Housing and Urban Development: Potential Implications of Legislation Proposing to Dismantle HUD
Released: 1997-02-21T00:00:00

Letter

Introduction

Created in 1965, the Department of Housing and Urban Development (HUD) carries out the federal government’s missions, policies, and programs in housing and community development. Its activities are designed to implement a broad range of statutory mandates, from making housing affordable, to helping revitalize communities, to supporting homeownership. Since 1965, HUD has grown to include some 240 programs and activities and hundreds of billions of dollars in financial commitments. Its annual outlays for fiscal year 1995 were about $29 billion. Studies performed by HUD’s Office of Inspector General, the National Academy of Public Administration (NAPA), GAO, and others have documented inefficiencies in organization and deficiencies in management that impede the effectiveness of HUD’s programs. Leaders in the administration and the Congress agree that HUD must, at a minimum, be restructured to better meet the nation’s housing and community development needs. Some policymakers believe that HUD’s problems are so great that they can be cured only by dismantling the agency and transferring or eliminating its functions. This report focuses on the two most recent proposals to dismantle HUD—S. 1145 and H.R. 2198. For convenience, we refer to both bills, which are identical, as S. 1145.

HUD’s Missions Have Evolved

As a new cabinet-level department, HUD took over most, though not all, of the federal housing and community development functions that had been located in independent agencies. Its focus, as defined in the legislation that created it, was primarily urban—”. . . the sound development of the Nation’s communities and metropolitan areas.” HUD took over the rental assistance and low-income housing production functions of the Public Housing Administration and the Housing and Home Finance Agency, the mortgage insurance functions of the Federal Housing Administration (FHA), and the secondary market functions for government-insured and guaranteed loans. HUD did not, however, take over the housing programs administered by the Veterans Administration (VA) and the Rural Housing Service or the economic development programs operated by the Department of Commerce. In addition, HUD does not control the tax policies that affect housing, such as the homeowner’s deductions for mortgage interest and property taxes, and it does not oversee all of the financial institutions, such as banks, savings and loans, and mortgage companies, that participate in the nation’s mortgage markets.

Even though HUD has not assumed all of the nation’s housing functions, it has primary responsibilities for programs in four areas—housing assistance, community development, housing finance, and regulatory issues. • Housing Assistance: HUD provides (1) public housing assistance through allocations to public housing authorities and (2) private-market housing assistance through rental subsidies for properties, referred to as project-based assistance, or for tenants, known as tenant-based assistance. In contrast to entitlement programs, which provide benefits to all who qualify, the benefits of HUD’s housing assistance programs are limited by budgetary constraints to only about one-fourth of those who are eligible. • Community Development: Primarily through grants to states, large metropolitan areas called entitlement areas, small cities, towns, and counties, HUD provides funds for local economic development, housing development, and assistance to the homeless. The funding for some programs, such as those for the homeless, may also be distributed directly to nonprofit groups and organizations. • Housing Finance: FHA insures lenders—including mortgage banks, commercial banks, savings banks, and savings and loan associations—against losses on mortgages for single-family properties, multifamily projects, and other facilities. The Government National Mortgage Association (Ginnie Mae), a government-owned corporation within HUD, guarantees investors the timely payment of principal and interest on securities issued by lenders of FHA-insured and VA- and Rural Housing Service-guaranteed loans. • Regulatory Issues: HUD is responsible for regulating interstate land sales, home mortgage settlement services, manufactured housing, lead-based paint abatement, and home mortgage disclosures. The Office of Federal Housing Enterprise Oversight, an independent office within HUD, is responsible for regulating the safety and soundness of Fannie Mae and Freddie Mac. HUD also supports fair housing programs and is partially responsible for enforcing federal fair housing laws.

To carry out its many responsibilities, HUD was staffed by about 10,500 employees at the end of fiscal year 1996.

Despite Accomplishments, Problems Impede Efficiency and Effectiveness

Through its programs, HUD makes housing affordable for about 4.5 million lower-income tenants, helps to revitalize over 4,000 communities, and has insured mortgages for about 23 million homeowners. In addition, as a cabinet-level department, HUD has given visibility and priority to housing and community development issues and has built up networks for implementing its programs. In some instances, HUD’s offices have pioneered the development of services. For example, FHA initiated home mortgages with very small down payments and reverse mortgages.

Despite these accomplishments, HUD has, over the years, developed both administrative and programmatic problems. In 1994, GAO designated HUD as a high-risk agency because of four long-standing management deficiencies—weak internal controls; poorly integrated, ineffective, and generally unreliable information and financial management systems; an ineffective organization; and an insufficient mix of staff with the proper skills. Internal control weaknesses, such as not having the necessary data and management processes, contributed to the HUD scandals of 1989. Deficient information and financial management systems have not supported program managers’ needs or provided adequate control over housing and community development programs. Organizational problems have included overlapping and ill-defined responsibilities and authorities between the Department’s headquarters and field organizations and a fundamental lack of management accountability and responsibility. Not having enough staff with the proper skills has hampered the monitoring and oversight of programs and delayed the updating of procedures. While HUD has formulated approaches and initiated actions to address its departmentwide deficiencies, its efforts are far from reaching fruition and problems continue.

In response to legislation and other initiatives, programs were created with missions that overlap or are linked only tangentially to primary missions within HUD. In December 1994, HUD’s Inspector General recommended eliminating, consolidating, or restructuring many of HUD’s 240 programs and activities, 91 of which, the Inspector General said, were questionably related to the Department’s primary mission. We reported that several of the larger programs on this list seemed to contribute directly to meeting the housing needs of low-income people. However, we estimated that 27 programs listed by the Inspector General could be reassessed to determine the need for them and their relative value in achieving HUD’s mission. Other problems cited by the Inspector General included disproportionately high administrative costs, inflexible program requirements, and a multiplicity of programs with similar objectives that promote separate federal and local bureaucracies. Until the problems that we and the Inspector General identified are resolved, HUD’s programs are likely to remain vulnerable to waste, fraud, and abuse.

Further exacerbating these concerns is the need to reduce discretionary spending governmentwide over the next several years to balance the budget by early in the next century. Most balanced budget plans include a freeze in discretionary spending at current nominal levels, meaning that by the year 2002, spending will be nearly 20 percent lower than it would be if it were allowed to increase with inflation.

The Administration, the Congress, and Others Have Proposed Changes

HUD’s problems have led to studies and proposals for change, including the administration’s reinvention plans, the National Academy of Public Administration’s (NAPA) study, and several bills to reorganize or dismantle HUD. These proposals uniformly recognize the need to revise the delivery of housing and community development services. They also recognize that budgetary constraints dictate changes. However, the proposals differ in the role they envision for the federal government.

The administration’s initial reinvention plans, introduced in December 1994, assume the need for a cabinet-level housing and community development agency and focus on restructuring and consolidating programs. Initially, the plans proposed to (1) remove public housing authorities from HUD’s subsidy programs and make them compete in the private market; (2) consolidate 60 major categorical programs into three flexible, performance-based funds; and (3) transform FHA into a results-oriented, financially accountable credit-enhancement operation. In 1996, the administration updated its plans, retaining most of the provisions but revising the proposal for public housing. Under the current plans, HUD would continue to subsidize public housing but would consolidate and streamline programs to improve its delivery of services to low-income residents.

The NAPA study, issued in July 1994, recommended that the Congress and HUD restructure the agency to consolidate its programs and reform its management. The study suggested that if HUD did not operate under a clear mandate and in an effective manner in 5 years, its existence should be reevaluated. In addition, the study recommended that HUD modify its operations and work from the bottom up rather than from the top down, supporting local initiatives consistent with its mission instead of imposing its own strategies on localities. For most programs, the study proposed a shift in decision-making authority from headquarters to the field and from the federal government to the state or local level. Finally, the study recommended that the Congress give HUD broad waiver and demonstration authority to allow the states to experiment with changes in their housing and community development programs.

Between February 1995 and August 1995, the 104th Congress introduced five bills in the House and Senate to dismantle HUD. These bills would move farther than the NAPA study in shifting power from the federal government to the states, and they would transfer some governmental responsibilities to the private sector. Furthermore, they would transfer the remaining federal responsibilities to other federal agencies and terminate HUD’s existence. The two most recent bills—S. 1145 and H.R. 2198—are the subject of this report. For convenience, we refer to both bills, which are identical, as S. 1145.

S. 1145 Would Introduce Sweeping Changes

S. 1145 would dramatically change the federal role in housing and community development. To reduce the federal government’s spending for housing and community development, the bill would shift many of HUD’s operations to other federal agencies, provide block grants to the states, and rely more on the private sector. The bill seeks to give the recipients of housing assistance more choice in deciding where to live and communities more choice in deciding how to spend their community development funds; however, it would also reduce the federal funding for community development. In addition, it would increase the influence of the private market in federal housing assistance and housing finance. As the NAPA study and the administration’s proposals recommended, the bill would increase decision-making at the state and local levels, bringing the administration of programs—and accountability for their results—closer to the persons affected by the decisions. Overall, the bill seeks to reduce federal spending for housing and community development activities by consolidating and eliminating programs.

To accomplish its goals for housing assistance, S. 1145 would phase out HUD’s public housing and rental housing assistance programs and replace them with a flexible, tenant-based voucher system, to be administered by the Department of Health and Human Services (HHS). Public housing properties and properties that formerly received section 8 project-based rental assistance would have to compete for tenants with other rental properties in the marketplace. Tenants could use their vouchers to either rent or purchase any unit they could afford, but a household’s receipt of vouchers would generally be limited to a lifetime maximum of 5 years.The states could choose to receive a block grant allocation and administer vouchers on behalf of HHS or develop their own housing assistance program.

S. 1145 would consolidate HUD’s community development programs, including many categorical ones, into a block grant for housing and community development, of which $1 billion would be set aside for Indian housing, the elderly, people with disabilities, and people with AIDS. The grant would be administered by a new, independent agency, the Housing and Community Opportunities Agency. This change would give communities more choice in spending federal funds, but both large and small communities would have less money to spend. Under the housing and community development grant, entitlement areas would receive 80 percent of the total funding provided, while small cities would receive 20 percent. However, the total funding would be cut by about 40 percent as soon as the bill’s provisions went into effect and would then be reduced even further over time.

S. 1145 would restrict the federal government’s role in housing finance to covering losses on single-family mortgages, at a substantially reduced rate—down from 100 percent to a maximum of 35 percent. It would transfer the responsibility for operating the single-family mortgage insurance program to the Department of the Treasury, which would negotiate agreements for sharing the risk of insuring single-family mortgages with other mortgage insurers—the states and/or the private sector. Additionally, it would eliminate federal loan insurance for multifamily and certain other properties and terminate Ginnie Mae, leaving these areas for the states and private sector to cover.

Finally, S. 1145 would transfer HUD’s regulatory functions to other federal agencies, designated in this report as receiving agencies. These agencies include the departments of the Treasury and Justice, the Environmental Protection Agency, and other independent agencies. To manage these changes, the bill would redesignate HUD as the Housing and Urban Development Programs Resolution Agency and make this agency responsible for administering and concluding HUD’s affairs within 5 years.Among other things, the resolution agency would have to resolve, or provide for resolving, hundreds of billions of dollars in financial commitments and manage HUD’s shutdown. Table 1.1 summarizes the organizational changes that would occur under S. 1145.

The changes that would occur under S. 1145 in housing assistance, community development, and housing finance are discussed in more detail in chapters 2 and 3 of this report. Chapter 4 discusses the capacity of the states and the receiving agencies to assume HUD’s former responsibilities. Chapter 5 discusses the resolution agency’s responsibilities, including resolving HUD’s financial commitments, and lessons learned from previous efforts to dismantle or reorganize federal agencies. The Congressional Budget Office (CBO) will provide its estimate of the bill’s impact on the federal budget in a separate report. Appendixes I and II provide details on the receiving agencies’ responsibilities and the resolution agency’s financial commitments, respectively.

Objectives, Scope, and Methodology

The Chairs of the Senate Committee on Banking, Housing, and Urban Affairs and its Subcommittee on Housing Opportunity and Community Development and Senator Faircloth asked GAO to examine the implications of one of the proposals to dismantle HUD—S. 1145, the Housing Opportunities and Empowerment Act. Specifically, the requesters asked GAO to (1) examine the bill’s proposed changes in housing assistance, community development, and housing finance and the potential impact of these changes on the customers of these programs and (2) discuss the capacity of the states and other federal agencies to assume HUD’s functions and the tasks to be accomplished in dismantling HUD within the 5 years specified in the bill. As agreed with the requesters’ offices, this report assumes that the bill would cover the 5-year period from 1997 to 2002, rather than the period from 1995 to 2000 specified in S. 1145. The requesters also asked CBO to project the federal costs of implementing the bill’s provisions. CBO’s projections will be published in a separate report.

To examine the proposed changes, we reviewed the bill’s provisions and examined major administrative and other legislative proposals introduced to change the federal role in housing and community development. We conducted a literature search and discussed S. 1145 with officials from the Office of Management and Budget (OMB), HUD, NAPA, interest groups and associations, and think tanks. To assess the impact of the proposed changes in housing assistance, community development, and housing finance on HUD’s clients, we interviewed and gathered studies and position papers from senior HUD officials, think tanks, and interest groups representing HUD’s clients, including tenant organizations, public housing authorities, lenders, major bond-rating agencies, government-sponsored enterprises, private mortgage insurers, state agencies, and local governments.

To examine the bill’s implications for entities outside the federal government, we met with officials from national associations representing state and local governments— including the National Governors’ Association, the National Council of State Housing Agencies, the Council of State Community Development Agencies, and the U.S. Conference of Mayors—and we conducted a survey of community development officials from the 47 states represented by the Council of State Community Development Agencies. We received responses to this survey from officials in 44 states. We reviewed existing literature on states’ fiscal capacity and visited officials in six states—Alabama, Illinois, Maryland, Massachusetts, Texas, and Washington—that we had selected because they differed from one another in their fiscal capacity, federal and state funding for housing assistance, experience in administering section 8 programs, experience with troubled public housing authorities, political philosophy, and geographic location. The findings resulting from our visits are not projectable to all 50 states. Because S. 1145 would not directly expand the role of local governments, we focused specifically on states’ capacity to take on expanded responsibilities. Changes in local responsibilities would depend largely on the states’ decisions.

To examine the bill’s implications for the receiving agencies and the resolution agency, we conducted interviews and collected documentation and studies from the federal agencies designated to receive HUD’s functions and from HUD. We also drew on our own prior and ongoing work on HUD and on reorganizing federal agencies. Specifically, we interviewed officials from OMB, the General Services Administration, and the Office of Personnel Management to gather the current guidance on reorganizing federal agencies. To better understand the functions that would be transferred, we interviewed HUD officials and reviewed HUD documents on the mission, staffing, and internal controls of each function. Using this information, we interviewed officials from the receiving agencies to obtain their views on the implications of transferring HUD’s functions to them. We interviewed officials from the departments of Agriculture, Health and Human Services, Justice, and the Treasury; the Environmental Protection Agency; the Federal Reserve Board of Governors; the Federal Trade Commission; the Federal National Mortgage Association (Fannie Mae); and the Federal Home Loan Mortgage Corporation (Freddie Mac).

Agency Comments and Our Evaluation

In commenting on a draft of the report, the Acting Secretary of HUD expressed concern that our methodology did not include adequate consultation with HUD’s customers. Over the course of this study, we interviewed and/or collected documentation from organizations that represent a wide range of HUD’s customers. Information obtained from this work is included in chapters 2 and 3. We also revised the methodology section of our report to reflect more clearly the range of organizations we interviewed.

S. 1145 Could Increase Choice in Housing and Community Development, but Some Vulnerable Populations Might Receive Less Assistance

S. 1145 would dramatically reduce the federal role in housing and community development and could have far-reaching effects on renters and communities. The bill’s plan to institute a voucher system could expand housing choices for renters in some areas, but its phaseout of project-based assistance could reduce the supply of affordable housing—and housing choices—in other areas. Similarly, the bill’s creation of a single block grant for community development would give the states and localities more choice in spending federal funds for projects in their communities, but some of HUD’s current clients, especially the homeless and very low-income families, might receive less assistance.

Impact of Proposed Changes in Rental Assistance, Would Depend on a Number of Factors

Replacing housing assistance with a voucher system would, in principle, give renters more choice in deciding where they would live. In fact, the extent of their choice would depend, in large part, on the amount of the subsidy provided compared with the cost of housing in the area. Under S. 1145, currently assisted properties would be required to compete in the marketplace. During a transition period, the resolution agency would settle long-term commitments to provide rental assistance and provide funds through a block grant to operate and improve public housing properties with an approved plan for becoming more competitive. However, if tenants chose not to remain and other renters were not attracted to the properties or if rental income was otherwise insufficient to cover operating costs, the properties would not remain viable, and their loss would decrease the supply of affordable housing. Reductions in the supply of affordable housing could decrease the opportunities for recipients of voucher assistance to exercise choice, particularly in housing markets where affordable housing was in short supply.

HUD Currently Provides Public Housing and Private-Market Housing Assistance

HUD provides two basic types of rental housing assistance: public housing and private-market housing assistance. Public housing is owned and operated by local government agencies known as public housing authorities (PHA). HUD provides funds to these authorities primarily to operate and make capital improvements to public housing projects. The private-market housing programs provide “project-based” and “tenant-based” rental assistance to owners of private rental housing. For project-based assistance, eligible lower-income households must live in designated housing. HUD has contracted with the owners of this housing to provide rental payments for units in those properties for a certain time period. For tenant-based assistance (the section 8 certificate and housing voucher programs), assisted households may live in rental units of their choice as long as the units meet HUD’s standards for rent and quality. Generally, HUD administers its private-market rental housing programs through housing owners or PHAs, depending on the program.

HUD spent about $25 billion in fiscal year 1995 to provide rental housing assistance for about 4.5 million units. HUD targets rental assistance primarily toward households classified by law as having very low incomes. For households with four people, very low incomes are those that do not exceed 50 percent of the local area’s median income. Because of its high costs, the public housing program was sharply curtailed in 1983, and section 8 project-based rental assistance was discontinued for new construction or substantial rehabilitation. Nevertheless, because of the pattern of past funding, most people who receive federal rental aid today receive project-based subsidies. As shown in figure 2.1, of the 4.5 million units assisted by HUD, about 29 percent are in public housing, about 40 percent receive project-based assistance, and about 31 percent receive tenant-based assistance, according to HUD.

S. 1145 Would Replace Current Assistance With a Voucher System

Under the bill, all existing public housing and project-based rental housing assistance would be phased out and replaced with a tenant-based voucher system administered by the Department of Health and Human Services (HHS). During the 5-year transition phase, the resolution agency would take actions to ensure the continued viability of projects with project-based section 8 contracts that expire during the period and provide operating and capital grants to PHAs that have an approved plan for making their housing competitive. The grants would also fund the demolition of units that could not be made competitive. During the phaseout, tenants would start to receive vouchers that they could use to stay in their current apartment, move to another apartment, or purchase a home. Any section 8 assistance or public housing commitments still in effect at the termination of the resolution agency would be transferred to the voucher administrator in HHS. The bill limits the amount of assistance available during the 5-year transition period and then permanently limits the assistance to the amount necessary to (1) provide housing assistance to the same number of families as received assistance under any section 8 or public housing program during fiscal year 1997 and (2) cover administrative fees. Under the bill, the subsidy is generally limited to the difference between 30 percent of a household’s adjusted income and a rent ceiling known as the fair market rent.

Elimination of Project-Based Assistance Could Affect the Supply of Affordable Housing

Under the bill, the over two-thirds of HUD’s assisted units that receive either public housing or project-based assistance would become unsubsidized units competing in the market. Without a subsidy for every unit, some of this housing—including 1.4 million units of project-based section 8 housing and 1.3 million units of public housing—might not remain viable.

Some Section 8 Properties Might Not Remain Viable at Market Rents

During the 5-year term of the resolution agency, section 8 contracts covering almost 1 million units will expire, while most of the remaining contracts will expire by 2006. For about three-fourths of its properties with project-based section 8 subsidies, HUD estimates that the rental subsidies exceed the market rents for comparable properties. As the contracts for the assisted projects expire and the tenants receive vouchers, the rents charged by landlords could rise or fall, depending on the local rental market. In general, the tenants could decide whether to move elsewhere or to stay in their units.

Over time, affordable housing units may be lost as owners who cannot operate at market rates default or as owners in tight housing markets raise their rents to levels that certificate holders cannot afford. In either case, tenants could be displaced. As a further complication, almost half of all the properties with section 8 project-based subsidies have mortgages insured by FHA, which would have to pay lenders’ claims if the owners defaulted. Recognizing these possibilities, S. 1145 contains “mark-to-market” provisions that would, for contracts expiring during the 5-year transition period, give the resolution agency broad authority to take actions such as adjusting the FHA-insured mortgages to bring the properties’ rental income and operating expenses into line and to decrease the likelihood of defaults on FHA-insured mortgages. These goals are similar to those proposed by HUD. The remaining section 8 properties, whose mortgages are not insured by FHA, also present complications, particularly for the states. Specifically, as the Republican Governors’ Housing Task Force cautioned, if the federal government were to unilaterally not renew expiring section 8 contracts, it would jeopardize the ability of the states to meet their financing obligations. Such an action could have serious consequences for the states’ future financing capacity. Consequently, the states believe they must be held harmless from the effects of any mark-to-market action on uninsured section 8 projects. According to HUD’s data, just over half of all section 8 projects are not insured by FHA. Furthermore, over half of the units in uninsured section 8 projects are in projects whose contracts will expire after the year 2000. The financial impact of the losses that the federal government could incur are discussed in chapter 5.

Some Public Housing Might Not Be Competitive

In converting the 1.3 million units of public housing to compete in the private market, the resolution agency, along with the PHAs, would face difficult decisions about which assets could be made viable in 5 years and which should be demolished. While the bill requires the planning to determine which projects would likely be viable, many PHAs might have difficulty developing plans because public housing was not built to the private market’s standards and its operation has not been guided by the market’s forces, according to a recent HUD study. Thus, many PHAs might find that they lacked the information to analyze their housing stock, management practices, and local housing markets to determine the viability of their housing, and they might need to have contractors perform these studies. Since the bill does not provide funding specifically for the studies, it would have to come from the operating funds or modernization grants provided under the bill, potentially putting a further strain on PHAs’ budgets.

In addition, the physical condition of public housing has deteriorated over time because operating subsidies and modernization funds have not kept pace with needs. For example, for fiscal year 1996, about 90 percent of public housing’s operating needs were covered by the appropriation, leaving about 10 percent of the expenses unfunded by either subsidy or rent. Because of such shortfalls, routine maintenance is typically deferred. Since 1981, almost $29 billion has been provided for modernizing public housing. However, a backlog estimated at between $10 billion and $20 billion still exists, and, despite recent progress in reducing the backlog, needs continue to accrue. As shown in figure 2.3, the bill provides total funding for operating subsidies and capital grants (modernization funds) of $5.3 billion for fiscal year 1998, $3.3 billion for fiscal year 1999, $1.5 billion for fiscal year 2000, and $56 million for fiscal year 2001. In comparison, for fiscal year 1997, a total of about $6 billion was appropriated for public housing. Given this funding gap, the General Counsel for the Council of Large Public Housing Authorities and the President of the National Association of Housing and Redevelopment Officials said that they do not believe that the appropriations in the bill—even when considered in light of the proposed deregulation—would be sufficient for the bulk of public housing to become competitive. As we reported previously, the condition of the existing stock and its per-unit operating costs vary tremendously. While some projects with high operating costs would not be viable after renovation because their expenses would exceed their rental income, other projects with low operating expenses could, if they retained or attracted tenants, use their rental revenues to pay for rehabilitation.

Renters Could Choose to Move If Affordable Housing Were Available

The impact of S. 1145 on tenants would depend on the local housing market. Where the supply of affordable housing was sufficient, the vouchers could provide housing choice. To the extent that current residents exercised their choice by moving out of very poor neighborhoods, a basic goal asserted by those who favor tenant-based subsidies would be met. CBO observed that “recipients of tenant-based housing assistance—except the elderly—were less likely than recipients of project-based aid to report dissatisfaction with their neighborhood or housing unit.” Additionally, HUD’s Inspector General recommended that actions be taken to decouple project-based subsidies from insured projects because they insulate the owners of projects from normal market forces and result in inferior projects and services for tenants. With tenant-based subsidies, landlords would know that tenants could move and would have more incentive to maintain their projects, according to CBO. However, both housing and community development officials in the six states we visited and HUD officials told us that substituting vouchers for all project-based assistance and public housing could reduce the supply of affordable housing and hamper households’ ability to find affordable housing in some localities. Officials from five states mentioned that discontinuing project-based assistance would exacerbate the shortage of affordable housing. HUD agrees that housing markets nationwide are uneven, making an across-the-board approach to housing assistance unworkable. In areas such as New York, San Francisco, and areas of expanding growth where housing markets are tight, rebuilding units is the only practical way to retain affordable units and avoid displacing households, according to HUD.

However, CBO and HUD agree that the primary causes of severe housing problems across the country are not shortages of housing but lagging incomes and high housing costs. In fact, in 1993, about 6 million unsubsidized households had “worst-case” needs, according to HUD, meaning that they had incomes of less than 50 percent of their area’s median income and paid more than 50 percent of their incomes for housing or lived in substandard housing. For most of these households, affordability was their only housing problem. HUD and others have argued that certificates give low-income households the purchasing power they need to afford the housing that is available in the private market. A 1994 study by Abt Associates, Inc., performed for HUD, found that nearly 9 out of 10 households (excluding New York City) in HUD’s mainstream section 8 voucher and certificate programs were able to find rental housing by using their vouchers and certificates. As we reported previously, actual housing choice depends on many factors, including the characteristics of the current tenants and their inclination to move, the availability of affordable housing, the willingness of private landlords to accept tenants with housing certificates, and the extent to which laws prohibiting housing discrimination are followed and enforced. In a case study of the Baltimore housing authority, HUD found that massive movement out of public housing following a change to tenant-based vouchers would be unlikely. The president of the National Association of Housing and Redevelopment Officials, who is also the executive director of the Richmond housing authority, said he fears that 20 to 30 percent of the tenants in public housing would move. He said that he and other PHA directors are concerned that PHAs would be faced with partially occupied buildings and dwindling resources. Another factor that would influence choice is the level of subsidy to be provided through the certificate. The states that operated their own program could determine the amount of the subsidy for their state. In theory, if a state wanted to serve more clients, it could provide smaller payments for each client. If it wanted to serve fewer people or stimulate other movements, it could provide larger payments.

Block Grants Would Give Some Communities More Choice but Could Decrease Aid for Vulnerable Populations

Combining the funding for HUD’s community development programs into a single block grant, distributing it to the states and large metropolitan areas, and allowing these entities to decide how they would spend the funds—within federal guidelines—would give these entities more choice. But studies have shown that communities often choose to invest in projects benefiting higher-income groups. Populations such as the homeless, who are guaranteed a measure of assistance under HUD’s categorical McKinney Act programs, might not fare as well under a block grant that did not target some funds directly to them, according to these studies.

HUD Currently Assists Communities Through Many Grant Programs

Through a variety of programs, HUD provides flexible funding for local economic development, housing development, and assistance for the homeless to and through the states; entitlement areas (mostly cities with at least 50,000 people and urban counties); nonentitlement cities, towns, and counties; and other jurisdictions. HUD’s primary community development program is the Community Development Block Grant (CDBG) program, for which $4.6 billion was appropriated in fiscal year 1997 for grants to aid in the development of viable communities through activities such as housing rehabilitation, public works, public services, and economic development. Under CDBG, grants are distributed directly using a statutory formula to entitlement areas and to the 48 states that manage the program on behalf of nonentitlement communities (HUD manages the program for Hawaii and New York). Another major grant program is the HOME Investment Partnerships program, which was appropriated $1.4 billion in fiscal year 1997 to provide grants to states and localities for a wide range of housing activities, including building or rehabilitating affordable housing, assisting first-time home buyers, and offering tenant-based rental assistance. HUD was appropriated $823 million in fiscal year 1997 to assist the homeless through six McKinney Act programs—Shelter Plus Care, Supportive Housing, Emergency Shelter Grants, Section 8 Moderate Rehabilitation for Single-Room Occupancy Projects, Rural Homeless Housing Assistance, and Safe Havens. Some forms of assistance—such as that for the homeless—may go directly to nonprofit groups and organizations without going through governmental jurisdictions.

S. 1145 Would Consolidate and Reduce Grant Funding

As shown in figure 2.4, HUD’s multiple grant programs would be combined to form a grant that would be administered by an independent agency—the Housing and Community Opportunities Agency. S. 1145 would give the states and localities greater flexibility in determining the types of activities to fund. The grant funds could be used for community or neighborhood development, affordable housing, or relocation. The grant would be allocated to the states and entitlement areas in much the same way as CDBG funds are currently allocated. However, the entitlement areas would receive 80 percent of the funding and the states 20 percent. Currently, the split is 70 percent to the entitlement areas and 30 percent to the states under CDBG and 60 percent to participating jurisdictions and 40 percent to the states under the HOME program. In addition, S. 1145 would require that 90 percent of the funds be used annually to benefit low-income families—defined by the bill as those with incomes that do not exceed 80 percent of the area’s median income. The CDBG program currently requires that 70 percent of the funds be used to benefit low- and moderate- income families over a 1- to 3-year period. Each year, the bill would set aside $1 billion for a grant for housing for special populations—the elderly, people with disabilities, and people with AIDS. The set-aside would be allocated to the states on the basis of need as indicated by objective measures. Indian tribes would receive 1 percent of the total block grant, and, in addition, Indian housing authorities would receive an amount not to exceed the funding they received for housing in fiscal year 1995. elderly, disabled, people with AIDS As figure 2.5 shows, federal funding for the single block grant for community development and special populations proposed under S. 1145 would start at $5 billion for fiscal year 1998 and decline over 5 years to $3 billion, where it would be capped. The block grant would replace approximately $8 billion in fiscal year 1997 funding for various programs supporting community development, housing, and the homeless.

In addition, the new agency would inherit HUD’s outstanding commitments for loan guarantees made under the CDBG program. Under section 108 of the Housing and Community Development Act of 1974, communities and states that receive CDBG grants can apply for loans to obtain additional financing. HUD guarantees notes issued by grantees for up to five times their current year’s CDBG grant; current and future CDBG grant funds serve as the collateral for these loans. The proceeds from the notes can be used to finance community and economic development projects that are too large to be financed from the grantee’s annual grant. The financial impact of these guarantees is discussed in chapter 5.

States and Localities Would Have Greater Flexibility in Setting Spending Priorities, but Service to the Poorest Clients Might Decline

The consolidation of HUD’s programs for community development, housing development, and the homeless was supported, in general, by NAPA and by representatives from the Brookings Institution and the Hudson Institute, the National Association of Counties, the Association of Local Housing Finance Agencies, the National Community Development Association, and the U.S. Conference of Mayors. However, HUD, the organizations representing state and local governments, and housing officials generally favored two or three block grants covering housing, community development, and assistance for the homeless. For example, in its reinvention plans, HUD has proposed to consolidate these programs into three block grants. The Deputy Director of the Office of Executive Services in the Community Planning and Development Division, who was otherwise critical of S. 1145’s provisions, noted that a single block grant would be less costly to administer than separate programs. However, the president of the Progress and Freedom Foundation and a representative from the Brookings Institution cited drawbacks to block grants, such as difficulties in maintaining accountability for missions’ objectives and funding and reductions in flexibility accompanying the addition of set-asides and restrictions on or cuts in funding.

HUD, the National Council of State Housing Agencies, and program officials in all six of the states we visited said that state and local decisions under a consolidated block grant would result in less funding for affordable housing and/or the homeless. According to HUD, because the bill contains no specific requirements for serving either very low-income persons—those with incomes that do not exceed 50 percent of their area’s median income—or the homeless and because activities for these populations do not enjoy wide support in some cities, consolidation could result in sharp funding reductions for these populations. According to an official from the U.S. Conference of Mayors, local governments face a great deal of political pressure to fund their police departments and environmental mandates, rather than housing, which has traditionally been a federal responsibility. Some Maryland state officials thought that few funds would be allocated for the homeless under a consolidated block grant, particularly in entitlement areas. These officials were concerned that without HUD’s emphasis on providing a continuum of care, some areas would use their funds for emergency shelter rather than address the multiple needs of the homeless. However, the stakeholders representing state and local governments and housing officials expressed concern that additional set-asides or other restrictions would be added to the block grants, limiting state or local flexibility.

Several studies support the concern of some stakeholders that under a consolidated block grant, states and localities would reduce the funding targeted to very poor households. An analysis of the activities funded through HUD’s HOME and CDBG programs in fiscal year 1992 by a sample of cities indicated that the cities used their grants for purposes that were more closely aligned with their nonfederal spending than they did with other federal funding sources. According to the study, distributing more funds through block grants would likely lead to greater expenditures to benefit moderate- and middle-income households. Similarly, an analysis of the transfer of the CDBG Small Cities program from HUD to the states found that, overall, the states spent less money than the federal government on housing and community development activities for low- and moderate-income households and more on economic development and public works projects. Finally, a Department of Agriculture bulletin on how rural areas would be affected by block grants noted that the “states have used block grants to spread development funds around to benefit more rural communities” and, as a result, have allocated less money for poor people and communities.

Specific funding provisions in the bill, including the set-aside for housing for special populations and the 10-percent increase in funding for entitlement areas, could mean a further decline in the services provided elsewhere, as the states and localities made difficult choices among competing priorities. In our survey of community development officials, 98 percent (43 of the 44 state officials responding) believed the funding decreases would significantly affect their residents. In addition, because of the funding cuts and the increase in the proportion of funds for entitlement communities, the 3,000 nonmetropolitan areas would either receive smaller grants or fewer communities would receive grants. According to HUD, the grants could become too small to have much impact. In addition, HUD said that nonprofit organizations that rely on the CDBG and HOME programs for partial funding might have to terminate or sharply curtail their services. Nonprofit providers of assistance to the homeless would be the most vulnerable, according to HUD, since they would no longer have direct access to federal funds and the bill does not contain any set-asides for the homeless.

Despite their desire for flexibility, some local officials are concerned about creating additional block grants that flow through the states. According to representatives from the U.S. Conference of Mayors, the National Association for County Community and Economic Development, and the Council of Large Public Housing Authorities, urban areas often suffer when the states are involved in administering programs. In Maryland, a panel of local officials from municipalities near Washington, D.C., explained that the CDBG nonentitlement program was better run by HUD than by the state, which took over the program’s administration in 1987. Similarly, a representative of public housing authorities in Illinois told us that he would prefer to work directly with the federal government in operating housing assistance programs, rather than with the state government. Reasons cited by these local officials for preferring to work with the federal rather than the state government include (1) the influence of state politics on programs’ administration and (2) the imposition of burdensome bureaucratic requirements by the state. These officials would prefer federal programs that channel funds directly to local areas.

Agency Comments and Our Evaluation

HUD said that our report does not fully discuss provisions of the bill that it believes would have harmful effects on the Department’s low- and moderate-income customers and their communities in rural, suburban, and urban areas. The bill’s call for eliminating public housing and replacing it with housing vouchers could have a significant impact on all communities, according to HUD. HUD pointed out that in a previous report we identified potential problems with a “one size fits all approach” to providing housing assistance because costs differ among areas. In addition, HUD noted that the impact on communities and on the poor of consolidating and cutting—by 40 percent—the funding for the Community Development Block Grant, the HOME program and the current programs for the homeless—would also be devastating. Neither we nor HUD can assess with any certainty what spending choices states and communities would make. However, on the basis of our extensive interviews with representatives of federal and state agencies and affected populations and of our analysis of relevant studies, we believe that the information presented in this chapter reasonably reflects the most likely effects of the bill on those presently served by HUD and its programs.

The Federal Role in Housing Finance Would Be Reduced

The federal role in housing finance would change dramatically under the provisions of S. 1145. Specifically, the federal government would provide partial mortgage insurance only for single-family homes, would no longer insure multifamily mortgages, and would no longer provide liquidity to certain lenders. Because of the limitations on the percentage of the value of the home that could be financed and the percentage of the losses that would be covered by insurance, some home buyers—particularly lower-income and first-time buyers—who would have qualified for federally insured loans without the changes envisioned in the bill could have difficulty obtaining a home mortgage or might never become homeowners. In addition, veterans and rural residents, as well as certain lower-income home buyers benefiting from other affordable homeownership programs—particularly those of state housing finance agencies (HFA)—could have more difficulty obtaining—or could pay higher costs to obtain—a home mortgage without FHA as a source of mortgage insurance and Ginnie Mae as a source of liquidity to lenders. Eliminating the federal role in insuring multifamily mortgages could particularly affect the availability of mortgages for affordable rental housing, and, in New York and New Jersey, for hospitals. Finally, risk-sharing as envisioned in the bill could diminish the federal role in stabilizing housing markets. Specifically, according to FHA, the loss of FHA’s ability to serve as a market stabilizer in economic downturns could mean greater losses in home equity value for low-and moderate-income homeowners and greater volatility in the economy.

Both FHA’s principal single-family mortgage insurance program and Ginnie Mae’s guarantee program have expected revenues that exceed their expected costs. The resulting surplus lowers the federal deficit. The budgetary implications of the bill’s housing finance proposals are described in appendix II.

HUD Insures Mortgages and Provides Liquidity to Lenders

HUD supports housing finance principally through FHA’s mortgage insurance program and Ginnie Mae’s program for providing liquidity to lenders of government-insured loans.

FHA Insures Mortgages

FHA was established under the National Housing Act of 1934 to improve housing standards and conditions, to provide an adequate home financing system by insuring home mortgages and providing credit, and to stabilize the mortgage market. FHA insures private lenders against losses on mortgages financing homes, multifamily properties, and health care facilities and against losses on loans for property improvements and manufactured homes. In July 1996, FHA had insurance on 6,490,546 single-family loans totaling about $364 billion. It had insurance on an additional 15,876 multifamily loans (totaling almost 2 million units) and 474,750 property improvement and manufactured housing loans, totaling about $48 billion and $6 billion, respectively. FHA also held 126,467 notes on properties with unpaid principal balances totaling $8.4 billion and held 26,531 single-family and multifamily properties acquired at a cost of $2.1 billion. According to Price Waterhouse’s latest actuarial study, the Mutual Mortgage Insurance Fund—the insurance fund supporting FHA’s principal single-family insurance program—had an economic net worth of over $7 billion as of September 30, 1995. That is, the current cash available to the fund, plus the net present value of all future cash inflows and outflows expected to result from outstanding mortgages in the fund, is about $7 billion.

While serving a relatively small part of the entire single-family mortgage market, FHA is an important resource for certain market segments. Specifically, while FHA insured about 8 percent of the dollar amount of all mortgages made in 1995—both home purchase mortgages and refinancings—FHA-insured loans represented about 26 percent of the dollar amount of all insured loans made that year. (See fig. 3.1.) Borrowers of FHA-insured mortgages are more likely to have lower incomes, be first-time home buyers, or be minorities than are borrowers of privately insured loans. For example, while FHA insured about 15 percent of all mortgages used to purchase homes in 1994, it insured 20 percent of all home purchase mortgages made to low-income borrowers, 24 percent of those made to minorities, and 21 percent of those made to first-time home buyers. In addition, in 1994 FHA insured more home purchase mortgages in nine states than did private mortgage insurers or the Department of Veterans Affairs (VA).

In 1995, FHA’s mortgage insurance on loans for multifamily properties helped finance the construction of 17,113 new rental units; the purchase or refinancing of 32,383 existing rental units; and the construction, substantial rehabilitation, and purchase or refinancing of 12,888 units of group housing and health care facilities. Combined, these multifamily activities represented over $2.3 billion in mortgage insurance written in 1995.

Ginnie Mae’s Guarantees Raise Capital for Mortgage Loans

Ginnie Mae, a wholly owned government corporation, was established to expand affordable housing in America by providing liquidity to certain lenders through an efficient government-guaranteed secondary market for federally insured or guaranteed loans. Its programs facilitate the financing of single-family, multifamily, and manufactured homes. Specifically, Ginnie Mae guarantees the timely payment of principal and interest on privately issued securities that are backed by pools of FHA-insured and VA- and Rural Housing Service (RHS)-guaranteed mortgages. In fact, according to Ginnie Mae, nearly all FHA-insured, VA-guaranteed, and RHS-guaranteed mortgages are in Ginnie Mae pools. Ginnie Mae’s mortgage-backed securities program provides a means of channeling funds from the nation’s securities markets into local housing markets. According to Ginnie Mae, the U.S. government’s full-faith-and-credit guaranty of these securities makes them widely accepted in sectors of the capital markets that would not otherwise be likely to supply funds to the mortgage market. Approximately 70 percent of the funds used to purchase Ginnie Mae-guaranteed securities come from nontraditional mortgage investors, including pension and retirement funds, life insurance companies, and individuals. The maturities on these guarantees are for up to 40 years. As shown in figure 3.2, as of September 30, 1995, Ginnie Mae-guaranteed securities represented 26 percent of all single-family and multifamily mortgages held in mortgage pools. At the end of fiscal year 1995, Ginnie Mae had outstanding guarantees of mortgage-backed securities totaling $464 billion. Ginnie Mae’s programs had negative net outlays—or profits—of $464 million in fiscal year 1995.

Federal Support for Housing Finance Would Be Reduced

Under S. 1145, HUD would no longer insure multifamily mortgages or guarantee mortgage-backed securities, and the agency that would replace FHA would be limited in how it could insure mortgages. Specifically, the bill would abolish FHA and replace FHA’s single-family mortgage insurance program with a program in which risk would be shared between qualified mortgage insurers and a Federal Home Mortgage Insurance Fund operated by a new agency—the Federal Home Mortgage Insurance Fund Administration (FHMIFA)—within the Department of the Treasury. Unlike FHA’s mortgage insurance, this proposed new fund would not be backed by the full faith and credit of the United States. The new agency would be authorized to provide partial insurance on mortgages for families with incomes of 80 percent of their area’s median income (125 percent for first-time home buyers and for homes purchased in economically distressed areas) and for refinancing a mortgage previously insured under a risk-sharing agreement. It would not be authorized to insure single-family mortgages for other prospective buyers or multifamily mortgages. Furthermore, the federal government would no longer provide liquidity to lenders, as Ginnie Mae does now. Finally, low-income homeowners would be eligible to receive housing assistance vouchers for up to 60 months—or for longer if a state chose to design its own program. The bill also provides for the sale of FHA’s mortgage insurance interests and for the termination of Ginnie Mae.

Under the bill’s provisions, initial capital of $100 million to $500 million for the Federal Home Mortgage Insurance Fund would come from the sale of FHA’s mortgage insurance interests. FHMIFA would set standards for lenders and underwriting standards for borrowers. It would enter into risk-sharing agreements with qualified mortgage insurers. To be qualified, insurers would need a AA rating from a rating agency and could include state and local housing and housing finance agencies or private mortgage insurers in coordination with HFAs. Together, FHMIFA and a qualified mortgage insurer would insure no more than 35 percent of a loan, a lender would finance no more than 97 percent of a property’s value, and a borrower’s income could not exceed 80 percent of the area’s median income (or 125 percent of the median income for first-time home buyers or properties located in economically distressed areas). Premiums would remain at the levels currently authorized under FHA’s principal program for single-family mortgages, and premiums and losses would be shared as agreed between the fund and the qualified mortgage insurers.

Qualified mortgage insurers would underwrite loans and collect insurance premiums—retaining a portion for administrative expenses and passing the remainder on to the fund. An insurer would pay claims to lenders and dispose of foreclosed properties conveyed to the insurer and collect against borrowers assigned to the insurer. The resulting losses would be shared between the insurer and the fund. The total amount of the losses covered by the fund and the qualified mortgage insurer would be limited to 35 percent of the loan. Currently, FHA covers 100 percent of the losses on loans that it insures, while the maximum coverage on privately insured loans is 35 percent. According to the bill, FHMIFA and a qualified mortgage insurer would negotiate an agreement on how the risk would be shared. In addition, the qualified mortgage insurers and FHMIFA would agree on the portion of the premiums that the insurer could retain and the amount that the insurance fund would receive.

To provide liquidity to lenders of mortgages made under the proposed risk-sharing arrangement, as well as mortgages guaranteed by VA and RHS, the bill suggests that Fannie Mae, Freddie Mac, or private conduits might provide a means of channeling capital. The bill does not specify the conditions under which these entities would perform such a function.

The bill establishes transition provisions for selling FHA’s mortgage insurance interests and administering any interests not sold, as well as for winding up Ginnie Mae’s affairs. In essence, the bill would transfer these commitments to the resolution agency for their orderly sale and/or administration. Although the bill would transfer the administration of any unsold mortgage insurance interests to FHMIFA, it does not specify how Ginnie Mae’s guarantees of mortgage-backed securities—with maturities of up to 40 years—would be administered beyond the 5-year term of the resolution agency. The bill does, however, specify that the resolution agency should provide the Congress with a plan for phasing out Ginnie Mae’s guarantees. The specific tasks to be performed by the resolution agency, the limits it faces in doing so, and the implications of resolving these commitments are described in detail in chapter 5.

Home Mortgages Would Be Harder to Obtain for Some Home Buyers Under the Bill’s Provisions

Given certain restrictions on the loans that could be insured under the bill’s risk-sharing provisions and the elimination of Ginnie Mae, some home buyers would find it more difficult and, in some instances, more costly to obtain home mortgages. Particularly hard hit would be low-income and first-time home buyers. According to HUD, the bill’s provisions “would strike a devastating blow to potential home buyers.” HUD further notes that the proposal’s requirements for serving only lower-income and first-time home buyers would freeze out many home buyers who currently pay FHA’s higher premiums because they have no conventional-market alternative. Finally, HUD believes that lenders would be exposed to additional risk because of the reduction in coverage from 100 percent to 35 percent, which could result in credit rationing and higher prices in interest and fees. Some home buyers who would have qualified for FHA-insured loans might also qualify for mortgages offered by other mortgage market entities.

Some Borrowers Would Need More Cash to Purchase a Home

The bill’s provision limiting a loan to no more than 97 percent of a property’s value would likely increase the cash required of a borrower. As a result, some prospective borrowers would have to delay their purchase of a home or might, in some cases, never purchase a home. We reported in August 1996 that about 66 percent of the FHA-insured single-family loans made for the purchase of a home in 1995 did not meet three important guidelines used by private mortgage insurers. That is, about two-thirds of these home buyers might not have qualified for private mortgage insurance for the loan they received. An even greater proportion of first-time home buyers and low-income home buyers might not have qualified for a privately insured loan of the same amount. Specifically, about 77 percent of the first-time home buyers and 86 percent of the low-income home buyers who obtained FHA-insured mortgages in 1995 might not have qualified for privately insured loans. The bill’s provision limiting a loan to 97 percent of a property’s value is equal to the most liberal percentage allowed by private mortgage insurance companies today. On the basis of this ratio alone, about one-third of the borrowers who obtained FHA-insured mortgages in 1995 might not have qualified for private mortgage insurance for the loans they received. That is, these borrowers had loans for an amount that exceeded 97 percent of their property’s value and, under the bill’s provisions, would need either to contribute more cash toward the purchase of a home or purchase a home of lesser value. An April 1995 study conducted for the Mortgage Bankers Association—which represents most lenders of single-family mortgage loans—concluded that the majority of the customers served under FHA’s principal single-family mortgage insurance fund would probably not have sufficient financial resources to qualify for private mortgage insurance if FHA were terminated. Furthermore, according to the study, low-income individuals would have particular difficulty in obtaining additional cash resources.

“this increase will lead to an overall decline in FHA volume, as high-risk borrowers are either unable to meet stricter underwriting criteria imposed by lenders or are unable to afford insurance, and as the higher price of FHA insurance induces lower risk borrowers to choose conventional insurance, FHA will be less able to reach underserved areas and borrowers, as well as geographic areas suffering from economic downturns or hit by natural disasters, and the homeownership rate will fall.”

Also contributing to a likely increase in cost to borrowers would be the loss of the full-faith-and-credit backing of the U.S. government. Specifically, according to FHA, without this credit enhancement, investors would provide capital to lenders at a higher cost, increasing the cost of homeownership to borrowers. In addition, a more targeted insurance program, as envisioned in the bill, could concentrate risk in the newly envisioned fund, making it less able to survive economic downturns, according to FHA.

Finally, the changes in housing finance envisioned in the bill would also affect borrowers served through affordable housing programs who now rely on FHA’s insurance. For example, FHA’s mortgage insurance helps state HFAs raise capital for their single-family and multifamily mortgage programs. The credit enhancement provided by this insurance, backed by the full-faith-and-credit of the United States, makes the loans made by HFAs less risky. Without this enhancement, investors in securities issued by state HFAs would demand a higher return on their investments. These additional costs would be passed on to borrowers. In 1994, FHA insured over 55 percent of the loans made by state HFAs. With the added protection of mortgage insurance, these HFAs may offer more flexible terms than they could offer otherwise.

Capital for Some Mortgage Loans Might Be More Difficult to Raise

As mentioned earlier, the bill would eliminate Ginnie Mae—which today provides a channel for mortgage funds for nearly all government-insured and government-guaranteed loans. According to officials of Fannie Mae and Freddie Mac—organizations specifically mentioned in the bill as candidates for performing functions similar to those now performed by Ginnie Mae—they would immediately be able to purchase any new loans that met their underwriting guidelines. However, their qualifying ratios, particularly for total debt-to-income and loan-to-value, are the same as those used by private mortgage insurance companies. Consequently, under the bill’s provisions for risk-sharing, coupled with the elimination of Ginnie Mae, only those borrowers who could meet the private-sector’s existing qualifying ratios would be likely to obtain loans insured under the bill’s provisions. That is, Fannie Mae and Freddie Mac would be likely to immediately channel funds from the capital market to the housing market for borrowers who could meet today’s standards for privately insured loans. As mentioned above, on the basis of our analysis of home purchasers who received FHA loans in 1995, up to two-thirds of the borrowers with FHA-insured loans would not meet these standards, and would, therefore, need to delay their purchase of a home, purchase a home of lesser value, or make a greater initial investment in their home.According to officials of Mortgage Insurance Companies of America, private mortgage insurers might be able to offer more flexible underwriting for loans in which they shared the risks as envisioned in the bill. Fannie Mae and Freddie Mac would, however, first need to better understand the risks associated with any changes to their underwriting and the price they would need to charge for purchasing such loans. For some borrowers, the provision of vouchers might increase the affordability of the home they currently owned or wished to purchase.

The loss of Ginnie Mae could also affect the availability of mortgages for veterans and rural home buyers. Currently, lenders of loans guaranteed by VA and the Rural Housing Service may retain 44 basis points (0.44 percent of the loan amount) for servicing loans when they are pooled into securities that are guaranteed by Ginnie Mae. But when these loans are securitized by Fannie Mae or Freddie Mac, the lenders might retain fewer basis points. This difference in servicing fees creates an incentive for lenders that originate government-insured and government-guaranteed loans to utilize Ginnie Mae’s services and explains why nearly all such loans are held in securities guaranteed by Ginnie Mae. Consequently, some veterans and moderate-income rural home buyers might find a home mortgage more difficult to obtain. Ultimately, the terms of the mortgages made under the risk-sharing provisions of the bill would need to be established before the secondary market agencies could determine the risk and pricing for purchasing and securitizing such loans.

Financing for Multifamily Projects Would Be More Difficult to Obtain

FHA’s role in facilitating the financing of multifamily projects is more limited than it once was, but it is still significant for multifamily projects for lower-income renters, as well as for hospitals and nursing homes in certain locations. Eliminating FHA as a source of insurance for multifamily mortgages would eliminate a relatively small, but in some instances important, source of credit enhancement for developers of such projects.

FHA’s role in insuring mortgages for unassisted multifamily projects has generally increased in the last few years, after a period of decline. Specifically, FHA insured twice the dollar amount in mortgages for constructing new rental units in 1995 as it did in 1992, as well as almost twice the dollar amount in mortgages for congregate housing, nursing homes, assisted living, and board-and-care facilities. The dollar amount of the mortgages for purchasing or refinancing existing rental units has fluctuated during the last few years but has exceeded the amount for 1992. While the extent to which FHA’s share of the entire market has changed in recent years is unclear, FHA’s Office of Multifamily Housing Programs wrote in its Business Strategic Plan of October 1994 that FHA’s share of the multifamily mortgage lending market had fallen from over 30 percent during the early 1980s to 2.2 percent in 1992. However, the renters served by projects financed with FHA-insured loans generally had lower incomes than renters in general, according to FHA. Although FHA’s multifamily insurance program for hospitals is concentrated in just two states—New York and New Jersey—it may serve as a significant source of credit enhancement for financing hospitals in these two states. Some of FHA’s multifamily mortgage programs have been profitable. Specifically, according to a May 1995 analysis prepared by Abt Associates, Inc., FHA’s insurance on loans for hospitals and for refinancing multifamily loans had a positive net cash flow for those loans endorsed between 1987 and 1994. Finally, FHA sees its role in pioneering and providing credit enhancement for multifamily mortgages serving the lower end of the market as critical, and the agency is working to better meet the needs of underserved renters and areas.

For multifamily projects as for single-family residences—but to a lesser extent—some state HFAs—including those in Louisiana, Missouri, and Ohio—rely on FHA’s mortgage insurance for financing. In addition, in recent years some state HFAs have entered into risk-sharing arrangements with FHA for financing multifamily projects. Without FHA, these HFAs would need to seek another form of credit enhancement to finance such projects.

Agency Comments and Our Evaluation

HUD believes that we do not give sufficient emphasis to the bill’s impact on homeownership. According to HUD, eliminating the federal backing for mortgage insurance would eliminate clients now served by FHA, but we cannot say how many prospective borrowers would be unable to obtain a home mortgage under the bill’s provisions. While our analysis of the types of loans received by FHA borrowers recognizes the percentage of such borrowers who did not meet the most liberal underwriting guidelines, we cannot say with certainty that all of these borrowers could not qualify for other mortgages. In addition, because the bill does not specify the terms for sharing risk with qualified mortgage insurers, we cannot determine how many borrowers would be affected. In this regard, we share HUD’s concern that mortgages insured under the risk-sharing provisions might be those products already offered on the private market. In fact, we recognize in the report that the restriction on loan-to-value ratio alone replicates a feature of products already offered by the private market. We have also added information to the report, in response to HUD’s comments, to recognize the impact on the cost to borrowers of the envisioned fund’s not being backed by the full-faith-and-credit of the U.S. government, and we have expanded our description of FHA’s role in the multifamily mortgage market. Finally, in response to comments from Fannie Mae and Freddie Mac that our report does not recognize the extent to which these agencies serve low- and moderate-income families, we added information on their efforts and noted that the agencies may purchase loans whose terms exceed their underwriting guidelines.

States Have Varied Capacity and Receiving Agencies Generally Have Compatible Missions, but Implementation Could Pose Difficulties

Many states already have some experience in administering housing and community development programs. Most officials in the six states we visited believed they could take on additional programmatic and administrative responsibilities and welcomed the prospect of greater involvement in deciding how to spend federal funds. Although the state government officials responding to our survey generally indicated that their state would not be likely to supplement the federal block grant, past experience with block grants in the early 1980s showed that the states used a variety of approaches to help offset federal funding reductions. Similarly, a majority of the federal agencies that would receive HUD’s functions generally indicated that they could assume the additional responsibilities if they received adequate resources; however, they said implementation would pose problems. S. 1145 does not explicitly expand the role of localities in administering housing and community development programs; rather, changes in the role of localities would depend largely on the states.

States Are Willing to Assume a Greater Role but Have Varied Administrative and Fiscal Capacity

The states vary in their experience with programs such as they might administer under S. 1145. Officials responsible for current housing, community development, and welfare programs in the six states that we visited generally believed that their state could develop the capacity to take on most additional administrative responsibilities associated with an increased role in these programs. In the housing assistance area, most said that they would need funding for additional staff and automated systems. However, 79 percent of the respondents to our survey of community development officials in 47 states said their state could easily assume the community development responsibilities by dividing the grant among state agencies. The one area in which the states would not be able to fully participate is risk-sharing to insure single-family mortgages, according to the National Council of State Housing Agencies. Although studies show that some states have greater fiscal capacity than others, most of the state officials we contacted did not believe that their state government would be likely to contribute additional funding for housing and community development activities.

State Officials Have Varied Experience Administering Housing and Community Development Programs

Many states have experience administering housing assistance through existing programs. In 1994, 33 states, the District of Columbia, and Puerto Rico had HFAs that administered tenant-based rental assistance through either the section 8 certificate or voucher program or the HOME program, according to a survey conducted by the National Council of State Housing Agencies. Some states—such as Massachusetts and Maryland—already administer rental assistance programs that they designed and fund. In addition, the states are generally already equipped with a network of local public housing authorities (PHA) that operate public housing, many of which also administer section 8 certificates and vouchers. However, the PHAs currently receive their funding directly from the federal government and are not supportive of proposals that involve the states, according to three PHA associations. Also, the PHAs typically interact directly with HUD and may have only a limited ongoing relationship with the state.

Officials responsible for housing, community development, and welfare programs in five of the six states we visited indicated that if S. 1145 were implemented, their state would probably opt for a state-designed program that would include a tenant-based rental assistance component, such as vouchers, and would use the existing PHA infrastructure along with other local agencies for delivering rental assistance to residents. In the other state, Illinois, officials from the governor’s office and the housing and community development departments were uncertain whether the state would want to administer the program. The officials said that they support tenant-based assistance but have found, in administering approximately 400 rental units as HUD has shifted from project- to tenant-based assistance, the state’s administrative costs have risen because the tenants are more scattered and more travel is required to conduct inspections. However, the state’s director of social services thought that his department should design and administer the program so that the state could use housing assistance as a tool to help welfare recipients become self-sufficient.

Forty-eight states and Puerto Rico have experience working with the existing CDBG program—a role somewhat similar to the one they would play in administering the nonentitlement portion of the community development and special populations block grant proposed in S. 1145. However, the states vary in the number of years they have worked with the CDBG program. In 1982, the states were given the chance to take over the administration of the nonentitlement portion of the CDBG program. While most states were eager to take over this role, Hawaii and New York continue to rely on HUD to administer the program for their state. In 1994, 37 states and the Virgin Islands participated in the HOME program. Many states also have experience administering programs for the homeless, the elderly, and people with AIDS.

Prior experience in administering housing and community development programs or other block grants may help the states take on additional responsibilities for administering block grants for housing and community development. During a review of the nine block grants created by the Omnibus Budget Reconciliation Act of 1981, we found that when a state had operated categorical programs in a particular program area, the transition to block grants in that area was smoother because the state could rely on its existing management and service delivery systems. The states also consolidated offices or took other steps to coordinate related programs when assuming responsibility for the 1981 block grants. The transition to new block grants was not as smooth in program areas that had been funded almost entirely by the federal government.

Only eight states currently insure single-family mortgages—a responsibility S. 1145 would make available to the states through risk-sharing with the federal government. Most HFAs rely on FHA or the private market to insure their loans. For example, officials at the Illinois HFA said that their agency cannot insure its own mortgages because its enabling legislation requires it to use private insurance on its mortgages. Although few states currently insure mortgages, virtually all of them make direct loans to first-time home buyers using the proceeds from tax exempt bonds.

States Believed They Could Take on Additional Housing and Community Development Responsibilities, but Localities Said States Lacked Experience in Housing

The states could take on additional housing responsibilities, according to the National Council of State Housing Agencies. Also, state officials responsible for housing, community development, and welfare in the six states we visited believed that the strength of their housing and community development departments, their capacity at the local level, and their interagency coordination would help them take on additional responsibilities for housing assistance. However, these officials believed they would need funds for additional staff and automated systems to assume the new responsibilities. Although state officials generally believed they could handle the expanded administrative responsibilities that could result from the implementation of S. 1145’s housing assistance provisions, officials from localities in these states generally did not share this confidence. Local PHA directors and associations representing local governments in some of the states we visited did not believe that their state government had the administrative capacity or the experience with local housing problems needed to administer housing programs. In addition, to the extent that S. 1145 resulted in the transfer of responsibility for subsidized multifamily housing projects to the states, states with little or no experience in administering multifamily housing would not be well positioned to carry out these responsibilities, according to Moody’s Investors’ Service—one of the two major bond-rating agencies.

Assuming responsibility for administering the block grant for community development, affordable housing, and special populations by distributing the grant funds among existing state departments would be easy, according to 79 percent of those who responded to our survey of community development officials. Conversely, only 5 percent said that their state would be likely to create a new state agency to administer the proposed block grant. Seventy-two percent thought that the state would be unlikely to hire additional staff to administer the program. The states are more likely to shift staff between departments or offices, according to the officials surveyed.

Most state HFAs could not participate in risk-sharing because they would be unable to supply the capital needed to meet the rating requirement the proposal would establish for qualified mortgage insurers, according to officials from the National Council of State Housing Agencies and Moody’s. Officials from the National Council said that some older HFAs—in New York, Florida, and Massachusetts, for example—do have significant reserves that they have been able to build over time. However, the newer HFAs have not had the time to develop reserves and the reserves that they do have are pledged against bond issues. In addition, the bond issues have come under tighter restrictions over time, which have restricted HFAs in building reserves.

States Said They Would Be Unlikely to Supplement Federal Funds

None of the officials we surveyed indicated that their state would be likely to provide additional funds for community development to compensate for the bill’s proposed reductions. Almost all of these officials believed that their state would not provide additional funds because of its (1) inability or unwillingness to increase state tax rates and/or (2) balanced budget requirement. According to the Center for the Study of the States, the states are unlikely to raise their own taxes much to offset federal cutbacks, and the revenue from the existing taxes of most states will not grow enough to enable the states to make up for large reductions in federal aid. For example, officials in Washington State said that because the state has a balanced budget requirement and an initiative that limits state spending increases, the state would be precluded from providing additional funding for housing or community development. Balanced budget requirements exist in 49 states, according to the National Conference of State Legislatures.

Other limitations on the states’ ability to provide additional funds cited by survey respondents included competition for state funds and the impact of other federal spending cuts. The Center for the Study of the States calculated that state spending for activities such as economic development and housing was cut back sharply during the early 1990s. According to 1996 testimony by a senior fellow at the Urban Institute before the House Budget Committee, if cutbacks in federal aid cause fiscal stress for states, programs that received a small share of the states’ funds in the early 1990s would continue to lose out to spending for other activities, such as prisons. Federal spending cuts in areas such as welfare, job training, and education were cited by almost half of the survey respondents as moderately or greatly influencing their state’s decision not to provide additional funds for community development. For example, officials in Massachusetts said they would have to wait and see how their state fared with welfare reform before determining how much more they could spend for housing and community development. However, this state differed from others we visited because officials believed that strong pressure from housing advocacy groups within the state could result in increased funding.

Although the state government officials responding to our survey generally indicated that their state would not be likely to supplement the federal block grant, the actual fiscal capacity of state governments appears to be more varied than the responses would suggest. Several recent studies indicate that while some states are weak in terms of their fiscal capacity, others are fairly strong. We reported in 1993, for instance, that the widespread disparities among the levels of public services that the states could afford reflected differences in their fiscal capacity. The six states we visited had varied levels of fiscal capacity, according to the 1993 report’s ranking of states. Maryland and Massachusetts were ranked in the top (strongest) quartile, Washington was in the second quartile, Illinois was in the third quartile, and Alabama and Texas were in the bottom (weakest) quartile. Furthermore, according to the National Governors’ Association and the National Association of State Budget Officers, the states’ revenues for 1995 exceeded projected levels. About half of the states enacted tax cuts in part because of moderate economic growth. In addition, experience with block grants in the early 1980s showed that the states used a variety of approaches to help offset federal funding reductions. For example, after nine block grants were created in the early 1980s, the states used carry-over funds from categorical programs, added state revenues, and transferred funds among programs to help make up for much of the reductions in federal funding. An April 1995 study on block grants concluded that “. . . critics who had predicted that states would be unable and/or unwilling to use their own funds to offset federal cuts were proven wrong.” The study noted that spending for social services, which had seemed especially vulnerable, received surprisingly strong support.

“. . . the anti-tax mood reflected currently in Washington is also prevalent in the states. If massive reductions in federal aid occur, many states would probably respond by increasing taxes somewhat, but not nearly . . . to replace the federal funding cuts.”

Missions of Some Receiving Agencies May Be Compatible, but Program Delivery May Differ

Officials from the federal agencies that would receive functions transferred under S. 1145 generally believed that their missions were compatible with those of the transferring functions; however, they expressed some concerns about whether their organizational structures, resources, and staff skills would meet the requirements of the transferring functions. HUD, in contrast, maintained that transferring its functions to other agencies would break up the network it has developed to implement its programs and could adversely affect the delivery of services to its clients. The priority that other agencies would give to some of HUD’s regulatory functions is also unclear.

While Most Agencies See Their Missions as Broadly Compatible, Some Agencies Said the Transfers Would Create Difficulties

Most of the designated receiving agencies considered their missions to be very similar to HUD’s, while HUD did not generally believe that its mission in each area was compatible with that of the respective receiving agency. Officials from the agencies that would receive seven of the nine functions to be transferred did not see compatibility of mission as a significant issue for their respective agency. HUD officials, however, considered only two missions—overseeing home mortgage disclosures and overseeing housing finance entities—to be compatible with the respective receiving agency’s mission.

HHS considers its mission very similar to HUD’s because both agencies are attempting to move people to self-sufficiency. HHS administers several programs primarily focused on providing services and assistance to low-income, needy children and families. About 20 percent of the beneficiaries of these programs also depend on HUD’s housing assistance programs. Conversely, in HUD’s view, HHS’ entitlement programs differ fundamentally from HUD’s housing assistance programs. HUD also disagreed that many of the same clients are served by both agencies, indicating that 67 percent of those in public housing obtain their income from sources other than public assistance.

Both the Department of the Treasury—slated to administer the mortgage insurance function—and HUD consider the proposed transfer a difficult fit. Treasury sees itself as the formulator and manager of the federal government’s domestic and international tax and financial policies, while it sees HUD as a program agency primarily responsible for developing housing policy. Within HUD, FHA is responsible for improving housing standards, providing an adequate home financing system through its mortgage insurance program, and stabilizing the mortgage market. Although FHA’s mortgage insurance program is a credit-related program, FHA’s core mission as a mortgage insurer is unrelated to Treasury’s operation, according to both HUD and Treasury officials. Furthermore, both HUD and Treasury believe that the transfer would considerably weaken the influence of the program on its constituents because Treasury is not experienced in dealing with FHA’s traditional clients: home buyers, tenants, mortgage lenders, realtors, builders, nonprofit developers, and state and local governments.

While both HUD and the Department of Justice see their roles in enforcing the Fair Housing Act as complementary, they believe that the act would be undermined if both their functions were combined under a single agency. Under the act, HUD is responsible for carrying out all of the functions relating to administrative enforcement of the act. Accordingly, HUD investigates, conciliates, or otherwise oversees the disposition of nearly 10,000 individual complaints annually. Justice’s role is to litigate cases in federal court either when a case is referred from HUD after a formal charge has been issued and one of the parties elects to have the case heard in federal court or when Justice initiates a case of broader national significance. According to both Justice and HUD, this separation of duties between HUD and Justice currently works well, and both agencies were opposed to a previous proposal to transfer HUD’s fair housing functions to Justice. HUD also expressed concern that its broader role in affirmatively furthering fair housing across other HUD programs and activities would be lost. Justice officials said they believe that even with a complete transfer of funding and personnel, the federal fair housing enforcement effort would suffer because the cost and disruption of the transfer would be significant and would drain resources away from Justice’s mission of fair housing enforcement. Furthermore, both HUD and Justice believe the Fair Housing Assistance Program—a program through which HUD certifies states to resolve fair housing disputes—would not fit well at Justice because Justice is primarily an enforcement rather than an administrative agency.

Agencies Said That Lack of Organizational Structure, Resources, and Housing Expertise Could Hamper Integration of HUD’s Functions

“The Department does not have a comparable field office structure, and has no current capacity to handle the nearly 10,000 complaints received annually. . . . In order to carry out administrative responsibilities currently handled by HUD; the Department of Justice would have to duplicate the existing structure at HUD, with related disruption and start-up costs attached.”

S. 1145 would make some resources available to the receiving agencies. However, the level and location of the resources that would be made available is not certain. HUD had about 10,500 employees in its headquarters and field offices as of September 30, 1996. As discussed above, S. 1145, if enacted, would change many of the functions these employees currently perform. It would also affect the size of the workforce needed to carry out these functions. Efforts to assess this effect and its consequences for HUD need to consider the requirements of the current federal law. The Veterans Preference Act of 1944 (VPA) gives certain federal employees reemployment rights in some instances when functions are transferred from one federal agency to another or one federal agency is replaced by another. The act’s provisions would appear to apply to the transfer of programs under S. 1145. If S. 1145 were enacted and VPA’s provisions were found to be applicable, assessments would have to determine which existing HUD functions had been transferred elsewhere and whether the functions of particular HUD employees had been transferred.

Some functions, such as the administration of public housing, would at some point be discontinued, since public housing would be phased out under S. 1145. Other functions, such as the guarantee of home mortgages under FHA, would continue to be performed under S. 1145, but in a much different and more limited way. State governments and the private sector would have a much larger role under S. 1145 in administering a number of the restructured housing and community development programs and the federal government would have a smaller one. Under these circumstances, fewer federal employees would be needed to operate the programs. Even when S. 1145 would clearly transfer a function without change from HUD to another agency, the receiving agency might decide that it did not need as many employees to perform the function as HUD currently employs.

Given the complexity and uncertainty of the issues associated with transferring functions, we did not attempt to determine the impact of S. 1145 on the future employment of HUD’s current workforce. If S. 1145 were not exempted from VPA’s provisions, HUD’s current functions would have to be compared with the restructured functions that other agencies would perform under the bill. Such an analysis was beyond the scope of this report. Appendix I provides more details on the functions to be transferred, as well as the agencies’ missions, organizational compatibility, and staffing.

Primary concerns of HUD about the impact of transferring its functions to different agencies were the less extensive housing expertise at the new agencies and the disruption of networks that HUD has built up to help implement its programs. For example, HUD said that if HHS took over the housing assistance function, the linkages that HUD has created between housing and community development activities would end. In addition, HUD and EPA officials believe that if HUD’s lead-based paint abatement functions were transferred to EPA, the nature of the relationships between the program’s customers and clients would change because EPA does not manage housing and EPA’s contacts are not as well developed as HUD’s. Similarly, HUD noted that its responsibilities for enforcing the Real Estate Settlement Procedures Act involve traditional HUD constituents—home buyers, state regulatory agencies, and consumer trade groups. If these responsibilities were transferred to the Federal Reserve, new relationships would have to be established to maintain the same level of service. In addition, HUD said that under the Fair Housing Program, it receives many calls involving housing issues other than discrimination that it can effectively refer to other HUD offices or local networks. According to HUD, Justice has neither the familiarity with housing programs nor the knowledge of local communities and personalities that makes HUD’s referral system effective.

Additionally, several federal, state, and local officials—including HUD officials—expressed concern that if HUD were abolished and its functions were transferred to other federal, state, and possibly local agencies, the federal focus on housing policy would be lost. Some of them indicated that the loss of a cabinet-level advocate for housing and community development issues—an advocate with a sole focus on these areas—could mean that these areas would not get adequate federal funding in the future. In previous testimony, we suggested that elevating the Environmental Protection Agency to the cabinet—“would affirm the prominence and permanence of the federal role in environmental protection.” Conversely, dismantling HUD could diminish the “prominence and permanence” of the federal role in housing and community development.

Agency Comments and Our Evaluation

HUD, HHS, Justice, OMB, and Treasury expressed their strong disagreement with S. 1145 and several of these agencies cited the need for a cabinet-level department to provide a focus for housing and community development issues. HUD also said that the report is deeply flawed because it does not fully discuss either the difficulties involved in transferring HUD’s functions to other agencies and to other levels of government or the loss of a national housing and community development policy. We added several references to HUD’s position on the difficulties involved in transferring its functions and the loss of a national housing and community development policy. However, the continued need for a cabinet-level department to address housing and community development issues is a policy question for the Congress and the administration to decide.

OMB stated that “issues related to the reorganization and administration of HUD’s functions should be evaluated on their own merits, not as a strategy for reducing the deficit by seemingly arbitrary reductions in spending.” OMB said that the administration believes that assigning HUD’s functions to other agencies would be counterproductive relative to its reinvention goals. HHS said that the proposal is not well advised and the planned transfers might result in little or no cost savings to the federal government. This report provides information on the potential positive and negative implications of S. 1145 and, as such, does not take a position on the bill. Projections of the bill’s impact on the federal budget will be developed and published by CBO in a separate report. Justice stressed the extreme burden that transferring HUD’s Fair Housing Act responsibilities would create for their department, especially the drain of resources from its primary mission of fair housing enforcement. The remaining six agencies provided clarifying language for the portions of the report that discuss their agencies. We incorporated the comments, as appropriate, throughout the report.

The Proposed Resolution Agency Would Face Difficult Tasks

The proposed HUD Programs Resolution Agency, as envisioned by S. 1145, would face a difficult task in restructuring, transferring, or eliminating HUD’s programs. Over a 5-year period, the agency would need to address hundreds of millions of outstanding financial commitments, transfer nine HUD functions to receiving agencies and one function to a newly created agency, and terminate several programs. In carrying out these responsibilities, the resolution agency could learn from previous federal efforts to abolish, reorganize, or transfer federal programs and dispose of assets.

Resolution Agency Would Manage Transition for All Major Functions

S. 1145 directs the resolution agency to perform all of HUD’s functions—excluding those abolished or transferred to other agencies by the bill—for a 5-year period. For the functions that would be abolished or transferred, the agency would oversee their transition. Thus, S. 1145 mandates that the resolution agency conduct a vast range of activities, such as distributing block grants, closing down entire programs, establishing a new agency, and transferring a number of programs to other agencies. More specifically, the agency’s responsibilities would range from providing housing assistance through administering a block grant for public housing and settling expiring section 8 contracts to selling $429 billion in mortgage insurance interests to raise at least $100 million in capital within 3 years for an insurance fund.

Additionally, the bill imposes various planning requirements on the resolution agency, including developing an overall plan for winding up the affairs of the agency within 5 years and more specific plans for (1) settling the affairs of Ginnie Mae, (2) providing for the transition of assistance for public housing to voucher assistance, and (3) immediately marketing and selling FHA’s mortgage insurance interests. The required planning would serve an important role in communicating to the Congress and the public how the resolution agency would interpret its mandates and how it would operate. Figure 5.1 details the responsibilities of the agency as mandated by S. 1145.

As part of its 5-year effort to close out terminated programs and oversee the transition of other functions, the resolution agency would be responsible for ensuring that federal commitments made prior to the bill’s enactment were maintained. In some cases, the resolution agency might need to plan for the administration of some of the commitments beyond its own 5-year term. The commitments include contractual obligations, outstanding mortgage guarantees and insurance, and loans and properties held by HUD, as well as borrowings. Specifically, the commitments include over $418 billion in loan insurance, approximately $464 billion in mortgage-backed security guarantees, almost $100 billion in section 8 project-based rental assistance contracts, over $10 billion in notes and properties held by HUD, $678 million in section 108 loan guarantees, $46 billion in other contracted commitments, and $15 billion in borrowings.

While most of the section 8 project-based assistance contracts will expire during the life of the resolution agency, most of the insurance, guarantees, and borrowings will outlive the term of the agency and would be transferred to other agencies. For example, the bill would transfer the administration of outstanding mortgage insurance obligations to Treasury’s Federal Home Mortgage Insurance Fund. Likewise, the bill would transfer section 8 contracts whose terms extend beyond the life of the resolution agency to HHS. Finally, the bill does not specify how long-term guarantees of section 108 loans and of Ginnie Mae’s mortgage-backed securities would be administered beyond the term of the resolution agency. The bill does, however, direct the resolution agency to provide the Congress with a plan for phasing out Ginnie Mae’s guarantees.

Table 5.1 lists HUD’s financial commitments as of the end of fiscal year 1995, as well as the agency that would receive responsibility for the commitments that outlive the resolution agency. For more detailed explanations of HUD’s functions that involve financial commitments for the resolution agency, see appendix II.

The resolution agency would face certain legal constraints on how it could settle HUD’s commitments. For example, the bill recognizes that selling FHA’s mortgage insurance interests or terminating Ginnie Mae would not relieve the federal government of commitments backed by the full faith and credit of the United States. Generally, the bill provides that all grants, loans, contracts, agreements, and other obligations that have been issued before the transfer of functions shall continue in effect according to their terms until modified, terminated, superseded, set aside, or revoked in accordance with law. Consequently, because of the nature of some commitments, the federal government might continue to have a contingent liability regardless of how these commitments were resolved. For example, if the purchaser of an FHA mortgage insurance interest were required to pay claims but was ultimately unable to do so, the federal government would be responsible for meeting its original commitment to the holders of the affected FHA-insured mortgages.

In addition to the constraints described above, the federal government could be subject to unexpected losses, depending on how its commitments were resolved. For example, selling only the most profitable of FHA’s mortgage insurance interests might have the net result of lowering the overall value of FHA’s mortgage insurance interests. That is, even the most profitable insurance interest would likely be sold at a discount because private purchaser’s—unlike FHA—need a return on their investment sufficient to cover any risk of default as well as tax expenses and a return to shareholders. The federal government might be left with only the unprofitable part of the insurance portfolio, supported by capital that—because of the discount at which insurance interests might be sold—would likely be valued at something less than its value before such a sale. For example, we estimate that for the single-family portfolio, loans originated before 1984 would have net positive cash flows for 1998 and the remaining years of the mortgage; therefore, only these loans would have value for potential investors unless the government gave these investors a portion of the up-front premium. The remaining single-family portfolio—which we estimate to have net negative cash flows for 1998 and later years—would likely remain with the federal government. Even if the sale of FHA’s single-family mortgage insurance interests included provisions that ensured that the federal government had no responsibility for covering lenders’ losses, to the extent that these lenders experienced dramatic losses affecting their ability to pay investors in their Ginnie Mae-guaranteed securities, some or all of the loan losses could fall to the federal government as it honored its full-faith-and-credit commitments on Ginnie Mae-guaranteed securities. Finally, while the section 108 loan guarantees are covered by future CDBG grants, the decline in funding for grantees specified in the bill would limit the ability of these grantees to repay lenders, potentially resulting in greater claims against the resolution agency or the agency designated to assume HUD’s responsibility for guaranteeing these loans.

S. 1145 Does Not Address Some Programs

While S. 1145 generally addresses the major responsibilities within HUD—housing assistance, community development, and housing finance—certain programs within these areas would be terminated because the bill does not provide for their transformation or continuation. For example, within the community development area, because the bill does not address the Urban Empowerment Zones and Enterprise Communities program, HUD’s involvement with the program would be terminated, leaving the resolution agency to close out technical assistance contracts and determine who would oversee the remainder of the urban part of this program. This program benefits communities by providing local governments and private nonprofit organizations with increased flexibility in meeting federal laws and regulations that might otherwise hinder their ability to implement comprehensive local plans for addressing the housing and economic problems of distressed neighborhoods. The loss of HUD’s oversight of the urban portion of this program would diminish the federal role in helping localities initiate and maintain a comprehensive approach to revitalizing distressed neighborhoods. Other agencies involved in administering this program could continue it. Within the area of housing assistance, the Fair Housing Initiatives Program (section 561 of the Housing and Community Development Act of 1987) is not included as one of similar housing assistance functions to be transferred to the Department of Justice. This program funds public and private organizations for activities such as education outreach, enforcement activities, and the legal expenses incurred in prosecuting fair housing cases. Unlike the programs discussed above, these programs do not contain commitments that would need to be addressed by the resolution agency.

In the housing finance area, the bill does not address all of HUD’s responsibilities under the Federal Housing Enterprises Financial Safety and Soundness Act of 1992. Specifically, while S. 1145 does provide for transferring the responsibilities for regulating the safety and soundness of Fannie Mae and Freddie Mac now performed by HUD’s Office of Federal Housing Enterprise Oversight, it does not specify the disposition of HUD’s responsibilities for ensuring that Fannie Mae and Freddie Mac fulfill their public purposes and serve the housing needs of the country. Among these responsibilities are establishing, monitoring, and enforcing goals for Fannie Mae’s and Freddie Mac’s purchase of mortgages financing housing for low-and moderate-income families; housing located in central cities, rural areas, and other underserved areas; and affordable housing for specially targeted families. According to HUD, assigning these responsibilities to the resolution agency would reduce their importance for Fannie Mae and Freddie Mac and signal the probable elimination of these agencies’ public purpose goals. Ultimately, Fannie Mae and Freddie Mac would devote fewer resources and innovative products to these activities, according to HUD. Furthermore, if S. 1145 were implemented, HUD officials believe that this function should continue and be transferred to a cabinet-level agency.

Lessons Learned From Prior Efforts to Abolish, Reorganize, or Transfer Federal Programs Could Ease Transition

The proposed resolution agency could benefit from certain lessons learned from past efforts to abolish or reorganize federal agencies, transfer their programs, or dispose of their assets. While the previous efforts do not perfectly parallel the current plans for dismantling HUD, they do involve some of the same activities—such as transferring functions to other agencies and disposing of assets—and, thus, some of the lessons learned in the past might be applicable. For example, we previously stressed the importance of creating an interagency transition task force to provide overall guidance on the transfer of assets, personnel, and operations to receiving agencies. We also highlighted the importance of establishing internal controls and developing an asset disposition plan when resolving financial commitments. Applying these lessons in consolidating, eliminating, and transferring federal housing and community development programs might help not only to reduce the risk of mismanagement, waste, fraud, and abuse within the programs but also to save money for the federal government by increasing the efficiency of the transition. Additionally, a number of officials we interviewed noted some special considerations in abolishing HUD, including the possible elimination of staff positions and the wide dispersal of programs in the field with established support networks.

Resolution Agency Could Use Interagency Transition Task Force in Transferring Functions Between Agencies

A number of lessons learned from previous reorganizations would be applicable to the resolution agency’s mandates to transfer some of HUD’s personnel and programs and dispose of HUD’s outstanding obligations. For example, as noted in our prior work, on the Resolution Trust Corporation Completion Act, the Congress required the establishment of an interagency transition task force to help transfer the Resolution Trust Corporation’s (RTC) assets, personnel, and operations to the Federal Deposit Insurance Corporation (FDIC). The act assigned the task force—which included representatives of RTC and FDIC—specific duties, including examining both corporations’ operations, evaluating their differences, recommending which of RTC’s systems should be preserved for FDIC’s use, and reporting its findings to the Congress. Some key elements for planning the transition included (1) “best practice reviews” conducted jointly by RTC and FDIC to identify differences in their respective operations and recommend practices for adoption by FDIC after RTC’s dissolution, (2) information system reviews to assist the Secretary of the Treasury in recommending which of RTC’s systems should be adopted by FDIC, and (3) implementation plans to identify the appropriate staffing and organizational structure for RTC’s functions after their absorption by FDIC.The corporations also reviewed the legal and policy issues involved in transferring RTC’s responsibilities and operations to FDIC and reviewed internal controls to ensure that vulnerabilities to waste, fraud, and abuse were minimized during and after the transition. Office of Management and Budget and Office of Personnel Management officials we interviewed emphasized the importance of incorporating some of these elements in the transfer of HUD’s functions. They suggested that an interagency group should be established, that the receiving agencies would need to revise their organizational structures before the new programs were transferred, and that the entities should schedule at least 6 months for planning the transfers.

Establishing Internal Controls and an Asset Disposition Plan Could Provide for the Orderly Resolution of Financial Commitments

Additional lessons can be gathered from the shutdown of RTC, which was tasked with disposing of about $443 billion in financial assets, real estate, and other assets after the failure of numerous saving and loan institutions. Most importantly, internal controls were in place to monitor the disposition of assets. We previously testified that a successful transition between entities would include ensuring that sufficient controls were in place over the assets that would be sold during the remaining life of RTC, as well as over the assets transferred from RTC to FDIC. Since the resolution agency would also need to dispose of the assets received in the course of abolishing a program within HUD, it would need to develop an asset disposition plan with specific strategies. Currently, although S. 1145 specifies that the resolution agency should develop plans for disposing of some of HUD’s assets—such as a plan for marketing and selling FHA’s mortgage insurance interests—it does not recommend that the agency develop an overall strategy for inventorying, assessing, and disposing of all of HUD’s assets. In our previous testimony on a proposal to dismantle the Department of Commerce, we noted a similar concern—that although the proposal contained a planning requirement, it did not specify a strategy for disposing of assets.

We also previously reported on the importance of developing and managing credible information systems to maximize revenues from the sale of assets. We reported on a number of problems with RTC’s information systems, including inaccurate and incomplete data, which contributed to our prior designation of RTC as a high-risk area. As discussed in chapter 1, HUD also has generally unreliable information and financial management systems. Dismantling and transferring HUD’s programs without—at a minimum—reviewing and addressing, where possible, the current inadequacies within these systems and developing asset disposition plans could increase the risks of fraud, waste, and abuse in the management, transfer, and sale of HUD’s assets.

Finally, lessons learned about closing out contracts following the transfer of agencies’ functions could be applicable. We previously stressed the importance of ensuring the adequate management and oversight of asset management contracts continuing at FDIC after RTC’s shutdown. We suggested that FDIC might benefit by evaluating its own contracts in conjunction with RTC’s contracts to explore opportunities for combining, canceling, or extending them. This same approach could be applied to any HUD contracts transferred to other agencies, such as the Housing and Community Opportunities Agency, whose creation is mandated by S. 1145.

HUD Presents Special Considerations

Officials from two organizations with prior experience in abolishing agencies or transferring functions between agencies—the Office of Personnel Management and the National Academy of Public Administration—observed that the proposal to dismantle HUD differs from previous efforts to abolish other federal agencies. For example, several officials stated that dismantling HUD would be more complicated because the Department has approximately 10,500 staff—many more than the two other federal agencies that were recently abolished, the Interstate Commerce Commission and the Bureau of Mines. While some of HUD’s staff would probably be transferred to receiving agencies, the staffing for programs scheduled to be phased out or terminated would be reduced over time. Thus, some of HUD’s positions would eventually be eliminated. Addressing the needs of HUD’s staff in these positions would create additional administrative responsibilities for the resolution agency, including the processing of employees’ grievances and appeals.

Conclusions

Some lessons learned in dismantling or reorganizing other federal agencies could benefit the proposed resolution agency in overseeing the dissolution of HUD and the transfer of some of its functions. The creation of an interagency task force, the development of an asset disposition strategy, and the review of agencies’ functions and contracts to identify opportunities for integration have proved valuable in the past and could facilitate the actions proposed in S. 1145. Finally, a review of HUD’s internal controls and information systems could identify areas requiring especially careful monitoring to prevent waste, fraud, and abuse, particularly in resolving HUD’s huge financial commitments.