate. 

In October 2012, FHFA issued a white paper designed to gather input from the 

industry and move this effort forward. The white paper discusses development of 

a common securitization platform, including the important issue of its scope and 

functionality. One approach we outlined is that the focus of the platform could be 

on functions that are routinely repeated across the secondary mortgage market, 

such as issuing securities, providing disclosures, paying investors, and disseminating data. These are all functions where standardization could have clear benefits 

to market participants. 

Last month I announced as part of the 2013 Scorecard that a new business entity 

will be established between Fannie Mae and Freddie Mac. This does not mean we 

are consolidating the two Enterprises, but we believe that setting up a new structure, separate from the two companies, is important for building a new secondary 

mortgage market infrastructure. Our objective, as we stated last year, is for the 

platform to be able to function like a market utility, as opposed to rebuilding the 

proprietary infrastructures of Fannie Mae and Freddie Mac. To make this clear, I 

expect that the new venture will be headed by a CEO and Chairman of the Board 

that are independent from Fannie Mae and Freddie Mac. It will be physically located separate from Fannie Mae and Freddie Mac and will be overseen by FHFA. 

32 

Importantly, we plan on instituting a formal structure to allow for input from industry participants. 

What I have just described is the governance and ownership structure for the 

near-term phase of the platform. It will be initially owned and funded by Fannie 

Mae and Freddie Mac, and its functions are designed to operate as a replacement 

for some of their legacy infrastructure. However, the overarching goal is to create 

something of value that would be a foundational element of the mortgage market 

of the future. We are designing the platform to be flexible so that the long-term 

ownership structure can be adjusted to meet the goals and direction that policy 

makers may set forth for housing finance reform. 

The white paper issued last October also puts forth some broad ideas on creating 

a model contractual framework. Similar to the securitization infrastructure effort, 

the focus of this effort is to identify areas where greater standardization in the contractual framework would be valuable to the mortgage market of the future. 

This is an optimal time to consider how best to address contractual shortcomings 

identified during the past few years. A great deal of work has already been done 

in this area by market participants and additional input will be exceptionally valuable. As the Enterprises move forward with risk sharing transactions such as those 

I will describe shortly, the development of transactional documents will provide a 

real time test of a new standardized contractual framework for transactions where 

the private sector is absorbing credit risk. 

Another aspect of the build goal is the Uniform Mortgage Data Program or 

UMDP. This effort may get overlooked at times, but a solid foundation of data 

standards is vitally important regardless of the future direction of housing finance 

reform. I am very encouraged by this effort as the Enterprises have worked through 

an industry process set up through MISMO—the Mortgage Industry Standards 

Maintenance Organization—to move this process forward. Much has already been 

accomplished through the development of a Uniform Loan Delivery Dataset and a 

Uniform Appraisal Dataset. Work is beginning on the Uniform Mortgage Servicing 

Dataset. This latter effort will take time, but working through the process with a 

broad-based coalition of industry participants in MISMO should serve as a model 

for future efforts as we seek to rebuild the foundation of the mortgage market. In 

the end, the benefits are immense. Developing standard terms, definitions, and industry standard data reporting protocols will decrease costs for originators, 

servicers, and appraisers and reduce repurchase risk. 

Contract 

The second strategic goal is to contract the Enterprises’ dominant presence in the 

marketplace while simplifying and shrinking their operations, thus de-risking both 

Fannie Mae and Freddie Mac’s activities. With an uncertain future, limited capital 

resources, and a general desire for private capital to re-enter the market, the Enterprises’ market presence should be reduced gradually over time. 

To move the ‘‘contract’’ goal forward, we set forth three priorities in the 2013 

Scorecard. 

First, the 2013 Scorecard sets a target of $30 billion of unpaid principal balance 

in credit risk sharing transactions in the single-family credit guarantee business for 

both Fannie Mae and Freddie Mac. A considerable amount of preparatory work was 

done in 2012 to lay the groundwork for executing on risk sharing transactions this 

year, and we have specified that each Enterprise must conduct multiple types of 

risk sharing transactions to meet the 2013 target. The Scorecard encourages the Enterprises to consider transactions involving: expanded mortgage insurance with 

qualified counterparties; credit-linked securities; senior/subordinated securities; and 

perhaps other structures. The goal for 2013 is to move forward with these transactions and to evaluate the pricing and the potential for further execution in scale. 

What we learn in 2013 will set the stage for the targets for 2014, and I fully expect 

to move from a dollar target to a percentage of business target at some point in the 

future. 

Also, while it is not a Scorecard item, we expect to continue increasing guarantee 

fees in 2013, and the execution of the single-family risk sharing transactions I just 

described should provide valuable information as to how market participants are 

pricing mortgage credit risk. As we have noted before, the financial crisis demonstrated that the Enterprises had not fully priced their credit risk. In 2012, guarantee fees were increased twice, bringing the average guarantee fee on new mortgages to around 50 basis points, approximately double what guarantee fees were 

prior to conservatorship. A key motivation behind increasing Enterprise guarantee 

fees is to bring their credit risk pricing closer to what would be required by private 

sector providers. However, I feel it is important to note that increasing guarantee 

fees is part of the goal of contracting the Enterprises’ dominant presence in the marVerDate Nov 24 2008 14:33 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00036 Fmt 6621 Sfmt 6621 L:\HEARINGS 2013\04-18 Z DISTILLER\41813.TXT JASON
33 

ketplace. It is not designed primarily to increase their revenue. The hope is that 

at some point the increases in guarantee fees will encourage private capital back 

into the market. We are not there yet, but in conversations with market participants, I think we are getting closer. 

Second, we are setting a target of a 10 percent reduction in new multifamily business acquisitions from 2012 levels. We expect that this reduction will be achieved 

through some combination of increased pricing, more limited product offerings, and 

tighter overall underwriting standards. The multifamily business differs significantly from the single-family credit guarantee business. The Enterprises have a 

smaller share of the multifamily market and there are other providers of credit in 

the market. The Enterprises’ market share of new multifamily originations did increase during the financial downturn, but in 2012 it returned to a more normal position. 

Another difference from the single-family business is that each Enterprise’s multifamily business has weathered the housing crisis and generated positive cash flow. 

In contrast to their common approach to their single-family businesses, Fannie Mae 

and Freddie Mac do not take the same approach to their individual multifamily 

businesses. Each approach also already embeds some type of risk sharing. For a significant portion of its business, Fannie Mae shares multifamily credit risk with loan 

originators through its delegated underwriting program. Likewise, for a significant 

and increasing portion of its business, Freddie Mac shares multifamily credit risk 

with investors by issuing classes of securities backed by multifamily mortgages 

where the investor bears the credit risk. 

Given that the multifamily market’s reliance on the Enterprises has moved to a 

more normal range, reducing the Enterprises’ footprint in this market is appropriate 

and aligns with the overall goal of contracting their dominant market presence. 

Finally, we are setting a target of selling an additional 5 percent of the less liquid 

portion of the Enterprises’ retained portfolios—primarily their retained portfolios excluding agency securities. The retained portfolios of Fannie Mae and Freddie Mac 

have been declining since 2009. The initial PSPAs required a 10 percent annual reduction, and the most recent changes to the PSPAs increased the annual reduction 

to 15 percent. The composition of the Enterprises’ retained portfolios has also 

changed significantly since the establishment of the conservatorships. Prior to conservatorship, the retained portfolios were dominated by their own mortgage-backed 

securities and performing whole loans. As those securities have been paid down, and 

as the need to work through delinquent loans increased, the retained portfolios 

changed from being relatively liquid to being less liquid. 

Given that natural run-off in the retained portfolios would have likely satisfied 

the PSPA reduction targets in the next few years, and that the Enterprises are not 

actively purchasing new assets for their retained portfolios, requiring them to sell 

from the less liquid portions of their retained portfolios should lead to an even faster 

reduction than is required under the PSPAs. 

Additional Priorities for 2013 

Let me close this review of the conservatorship strategic plan by highlighting a 

couple of other priorities we are working towards in 2013. One will be the near-term 

efforts regarding mortgage insurance. To better protect the interests of the Enterprises, we are updating mortgage insurance master policies by clarifying the role 

and responsibilities of insurance carriers, particularly when servicers pursue loss 

mitigation to help delinquent borrowers. Further, we intend to formulate new mortgage insurance eligibility standards, to ensure that all insurance carriers doing 

business with the Enterprises have the appropriate financial, operational, and management capacity to fulfill their obligations, particularly in the event of additional 

stress to the housing markets. These efforts will be an important and critical step 

for mortgage insurance to remain a viable risk transfer mechanism in the future. 

Another policy project of note is the development of an aligned set of standards 

for so-called force placed, or lender-placed, insurance. The various concerns with 

lender-placed insurance are well-known, including the costs, limitations on coverage, 

and consumer protections. FHFA recently sent a Notice to the Federal Register setting forth an approach to address certain practices relating to lender-placed insurance that we consider contrary to prudent business practices, contrary to appropriate administration of Enterprise guaranteed loans, and which expose the Enterprises to potential losses and safety and soundness risks. 

These practices include sales commissions received by sellers and servicers when 

placing coverage or maintaining placement with particular insurance providers, and 

remuneration received by sellers and servicers from insurance providers that cede 

premiums to a reinsurer that is owned by, affiliated with or controlled by the seller 

or servicer. After receiving input during the 60 day period provided for in the FedVerDate Nov 24 2008 14:33 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00037 Fmt 6621 Sfmt 6621 L:\HEARINGS 2013\04-18 Z DISTILLER\41813.TXT JASON
34 

eral Register Notice and after FHFA review, we would anticipate the Enterprises 

putting these change in practices into place over a several month period. 

We also plan to pursue a broader approach to lender-placed insurance, bringing 

together both public and private sector parties to participate in a dialogue with us 

and with a wide range of stakeholders. Our goal is to establish a set of standards 

that could be adopted by a broader set of mortgage market participants, similar to 

what was done with the Servicing Alignment Initiative. This broadened approach 

will also enable greater regulatory coordination in an effort to consider the various 

issues associated with lender-placed insurance. 

FHFA as Supervisor 

While FHFA has outlined a plan for the next phase of conservatorship, we continue to fulfill our supervisory responsibilities at both the Enterprises and the Federal Home Loan Banks. Since FHFA was created in 2008, we have added more than 

200 employees. Over the past 2 years, we have undertaken substantial restructuring, particularly with regard to our supervision program and have hired experienced examiners at the executive and staff levels. I anticipate a modest amount of 

additional hiring, but believe that FHFA now has the executive management team, 

the organizational structure, and the staff necessary to carry out our safety and 

soundness mission. 

With respect to Fannie Mae and Freddie Mac, we have strengthened our supervision and oversight of their activities, including how they implement and comply 

with conservatorship and FHFA policies. FHFA has in the past year implemented 

several changes that will enable us to quickly and effectively respond to emerging 

risks and developments, and to put in place a framework for supervising the secondary housing market not only today but for the future. This includes issuing supervisory guidance, governing regulations, and establishing a new risk-based supervisory framework. FHFA’s 2013 supervisory objectives include: 

• Assess the risks posed by new initiatives to ensure that they are being implemented under a sound control framework. These initiatives include SAI, the 

common securitization platform, the contract harmonization project, multifamily 

bulk loan sales, and REO disposition programs. 

• Maintain a full understanding of the Enterprise’s overall risk profile, particularly for the incremental risk created by implementing the new initiatives while 

maintaining and upgrading information systems and internal controls. 

• Determine if the board and management are taking appropriate steps to comply 

with conservatorship and supervisory directives. 

• Develop a formalized process for the ongoing monitoring program. 

• Implement the CAMELSO rating system. 

Financial Condition and Performance of the Enterprises and FHLBanks 

Before turning to options for the future, I will first address current market conditions and the financial condition and performance of the Enterprises and of the 

FHLBanks, which are also important components of the U.S. housing finance system. 

Housing Market Conditions 

• We are seeing signs of recovery in the housing market across a number of dimensions and, while the marketplace is by no means ‘‘normalized,’’ conditions 

are promising in many ways. 

• According to the latest data from the National Association of Realtors, the inventory of homes available for sale was only 1.9 million units in February. 

Given that the annualized rate of home sales during that month was nearly 5 

million properties, this represented only about 4.7 months’ worth of supply. Just 

a year earlier, the relative supply was a still modest 6.4 months. And at its 

peak—in July 2010—the supply was 12.1 months. 

• According to the FHFA index, national home prices grew 5.5 percent between 

the fourth quarters of 2011 and 2012. For the 12 month period ending in January, home prices rose 6.5 percent. 

• Census data from December 2011 estimated the seasonally adjusted annualized 

rate of housing starts to be about 700,000 units. By September 2012, that rate 

had grown to roughly 840,000 units and, in March, the rate was estimated at 

1,036,000 units. This compares to a low of about 480,000 units in April 2009, 

and is 71 percent of the long-run average. 

• The latest CoreLogic information, which includes data for October, indicates 

that shadow inventory dropped roughly 12.3 percent between October 2011 and 

35 

October 2012. This decline represented a reduction in the shadow inventory pool 

of about 300,000 units. 

Freddie Mac 

• Net income for the fourth quarter of 2012 totaled $4.5 billion, and represented 

the fifth consecutive quarter of positive earnings. Annual net income of $11 billion represented a record level of earnings for Freddie Mac and compares to a 

net loss of $5.3 billion in 2011. 

• In 2012 Freddie Mac required $19 million of funding from Treasury bringing 

the cumulative Treasury draw to $71.3 billion. Through December 31, 2012, 

Freddie Mac has paid $23.8 billion in cash dividends to Treasury on the company’s senior preferred stock. Under the PSPAs, the payment of dividends cannot be used to offset prior Treasury draws. This provision has remained unchanged since the PSPAs were established. So while $23.8 billion has been paid 

to Treasury in dividends, Treasury still maintains a liquidation preference of 

$72.3 billion on its senior preferred stock. Freddie Mac has $140.5 billion remaining in available support from Treasury. 

• The credit quality of new single-family acquisitions remained high in the fourth 

quarter of 2012, with a weighted average FICO score of 756. The average loanto-value (LTV) ratio for new business was 75 percent. This higher LTV ratio is 

due to the expansion of HARP eligibility to borrowers whose mortgages have 

LTV ratios above 125 percent and to relief provided to lenders for borrowers 

with LTV ratios above 105 percent. These high LTV refinances represented 43 

percent of HARP loans in 2012. 

Fannie Mae 

• Net income for the fourth quarter of 2012 totaled $7.6 billion, and represented 

the fourth consecutive quarter of positive earnings. Annual net income of $17.2 

billion represented a record level of earnings for Fannie Mae and compares with 

a net loss of $16.9 billion for 2011. 

• Fannie Mae did not require funding from Treasury in 2012. Fannie Mae’s cumulative Treasury draw remains at $116.1 billion. Through 2012, Fannie Mae 

has paid $35.6 billion in cash dividends to Treasury on the company’s senior 

preferred stock. Under the PSPAs, the payment of dividends cannot be used to 

offset prior Treasury draws. This provision has remained unchanged since the 

PSPAs were established. So while $36.5 billion has been paid to Treasury in 

dividends, Treasury still maintains a liquidation preference of $117.1 billion on 

its senior preferred stock. Fannie Mae has $117.6 billion remaining in available 

support from Treasury. 

• The credit quality of new single-family acquisitions was strong in 2012, with a 

weighted average FICO score of 761. The average LTV for new business was 

75 percent in 2012, compared with 69 percent in 2011. The year-over-year increase in average LTV ratios is due to the expansion of HARP to borrowers with 

high LTV mortgages. 

Federal Home Loan Banks 

• The FHLBanks have emerged from the financial crisis in generally good condition. They are profitable and have strengthened capital positions. The 

FHLBank System reported net income of $2.6 billion in 2012, the highest annual earnings since 2007. 

• Retained earnings have grown significantly in recent years and totaled $10.4 

billion, or 1.37 percent of assets, as of year-end 2012. Retained earnings are at 

their highest level ever, and will continue to grow as a result of provisions included in each FHLBank’s capital plan. The FHLBank System regulatory capital ratio of 6.8 percent exceeds the regulatory requirement of 4.0 percent. The 

market value of the FHLBanks is 124 percent of the par value of capital stock, 

the highest ratio in at least 11 years. 

• The aggregate balance sheet of the FHLBanks has shrunk considerably in recent years, led primarily by declining advance volumes due to market liquidity 

and sluggish economic growth. Advances totaled $426 billion as of year-end 

2012, down 58 percent from a peak of $1.01 trillion in the third quarter of 2008. 

• Viewed over the past business cycle, the FHLBanks carried out their public purpose of providing credit when needed to support the mortgage investments of 

their members. 

36 

Role of the Government in Housing Finance 

The key question in housing finance reform is what, and how large, should the 

role of the Federal Government be? While it is ultimately up to lawmakers to provide an answer, in my opinion the main purpose in addressing housing finance reform should be to promote the efficient provision of credit to finance mortgages for 

single-family and multifamily housing. An efficient market system for providing 

mortgage credit to people that want to buy a house should have certain core characteristics: (1) it should provide consumer choice, (2) it should provide consumer protections, (3) it should allow for innovation by market participants, and (4) it should 

facilitate transparency. 

As lawmakers consider the extent of the Government’s role in housing finance, it 

is useful to start with some basic market facts. As of the fourth quarter of 2012, 

there was about $9.9 trillion in single family mortgage debt outstanding. About 13 

percent was guaranteed through direct Government programs, roughly 52 percent 

was guaranteed by Fannie Mae and Freddie Mac, and the remainder not guaranteed by the Federal Government. 

On a flow basis, Inside Mortgage Finance reports that in the third quarter of 2012 new single family mortgage originations totaled approximately $510 billion. Of that 

total roughly 18 percent was guaranteed through direct Government programs, 66 

percent through Fannie Mae and Freddie Mac, and 16 percent not guaranteed by 

the Federal Government. 

Measured by securities issuance, the proportion supported by the Government is 

over 90 percent. 

However measured, it should be clear that today’s housing finance market is 

dominated by Government support. 

The relevant question then appears to be more in the line of how we move from 

the housing finance market of today, where almost all new single-family mortgage 

originations have some type of Government support, to a future market far more 

reliant on the private provision of mortgage credit? And in particular, of the $5 trillion portion of the mortgage market currently served by the Enterprises, what 

share, if any, should have Government credit support in the future? 

From the point of view of an economist, the answer to this question, and to the 

general question of how great a role the Government should ultimately play in the 

housing finance sector, begins with consideration of a potential market failure. A 

market failure may lead the private market to produce less of, or more of, a particular good than would be economically optimal. Broadly speaking, in housing finance there are at least two potential market failures that are often considered; 

each may lead to an under-provision of mortgage credit. 

A potential market failure could arise in housing finance if market participants 

have undue or unnecessary concerns about the ongoing stability and liquidity of 

mortgage credit in a purely private market across various economic environments. 

If this view prevails in the housing market, less credit will be provided than would 

be the case in the absence of this type of uncertainty. The Government response to 

this type of potential market failure could take a number of approaches, ranging 

from establishing standards and greater transparency for the market; providing liquidity or credit support under certain market conditions; to providing a Government guarantee to largely eliminate uncertainty. 

Another potential market failure is what is often thought of as the positive externality associated with home ownership. In this view, the benefits of home ownership 

extend beyond the individual household to the broader aspects of society, hence if 

left solely to the market the number of homeowners will be less than optimal. The 

broader societal benefits of home ownership that are often highlighted include 

things such as the propensity for homeowners to engage more in civic and political 

action; stronger neighborhood and social ties that accompany home ownership; the 

opportunity to build family wealth through home equity; and the willingness of 

homeowners to make improvements to their property, thereby increasing the value 

of their home and neighborhood. A common Government approach to increase market demand is to provide some type of subsidy or other assistance to encourage or 

facilitate such consumption. Direct subsidies to lower the cost of mortgage credit or 

easing the eligibility terms for a mortgage are methods of delivering subsidies 

through the housing finance market. Government policies beyond the housing finance market are also used to promote housing demand. Prominent among these 

is the mortgage interest tax deduction. 

These policies demonstrate that as a Nation we are committed to providing opportunities for home ownership, and there may be other social goals where it is decided 

that Government support is warranted. The Federal Housing Administration (FHA) 

and other traditional Government credit programs are typically used to address 

credit market failures or to achieve public policy goals. If policy makers begin by 

37 

defining the role FHA and other Government mortgage credit programs should play 

in the future in terms of which borrowers should have access to these programs, 

then it should be easier to consider the Government’s role, if any, in the remainder 

of the mortgage market. 

This is not dissimilar to the approach taken in other credit markets. Take business lending as an example. The Government provides support to address potential 

market failures or achieve other public policy goals through the Small Business Administration and through direct Government credit programs. The rest of the small 

business loan market is generally left to the private sector, and credit for larger 

businesses is generally provided without direct Government credit support. Other 

consumer credit markets, like auto loans, have little if any direct Government credit 

involvement at all. 

However, a very important difference separates the single-family mortgage market from other consumer credit markets—the size of the overall market. As I mentioned earlier, there is currently around $9.9 trillion in single-family mortgage debt 

outstanding. A market of this size needs to draw on broader sources of capital to 

fund this level of activity. The single-family mortgage market has come to rely on 

the Enterprises as the mechanism for attracting capital. 

With their statutory public mission of supporting a stable and liquid mortgage 

market, along with their low capital requirements, the Enterprises were long able 

to guarantee mortgage credit risk at a volume and price at which other market participants could not compete. They were also seen as having a public mission to promote the availability of mortgage credit, especially to support affordable housing. 

Still, there seems to be relatively broad agreement that this Government-sponsored enterprise model of the past, where private sector companies were provided 

certain benefits and charged with achieving certain public policy goals, did not 

work. That model relied on investors providing funding for housing at preferential 

rates based on a perception of Government support, which ultimately turned out to 

be correct and has resulted in Enterprises’ drawing $187.5 billion in funds from 

Treasury as of December 31, 2012. 

Determining how to replace this flawed model—and developing an efficient secondary market that can access capital markets in order to serve that part of the 

single-family mortgage market that is not covered by traditional Government credit 

programs—is central to congressional consideration of ending the conservatorships 

of the Enterprises. 

The options for consideration range from a market-oriented approach that would 

ensure broad minimum standards, to establishing a Federal backstop to provide liquidity when needed, to developing a Government guarantee structure to ensure 

stability in the flow of mortgage credit and limit market uncertainty. These options 

are not novel. They are essentially the three options that the Administration set 

forth in its white paper more than 2 years ago. Let me offer some thoughts on these 

three options. 

Standard-Setting 

This approach would replace some of the standard-setting that the Enterprises 

undertake today with a regulatory regime or a market utility that sets those standards and that are subject to rigorous supervision. This model would not rely on a 

Government guarantee to attract funding to the mortgage market, but would look 

to standardization and rules for enforcing contracts to provide a degree of certainty 

to investors. The focus in such an approach could be on setting standards around 

key features that investors need to know to be willing to price credit risk in the 

mortgage market. These include standards associated with underwriting, pooling 

and servicing, and disclosures. 

Clearly, a standard-setting framework is much different than a framework that 

has a Government guarantee. Investors would be required to price the credit risk 

of mortgages. They also would be responsible for enforcing their rights under the 

standard contracts developed under this framework. Those requirements are consistent with the way that a private market functions. Arguably, this is part of the 

market oversight and investor protection regime that is already established in various securities laws overseen by the Securities and Exchange Commission. 

Part of the question here is, given the size of the single family mortgage, and the 

unique characteristics of today’s agency securities market, in particular the To-BeAnnounced market, would additional standard-setting measures enhance liquidity 

and provide further structure to the market? An important question to consider is 

whether there are other areas in terms of monitoring or compliance that could potentially broaden the investor base while still achieving the primary function of having private markets price credit risk? 

38 

To establish a liquid non- government-guaranteed market there would seem to be 

a need to have greater homogeneity in borrower characteristics. I would think such 

a market would broadly cover the bulk of the business that the Enterprises undertake today, but such a market might not be available to all borrowers currently 

served by the Enterprises. With greater transparency in requirements, it would give 

borrowers a clear sense of the qualification requirements. Traditional Government 

guarantee programs would still exist to meet various policy goals. And finally, for 

borrower characteristics that do not fit neatly into the secondary market, we need 

to find a way to get banks, thrifts, and credit unions back into the business of funding mortgages. Understanding individual borrowers and special circumstances is at 

the heart of the financial intermediation function of insured depository institutions. 

Whatever changes are made to the secondary market, I hope we preserve the option 

for local banks to make mortgages in their communities, and hold those mortgages 

on the bank’s balance sheet. I would also note that the Federal Home Loan Banks 

give banks and other depository institutions access to credit across the maturity 

spectrum to assist in funding such mortgages on depository institution balance 

sheets. 

Federal Backstop 

In a standard-setting approach without a Government guarantee, it would be important to consider how such a market would operate in a time of stress. Having 

clear standards and greater transparency would certainly improve market operations, but there still could be cyclical swings that could broadly be of concern to 

the Government. Two potential concerns are: 

• Preserving the availability of credit in times of stress is an important function. 

Is there a role for the Government, perhaps through the Federal Housing Administration to take on this role if necessary? Or alternatively, with a more 

standardized market and infrastructure, would it be possible for an existing 

guarantor, like Ginnie Mae, to play such a temporary guarantee function? 

• Preserving liquidity in the market and the financial system in this framework 

would be an important function. Is there a need for a backstop source of funding 

when financial markets become temporarily illiquid? For example, could the 

Treasury Department, the Federal Reserve, or the Federal Home Loan Banks 

play a role in a market that had this type of standardized structure? 

Government Guarantee 

Finally, the third option is a secondary mortgage market operating with some 

type of Government guarantee. This is somewhat similar to what we have today. 

Clearly if the securities offered in a reformed housing finance market have a Government guarantee, those securities will be priced favorably and have a high degree 

of liquidity to reflect that guarantee. However, pricing for those securities would not 

provide the benefit of market pricing for credit risk of the underlying mortgages. 

In such a structure, private sector capital through equity investment would stand 

in a first loss position, with a Government guarantee that was funded through an 

insurance premium being available to cover other losses (much like with deposit insurance in the banking system). This type of structure requires a significant amount 

of regulatory safety and soundness oversight to protect against the moral hazard associated with providing a Government guarantee. 

While such an outcome has certain merit and some attractive features, the potential costs and risks associated with this type of framework should be fully explored. 

Simply put, replacing the Enterprises’ implicit guarantee with an explicit one does 

not resolve all the shortcomings and inherent conflicts in that model, and it may 

produce its own problems. As I have in past testimony, I offer three observations 

in this regard. 

First, the presumption behind the need for an explicit Federal guarantee is that 

the market cannot evaluate and price the tail risk of mortgage default, at least at 

any price that most would consider reasonable, or it cannot manage that amount 

of mortgage credit risk on its own. But we might ask whether there is reason to 

believe that the Government will do better? If the Government backstop is underpriced, taxpayers eventually may foot the bill again. 

Second, if the Government provides explicit credit support for the vast majority 

of mortgages in this country, it would likely want a say with regard to the allocation 

or pricing of mortgage credit for particular groups or geographic areas. The potential 

for Government involvement to distort the pricing of credit risk may subject taxpayers to further involvement if things do not work out as planned. 

Third, regardless of any particular Government allocation or pricing initiatives, 

explicit credit support for all but a small portion of mortgages, on top of the existing 

tax deductibility of mortgage interest, would further direct our Nation’s investment 

39 

dollars toward housing. It would also drive up the price of housing, other things 

being equal. A task for lawmakers is to weigh such incentives and outcomes against 

the alternative uses of such funds. 

Fourth, what will be the breadth and depth of regulatory authority and how is 

it exercised? For example, just how much capital should be maintained by a major 

mortgage market enterprise. 

Finally, what I have just discussed relates to the single-family mortgage market. 

A similar type of analysis could be performed for the multifamily market. 

Conclusion 

Few of us could have imagined in 2008 that we would be approaching the fifth 

anniversary of placing Fannie Mae and Freddie Mac in conservatorship and that we 

have made little meaningful progress to bring these Government conservatorships 

to an end. The conservatorships were never intended to be a long-term solution. 

They were meant primarily as a ‘‘time out’’ for the rapidly eroding mortgage market—an opportunity to provide some stability while Congress and the Administration could figure out how best to address future reforms to the housing finance system. 

The U.S. housing finance system cannot really get going again until we remove 

this cloud of uncertainty and it will take legislation to do it. Fannie Mae and 

Freddie Mac were chartered by Congress and by law, only Congress can abolish or 

modify their charters and set forth a vision for a new secondary market structure. 

While FHFA is doing what it can to encourage private capital to return to the marketplace, so long as there are two Government-supported firms occupying this space, 

full private sector competition will be difficult, if not impossible, to achieve. 

I have been observing a developing ‘‘consensus’’ among private market participants that the conforming conventional mortgage market cannot operate without 

the American taxpayer providing the ultimate credit guarantee for most of the market. As I have noted, that clearly is one policy outcome, but I do not believe it is 

the only outcome to be considered that can give our country a strong housing finance system. I believe that our country and our financial system are stronger than 

that. I believe it is possible to rebuild a secondary mortgage market that is deep, 

liquid, and competitive; that is subject to appropriate supervision and regulation, 

and will operate without an ongoing reliance on taxpayers or, at least, a greatly reduced reliance on taxpayers, if that is what we set our minds to accomplishing. 

Where lawmakers identify particular market failures requiring direct Government 

involvement, there may be more targeted approaches to addressing those issues 

than a broad subsidy to credit. For example, if certain borrowers or communities 

are of concern, taxpayer support could be targeted directly to support the building 

or purchasing of housing rather than indirectly through credit subsidies. Individual 

communities have already undertaken this approach, developing their own comprehensive list of challenges and potential solutions and bringing these to all parties 

involved with their communities. 

I have said before, however, that these choices are for elected officials to make, 

not me. I am committed to working with this Committee, its counterpart in the 

House, and the Administration to make these policy determinations and then set 

about ending these conservatorships and transitioning to a future housing finance 

system that can serve our children, grandchildren, and beyond. 

Thank you again for inviting me here today. I look forward to discussing these 

important matters with all of you. 

PREPARED STATEMENT OF STEVE A. LINICK 

INSPECTOR GENERAL, FEDERAL HOUSING FINANCE AGENCY

APRIL 18, 2013 

Thank you, Chairman Johnson and Ranking Member Crapo and Members of the 

Committee on Banking, Housing, and Urban Affairs, for inviting me to testify here 

today. I appreciate the opportunity to update the Committee on the work of the Federal Housing Finance Agency Office of Inspector General (OIG). 

OIG began operations in October 2010, in the midst of an unprecedented housing 

and financial crisis of historic proportions. Since our beginning, we have published 

49 reports and have commenced multiple criminal and civil investigations. 

Today, I will discuss emerging trends based on our work to date, discuss the challenges associated with ongoing uncertainty about the future of Fannie Mae and 

Freddie Mac, describe our operations, and answer the Committee’s questions. 

40 

About OIG 

OIG oversees FHFA’s operations and programs. This oversight includes the Agency’s regulation of the housing Government-sponsored enterprises (GSEs)—Fannie 

Mae, Freddie Mac, and the 12 Federal Home Loan Banks (FHLBanks); the GSEs’ 

approximately 12,000 employees; as well as the conservatorships of Fannie Mae and 

Freddie Mac. Fannie Mae and Freddie Mac currently own or guarantee $5 trillion 

in mortgages. To date, they have received $187.5 billion in taxpayer money in order 

to ensure their continuing solvency. 

OIG’s mission is to promote the economy, efficiency, and effectiveness of FHFA’s 

programs and operations. To carry out its mission, OIG conducts and coordinates 

audits and evaluations of FHFA’s programs and operations. OIG also works to prevent and detect fraud, waste, and abuse in those programs and operations through 

investigations involving FHFA, Fannie Mae, Freddie Mac, and the FHLBanks. Important features of OIG’s work are the promotion of transparency in FHFA programs and GSE oversight, as well as public understanding of matters affecting 

FHFA, the GSEs, and housing policy. 

A. Emerging Trends 

Since I last testified, we have seen a turnaround in the profitability of the Enterprises. This is the first period since 2008 in which the Enterprises, still under FHFA 

conservatorships, have returned to profitability; in 2012, they earned record profits 

of more than $28 billion. 

1. FHFA Is Making Progress 

FHFA has made progress in its role as conservator and regulator of the Enterprises across a variety of fronts. For example, FHFA has launched a number of initiatives intended to address key objectives, such as aligning Enterprise practices, 

improving service to borrowers, and conserving and preserving Enterprise assets. 

These initiatives include the Servicing Alignment Initiative, Uniform Mortgage Data 

Program, Joint Servicing Initiative, and lawsuits that FHFA has filed against 18 investment banks to recover investment losses incurred on residential mortgagebacked securities issued by those firms. 

FHFA has also accepted and begun to implement the vast majority of our audit 

and evaluation report recommendations. For example: 

• In December 2010, FHFA approved a buyback settlement with Bank of America 

in which the bank agreed to pay $1.35 billion to settle loan repurchase claims 

asserted by Freddie Mac. A subsequent OIG report raised concerns about the 

adequacy of the review of nonperforming loans for repurchase claims. Freddie 

Mac has since acted on our concerns and expanded its loan review process; it 

now believes that the expanded process may produce additional revenues ranging from $2.2 to $3.4 billion over 3 years. 

• Since OIG’s March 2011 report, FHFA has taken action to enhance its oversight 

and control of executive compensation. For instance, FHFA revised certain aspects of the compensation program, which, in the case of the Fannie Mae and 

Freddie Mac CEOs, significantly reduced their annual pay. 

• In the aftermath of reports that the LIBOR rate affecting financial transactions 

was improperly manipulated, OIG began examining the potential impact of this 

manipulation on Fannie Mae and Freddie Mac. We concluded in a memorandum to FHFA that it was possible the Enterprises had suffered sizable 

losses, and we offered recommendations for Agency action to recover any such 

losses on behalf of the Enterprises. Subsequently, Freddie Mac has sued to recover its losses. 

2. As Conservator FHFA Needs To Be More Involved in Enterprise Decision 

Making 

Although the Agency has made progress, our work continues to show that FHFA 

can improve its role as conservator and regulator. As conservator of the Enterprises, 

FHFA’s mission is to preserve and conserve Enterprise assets. Throughout our body 

of work we have identified instances in which FHFA has displayed undue deference 

to Enterprise decision making in its capacity as conservator. Without adequately 

testing or validating data, FHFA has at times deferred to the Enterprises regarding 

key matters under the conservatorships. We believe the Agency’s actions in these 

cases reflect its approach as conservator to delegate most business decisions to the 

Enterprises. In each case, it relied upon review and corporate governance processes 

already in place at the Enterprises. However, we have concluded that some matters 

are sufficiently important to warrant greater involvement and scrutiny by the AgenVerDate Nov 24 2008 14:33 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00044 Fmt 6621 Sfmt 6621 L:\HEARINGS 2013\04-18 Z DISTILLER\41813.TXT JASON
41 

cy. In some cases, the deficiencies have been remediated, but in other cases they 

still persist. For example: 

• Conservatorship decision making. In a September 2012 report, we found that 

FHFA unduly relied on information provided by Fannie Mae when it issued a 

‘‘no objection’’ response to Fannie Mae’s last minute request to make a financial 

investment of between $55 and $70 million. Fannie Mae requested the Agency’s 

approval as conservator to make the investment; FHFA approved the request 

that same day but stated that given the complex nature of the transaction and 

the short time frame for its decision, the Agency could not assess the reasonableness of the proposal. 

• Conservatorship decision making. In the same report, we also found that over 

a 3-year period Fannie Mae took over 4,500 actions to increase the Enterprise’s 

counterparty risk limits without first obtaining conservator approval, even 

though such approval was required and Freddie Mac had submitted such 

counterparty risk limit increases for conservator approval. We also found that 

FHFA had not discovered Fannie Mae’s lapses. FHFA has subsequently revised 

its policies and procedures surrounding requests for conservatorship approval. 

• Underwriting. In a March 2012 audit, we found that the Agency’s oversight of 

underwriting, along with the accompanying variances that effectively further 

loosen underwriting standards, was limited; FHFA relied on the Enterprises to 

oversee and establish underwriting standards and to grant variances. Subsequent to our audit recommendations, FHFA established a formal process to review the Enterprises’ underwriting standards and variances. 

• Transaction testing/exam capacity. Transaction testing includes reviewing files 

to test the veracity of statements made by the Enterprises to examiners. In a 

September 2011 evaluation of FHFA’s capacity to examine the GSEs, we found 

that examiners too often accept assertions made by Enterprise managers rather 

than independently validating such assertions through appropriate transaction 

testing. 

• Buybacks. In approving the buybacks settlement discussed above, FHFA relied 

on Freddie Mac’s analysis of the settlement without testing the assumptions underlying the Enterprise’s existing loan review process. OIG found in a subsequent report that implementation of our changes may generate additional recoveries of $2.2 to $3.4 billion. 

3. As Regulator FHFA Can Be More Proactive in Managing Risk 

In multiple reports we identified instances in which FHFA was not proactive in 

risk management. In general, we have observed that FHFA has difficulties identifying new and emerging risks potentially affecting the GSEs, issuing guidance and 

regulations governing risk management at the GSEs, and providing strong and consistent enforcement for violations of policy. Some instances of risk management 

shortfalls identified by OIG have been addressed, nevertheless, FHFA still needs to 

do more to identify and manage risks and take enforcement action where warranted. 

Identification of Risk 

Our work has shown that the Agency’s ability to identify new and emerging risks 

has been limited. Here are some examples: 

• Advances to Insurance Companies. In a March 2013 report, we found that during the past 8 years, FHLBanks’ advances to insurance companies who are 

FHLBank members have more than quadrupled—from $11.5 billion in 2005 to 

$52.4 billion in 2012. Lending to insurance companies may present unique risks 

compared with lending to other FHLBank members. Yet, neither FHFA nor the 

FHLBanks obtain confidential supervisory or other regulatory information relating to insurance company members from State regulators or the National Association of Insurance Commissioners. 

• Default-Related Legal Services. In a September 2011 report, we found that there 

were indicators as early as 2006 that could have led FHFA (and its predecessor) 

to identify the heightened risk posed by foreclosure abuses associated with 

Fannie Mae’s default-related legal services network. The indicators included the 

rise in foreclosures accompanying the deterioration of the housing market, increased consumer complaints alleging improper foreclosures, contemporaneous 

media reports of foreclosure abuses, and public court filings in Florida and elsewhere critical of such abuses. Notwithstanding these indicators, FHFA did not 

devote attention to the foreclosure abuse issues until August 2010. The Agency 

is now implementing changes intended to rectify that oversight. 

42 

• REO. In a July 2012 report, we found that since 2008, FHFA has consistently 

listed the Enterprises’ large inventories of real-estate owned (REO) properties 

acquired in the foreclosure process as contributing to ‘‘critical concern’’ ratings 

in their quarterly risk assessments. FHFA did not conduct targeted examinations or focused reviews of REO until 2011. FHFA’s eventual targeted examinations in 2012 were positive supervisory steps, but expanding the scope of the 

assessments to evaluate more risks can help the Agency improve its supervision 

of real-estate owned. 

Risk Management 

The Agency has not always managed identified risks by establishing sufficient 

regulations or guidance. 

• Servicing. In a September 2012 report, we found that FHFA has not timely addressed known risks presented by mortgage servicing contractors. For example, 

FHFA has not developed sufficient regulations or guidance governing the Enterprises’ oversight and risk management of counterparties, such as servicers. Specifically, FHFA had not established and implemented effective Enterprise regulations or guidance for controlling the reporting of critical servicer information 

and establishing baseline requirements for mortgage servicing. Instead, FHFA 

relied on the Enterprises to monitor counterparty risk as part of their ongoing 

risk management activities. Although FHFA has made progress in this area, 

servicing remains an ongoing challenge. 

• High-Risk Seller/Servicers. In a September 2012 report, we found that FHFA 

has not addressed known risks presented by mortgage seller/servicers by developing sufficient regulations or guidance governing the Enterprises’ oversight 

and risk management of such counterparties. The Enterprises work with numerous seller/servicers for post-origination mortgage work, such as collecting 

mortgage payments. These seller/servicers represent a significant risk to the 

Enterprises. Specifically, FHFA has not published standards for the development of contingency plans related to failing or failed high-risk counterparties. 

Counterparty contingency plans will not eliminate losses, but they can serve as 

a road map to help reduce the Enterprises’ risk exposure. Managing such seller/ 

servicer risk is important, as the Enterprises have incurred losses of $6.1 billion 

from failures at just four of their counterparties since 2008. FHFA recently 

issued an advisory bulletin containing guidance and outlining criteria on written contingency plans. 

Enforcement 

Even when FHFA has identified risks and taken steps to manage those risks, the 

Agency has not consistently enforced its directives to ensure that identified risks are 

adequately addressed. As conservator and regulator, FHFA’s authority over the Enterprises is broad and includes the ability to discipline or remove Enterprise personnel in order to ensure compliance with Agency mandates. OIG has reported that 

FHFA’s supervision and regulation of the GSEs is strengthened by exercising this 

authority where warranted. 

• Operational Risk at Fannie Mae. In a September 2011 report, we found that 

FHFA had not compelled Fannie Mae’s compliance with directives requiring it 

to establish an effective operational risk management program. Fannie Mae’s 

lack of an acceptable and effective program may have resulted in missed opportunities to strengthen oversight of law firms with which it contracts to process 

foreclosures. 

• Troubled FHLBanks. Benefit of stronger FHFA enforcement also extends to 

FHLBanks. For example, since 2008 at least four FHLBanks have faced significant financial and operational difficulties which classified them as institutions 

with ‘‘supervisory concerns.’’ In a January 2012 report, we determined that 

FHFA had not established a consistent and transparent written enforcement 

policy for troubled FHLBanks having such a classification. This contributed to 

instances in which FHFA may not have held such banks and their officers sufficiently accountable for engaging in questionable risk taking. 

• Unsecured FHLBank Lending. In a June 2012 report, we identified FHFA’s current regulation governing unsecured lending by the FHLBanks as possibly outdated and overly permissive, as well as noncompliant with the Agency’s existing 

regulation. More specifically, FHFA did not initially pursue potential evidence 

of FHLBanks’ violations of the existing regulatory limits and take supervisory 

and enforcement actions as warranted. OIG is currently conducting a follow-up 

report on this topic. 

43 

Recent Examples 

Two recent OIG reports exemplify multiple aspects of FHFA’s shortfalls in risk 

management: 

• Consumer Protection. The Enterprises’ seller/servicer counterparties contractually agree to comply with all Federal and State laws and regulations (including consumer protection statutes) applicable to originating, selling, and servicing loans. If a counterparty does not comply, the Enterprises can require it 

to repurchase the noncompliant loan. We found in a March 2013 report that 

FHFA does not examine how the Enterprises monitor compliance with consumer protection laws, and the Enterprises do not ensure that their counterparties from which they purchase loans comply with such laws. Because FHFA has 

not identified compliance as a risk, it has not issued any guidance to the Enterprises. Further, FHFA has not attempted to enforce compliance with contractual provisions. We recommended that FHFA develop a risk-based plan to monitor the Enterprises’ oversight of their counterparties’ contractual compliance 

with applicable laws and regulations. FHFA agreed with our recommendation. 

• Consumer Complaints. The Enterprises pay mortgage servicers to collect payments, interact with borrowers, and handle their complaints. The more serious 

complaints are called ‘‘escalated cases’’ and include foreclosure actions that violate the Enterprises’ guidelines, complaints that the borrower was not appropriately evaluated for a foreclosure alternative, and violations of the Enterprises’ time frames for borrower outreach. 

We found in another March 2013 report that between October 2011 and November 2012, Freddie Mac and its eight largest servicers received over 34,000 complaints that became escalated cases. A servicer’s failure to quickly and accurately 

resolve these escalated cases can prevent foreclosure alternatives from being adequately explored with borrowers and may result in losses to the Enterprise. 

In early 2011, FHFA announced its Servicing Alignment Initiative, which requires 

servicers to report on escalated cases they receive and resolve cases within 30 days 

of receiving them. We found that FHFA, Freddie Mac, and its servicers did not fulfill their respective responsibilities to address and resolve escalated cases. First, evidence suggests that most of Freddie Mac’s servicers are not complying with reporting requirements for escalated cases. As of December 2012, 1,179 or 98 percent of 

Freddie Mac’s servicers had not reported on any escalated cases even though they 

managed 6.6 million mortgages for Freddie Mac. Of Freddie Mac’s eight largest 

servicers—which serviced nearly 70 percent of its loans—four did not report any information about escalated cases despite handling more than 20,000 such cases during the 14-month period between October 2011 and November 2012. 

Further, of the 25,528 escalated cases resolved by the eight largest servicers during the 14-month period between October 2011 and November 2012, 5,372 or 21 percent were not timely resolved within 30 days. Additionally, Freddie Mac did identify 

this as a risk area yet did not implement independent testing procedures during its 

operational reviews of its largest national and regional servicers. As a result, it had 

findings related to escalated cases in only 1 of 38 reviews of its largest national and 

regional servicers that it conducted in 2012. Freddie Mac has also neglected to establish penalties (such as fines) for servicers that do not report escalated cases. 

Finally, FHFA did not identify the foregoing problems through its own examination of Freddie Mac’s implementation of the Servicing Alignment Initiative. Rather 

than independently testing servicers’ compliance with complaint reporting requirements, the FHFA examination team relied exclusively on Freddie Mac’s on-site operational review reports, which did not mention problems with servicer reporting. 

Thus, FHFA’s examination of Freddie Mac’s implementation of the Servicing Alignment Initiative did not identify servicers’ failures to report escalated cases or resolve 

them in 30 days. Additionally, FHFA lacks guidance for examination teams to use 

when testing the implementation of directives, such as its Servicing Alignment Initiative. 

To address and resolve escalated consumer complaints in a timely and consistent 

manner, we recommended that the Agency ensure Freddie Mac requires its 

servicers to report, timely resolve, and accurately categorize escalated cases; ensure 

that Freddie Mac enhances its oversight of the servicers through testing servicer 

performance and establishing fines for noncompliance; and improve its oversight of 

Freddie Mac by developing and implementing effective examination guidance. FHFA 

agreed with our recommendations. 

4. FHFA May Not Have Enough Examiners 

FHFA has critical regulatory responsibilities with respect to the GSEs and conservator responsibilities regarding the Enterprises. Nonetheless, in a 2011 report we 

44 

found that the Agency had too few examiners to ensure the efficiency and effectiveness of its GSE oversight program; due to examiner shortages, FHFA had scaled 

back planned work during examinations, and examinations often took much longer 

than expected to complete. Additionally, we identified shortfalls in the Agency’s examination coverage, particularly in the crucial area of REO. We also found that the 

majority of the Agency’s examiners lacked the certification that is required at other 

Federal financial regulatory examination divisions. Although the Agency has made 

progress since we issued this initial report by reorganizing the examination function 

and hiring new staff, it is not clear that FHFA has achieved adequate resources. 

Many of our subsequent reports continue to recommend expanded or improved examination coverage. We have initiated follow-up work to determine FHFA’s progress 

in staffing its examination teams. 

B. Challenges Associated With Ongoing Uncertainty 

We are mindful that FHFA’s long-term success—and our ability to assess the enduring effectiveness, efficiency, and economy of the Agency’s actions—is necessarily 

affected by the uncertainty surrounding the fate of the Enterprises and that of the 

housing finance system. In other words, FHFA must effectively direct the Enterprises’ operations while fundamental questions about its role and theirs remain unanswered. 

In September 2008, when Fannie Mae and Freddie Mac entered into 

conservatorships overseen by FHFA, it was generally assumed that FHFA’s role as 

conservator would be temporary and short-lived. Yet, nearly 5 years later, Fannie 

Mae and Freddie Mac are still in conservatorships with no clear end in sight. Indeed, no one is sure how long the Enterprises will continue to exist in their current 

form or what their future roles, if any, will be. Thus, human resource issues have 

been and will remain a challenge for FHFA and the Enterprises. Not only does the 

uncertain future present a challenge in recruiting and retaining employees, the 

Agency and the Enterprises are hampered in making longer-term staffing allocations because their future roles remain uncertain. 

Until the uncertainty is resolved, we will continue to focus on housing finance 

matters, such as managing risks and repaying taxpayers. 

C. OIG Operations 

1. OIG Audits and Evaluations 

In addition to monitoring and reporting on FHFA’s progress in implementing report recommendations, my office will continue to release new audits and evaluations 

covering key areas. OIG maintains an Audit and Evaluation Plan focused on the 

areas of FHFA’s operations posing the greatest risks and providing the greatest potential benefits to FHFA, Congress, and the public. Originally developed with input 

from an independent, third-party risk assessment, the Audit and Evaluation Plan 

also takes into account the feedback we receive about our work from FHFA officials, 

members of Congress, and others. Broadly, OIG’s audit and evaluation strategies include reviews of the following FHFA activities: 

• Regulatory efforts and its management of the Fannie Mae and Freddie Mac 

conservatorships. The Enterprise conservatorships are particularly high-risk 

areas in which taxpayers have invested $187.5 billion to date. As conservator, 

FHFA must regulate and oversee the Enterprises in an efficient, effective, and 

transparent manner so as to minimize taxpayer costs, conserve and preserve 

Enterprise assets, and meet all statutory mandates. 

• Oversight of the FHLBanks and their associated risks, including investment 

portfolio management and concentrations, credit underwriting, and administration. 

• FHFA and GSE internal operations involving issues that relate to information 

security as well as allegations of fraud, waste, or abuse. 

Given the Committee’s interest, I want to highlight some of our projects that are 

currently underway. First, we are assessing a number of FHFA’s new or expanded 

initiatives, including the Servicing Alignment Initiative, the proposed Common 

Securitization Platform for the Enterprises, the Fannie Mae REO pilot program, and 

HARP 2.0. Additionally, we are conducting further work to follow up on our December 2012 consumer protection report entitled ‘‘FHFA Should Develop and Implement 

a Risk-Based Plan to Monitor the Enterprises’ Oversight of Their Counterparties’ 

Compliance with Contractual Requirements Including Consumer Protection Laws’’. 

There, we assessed FHFA’s oversight of the Enterprises’ monitoring of seller/ 

servicer compliance with their contractual agreements, with an emphasis on their 

compliance with Federal consumer protection laws. The next phase of our work will 

45 

move from the Agency’s oversight of the Enterprises to the Agency’s oversight of 

servicers. However, I look forward to working with you and reporting our findings 

and recommendations in the coming months. 

2. Investigations 

Within OIG, the Office of Investigations is actively engaged in combating fraud, 

waste, and abuse. Thus far in FY2013 alone, the Office of Investigations’ activities 

have led to 53 indictments and 26 convictions; since our work began the Office of 

Investigations’ activities have led to 156 indictments and 62 convictions. 

OIG works with law enforcement partners across the Nation, including other Federal agencies, U.S. Attorneys’ Offices, and State and local agencies. While many 

cases remain confidential, we have released details about mortgage fraud investigations once public charges have been filed, as is the case with the prosecutions of 

Colonial Bank and Taylor, Bean & Whitaker Mortgage Corporation, American Mortgage Field Services LLC, and Home Owners Protection Economics, Inc. 

The Office of Investigations currently has a variety of open criminal and civil investigations involving a wide variety of allegations of wrongdoing. The Office of Investigations focuses on FHFA and the GSEs, both internally and externally, concentrating on those individuals and organizations that have victimized either FHFA or 

the GSEs or borrowers with GSE loans. Many of the cases fall into one or more of 

the following seven categories: 

• Fraud involving residential mortgage-backed securities 

• Mortgage origination related frauds 

• Mortgage modification frauds 

• Fraud involving REO transactions 

• Builder bailouts and condo conversions 

• Fraud involving mortgage servicing contractors 

• FHFA or GSE employee misconduct 

Fraud involving mortgage-backed securities is a key area of focus. During the 

housing boom, the GSEs purchased and guaranteed hundreds of billions of dollars 

of residential mortgage-backed securities. Since the collapse of the housing market 

in 2007, those investments have declined precipitously in value. The GSEs may 

have been victims of fraud in instances when the quality and value of the underlying assets they purchased or guaranteed was misrepresented to them. OIG is an 

active member of the Mortgage Fraud Working Group formed last year, and has assisted in civil cases filed in the second half of 2012 against JPMorgan Chase and 

Credit Suisse. 

Mortgage origination fraud includes cases when the GSEs have been defrauded 

as a result of misrepresentations relating to the quality of the loans sold. These misrepresentations occur at the time the loan is originated. For instance, OIG is assisting in a Federal civil case alleging that Countrywide in 2008 implemented a new 

loan origination process called the ‘‘Hustle,’’ which was intentionally designed to 

process loans at high speed and without quality checkpoints, and which generated 

thousands of fraudulent and otherwise defective residential mortgage loans sold to 

Fannie Mae and Freddie Mac that later defaulted, causing over $1 billion dollars 

in losses and countless foreclosures. 

Mortgage modification fraud targets financially distressed homeowners who are 

underwater or have fallen behind on their mortgage payments. Some frauds involve 

advance fee schemes that require the homeowner to pay a fee for participating in 

supposedly ‘‘official’’ programs that are in fact completely fictitious or improperly 

imply participation in a U.S. Government housing relief program. Other schemes 

are designed to force a distressed homeowner into default sooner than would otherwise be the case. 

REO fraud may involve individuals connected to the foreclosure and subsequent 

resale of a property. For example, the Enterprises contract with asset managers to 

maintain and prepare the property for sale. But the asset managers may not maintain the properties and bill for fictitious maintenance expenses. REO fraud can also 

involve realtors who collude with investors or other realtors and appraisers to drive 

down the price of properties they are selling on behalf of the Enterprises. 

Builder bailouts and condo conversions usually occur when a builder who obtained 

loans to build homes is unable to sell all the homes when built. To get rid of those 

unsold homes quickly, the builder may use a variety of illegal schemes, including 

using straw-buyers, paying undisclosed concessions to the buyer, or paying undisclosed marketing fees to brokers or real estate agents. 

Fraud involving mortgage servicing contractors can include instances when a 

mortgage servicing contractor defrauds an Enterprise. For instance American MortVerDate Nov 24 2008 14:33 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00049 Fmt 6621 Sfmt 6621 L:\HEARINGS 2013\04-18 Z DISTILLER\41813.TXT JASON
46 

gage Field Services LLC was a property inspection company. From at least 2009 

through March 2012, the president of American Mortgage Field Services and some 

of his employees submitted fraudulent reports describing numerous inspections of 

foreclosed properties that were paid for but never actually performed. Recently, 

American Mortgage Field Services’ president was sentenced in Federal court to over 

8 years in prison and ordered to pay over $12.7 million in restitution. 

FHFA or GSE employee misconduct involves cases alleging misconduct by FHFA 

or GSE employees or contractors. For instance, in a recently filed Federal case, a 

Fannie Mae foreclosure specialist allegedly solicited $11,000 in payments from realtors in exchange for taking favorable actions. 

Finally, I want to mention that the Office of Investigations operates the OIG Hotline, which allows concerned parties to report information directly and in confidence 

regarding possible fraud, waste, or abuse related to FHFA or the GSEs. OIG honors 

all applicable whistleblower protections. If anyone wishes to report allegations of 

fraud, waste, or abuse, the Hotline can be reached at 1-800-793-7724, by fax at (202) 

318-0358, or through our Web site at www.fhfaoig.gov. 

Conclusion 

My staff and I look forward to continuing to work with your Committee to provide 

independent, relevant, and objective assessments of FHFA’s operations and programs. The continuing fragility of our Nation’s housing market remains a significant 

source of ongoing concern. Further, Fannie Mae, Freddie Mac, and the FHLBanks 

continue to be key market participants, and FHFA continues to face significant challenges. We are hopeful that our work will be of assistance in meeting those challenges. 

47 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR CRAPO 

FROM EDWARD J. DEMARCO 

Q.1. You have begun building a securitization platform that will be 

jointly owned by Fannie Mae and Freddie Mac. Upon its completion you have stated that this platform will be built so that it may 

be used by not only Fannie and Freddie, but other entities wishing 

to securitize mortgages. 

Please describe the circumstances that necessitated this project 

be undertaken at this time and the reasons why you believe it 

must be completed in a timely fashion. 

A.1. The mortgage market today relies heavily on taxpayer support, with little private capital standing in front of the Government’s risk exposure. Any transition from conservatorship will require a multiyear period, yet the Enterprises’ outmoded proprietary 

infrastructures are in immediate need of being upgraded and maintained. An investment of capital—capital that would come from 

taxpayers through the Preferred Stock Purchase Agreements with 

the Department of Treasury—will be needed for this effort. To the 

extent possible, we are trying to ensure that taxpayer dollars are 

invested to this end once, not twice. The common securitization 

platform will allow the Enterprises to better adapt to market 

changes, issue nonguaranteed or partially guaranteed securities in 

scale that attract private capital (helping to reduce the Enterprises’ 

dominant position in the market), more efficiently aggregate data, 

and lower barriers to market entry. Timely completion will facilitate the Enterprises’ ability to meet critical goals outlined in 

FHFA’s Strategic Plan for the Conservatorships, consistent with 

the Administration’s call for a gradual wind down of the Enterprises. It will preserve policy options for Congress, while establishing a stronger foundation on which Congress and market participants can build to replace the preconservatorship GSE model. 

Q.2. What is the legal authority under which this project was undertaken and under what statutory obligations must FHFA operate 

in completing the project? 

A.2. This project is undertaken in FHFA’s role as conservator for 

each enterprise; 12 U.S.C. section 4617. 

Q.3. You have stated that the securitization platform will be owned 

by a company outside of Fannie Mae and Freddie Mac, but jointly 

owned by the two companies. 

Please further describe the legal structure under which this company will be organized and ultimately operational. 

A.3. The agency is considering a range of structures that would operate now as well as be available for future sale or other structural 

or operational changes. 

Q.4. Did your legal obligations as Conservator play any role in determining how this entity would be constructed? If so, how and 

which obligations? 

A.4. FHFA’s role as conservator played a role. As the platform will 

be owned and operated by a company that is jointly held by the Enterprises, the company will be an asset of each enterprise and remain under the ongoing oversight of the FHFA. 

48 

Q.5. What other factors did you consider in determining this structure to be the best construct for the new platform? 

A.5. We believe that setting up a new structure that is separate 

from the Enterprises is important for building a new secondary 

mortgage market infrastructure. Our objective is for the platform 

to be able to function like a market utility, as opposed to rebuilding 

the proprietary infrastructures of Fannie Mae and Freddie Mac. 

While the common securitization platform will serve initially as a 

replacement for some of the Enterprises’ legacy infrastructure, its 

focus is on functions that are routinely repeated across the secondary mortgage market, where standardization has clear benefits 

to market participants. Being physically separate from the Enterprises, with an independent CEO and Chairman of the Board and 

a formal structure allowing for input from industry participants, 

should facilitate the platform’s independence. This will help to 

meet the overarching goal of creating something of value that could 

either be sold or used by policy makers as a foundational element 

of the mortgage market of the future. In terms of the mechanics 

of how the common securitization platform will be built, we are 

using industry-standard data definitions and protocols and industry-standard technologies, leveraging existing industry software to 

the extent feasible. 

Q.6. You have given a ballpark estimate of about 5 years for ultimate completion of the securitization platform project. You and I 

have both stated that we need to reform our housing finance markets and end the conservatorships of Fannie and Freddie long before that time. 

If, however, Fannie, Freddie, and this new company remain in 

conservatorships after ultimate completion of the securitization 

platform project, what are the legal obligations of FHFA in the operation of the platform and the company who owns it? 

A.6. The structure would continue to operate to the benefit of the 

enterprises and FHFA would continue its oversight. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR REED 

FROM EDWARD J. DEMARCO 

Q.1. The Inspector General’s report noted that the ‘‘FHFA has displayed undue deference to Enterprise decision making . . . without 

adequately testing or validating data.’’ You also stated in written 

testimony provided to the Senate Banking Committee on April 18, 

2013, ‘‘that FHFA now has the executive management team, the 

organizational structure, and the staff necessary to carry out our 

safety and soundness mission.’’ Is FHFA now in a position to test 

and verify enterprise reports and data so that it can spot issues before the IG brings them to FHFA’s attention? Why or why not? 

A.1. During 2012, we completed a realignment of our examination 

resources to strengthen our dedicated examination staff and to 

build upon our team of professionals who provide significant contribution to our examinations of the regulated entities. At the end 

of the March 2013, FHFA had a total of 194 employees who are devoted to the examination process at Fannie Mae, Freddie Mac (EnVerDate Nov 24 2008 14:33 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00052 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\04-18 Z DISTILLER\41813.TXT JASON
49 

terprises), and the Federal Home Loan Banks and 120 of those examiners are dedicated full-time safety and soundness examiners. 

FHFA is accomplishing its supervisory mission at the regulated 

entities, but is still evaluating the sufficiency of our staffing given 

the dynamic environment, and the significant amount of work that 

the Enterprises are doing to remediate their critical safety and 

soundness ratings as well as meet FHFA’s expectations to meet our 

strategic goals. FHFA is continuing to attract and hire highly 

qualified examiners with the expertise needed to fill knowledge 

gaps. 

FHFA has implemented a risk-based approach to examination 

planning to ensure that the regulated entities are identifying and 

mitigating key enterprise-wide business risks inherent in their 

business operations. We also modified our supervisory model to 

allow more flexibility for the examination teams to focus on key 

risk areas by requiring on-site examination teams at each Enterprise, and by implementing an ongoing monitoring approach to certain areas that require heightened supervisory attention throughout the examination cycle. While we cannot be certain that we will 

spot all issues, including some that the Inspector General may 

bring to FHFA’s attention, we firmly believe that our supervisory 

program is focused on those risks that are critical to the safe and 

sound operations of the Enterprises. 

Q.2. The IG noted in his testimony that: ‘‘Rather than independently testing servicers’ compliance with complaint reporting requirements, the FHFA examination team relied exclusively on 

Freddie Mac’s on-site operational review reports, which did not 

mention problems with servicer reporting. Thus, FHFA’s examination of Freddie Mac’s implementation of the Servicing Alignment 

Initiative did not identify servicers’ failures to report escalated 

cases or resolve them in 30 days. Additionally, FHFA lacks guidance for examination teams to use when testing the implementation of directives, such as its Servicing Alignment Initiative.’’ 

Although the FHFA has agreed to the IG’s recommendations to 

address these issues, what assurance can FHFA provide that when 

the recommendations are implemented, all major servicing issues 

will be sufficiently addressed at the enterprises? 

A.2. FHFA is developing examination guidance for evaluating the 

Enterprises’ compliance with FHFA-mandated initiatives such the 

Servicing Alignment Initiative. The guidance will provide instruction to plan and complete the independent examination work necessary to determine compliance with FHFA requirements that are 

the subject of examination activity. The guidance will also address 

steps to be taken should examiners identify instances of noncompliance. 

FHFA’s examination and supervisory efforts include on-site examinations at nonbank specialty servicers targeted to those with 

significantly sized loan portfolios that present higher risk to the 

regulated entities. The examinations are comprehensive and include evaluation of the compliance, audit, and risk management 

programs, including servicer eligibility, performance, and reporting. 

Further, during 2012, FHFA directed the regulated entities to 

define new representations and warranties frameworks that inVerDate Nov 24 2008 14:33 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00053 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\04-18 Z DISTILLER\41813.TXT JASON
50 

clude an enhanced quality control review process and enforcement 

of violations to credit policy. The representations and warranties 

framework sets forth clear and consistent standards and practices 

for the regulated entities to pursue certain remedies and, among 

other things, assigning remedy types and usage, including remedies for noncompliance. Mortgage servicers are critical counterparties and servicing activity, including the implementation of the new 

representations and warranties framework, is a priority focus of 

FHFA’s examination program. 

RESPONSES TO WRITTEN QUESTIONS OF 

SENATOR MENENDEZ FROM EDWARD J. DEMARCO 

Q.1. On HARP and Menendez-Boxer Refi: With the extension of 

HARP for an additional 2 years, which I applaud, is it not also 

time to reconsider administrative extension beyond the June 2009 

borrower eligibility deadline? The deadline has already been 

changed once from March 2009 back to June 2009, and if you can 

indulge me, I would say that the program extension from 2012 to 

2015, itself represents a substantive change that nullifies any perceived ‘‘Covenant with Investors.’’ And to the extent there is a covenant, isn’t your role within it to facilitate the best interest not 

only of investors, but of borrowers? Leaving the cut-off date as is, 

makes it appear that you weigh investors’ interests above borrowers, who contractually are equals are they not? 

A.1. FHFA has a strong commitment to keeping borrowers in their 

homes when possible. The overall intent of the Home Affordable 

Refinance Program (HARP) is to provide affordable refinancing opportunities for current eligible borrowers. 

HARP has embedded certain programmatic flexibilities that are 

intended to benefit the borrower. For example, if a borrower has 

a loan-to-value ratio above 80 percent, the HARP flexibilities related to mortgage insurance (MI) allow the transfer of existing 

mortgage insurance to the newly refinanced loan or the servicer 

can waive the MI coverage requirement on the new loan when coverage was not placed on the original loan. Since program inception, 

these flexibilities have allowed more than 2 million borrowers the 

ability to refinance their loans (See May 2013 FHFA Refinance Report at www.fhfa.gov/webfiles/25375/May2013RefiReport.pdf). Absent these flexibilities, a borrower would be required to make a 

downpayment, often significant, in order to cure their negative equity position before refinancing or to pay for new MI coverage. 

While FHFA recently extended HARP through 2015, this action 

does not increase the eligible population, but rather provides eligible borrowers with additional time to take advantage of historically 

low interest rates through refinance. The minor adjustment made 

earlier to the cut-off date was done to align Fannie Mae’s and 

Freddie Mac’s practices in order to reduce confusion among lenders. 

The fixed date is consistent with the Administration’s and FHFA’s 

intent that HARP reduce credit risk in the Enterprises’ books of 

business. By mid-2009, house price declines were widespread and 

had already reached or were near their ultimate bottom in most 

markets. Furthermore, interest rate declines, facilitated by central 

bank actions, were already well underway. Therefore, we currently 

51 

do not have plans to extend the borrower eligibility date beyond 

loans acquired by the Enterprises before May 31, 2009. Such an action would generate a fairly small increase in the number of eligible borrowers. Our position in keeping the borrower eligibility date 

at May 31, 2009, is a function of balancing the impact on the borrower and the taxpayer, market and investor. The current May 31, 

2009, eligibility deadline provides a clear cut-off point which contributes to investor confidence. This level of certainty allows investors to estimate the likelihood of prepayment. If the May 31, 2009, 

eligibility date were to change, and prepayment confidence was reduced, investors may react in a way that results in higher borrowing costs to all future borrowers. Therefore, given the small size 

of the additional population that could be served, we do not believe 

that expanding the eligibility is in the best interest of homeowners 

in general or the taxpayer. 

Q.2. Let me further enquire about the extension of the program eligibility. And maybe you can clear a few things up for me . . . but 

aren’t borrowers who took out loans after June 2009, who had sufficient equity when they took out their loans, given a contractual option to prepay or refinance that due to this eligibility rule—they 

cannot now exercise? It would seem also that any savings they may 

have enjoyed through a HARP refinance are instead being transferred directly to investors through higher interest payments. Is it 

not true then, if the date is not extended, those investors bear neither credit nor prepayment risk, and the GSEs are left with all of 

the risk? Again, I must point out that the optics of the situation 

is one where investors are enriched while borrowers are diminished 

and taxpayers are exposed to unnecessarily high risk. What are 

your thoughts? 

A.2. The program eligibility date of May 31, 2009, was originally 

established with President Obama’s initial announcement of HARP 

as a component of the Making Home Affordable Program in February 2009. The program was designed as an exceptional response 

to exceptional circumstances. The program has not removed or restricted any contractual rights of borrowers, but has, on the contrary, provided them with unprecedented benefits by making it possible for millions of homeowners to refinance without new or additional mortgage insurance. The exceptional circumstances were 

that both interest rates and house prices had fallen sharply and 

housing markets were in crisis. Currently, markets have begun to 

recover and borrowers with loans originated in the past 4 years are 

much less vulnerable to market fluctuations with much lower interest rates than those with precrisis loans and have suffered relatively small house price declines or in some cases benefited from 

appreciation. Government-aided refinance in this environment 

risks investor alienation with long-run costs to borrowers outweighing short term benefits. In short, there appears to be no 

meaningful market-based obstacles to borrowers who first obtained 

their mortgages after May 31, 2009, from refinancing in the normal 

course. 

Q.3. On Principal Reduction: As part of the Emergency Economic 

Stabilization Act of 2008, Congress directed FHFA to ‘‘maximize assistance for homeowners’’ and ‘‘to minimize foreclosures,’’ and it 

52 

granted explicit authority to modify mortgage loans through the 

‘‘reduction of loan principal.’’ Given this mandate, why has FHFA 

repeatedly decided against principal reduction? Why wouldn’t you 

at least consider this policy for GSE portfolio loans? 

A.3. FHFA has considered principal forgiveness in the context of 

loan modifications several times. We conducted and publicly posted 

thorough analyses that are available on the agency Web site, and 

which showed small savings to taxpayers in comparison to the significant cost of implementing a principal forgiveness program. 

These analyses did not specifically target portfolio loans versus 

those that were securitized. All of the Enterprise delinquent loans 

are serviced by the same set of servicers who would be expected to 

apply a new modification program in a unique manner. That said, 

FHFA and the Enterprises have spent a great deal of time developing standard loss mitigation solutions to ensure consistency for 

all struggling homeowners. A policy that provides a specific loss 

mitigation tool or strategy for borrowers based on whether a loan 

is held in portfolio or in a security creates disparate treatment 

based on factors outside a borrower’s control and would be complicated for servicers to manage. 

Separately, the Enterprises regularly forgive principal indebtedness in the context of short sales and deeds-in-lieu of foreclosure. 

Q.4. One factor you have cited for your rejection of principal reduction modifications was ‘‘implementation costs,’’ saying the modifications would present ‘‘operational challenges’’ and would be ‘‘costly 

and time consuming to implement.’’ Those are germane managerial 

concerns, but can you provide Congress with the documentation 

supporting this analysis? If I enquire with GAO to substantially investigate the methodology used to come to your conclusion, would 

you be able to provide them with this documentation? 

A.4. In conducting the latest analysis, FHFA took into consideration: current loss mitigation tools; costs and benefits of using principal forgiveness, including the economic benefit or costs to the Enterprises as well as to taxpayers; the impact on borrower behavior; 

direct and indirect implementation costs; and, the overall impact 

on the mortgage market. Included below is a link to the latest analysis conducted by FHFA, as well as links to the analysis performed 

by each of the Enterprises on the cost and time to implement such 

a program. 

• www.fhfa.gov/Default.aspx?Page=403 

• www.fhfa.gov/webfiles/24107/PFlFannieMae71312.pdf 

• www.fhfa.gov/webfiles/24109/PFlFreddieMac73112.pdf 

Q.5. On Forced Place Insurance: How and when does the FHFA expect its ban on insurer to bank commissions to translate to lower 

rates, since your plan only amends the current process? Wouldn’t 

Fannie Mae’s plan that was denied by the FHFA a few months ago, 

have done away with the issue by directly contracting for the insurance itself? 

A.5. On March 29, 2013, FHFA published a notice in the Federal 

Register expressing the agency’s reservation with these practices 

and solicited public input to expand our understanding. Forty-two 

comments were received on the notice from a broad range of stakeVerDate Nov 24 2008 14:33 Aug 30, 2013 Jkt 048080 PO 00000 Frm 00056 Fmt 6602 Sfmt 6602 L:\HEARINGS 2013\04-18 Z DISTILLER\41813.TXT JASON
53 

holders. FHFA has reviewed these comments and plans to take action by the end of the year. In fact, Fannie Mae’s proposal would 

not have done away with the issue. One of the reasons that FHFA 

did not approve Fannie Mae’s plan is because Fannie Mae lacked 

the infrastructure to execute that proposal. 

It is important to understand that issues involving LPI extend 

well beyond Fannie Mae and Freddie Mac. By taking a more inclusive and comprehensive approach to these issues, FHFA hopes to 

provide leadership in reaching a broader set of solutions and best 

practices that may be adopted by other State and Federal regulators and more broadly by market participants than simply a 

Fannie Mae-only approach. 

To address the concerns with LPI more broadly, in April, FHFA 

convened a regulatory working group composed of various Federal 

and State regulators. The working group recently met with stakeholders to discuss concerns and possible solutions about the forceplaced insurance market. We are also exploring whether the Enterprises’ should have access to contractual documents between the 

mortgage loan servicers and the force-placed insurance carriers, 

which would provide a better understanding of the various fees 

charged and paid and the contractual relationships between the 

parties. These projects are in their early stages and the regulatory 

working group is expected to complete its tasks in the third quarter 

of 2013. 

Q.6. Would banks still be able to accept free tracking of services 

from insurers? As I understand it, insurers generally monitor bank 

loan portfolios for both lapses in property insurance coverage and 

other things, such as unpaid taxes—at a considerable subsidy for 

the banks. How might you deal with this issue? 

A.6. FHFA is concerned that current industry practices may include a number of inappropriate financial incentives based on relationships between servicers and carriers that result in excessive 

premiums being charged to the borrower or investor. This issue is 

under discussion by the regulatory working group and may be subject to data reporting requirements now under development. 

Q.7. It has been shown that within the bank-insurer business loop; 

that sometimes banks own the mortgage insurers they contract 

with, or reinsure them, potentially allowing them to make even 

more money off of inflated insurance premium commissions. What 

are you specifically doing about this? Why hasn’t there been greater scrutiny and demand from the FHFA for more transparent insurance procurement and invoicing, something we understand the 

GSEs currently have no say or ability to manage? 

A.7. FHFA is concerned that such reinsurance practices involving 

conflicts of interest pose risks to the Enterprises or run contrary 

to the duties of the conservator. Accordingly, on March 29, 2013, 

FHFA published a notice in the Federal Register expressing the 

agency’s reservation with these practices and solicited public input 

to expand our understanding. Forty-two comments were received 

on the notice from a broad range of stakeholders. FHFA has reviewed these comments and plans to take action by the end of the 

year. 

54 

Q.8. What has the FHFA specifically done to concretely explore 

other changes to force-placed insurance? Who is guiding that process? When will they come up with conclusions? 

A.8. As described above in response to other questions, FHFA is 

taking a multipronged approach to addressing the issues presented 

by LPI. The steps we are taking, led by our Office of Housing and 

Regulatory Policy in the Division of Housing Mission and Goals, include: 

• Assessing and analyzing the costs and risks associated with 

LPI. 

• Establishing an interagency working group of Federal financial 

institution regulators and State insurance regulators to learn 

from each other’s experience on LPI and identify, align, and 

act on needed reforms and protections for taxpayers and borrowers. 

• Publishing a Federal Register Notice requesting comments by 

May 28, 2013, on whether FHFA should direct the Enterprises 

to cease reimbursing lenders for two LPI practices, broker commissions and captive reinsurance. 

• Reviewing of contracts between mortgage loan servicers and 

LPI carriers, to better understand fees charged and paid and 

the contractual relationships between the parties. 

FHFA expects to have conclusions and next steps from all of 

these activities by the third quarter of this year. 

Q.9. On State-Level Guarantee Fee Adjustments: Many servicers 

and third-party law firms were allowed to robo-sign foreclosures on 

GSE-guaranteed loans because they were being inadequately overseen by the Enterprises, and, in turn, FHFA as their regulator. Because these abuses occurred, many States passed reasonable laws 

to crack down on fraud. Rather than punishing new borrowers in 

these States by increasing g-fees, wouldn’t it make more sense for 

the Enterprises, under your direction, to properly supervise 

servicers? If consumer protections are not your end goal, which is 

an assertion I do not support, but if they aren’t—isn’t it still your 

duty as a conservator to work with State and Federal regulators 

to ensure that consumer protections are adequately in place rather 

than shouldering that burden on future borrowers without a full 

review of the total costs versus benefits to taxpayers? 

A.9. Serving consumer needs and providing appropriate consumer 

protections are essential to well-functioning mortgage markets. 

FHFA has required the Enterprises to take a lead role in ensuring 

major changes in servicing standards and practice. For example, 

FHFA and the Enterprises led the way in directing servicers to 

stop taking foreclosure actions at the same time that they were actively considering loan modifications and in penalizing servicers 

that don’t seek early modifications where possible. We continue to 

work closely with other Federal regulators to make the servicing 

process work better. We also recognize that States have important 

roles and interests in consumer protection and in foreclosure processes. In some cases, the States make difficult decisions about what 

protections make sense and work well, and what measures raise 

55 

costs without much corresponding benefit, as well as how much 

money to spend on courts with crowded calendars. 

Foreclosure costs vary widely across States. As credit risk takers, 

the Enterprises incur those costs on the loans they own or guarantee. Under conservatorship, those costs are passed on to taxpayers unless the Enterprise prices reflect them. If the fees are the 

same in all States, consumers in some States are paying for the effects of laws and practices in other States. And while poor servicing 

practices may contribute to costs in all States, we have not seen 

evidence that servicing is systematically worse in some States than 

others. 

Q.10. Primary factors cited in FHFA’s proposal as increasing State 

foreclosure timelines are ‘‘regulatory or judicial actions,’’ and ‘‘legal 

and operational expenses.’’ Yet your Notice contained no analysis 

of whether the laws and ordinances in place in various States are 

actually causing the longer foreclosure timelines. What about the 

study and reduction in fees where State and local laws actually reduce investor and guarantor costs? 

A.10. The fees discussed in the Notice are based on the actual costs 

experienced by the Enterprises, mainly because of longer foreclosure times. The fees were designed to offset unusually high costs 

in States that exceed the nationwide norms by large margins. They 

were not designed to target any particular actions or practices, just 

to insulate consumers in most States from the exceptional costs in 

a few other States. To put this in perspective, consider that four 

States that together have 19 percent of Enterprise loans and 20 

percent of loans with relatively less serious delinquencies of between 30 and 89 days, have 52 percent of Enterprise loans delinquent more than a year. Many of those extend to multiple years. 

Whatever the particular configuration of consumer protection and 

investor protection laws in those States, there is no denying that 

those States are statistical outliers that are driving up credit losses 

for Federal taxpayers. 

Q.11. On the National Housing Trust Fund and GSE Profitability: 

The National Housing Trust Fund was authorized by the Housing 

and Economic Recovery Act of 2008 (HERA). The law called for the 

Housing Trust Fund to be funded by contributions from the Government sponsored enterprises (GSEs) Fannie Mae and Freddie 

Mac. However, the GSEs went into conservatorship shortly after 

the Trust Fund was authorized, and FHFA temporarily suspended 

the contributions due to the financial conditions experienced by the 

GSEs at the time. The GSEs have reported profits for several consecutive quarters. Given this return to profitability, will FHFA be 

directing the GSEs to start making contributions to the National 

Housing Trust Fund? If not, why not? Do you have the legal authority to continue suspending the payments considering that the 

GSEs are now profitable? 

A.11. The trust funds and other requirements of the Housing and 

Economic Recovery Act contemplate action by FHFA in line with 

all conservatorship policies. The conservatorship authorities of the 

Act authorize extraordinary actions by the Director and any activity undertaken under normal circumstances falls within the ambit 

56 

of the Director for modification, suspension or other direction in 

line with the conservatorship goals and obligations of the Director. 

FHFA as conservator has plenary authority to make all business 

decisions for each Enterprise, including whether to fund the Housing Trust Fund and Capital Magnet Fund set asides. Decisions of 

the Director as conservator not to set aside money for the funds are 

consistent with the obligations of the conservator to preserve and 

conserve enterprise assets, to protect the investments of the taxpayers and to stabilize the Enterprises and maintain their market 

presence. 

The Enterprises are sustained only by the backstop provided by 

the taxpayers pursuant to the Preferred Stock Purchase Agreements with the Treasury Department. The Enterprises are required, in exchange for the backstop that keeps them out of receivership and operating as businesses, to pay to the taxpayers, 

through the Treasury Department, a quarterly dividend, initially 

computed as a percentage return on the amount invested. The dividend requirement has never changed, but because the computation 

of the dividend resulted in a perverse circular pattern of requiring 

more investment just to pay the dividend, the computation of the 

dividend changed. It now is computed as all net worth reported 

quarterly. The new method of computing the dividend payment is 

more in line with traditional dividends—contingent on positive 

earnings and determined by the amount of earnings. It does not 

change the fundamental situation facing the Enterprise. Further, if 

an Enterprise does not earn a profit or if an Enterprise suffers a 

loss, no dividend will be paid for that quarter and a draw on Treasury may be required. 

The financial condition of the Enterprises remains poor and a 

matter of ‘‘critical concern.’’ The statute governing the trust funds 

provides for nonpayment when such a transfer would lead an Enterprise to fall within the ‘‘undercapitalized’’ status. Today, both 

Enterprises will be ‘‘critically undercapitalized’’ immediately following their next dividend payments, a classification that would require receivership, and each would be seriously insolvent without 

massive taxpayer investments. Their current status is well below 

undercapitalized, the statutory standard for suspension of payments. 

Conditions requiring conservatorship have continued and the 

capital weakness is readily apparent by Enterprise dependency on 

the taxpayers to avoid liquidation through receivership. Suspension 

of the set asides is expressly anticipated in these circumstances 

and the conservator’s decision not to fund the set asides is fully 

consistent with the Director’s obligations under the law. Because of 

the all of the above considerations, no change in FHFA policy on 

the Trust Fund has been made. 

Q.12. How might the forthcoming ‘‘Jumpstart the GSE’’ reform bill 

being offered by my colleague Senator Corker, affect the current 

Senior Preferred Stock Purchase Agreements with Treasury? How 

does it affect any potential payments to the Housing Trust Fund? 

A.12. S.563, ‘‘Jumpstart GSE Reform’’, does not have any effect on 

the current state of conservatorship or the terms of the Preferred 

Stock Purchase Agreements (PSPAs). The bill will ensure that the 

57 

returns on investment that the taxpayers funded through the 

PSPAs with each Enterprise continue to benefit the taxpayers at 

least until and unless both the Legislative and Executive branches 

agree on reform of the secondary housing finance market and the 

role of Government support for that market. It will also require 

that the reform debate include discussion of whether and how to 

terminate the support provided by that investment and the agreements. 

This bill does not appear to have any effect on payments to the 

Housing Trust Fund. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR HAGAN 

FROM EDWARD J. DEMARCO 

Q.1. Since conservatorship began, the FHFA, Fannie Mae, and 

Freddie Mac have proposed or implemented several policy initiatives that could have short-term market implications and longerterm implications for secondary market reform. As conservator for 

Fannie Mae and Freddie Mac, and in light of their market dominance, what steps are being taken to ensure adequate transparency 

in the development and implementation of major policy initiatives 

at FHFA, Fannie Mae, and Freddie Mac? 

A.1. FHFA considers transparency and public input an important 

element in developing policy that impacts the housing finance system and the stakeholders within it. When considering major policy 

initiatives, FHFA has made extensive use of industry outreach and 

formal requests for public input through Federal Register notices 

and other means. FHFA also meets with various industry participants as it develops and deploys new policy initiatives. For example, FHFA met with a large number of market and Government entities in working towards its servicing alignment initiative, in discussions around new mortgage insurance standards to enhance the 

quality of such coverage, and in developing a common 

securitization platform. FHFA continues to reach out to industry 

participants in meetings at the agency or at industry meetings to 

provide outlines of agency directions and plans with community 

groups and other interested parties. 

FHFA also continues to make extensive use of Federal Register 

publications to alert interested parties in actions it anticipates taking. Through these notices, FHFA both explains its direction and 

the rationales and provides an opportunity for public input. By providing a clear direction, the public is better able to focus its input, 

rather than seeing a general set of options that might be considered. This improves the nature and quality of public input and generates better discussion of alternatives for agency consideration. 

Two major examples have been a notice relating to proposed increases in Enterprise guarantee fees and a notice on proposed actions regarding lender placed insurance. 

Finally, FHFA has used public communications to Congress (letters, reports, testimonies), speeches, and public documents such as 

the Strategic Plan for Enterprise Conservatorships, to inform the 

public of the goals and priorities of the conservatorships. 

58 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR SHELBY 

FROM EDWARD J. DEMARCO 

Q.1. Mr. DeMarco, one of the three pillars of the FHFA’s strategic 

plan and a large component of 2013 Conservatorship Scorecard focuses on contracting the GSEs’ dominant presence in the market. 

What progress have Fannie and Freddie made in meeting this 

year’s goals established in the Conservatorship Scorecard to shrink 

their presence? 

A.1. Both Enterprises are on track or exceeding the targets for 

portfolio reduction that were accelerated by the amendments to the 

Treasury agreement late last summer. Further, the Enterprises 

have been working on deal structures and contractual framework 

for multiple avenues of credit risk transfer through the capital 

markets and insurance companies. To increase transparency and 

facilitate market analysis both Enterprises have released significant loan level historical data that would be of use to prospective 

investors. We will continue to monitor this activity closely and can 

provide an update later in the year if you would like. 

Q.2. The $30 billion target you set in the Conservatorship Scorecard for risk-sharing of single-family guarantees is a small amount 

compared to the overall holdings of Fannie and Freddie. 

What process do you hope this will initiate at the GSEs? 

A.2. Currently, taxpayers bear the risk of default on roughly 90 

percent of all new mortgages, with Fannie Mae and Freddie Mac 

accounting for most of that amount. The risk-sharing initiatives 

being undertaken at the Enterprises are designed to explore mechanisms that transfer some of that risk to the private sector. More 

experience with alternative transaction types likely will make possible improvements in transaction structures, while the private sector will be stimulated to expand its capacity to absorb such risk. 

Gradually, the Enterprises should be able to transfer increasing 

portions of the credit risk away from taxpayers. 

Q.3. What steps can be taken to ensure the risk-sharing practices 

that are prevalent in the multifamily housing are utilized in singlefamily housing? 

A.3. Some of the mechanisms the Enterprises are exploring are 

similar to those used in multifamily transactions, but they are 

looking at others as well. The goal is to find those that work best 

in the single-family market. 

Q.4. How do you anticipate growing this $30 billion target for next 

year? 

A.4. With the experience gained this year, the Enterprises should 

be able to make improvements in both the products they offer and 

in their internal processes. Perhaps more importantly, as financial 

markets and institutions become more accustomed to such products, they will likely build capacity to absorb them. We intend to 

expand beyond the $30 billion target in 2014 but do not anticipate 

establishing those targets until later this year, after we review our 

initial results. 

Q.5. You intended for the unified securitization platform to be built 

separately from the two companies so that it can utilized by both 

59 

the GSEs and the private sector. Historically, however, the Government has a dismal track record in containing costs for technological 

improvements. 

What measures are being implemented to ensure the development costs will be contained? 

A.5. This project is not a Government technology project. We are 

currently leveraging the Enterprises as the ‘‘general contractor’’ on 

this project, and they in turn are using both subject matter experts 

from within their firms and third party specialist contractors to 

run the project. We are undertaking careful monitoring of the 

project schedule, scope, and budget to ensure it is executed successfully. In due course we plan to house the technology project in a 

joint venture to further ensure its independence, and it will operate 

as a ‘‘private sector’’ firm but with Federal oversight. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR VITTER 

FROM EDWARD J. DEMARCO 

Q.1. Mr. DeMarco, at the hearing you described to the Chairman 

that the FHFA has developed a streamlined modification program 

that does not require verification of employment or income. As you 

know Senators Menendez and Boxer are considering legislation to 

change FHFA’s streamlined refinance program. Do you believe 

eliminating the income and employment verification for refinances 

makes sense also and please explain your reasoning? 

A.1. The streamlined modification program targets delinquent borrowers (90 days or more). Servicers have learned from experience 

that it is difficult to connect with homeowners that far behind on 

payments to work out a modification. In these cases, the current 

servicer already has borrower information, including payment history. The servicer can send an offer for a modification directly to 

the homeowner if he or she qualifies for a streamlined modification. 

In contrast, the Home Affordable Refinance Program (HARP) is 

available only to homeowners who are current on their mortgage 

and creates a brand new mortgage loan. HARP refinances can be 

completed by the current servicer or any lender who participates 

in the program (called cross-servicers). 

I believe FHFA’s recent changes to the HARP program have addressed the concerns Senator Menendez has about cross-servicer 

participation. Current HARP program data show more crossservicer participation in HARP than in traditional refinances. To 

date, about 30 percent of HARP originations have been crossservicer transactions. During the same time period, about 20 percent of non-HARP refinances were cross-servicer transactions. 

All servicers—current servicers and cross-servicers—have the 

same requirements for income and employment verification. Only 

the process differs. The current servicer has access to borrower information in its own databases, including payment history, and 

completes employment and income verification using a verbal 

verification of employment. Cross-servicers do not have access to 

the same information, so they must verify employment and income 

with a pay stub. We believe it benefits consumers to have lenders 

verify that a borrower does have some income to make mortgage 

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payments. If a borrower has no income or assets he or she may be 

better served through a modification. 

More importantly, cross-servicers must have the borrower’s income to use Fannie Mae’s or Freddie Mac’s automated underwriting systems (AUS), which simplify the loan origination process 

but require an income figure. The AUS tools transmit key eligibility data to cross-servicers, including: borrower payment history, 

loan delivery date, property value, and mortgage insurance coverage. Without the benefit of these AUS tools, cross-servicers would 

be required to collect this eligibility information elsewhere. 

It would take at least 6 months of information technology development time to modify the automated underwriting tools to accommodate the changes the Menendez-Boxer bill would require. 

Servicers will also have to receive clear information about those 

new statutory requirements and implement the new system. 

All of this would happen at a point in time when there is tremendous momentum with the HARP program. I am very concerned 

about impeding the substantial progress we are making through 

HARP if the bill should pass, because I do not believe the changes 

specified in the bill will increase the number of people we can help. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR REED 

FROM STEVE A. LINICK 

Q.1. There were several trends identified in your reports relating 

to deficiencies at the FHFA, most of which appear to fall within the 

category of the FHFA giving undue deference to the Enterprises’ 

decision making in a variety of areas. What changes, if any, have 

been implemented by the FHFA that are geared towards breaking 

the cycle of reliance on the Enterprises’ decision making? What additional changes need to be made? 

A.1. As I noted in my testimony, although the Agency has made 

progress, throughout our body of work, we have identified instances 

in which FHFA has displayed undue deference to Enterprise decision making in its capacity as conservator. For example, without 

adequately testing or validating data, FHFA has at times deferred 

to the Enterprises regarding key matters under the 

conservatorships, and we have concluded that some matters are 

sufficiently important to warrant greater involvement and scrutiny 

by the Agency. 

In September 2012, we released a report that found that FHFA 

can better accomplish its oversight mission by proactively exerting 

greater control over its conservator approval process. In that report 

we recommended that FHFA: 

• Revisit the nondelegated authorities to ensure that significant 

Enterprise business decisions are sent to the conservator for 

approval; 

• Guide the Enterprises to establish processes to ensure that actions requiring conservator approval are properly submitted for 

consideration; 

• Properly analyze, document, and support conservator decisions; 

and 

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• Confirm compliance by the Enterprises with conservator decisions. 

In response, FHFA reassessed and issued revised nondelegated 

authorities, expanding the number and type of actions that require 

conservatorship approval. FHFA also issued revised conservatorship policies and procedures covering a number of areas, including 

submitting items in a timely manner to allow sufficient time for 

FHFA review, using Acting Director recommendation memoranda 

to establish business case analyses and substantiate decisions, and 

requiring notification of material deviation from conservator decisions or important new information. FHFA has work underway to 

implement the remaining recommendations from the audit. 

Overall, FHFA continues to make progress on a number of specific recommendations from our body of work, including other reports in which we have observed examples of undue deference. In 

some cases, recommendations have already been closed as completed, and in other cases, the Agency continues to work on implementation. In general, though, we continue to encourage FHFA to 

embrace more fully the philosophy behind our recommendations, 

which is that as conservator the Agency should engage in greater 

involvement with and scrutiny of matters that go to the heart of 

the conservatorships. 

RESPONSES TO WRITTEN QUESTIONS OF 

SENATOR MENENDEZ FROM STEVE A. LINICK 

Q.1. On Forced Place Insurance: Fannie Mae recently approached 

the FHFA with a well-researched and well-defined proposal for taking over the solicitation and procurement of hazard insurance on 

its portfolio properties. This proposal, on its face, would have saved 

taxpayers and borrowers money while protecting the property assets. On what basis was this proposal rejected? How long did the 

FHFA consider this issue before making its determination? 

A.1. As Acting Director DeMarco noted in his testimony, FHFA is 

currently working on a project to develop an aligned set of standards for lender-placed insurance to address certain practices. I 

would defer to Acting Director DeMarco to explain FHFA’s ongoing 

project, as well as the basis for rejecting Fannie Mae’s proposal and 

the consideration that went into making that determination. 

Q.2. On the Housing Trust Fund Payments From GSEs: To the extent you are aware, can you discuss what your office has found to 

be administrative or legislative roadblocks to meeting the Section 

1337 HERA requirements that the Housing Trust Fund be funded 

from new business at Fannie and Freddie Mac? 

A.2. At this time, we have not undertaken work related to the 

housing trust fund, therefore I am unable to respond. 

Q.3. The FHFA Director, outlined in Section 1337(b) of HERA, is 

only allowed to temporarily suspend payments to the HTF if the 

Director finds that three conditions are met: that the contributions 

would undermine the financial stability of the Enterprises, they 

would cause the Enterprises to be undercapitalized, or would prevent the Enterprises from completing a capital restoration plan. 

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Has your office explored this issue and if so, has it found that 

payments to the HTF would violate these provisions? With the Enterprises’ financial support of the new Single Securitization Platform, and their new found profitability—I suspect that they 

wouldn’t. 

A.3. At this time, we have not undertaken work related to the 

housing trust fund, therefore I am unable to respond. 

Q.4. A report from your office on March 20th, 2013, that analyzed 

the amendments to the Senior Preferred Stock Purchase Agreements between Treasury and FHFA, claimed that ‘‘the changes to 

the PSPAs help to safeguard policy makers’ options to reform the 

role of the Enterprises in the Nation’s secondary mortgage market.’’ 

Could you elaborate on that opinion? 

A.4. As we noted in our report, the announcement of the 2012 

PSPA Amendments emphasized three overarching themes: (1) benefits to taxpayers; (2) the continued flow of mortgage credit; and (3) 

winding down the Enterprises. 

To some extent, the 2012 Amendments provide the mechanisms 

to achieve these goals. For example, the replacement of the 10 percent dividend with the sweep of quarterly net worth may result in 

more money being returned to Treasury and hence to taxpayers. 

The elimination of the circularity of financing the dividend also reduces the erosion of Treasury’s remaining commitment level, thus 

shoring up its reassurance to investors and promoting the continued flow of mortgage credit. 

Additionally, the 2012 Amendments accelerate the wind down of 

the Enterprises’ retained mortgage investment portfolios. However, 

they do not wind down the Enterprises’ securitization business. Indeed, that side of their businesses may continue to prosper, at least 

in the near term, as a result of improvements in the mortgage markets and recent increases in guarantee fees. 

Fundamentally, the 2012 Amendments position the Enterprises 

to function in a holding pattern, awaiting major policy decisions in 

the future. And because of that, policy makers continue to have 

open options. 

Q.5. On FHFA Commitment to Supporting Protection of Consumer 

Laws: While from a purely legal basis, I can see the FHFA’s perspective that they are not regulator of consumer protections, from 

a practical sense, they are part of the new consumer regulatory 

nexus that has been spawned in part by the Dodd-Frank Act. Can 

you describe your offices recommendations to FHFA on oversight of 

consumer protection laws? How will they work with the CFPB? 

A.5. In our March 26, 2013, report on this matter, we found that 

FHFA does not thoroughly oversee how the Enterprises monitor 

counterparties’ contractual compliance. Specifically, FHFA does not 

examine how the Enterprises monitor compliance with consumer 

protection laws, and, indeed, we determined that the Enterprises 

do not ensure that their counterparties’ business practices follow 

all Federal and State laws and regulations designed to protect consumers from unlawful activities such as discrimination. 

According to FHFA officials, the Agency relies upon other Federal regulators who are responsible for enforcing laws that protect 

mortgage borrowers. This reliance on other Federal regulators, 

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such as CFPB, without active coordination or collaboration has 

meant that FHFA is not assured its interests and obligations, such 

as ensuring Enterprise contractual obligations are met by their 

sellers and servicers, are necessarily being fulfilled and protected 

by the other regulators. FHFA should become more involved in ensuring compliance with consumer protection laws and regulations, 

not to usurp the compliance and enforcement functions of CFPB 

and other regulators, but rather to ensure that: 

1. The Enterprises preserve and conserve assets by exercising repurchase requests for nonperforming loans that do not comply 

with all contractual provisions. Both Enterprises have written 

selling and servicing guides that their counterparties contractually commit to follow. Among other things, the contractual 

agreements and the guides require counterparties to comply 

with all Federal and State laws and regulations—including 

consumer protection statutes—applicable to originating, selling, and servicing mortgage loans. If the Enterprises discover 

that a counterparty has not complied with any provision, then 

they can require the original lender to repurchase noncompliant loans, thereby mitigating credit losses. However, unlike 

limits on repurchases related to other forms of noncompliance, 

the Enterprises’ authority to request repurchase extends over 

the life of the loan for violations of Federal, State, and local 

laws and regulations. 

2. The Enterprises have confidence that the loans they bundle 

and sell as mortgage-backed securities do not have defects. 

Currently, both Enterprises rely primarily on counterparty 

self-certifications of contractual compliance and do not review 

the loans they buy at the time of purchase to assess whether 

counterparties are complying with applicable laws and regulations intended to protect consumers. Such noncompliance can 

reduce the value of the securities to investors. 

3. Consumers are protected. FHFA has a statutory responsibility—under the Housing and Economic Recovery Act of 

2008—to protect the public interest, which in this instance is 

at least partially defined by Federal and State consumer protection laws. 

By becoming more involved at the beginning of the loan origination process, particularly by confirming that the Enterprises conduct appropriate quality assurance, FHFA can ensure that the Enterprises are not accepting loans with consumer protection defects. 

Therefore, we recommend that FHFA develop and implement a 

risk-based plan to monitor the Enterprises’ oversight of their 

counterparties’ compliance with contractual representations and 

warranties, including those related to Federal consumer protection 

laws. By ‘‘risk-based,’’ we mean the avoidance of duplication of Federal oversight efforts and the implementation of cost-effective identification of noncompliant loans. For example, an element of 

FHFA’s plan could include detailed agreements with other Federal 

regulators, such as CFPB, delineating what roles FHFA and the 

Enterprises will play in the identification of loans originated in violation of consumer protection laws and how violations will be communicated to the appropriate Federal regulator. The Agency’s role 

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in fostering compliance with consumer protection laws should complement that of other Federal regulators who share responsibilities 

for oversight of the lenders and servicers doing business with the 

Enterprises. 

FHFA provided comments to our report stating the Agency is 

committed to the fair treatment of consumers and agreeing with 

our recommendation and stated that it would develop a specific 

plan focused on the effectiveness of the Enterprises’ monitoring of 

the sellers’ and servicers’ compliance with consumer protection 

laws under the existing contractual terms. 

Q.6. On FHFA as a Steward of Taxpayer Funds When Acting as a 

Conservator: Your written testimony recounts of how a review of 

the FHFA’s buyback policy on troubled loans, yielded weak controls 

that could have materialized or will materialize into around $2.2 

to $3.4 billion. How is that reconciled with the stringent actions the 

FHFA has taken in terms of issues such as principal reductions 

that have routinely been characterized as a vehicle toward taxpayer losses? Why hasn’t this same rationale been applied to internal management attitudes and oversight over the GSEs? This level 

of overpayment on loans could have funded the Housing Trust 

Fund for 2–3 years, so how can the FHFA ignore its legal obligations to fund the Trust Fund when it can ostensibly afford to just 

‘‘throw away’’ billions of dollars due to weak internal controls? 

A.6. In its capacity as conservator, FHFA has various tools at its 

disposal to mitigate credit losses, thereby conserving and preserving assets. Loan modifications represent a key method of loss 

mitigation on troubled loans. Repurchase requests offer another important means for the reduction of credit losses. If a homeowner defaults on any loan that Fannie Mae or Freddie Mac owns or guarantees, the Enterprise is obligated to absorb or reimburse the unpaid balance of the mortgage. If, however, the seller of the mortgage loan in question violated representations and warranties provided to the Enterprise at the time of the loan sale, then Fannie 

Mae or Freddie Mac has the contractual right to demand that the 

loan seller buy back or repurchase the mortgage loan. For determining whether representations and warranties have been violated, Fannie Mae and Freddie Mac examine some, but not all, 

mortgages they own or guarantee once they have become seriously 

delinquent. 

On September 27, 2011, we issued a report that highlighted a potentially significant flaw in Freddie Mac’s process for reviewing defaulted loans for repurchase claims and noted that the flaw could 

be costing Freddie Mac a significant amount of money. Specifically, 

Freddie Mac’s process primarily reviewed only those loans defaulting in the first 2 years after origination rather than in subsequent 

years—when many housing boom loans defaulted. Subsequently, 

Freddie Mac expanded its loan review methodology to look at additional years for possible repurchase requests. In a subsequent report, we estimated that the expanded loan review methodology 

could result in an additional $2.2 to $3.4 billion in repurchase requests, and we continue to monitor the matter.