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FHA Annual Management Report Fiscal Year 2008 U.S. Department of Housing and Urban Development Federal Housing Administration U.S. DEPARTMENT OF HOUSING AND URBAN DEVELOPMENT WASHINGTON, DC 20410-8000 ASSISTANT SECRETARY FOR HOUSINGFEDERAL HOUSING COMMISSIONER A MESSAGE FROM THE COMMISSIONER TO THE CONGRESS OF THE UNITED STATES, MEMBERS OF THE HOUSING INDUSTRY, AMERICA’S HOMEOWNERS AND TENANTS, AND THE PUBLIC: FHA has given millions of families the opportunity to pursue the dream of homeownership. Through education, outreach and a commitment to constantly improve its services, FHA aims to insure safe, affordable mortgages to keep this dream alive for the newest generation of homebuyers. FHA remains financially sound with a capital ratio in its Mutual Mortgage Insurance (MMI) fund that exceeds the statutory minimum requirement of two percent. This financial capacity, as well as significant management initiatives and improvements, has given FHA the ability to successfully carry out its mission. Current Issues in the Nation’s Housing Market In September 2007, the President announced the formation of FHASecure, a program designed to both promote and facilitate subprime to FHA refinances. Since the President announced the launch of FHASecure, over 368,000 families have refinanced out of a burdensome mortgage into a safe, affordable FHA product. That number should approach 500,000 by the end of calendar year 2008. FHA’s purchase loan business has also been increasing. In the recently concluded Fiscal Year 2008, FHA endorsed 632,000 purchase loans. The overall numbers tell the story of FHA’s rise back to its rightful place in the mortgage market – as a safe, viable option for first-time homebuyers and those with less than perfect credit. In FY 2007, FHA endorsed about 425,000 single-family loans. In FY 2008, FHA endorsed over 1.2 million loans, more than double the previous year. Also, through its loss mitigation programs, FHA helped approximately 101,000 borrowers avoid foreclosure in FY 2008. FHA Modernization The Housing and Economic Recovery Act of 2008 (HERA), signed into law in July 2008, contained provisions to modernize FHA that we had long sought, such as higher loan limits and a permanent ban on seller-funded down payment loans. Effective January 1, 2009, the permanent loan limit for high-cost areas will be $625,500, enabling areas such as Coastal California, New York City and Washington D.C. to have access to FHA financing. HERA also mandated that, as of October 1, 2008, no seller-financed down payment loans could be originated. These loans, with nearly three times the default rate of other FHA loans, were having a serious impact on the MMI fund. www.hud.gov espanol.hud.gov Table of Contents A Message from the Commissioner i Management’s Discussion and Analysis 1 Principal Financial Statements and Notes 35 OIG Report 89 Independent Auditor’s Report 93 Management’s Discussion and Analysis MANAGEMENT’S DISCUSSION AND ANALYSIS 1 Management’s Discussion and Analysis (THIS PAGE LEFT BLANK INTENTIONALLY) 2 Management’s Discussion and Analysis Certain information contained in this discussion is considered “forward-looking information” as defined by the Federal Accounting Standards Advisory Board’s (FASAB) Statement of Federal Financial Accounting Standards (SFFAS) No. 15, “Management’s Discussion and Analysis,” and Statement of Federal Financial Accounting Concepts (SFFAC) No. 3, “Management’s Discussion and Analysis Concepts.” Such forward-looking information includes estimates and is subject to risks and uncertainties that could cause actual results to differ materially from the estimates used in the discussion. Performance information contained in this Management’s Discussion & Analysis (MD&A) was obtained from operational and management sources and schedules prepared by management. The appropriate levels of Federal Housing Administration (FHA) management reviewed the information and data to provide reasonable assurance that reported performance information is relevant and reliable. MISSION AND ORGANIZATIONAL STRUCTURE In 1934, Congress created the FHA under the National Housing Act to expand opportunities for homeownership. The instability in the housing market and the breakdown of the banking system during the Great Depression heightened the need for FHA programs. Congress looked to FHA to boost the depressed economy and solve the nation’s housing shortage. FHA has expanded its mission since its inception and now provides mortgage insurance to private lenders that finance single family homes, multifamily projects, healthcare facilities, property improvements, and manufactured homes. Availability of FHA mortgage insurance stabilizes the provision of mortgage credit in the marketplace and encourages the provision of credit to households not served or underserved by the private sector, most notably first time and minority homebuyers. With the credit and foreclosure crisis, FHA has played an important role in assisting homeowners. The Congress enacted the Housing and Economic Recovery Act of 2008 that includes a multifaceted approach to dealing with the foreclosure crisis. This new legislation reduces statutory barriers and increases FHA’s flexibility to respond to changes in the marketplace. Several major changes were implemented to the FHA Single Family Programs as a result of the enactment of the Act. These changes include: Increase in FHA loan limits for high-cost areas to a maximum of $625,500 effective fiscal year 2009. Establish a new HOPE for Homeowners Program that allows FHA to insure up to $300 billion in loans for at-risk borrowers who refinance their unaffordable old mortgages into new low-cost fixed-rate loans insured by the FHA. Eliminate seller funded down payment assistance. Increase the amount of the required down payment for borrowers getting FHA loans. Implement a moratorium on risk-based premiums for one year. 3 Management’s Discussion and Analysis Expand the use of Home Equity Conversion Mortgages (“reverse mortgages”). Increase access to pre-purchase and post-purchase counseling for low and moderate income homeowners. As a result, FHA will be able to reach more prospective homebuyers to provide an alternative to sub-prime loans that have high interest rates and closing costs, as well as expensive repayment penalties. Additionally, FHA continues to greatly improve its business processes and is working with the Administration and Congress to develop new mortgage products and market the benefits of its mortgage insurance to lenders and the general public. FHA Insurance Funds FHA operates its programs through four insurance funds supported by premium, fee and interest income, Congressional appropriations, borrowing from the U.S. Treasury, and other miscellaneous sources. The total mortgage Insurance-In-Force (IIF) in the FHA Insurance Funds was $531.7 billion, an increase of $131.7 billion or 32.9 percent, compared to fiscal year 2007. Specifically, the MMI Fund increased by $125.5 billion, the GI Fund increased by $6.6 billion, the SRI Fund decreased by $372 million, and the CMHI Fund, the smallest of the four, increased by $19 million. Effective in fiscal year 2009, Single Family Programs currently in the GI fund will move to the MMI fund. The four Insurance Funds are: The Mutual Mortgage Insurance (MMI) Fund. This fund supports FHA’s basic single family homeownership program. This fund is self-sustaining. The General Insurance (GI) Fund. This fund supports a wide variety of housing programs including rental apartments, cooperatives, condominiums, nursing homes, hospitals, property improvements and manufactured housing (Title I), home equity conversion mortgages, and disaster assistance. The Special Risk Insurance (SRI) Fund. This fund supports higher-risk single family and multifamily insured mortgages. The Cooperative Management Housing Insurance (CMHI) Fund. This fund supports insured loans on market-rate cooperatives. Historically this fund has been selfsustaining. At the end of fiscal year 2008, the Insurance-In-Force in MMI Fund comprised 84.12 percent of all FHA Insurance Funds; the GI Fund 15.44 percent; the SRI Fund 0.37 percent; and the CMHI Fund 0.07 percent as shown below: 4 Management’s Discussion and Analysis FHA Insurance-In-Force by Fund As of September 2008 FHA’s single family mortgage insurance business is 89.20 percent of its total IIF. The multifamily and healthcare insurance is 10.67 percent of IIF. Title I property improvement and manufactured home insurance is 0.13 percent of IIF. During FY 2008, FHA saw endorsements and overall IIF increased with the decrease in interest rates and the increase in FHA mortgage refinancing due to the crisis in sub-prime mortgage lending and the reset of Adjustable Rate Mortgages (ARMs). Additionally, higher FHA loan limits, decreasing home prices, and tightening of available credit has encouraged low and moderate-income buyers to seek out traditional financing available through FHA Insurance Programs that offer buyers flexible down payment options. Office of Single Family Housing FHA’s Office of Single Family Housing administers programs that promote affordable housing. FHA encourages homeownership by making loans more readily available to lower and moderateincome homebuyers through its FHA mortgage insurance programs. HUD-approved mortgage lenders handle all of the HUD/FHA-insured mortgage loan programs. Single Family Housing Programs Single Family Housing programs are the most visible evidence of FHA’s success in providing expanded homeownership opportunities for all Americans. Through these programs, FHA targets households that otherwise would have difficulty obtaining mortgages. During fiscal year 2008, its programs insured 1,200,111 loans, of which 631,763 were initial purchase endorsements. Of these purchase endorsements, 492,369 were loans to first-time homebuyers and 144,636 were loans to minority first-time homebuyers. 5 Management’s Discussion and Analysis Fiscal Year 2008 Insured Loan Distribution Total Endorsements 1,200,111 Initial Purchase Endorsements 631,763 Since inception, FHA’s single family housing programs have made substantial contributions to the increase in the national homeownership rate, from 64.7 percent in 1995 to 68.1 percent as of second quarter 2008. The national homeownership rate is down 0.1 percent from 68.2 percent as of the same period in 2007. However, with the decrease in the homeownership rate, FHA saw an increase in market share primarily due to the collapse of the sub-prime mortgage market. Prospective borrowers who had opted for sub-prime loans in recent years are now choosing the dependability and safety of FHA products. Three of Single Family Housing’s more popular programs, Section 203(b), Section 234(c), and Home Equity Conversion Mortgages (HECM/Reverse Mortgages) are described in the following pages. Section203 (b) Section 203(b) is the largest of FHA’s single family programs covering 93.7 percent of total single family insurance-in-force. FHA established this program to create a stable mortgage finance market and to serve otherwise underserved borrowers by providing low down payment mortgages. Section 203(b) insures private lenders against loss in the event the borrower defaults on the mortgage. This insurance makes lenders more willing to originate loans to borrowers who do not meet conventional mortgage underwriting requirements. Additionally, lenders are more willing to make loans to underserved borrowers because FHA-insured mortgages can be packaged into mortgage-backed securities. These types of securities are attractive because they are guaranteed by Government National Mortgage Association (Ginnie Mae), a secondary market entity backed by the full faith and credit of the U.S. Government. In fiscal year 2008, FHA insured 1,032,553 Section 203(b) mortgages of which 458,828 were first-time homebuyers and 135,344 were minority first-time homebuyers. Section 234(c) Section 234(c) covers 4.8 percent of FHA’s total single family insurance-in-force. This program provides mortgage insurance for individual condominium units. A condominium is a single unit owned by an individual or family in a multi-unit project with a shared interest in common areas and facilities. This form of ownership is usually more affordable than other single family 6 Management’s Discussion and Analysis housing and often attracts first-time homebuyers who lack the capital for single family homeownership. In fiscal year 2008, FHA insured mortgages for 48,148 condominium units. The FHA Modernization Act under the Housing and Economic Recovery Act of 2008 contains a provision that moves Section 234(c) loans from the General Insurance and Special Risk Insurance Funds to the Mutual Mortgage Insurance Fund. Section 234(c) loans are no longer subject to the more complex requirements of multifamily housing loans, simplifying the origination and underwriting process. Home Equity Conversion Mortgages (HECM) - Reverse Mortgages FHA was the first entity to promote and insure reverse mortgages on a national scale. The HECM program provides eligible homeowners access to the equity in their property with very flexible terms. The loan may provide a lump sum payment, monthly payments, a line of credit or a combination thereof. The loan allows homeowners to stay in their homes with no repayment requirement until the property is vacated or sold. The program is limited to homeowners 62 years of age and older and is designed for those with limited income. The HECM program continues to be increasingly popular as more homeowners choose to remain in their homes and draw down on their home equity to pay living expenses. The program provides a valuable resource to individuals traditionally underserved by the mortgage market. HECM loans continue to be a growing product. Since its inception, FHA has endorsed 454,745 HECM loans. The number of reverse mortgages per year insured by FHA has increased over the past seven years, from 12,996 cases in fiscal year 2002 to 111,661 in fiscal year 2008. The Housing and Economic Recovery Act of 2008 contains a provision that moves HECM from the General Insurance Fund to the Mutual Mortgage Insurance Fund. HECM/Reverse Mortgages 111,661 107,103 120,000 100,000 Number of Cases Per Year 76,375 80,000 60,000 40,000 37,788 12,996 42,921 16,224 20,000 2002 2003 2004 2005 2006 2007 2008 Fiscal Year 7 Management’s Discussion and Analysis Fiscal Year 2008 Accomplishments During fiscal year 2008, FHA was highly successful in assisting many Americans to achieve or sustain the goal of homeownership. FHA assisted: First-Time Homebuyers. In fiscal year 2008, 77.9 percent of FHA-insured purchased loans included first-time homebuyers. FHA provided 492,369 homebuyers with the ability to purchase their first home during the fiscal year. Minority First-Time Homebuyers. In fiscal year 2008, 31.2 percent of first-time homebuyers who obtained FHA-insured mortgages were minorities. Borrowers Experiencing Financial Difficulties. One of FHA’s most important goals is to assist homeowners facing financial difficulties to remain in their homes through increased use of loss mitigation tools. The use of these tools increased over the past eight years from 53,732 cases in fiscal year 2001 to 101,167 in fiscal year 2008. Use of Loss Mitigation Tools 110,000 100,000 90,000 80,000 70,000 Number 60,000 of Cases 50,000 40,000 30,000 20,000 10,000 0 2001 2002 2003 2004 2005 2006 2007 2008 Fiscal Year Management Initiatives FHA continues to enhance several initiatives and policies to ensure that its programs continue to serve target constituencies while maintaining strong financial viability. These initiatives include: FHASecure Program. This temporary FHA program provides refinancing opportunities to homeowners for various types of Adjustable Rate Mortgages (ARMs). FHASecure is designed to increase liquidity in the mortgage market and help individuals who have good credit, but who have not made all of their payments on time because of rising mortgage payments due to ARMs that have “reset”. On April 9, 2008, FHASecure was expanded after the Administration’s announcement of additional mortgage assistance for sub-prime borrowers who are at risk of foreclosure. Homeowners who can no longer afford their mortgages and missed up to three monthly mortgage payments over the past 12 months become eligible for FHASecure. As an alternative to foreclosure, eligible borrowers can refinance with FHA and lenders can voluntarily write down the 8 Management’s Discussion and Analysis outstanding sub-prime mortgage principal balance. Since September 2007, FHASecure has contributed to the housing market by providing $62 billion of insurance-in-force. The program has already helped 368,718 homeowners avoid foreclosure. It is expected to assist a total of 500,000 families by December 31, 2008 with more borrowers being eligible for the expanded program. Predatory Lending Prevention. FHA continues to help prevent millions of families from becoming victims of predatory lending practices. These efforts include denying FHA insurance for mortgages on homes that have been "flipped" at inflated prices and deploying special monitors to pursue unscrupulous appraisers and lenders. Additional efforts to combat predatory lending focus on print media advertising, publication of informational brochures, and other consumer outreach. Good Neighbor. HUD’s Good Neighbor initiative allows police officers, firefighters, emergency first responders and school teachers to purchase HUD homes at significant discounts. The purpose of the Good Neighbor initiative is to strengthen distressed urban communities and to provide homeownership opportunities for public service professionals. This program is a catalyst in promoting the sale and rehabilitation of vacant HUD properties in targeted neighborhoods. Credit Watch Termination. FHA’s Credit Watch Termination program identifies poorly performing mortgage lenders. FHA may temporarily suspend the authority to originate mortgage loans to the poorest performing mortgage lenders’ branch office(s). The program also warns marginally performing lenders to improve their performance if they wish to maintain their status as approved FHA lenders and continue to participate in FHA insurance programs. TOTAL Scorecard. FHA’s Technology Open to Approved Lenders (TOTAL) Scorecard evaluates mortgage applications and credit information in an objective and consistent manner to assess the creditworthiness of FHA borrowers. The scorecard uses a methodology statistically proven to predict the likelihood of borrower default and FHA claims. FHA developed the automated tool to identify potential homebuyers not currently served by the conventional market due to real or perceived risk. When TOTAL returns an “Accept” decision, underwriting requirements are reduced and borrowers can save hundreds of dollars in mortgage origination fees. When TOTAL returns a “Refer” decision, the lender must manually underwrite the loan to ensure that it meets minimum credit-quality requirements. In fiscal year 2008, TOTAL scored 1.37 million applications for loans with FHA case numbers compared to 425,282 requests in fiscal year 2007. Lender Insurance (LI). “Lender Insurance”, an initiative started in fiscal year 2006, allows high-performing mortgagees to endorse FHA loans without a pre-endorsement review conducted by FHA. The FHA Connection system, a web based tool through which approved lenders conduct business with FHA, performs an automated verification process to check the data for accuracy and completeness and electronically generates a mortgage insurance certificate to serve as evidence that the loan was endorsed. LI eliminates the need for mortgagees to submit case binders as a pre-condition for obtaining FHA’s mortgage insurance endorsement and therefore eliminates the need for 9 Management’s Discussion and Analysis binder re-submissions to satisfy Notices of Return (NOR). A minimum five percent of all insured loans originated by HUD-approved lenders are selected for Post-Endorsement Technical Review (PETR). LI provides lenders with prompt acceptance or denial of the endorsement package providing tremendous savings in cost, time and resources for all of the parties involved and has been widely praised by the industry. The LI program covers approximately 70.6 percent of FHA insured mortgages for fiscal year 2008. Accelerated Claims and Asset Disposition (ACD) Demonstration Program. In 2002, FHA introduced the ACD Demonstration program under Section 601 of the VA, HUD, and Independent Agencies Appropriations Act for fiscal year 1999. The primary goal of this program is to sell defaulted single-family assets at the highest recovery to the Government, while also supporting homeownership retention and providing an alternate acquisition and disposition tool. The Demonstration to date has assisted over 57 percent of homeowners in retaining their homes. Under this program, the Asset Sales Office has sold previously insured FHA notes through four competitive sealed-bid auctions in which qualified bidders participated to acquire a majority equity interest in the public/private joint ventures. These joint ventures, in which HUD maintains minority ownership, are responsible for servicing, managing, and disposing of the defaulted single family mortgage loans. Since program inception, a total of 22,480 loans with balances of approximately $2.27 billion have been settled that resulted in receipts of approximately $1.1 billion from the auction sales. In addition, HUD received distributions of approximately $671 million of income from the joint ventures for its minority interest. The resulting net recovery is 78.3 percent of Unpaid Principal Balance (UPB) or 74.5 percent of claim cost. The Department projects an additional recovery of $23 million from the final disposition of the remaining assets in the joint venture. Out of the four joint ventures, two were closed in fiscal year 2007 and one in first quarter of fiscal year 2008. The remaining joint venture is scheduled to close during fiscal year 2009. There was no sale in fiscal year 2008, however, Department is preparing for another ACD sale initiative, scheduled for fiscal year 2009. Post Endorsement Technical Review Process (PETR). A minimum five percent of all insured loans originated by HUD-approved lenders are selected for PETR. The selection process is derived from a defined risk-based algorithm. Based on continued evaluation of previous PETR findings and results, FHA has further refined the specific ratings and codes that are used for the loans being reviewed. The system has four rating categories: Conforming, Deficient, Unacceptable, or Mitigated. The improved ratings and codes clearly identify which loans pose too great a risk to FHA and which loans contain errors or other deficiencies. The revised system more accurately reflects the risk level associated with recently insured mortgages; while at the same time significantly reduces the number of loans with unacceptable ratings. FHA Modernization. FHA modernization efforts, which include completed administrative and legislative changes, have streamlined the insurance process and received praise and acceptance by mortgage professionals. Furthermore, the legislation 10 Management’s Discussion and Analysis makes FHA products more attractive to mortgagees and consumers alike. Changes in the legislation include more favorable loan terms with higher loan limits, extended repayment time, and flexible down payment options. Other Single Family Improvements. FHA continues to focus its efforts to improve all stages of the single family mortgage insurance process. These additional efforts include the following: • Continue System Re-engineering and Integration Single Family Housing continued its comprehensive systems re-engineering and integration efforts in 2008. Such efforts assist FHA to comply with federal legislation, address audit weaknesses, improve overall monitoring and oversight, and adhere to HUD’s Enterprise Architecture Framework. The modernization and integration of Single Family’s systems will simplify systems administration, reduce total cost of ownership and maintenance, provide flexible and adaptable business processes and functionality to continually meet and comply with industry standards, thus improving consumers and stakeholders support and program oversight. • Improve Overall Risk Management FHA has augmented its efforts to provide a safe alternative to sub-prime loans and assist homeowners in staying in their homes. The expanded FHASecure program and new Hope for Homeowners program may bring borrowers with higher risk profiles under FHA insurance. FHA’s improved risk management, premium structure and credit modeling will ensure that FHA remains financially sound. FHA intensified actions during fiscal year 2008 to improve its overall risk management. FHA used monitoring tools such as a Risk-Based Targeting Model (RBTM) and Appraiser Watch to better monitor program performance and improve oversight of Management & Marketing (M&M) contractors and appraisers. In addition, FHA revised its delinquency rate reporting standards and took corrective actions against problem lenders, underwriters and appraisers. The Risk-Based Targeting Model (RBTM) for Real Estate Owned (REO) properties assists FHA in assessing the single family asset portfolio and the contractors’ performance. RBTM establishes benchmarking at both the macro and micro levels to determine which Homeownership Center (HOC), contractor, area or property demonstrates anomalous behavior and needs to receive specific and detailed attention. RBTM prioritizes which risk conditions need immediate follow-up and increases the effectiveness of ongoing monitoring and forecasting functions. The model also captures property file review findings, tracks the success of corrective actions that have been implemented, and provides consistent, statistically-based review results. FHA’s Appraiser Watch system relies on statistical analysis to identify and automatically select appraisers who may contribute to poor loan performance based on certain risk factors, such as association with high mortgage default rates compared to other appraisers. Using this method, FHA removed 45 appraisers from the FHA 11 Management’s Discussion and Analysis roster during fiscal year 2008, compared to 60 appraisers removed during fiscal year 2007. • Combat Fraud and Identity Theft FHA expanded the FHA Connection capability to validate Social Security Numbers (SSN) through other Government Agencies. This expansion provides lenders with the ability to verify data immediately upon entry of borrower’s name, SSN and Date of Birth (DOB) into FHA Connection. However, if the first level of verification suggests a need for further direct verification with the Social Security Administration, the lender will receive a response the following day. • Stabilize Distressed Communities The Asset Control Area (ACA) Program is designed to help stabilize distressed communities and overcome blight through expanded homeownership for low-income families. Foreclosed single-family homes in designated revitalization areas are sold by FHA to local governments and experienced nonprofits at a discount under the program. Participating entities are required to rehabilitate the homes and resell them to low-income home buyers. This year, HUD renewed its ACA agreement with the City of Ogden, UT, St. Ambrose Housing Aid Center, Inc., MD, the City of Rochester, NY and Restored Homes Housing Development Fund Corporation, a partner of New York’s Housing Preservation Department (HPD) and currently has 13 operating ACA participants. During fiscal year 2008, ACA participants sold 190 HUD properties to income eligible homeowners and acquired 100 new HUD properties that are currently being rehabilitated. MMI Capital Ratio The MMI Fund constitutes the majority of FHA’s single family business, with 93.7 percent of the total single family IIF dollars. One measure of the fund’s financial soundness is the MMI capital ratio, based on the economic value of the MMI Fund to the balance of the MMI Insurance-In-Force. The Cranston-Gonzalez National Affordable Housing Act of 1990 requires an independent actuarial analysis of the economic net worth of the MMI Fund. In addition, the Act mandates that the MMI Fund achieve a capital ratio, a measure of the Fund’s economic net worth, of at least 2 percent by the year 2000, which was achieved in 1995 and maintained ever since. In fiscal year 2008, the estimated economic value of the MMI fund decreased significantly with the forecast of expected house price declines due to a declining housing market. Conversely, the total MMI insurance-in-force, increased significantly due to the volume of new endorsements. The combination of these factors resulted in a decrease in the capital ratio from 6.4 percent in fiscal year 2007 to 3.0 percent in fiscal year 2008. 12 Management’s Discussion and Analysis MMI Fund Capital Ratio 6 .0 2 7 6 .8 2 6 .4 0 5 .5 3 6 4 .5 2 5 4 .8 3 .0 0 4 3 2 1 0 2 0 02 20 0 3 2 00 4 20 05 20 0 6 2 00 7 20 0 8 Fiscal Year Directly related to the decrease in the capital ratio, FHA projected a significant increase in its Liability for Loan Guarantees. This projected additional liability is recorded to reflect anticipated future losses as a result of increased claim rates and reduced recovery rates. Office of Multifamily Housing FHA provides financing support for the development of rental housing and healthcare facilities through its Multifamily Mortgage Insurance programs. In fiscal year 2008, FHA initial endorsements include 647 multifamily loans totaling $3.7 billion. There were 11,931 mortgages in the FHA portfolio with an outstanding principal balance of approximately $56.7 billion. Multifamily Housing Programs FHA’s four largest multifamily programs in terms of insurance-in-force dollars are Sections 221(d) (4), 232, 207/223(f), and 223(a) (7) which are discussed below. Multifamily Insurance-In-Force by Program Section 221(d) (4) Section 221(d) (4) has historically been FHA’s most popular multifamily program. It provides mortgage insurance for the construction or substantial rehabilitation of multifamily rental properties consisting of five or more units. FHA may insure mortgages for up to 90 percent of a project’s estimated replacement cost under this program. In fiscal year 2008, this program makes up 27.8 percent of total Multifamily IIF and insured 78 mortgages valued at $0.95 billion, covering 12,679 units. 13 Management’s Discussion and Analysis Section 232 The Section 232 Mortgage Insurance for Residential Care Facilities program insures loans to finance the construction, substantial rehabilitation, acquisition or refinancing of healthcare facilities. Eligible facilities include nursing homes, intermediate care facilities, board and care homes and assisted living facilities. In fiscal year 2008, this program makes up 22.8 percent of total Multifamily IIF and insured 182 mortgages valued at $1.3 billion, covering 21,126 units/beds. Section 207/223(f) The Section 207/223(f) program provides mortgage insurance for the refinancing or acquisition of existing multifamily rental properties consisting of five or more units. Under this program, FHA may insure mortgages for up to 85 percent of a project’s appraised value, or up to 90 percent of a project’s appraised value in cases of refinancing or acquisition of properties formerly financed with Section 202/8 Direct Loans. The program applies to both formerly FHAinsured and conventionally financed properties. In fiscal year 2008, this program makes up 12.5 percent of total Multifamily IIF and insured 237 mortgages valued at $0.89 billion, covering 21,477 units. Section 223(a) (7) The Section 223(a) (7) program provides mortgage insurance for the refinancing of existing multifamily rental properties with FHA-insured mortgages. In fiscal year 2008, this program makes up 11.3 percent of total Multifamily IIF and insured 81 mortgages valued at $239.8 million, covering 8,660 units. The administration of FHA’s Multifamily Programs is primarily the responsibility of two offices: Multifamily Housing Development and Asset Management. Multifamily Housing Development The Office of Multifamily Housing Development provides direction and oversight for FHA mortgage insurance loan origination. During fiscal year 2008, Multifamily initial endorsements include 647 loans totaling $3.73 billion, and covering 70,914 units/beds in the District of Columbia, Puerto Rico and all states except Alaska and South Dakota. Of these 647 loans, 92.4 percent were processed under basic FHA programs and 7.6 percent were processed by state housing finance agencies and Fannie Mae or Freddie Mac under risk sharing arrangements with HUD. The 598 basic loans processed under basic FHA programs were made by 48 lenders and provided a variety of shelter options, including 317 apartment projects, 88 cooperatives, 67 assisted living/board and care facilities, and 123 nursing homes. Risk Sharing programs created additional shelters, whereby 17 states made 43 HFA risk sharing loans covering 4,137 units/beds. Fannie Mae and Freddie Mac made 6 loans covering 734 units. While nationwide production fell short of the goal of 750 loans, the 647 loans still represent a significant achievement in the face of a major economic downturn. Special initiatives that made housing units more affordable specifically to low-and moderate-income families produced 263 of 14 Management’s Discussion and Analysis the 647 loans and the remaining 384 loans were made for properties located in underserved areas. Section 202 Elderly Housing projects accounted for 166 refinanced loans and 16 loans decoupled Section 236 Interest Reduction Payment (IRP) contracts. In addition, these 647 loans enabled 78 projects in 25 states and the District of Columbia to receive Low Income Housing Tax Credits (LIHTC). Management Tools for Multifamily Housing Development The Office of Multifamily Housing Development has a number of tools in place to expedite and manage the development process. Development Application Processing (DAP) Tracking Module. Multifamily’s DAP system tracks a loan from receipt of the lender’s application through processing of commitments, endorsements and completion of construction and repairs for all of FHA’s basic, risk sharing and hospital programs. DAP assigns each project a case number and provides analysis reports on lenders, field offices, program mix, and pipeline data. In addition, it feeds data to Real Estate Management System (iREMS), the Multifamily Insurance System (F47) and the Comptroller’s Credit Subsidy Control (CSC) system that tracks loan obligations and credit subsidy thus ensuring that the same commitment, endorsement and pipeline data are used by all divisions of HUD. Multifamily Accelerated Processing (MAP). Lenders may choose to use MAP’s procedures rather than the traditional processing procedures. HUD staff performs many of the underwriting activities (e.g. appraisals, cost estimates, etc) under traditional processing; whereas under MAP, lenders perform most underwriting activities, collect data, make necessary analysis and submit an underwriting summary and recommendation to HUD. The HUD staff then reviews the submission from MAP lenders and decides whether to insure the loan thus providing better service by reducing processing time and cost to lenders. To become a HUD approved MAP Lender the lender’s organizational structure and underwriting procedures must meet Multifamily Development’s rigorous standards. Currently, 91 lenders are approved to process loans under MAP. Annual Internal Control Reviews. As a condition of using accelerated processing, all MAP lenders must perform yearly internal control reviews of at least 10 percent of the MAP loans HUD endorses. The review findings are reported to Multifamily Development’s Lender Quality and Monitoring Division (LQMD). If the reviews disclose weaknesses in processing procedures, LQMD works with the lender to improve internal control procedures and ensures that lender’s staff receives training on the new procedures. Lender Quality and Monitoring Division (LQMD). This Division performs annual indepth reviews of loans processed by MAP lenders. The review team includes HUD staff from all technical disciplines involved in underwriting a loan. In fiscal year 2008, LQMD completed reviews of 21 MAP cases. LQMD focuses on high volume lenders, large loans, and troubled loans in selecting cases for audit. 15 Management’s Discussion and Analysis Multifamily Asset Management At the end of September 2008, FHA’s Multifamily portfolio has 11,931 insured mortgages that covered 1.43 million units, with a total outstanding principal balance of over $56.7 billion. In addition, FHA held 2,894 notes in inventory, with a total outstanding principal balance of $3.2 billion. Management Initiatives for Multifamily Asset Management FHA’s Multifamily Asset Management has significantly improved the accuracy and timeliness of its information in recent years through automation and workload streamlining. Better management information and updated systems have allowed FHA to make improvements in the physical condition of FHA’s Multifamily portfolio. Note Sales. To dispose of multifamily assets, HUD can either sell a property through foreclosure or sell the mortgage note. Note sales have historically demonstrated a greater return to the FHA Insurance Fund as compared to foreclosures. FHA conducted two Multifamily and Healthcare Loan Sales in fiscal year 2008 that sold 20 mortgage notes to successful bidders. The total sale proceeds for the two sales combined exceeded $46 million dollars. There are two note sales planed for fiscal year 2009. Lead-based paint. The Office of Multifamily Housing Programs has continued to assess lead-based paint hazards in HUD assisted multifamily projects in fiscal year 2008. In addition to the assessments, Multifamily Housing has set a goal under the Departmental Management Plan that states “Multifamily Hubs and PCs must receive corrective action plans or certifications from owners/agents documenting that 80 percent of the properties in their jurisdictions, not in compliance as of October 1, 2007, are brought into compliance with the Lead Safe Housing Rule (LSHR)”. Multifamily has developed a monitoring and tracking report that allows quarterly review of the owners’ compliance with the regulations. Multifamily refers owners who fail to comply with the regulations to HUD’s Departmental Enforcement Center for enforcement action. In fiscal year 2008, the lead-based paint compliance rate reached 95 percent. Management Tools for Multifamily Asset Management The Office of Multifamily Asset Management uses a number of tools in its oversight of insured and subsidized properties, mortgage notes, and HUD-owned properties. Physical Assessment Subsystem (PASS). PASS facilitates the completion of physical inspections according to HUD’s Uniform Physical Condition Standards (UPCS) protocol. The subsystem schedules the inspections, assigns inspectors and notifies property owners of the inspection date. Inspectors record any deficiencies in the interior, exterior, common areas and building systems of a property using an electronic data collection device. Inspection results are scored by the collection device and uploaded to PASS. PASS technicians review the uploaded inspections for completeness and accuracy and post them on-line for the owners and HUD staff to review. In addition to the overall evaluation of the project’s physical condition, HUD tracks the correction or mitigation of Exigent Health and Safety conditions identified in the physical inspection. Owners must 16 Management’s Discussion and Analysis certify that they have corrected these conditions within 3 business days of the inspection or they may be subject to administrative action. Properties scoring below 31 out of a possible scale of 100 are automatically referred to the Departmental Enforcement Center (DEC) for action and properties with scores less than 60 could also be referred at HUD’s discretion. HUD re-inspects the referred properties after 60 days for compliance. If the condition remains below standard, HUD takes action to permanently correct the problem and protect the tenants’, community and the government’s interests. Possible actions include abating or terminating subsidy contracts, recommending sale or physical transfer of the property to new acceptable owners, or foreclosure. As of the end of fiscal year 2008, 91.3 percent of 11,407 properties, consisting of 10,416, insured and under management in the PASS system had scores greater than 60. Financial Assessment Subsystem (FASS). The FASS subsystem, part of an overall asset management strategy, collects project’s annual financial statements information and applies the information to assess a project’s financial performance and compliance. FHA uses the FASS to identify financial risks and compliance deficiencies that need loss mitigation or enforcement actions. Financial evaluation indicators employed in the FASS are monitored and refined to better predict which properties may be facing financial difficulties that, if left unaddressed by the owner or HUD, would create a claim against the FHA insurance fund. In addition, the FASS was integrated under the Online Property Integrated Information Suite (OPIIS) with data from other systems to provide better servicing and management priorities for staff in the local field offices. Integrated Real Estate Management System (iREMS). iREMS is the primary system for HUD staff to review and manage multifamily properties. iREMS draws its data from multiple multifamily data systems, including the FASS, the PASS, and the Online Property Integrated Information Suite (OPIIS). Multifamily Default and Delinquency Reporting System (MDDR). MDDR is a webenabled system that collects, tracks, and reports FHA-insured mortgage delinquencies, defaults, and elections to assign. MDDR provides the basis for HUD’s quarterly report to Congress on multifamily defaults. Online Property Integrated Information Suite (OPIIS). OPIIS integrates HUD’s multifamily data systems including PASS, FASS, MDDR with iREMS and external data for property and portfolio analysis. HUD staff use OPIIS to access multiple years of financial statements data and physical inspection results to determine trends in property performance. OPIIS also calculates a property’s Integrated Risk Assessment score (IRA) based upon statistical analysis of defaults and delinquencies to predict the likelihood of claims against the insurance fund. The IRA is dynamically updated every time applicable data change and is used to establish workload priorities for HUD staff. 17 Management’s Discussion and Analysis Other Housing Programs Office of Insured Healthcare Facilities Section 242 The Section 242 Mortgage Insurance for Hospitals program provides hospitals access to affordable financing for capital projects, including new construction or modernization. Since the program’s inception in 1968, FHA has insured 360 hospital mortgages for $13.7 billion. Clients range from small rural hospitals to major medical centers. Hospitals with FHA-insured loans serve as community anchors, providing jobs as well as healthcare services. FHA currently has 81 active hospital loans with principal balance totaling over $6.2 billion. FHA issued insurance commitments totaling $712.6 million for eight hospitals in eight states in fiscal year 2008. Office of Affordable Housing Preservation Mark-to-Market Program FHA’s Mark-to-Market (M2M) program seeks to preserve affordable housing inventory by maintaining the long-term physical and financial integrity of such housing and to reduce the Section 8 rental assistance costs and the cost of FHA insurance claims. Under the M2M program, the Office of Affordable Housing Preservation (OAHP) analyzes FHA-insured multifamily properties for which Section 8 rents exceed comparable market rents, and reduces the rents to bring them in line with comparable market rents or levels that preserve financial viability. Sometimes rent reductions can be accomplished and financial viability assured without affecting project debt. More frequently, however, M2M restructures FHA-insured mortgages on eligible multifamily projects. HUD/FHA analyzes properties under M2M and makes appropriate reductions to the mortgages to allow the project debt to be serviced with reduced subsidy payments while remaining financially viable with market rate rent schedules. The M2M process involves either a full or partial payment of claim by FHA on the original mortgage, followed by FHA’s commitment of a new mortgage that can be supported at market rents. During fiscal year 2008, OAHP completed mortgage restructuring on 88 properties covering 8,051 units under the M2M program, with 53 percent resulting in reduced rents and Section 8 savings. Of the 88 properties with mortgage restructuring completed during fiscal year 2008, 47 properties resulted in full debt restructuring, contributing to the long-term preservation of 3,627 units. The restructuring represents an annual Section 8 savings (non-incurrence of cost) of $26.8 million. In addition, 21 properties consisting of 2,380 units charged reduced rents only, representing an annual Section 8 savings (non-incurrence of cost) of over $13.3 million. In total, 47 properties representing over 6,325 units received reduced rents, resulting in annual savings (non-incurrence of cost) of over $13.5 million. The average savings per debt restructure transaction has shown a downward trend each year since fiscal year 2001. To some extent, this reflects shifts in program guidance as well as shifts in the pipeline. In fiscal year 2002, the program started to emphasize more on "sustainable" underwriting using such guidelines as paying off the existing expense balance at the M2M closing, providing larger allowance for debt service coverage, and giving more attention to the expected future 18 Management’s Discussion and Analysis expense levels rather than the historical levels. The M2M staff and Participating Administrative Entities also observe that transactions closed in fiscal year 2003 to fiscal year 2007 had more difficult issues and required more intensive interventions in order to make the transactions viable. Hurricane Relief Efforts In September 2008, hurricane Ike made landfall in Texas and caused property damage in areas along or near the Texas shoreline. FHA is providing assistance to the affected homeowners through its existing programs. In addition, HUD continues to focus efforts on providing relief to residents in the Gulf Coast and the Southeast region of the country that were displaced as a result of damages incurred by hurricanes Katrina, Rita and Wilma. More than 20,488 single family homeowners with FHA-insured loans in areas that were declared eligible for Federal disaster assistance from Hurricanes Katrina, Rita and Wilma were able to retain homeownership through FHA loss mitigation solutions from September 1, 2005 through the end of fiscal year 2008. FHA Mortgage Assistance Initiative provided advance mortgage payment assistance to 782 of those homeowners. Additionally, HUD made permanent replacement housing available by selling properties in its nationwide REO inventory to hurricane evacuees at very special terms including a discount off the sales price. To date, 576 properties have been sold to evacuees. Furthermore, HUD continues to work with the Federal Emergency Management Agency (FEMA) to help enhance FEMA’s housing recovery program and has developed general disaster recovery policy and guidance that will apply to any Presidential Declared Disaster. PERFORMANCE GOALS, OBJECTIVES, AND RESULTS The Government Performance and Results Act (GPRA) and the Government Management Reform Act (GMRA) mandate that Federal agencies improve their financial and program accountability. GPRA requires Federal agencies to develop multiyear strategic plans, set program goals, measure performance against the goals, and publicly report the findings. GMRA mandates improvements and reforms to promote better accountability and financial management of the Federal government. FHA has outlined a series of reforms designed to improve efficiency, responsiveness to clients, and accountability to the public. Office of Single Family Housing Programs The following sections summarize the Office of Single Family Housing’s achievements in meeting its fiscal year 2008 performance goals. A. Strategic Goal: Increase Homeownership Opportunities Resolve 55 percent of total claims on FHA-insured single family mortgages through loss mitigation. FHA established a national goal of resolving 55 percent of single family mortgage defaults via loss mitigation techniques. In fiscal year 2008, Single Family Housing surpassed this 19 Management’s Discussion and Analysis goal, resolving 64.5 percent of claims through loss mitigation techniques, compared to the 65 percent attained in fiscal year 2007. Endorse 73 percent of FHA-insured single family home purchase mortgages to first-time homebuyers. To help increase the number of families able to secure financing for their first home FHA established a target of 73 percent for its Homeownership Centers (HOC) for single family home purchase mortgage endorsements to first-time homebuyers. In fiscal year 2008, 77.9 percent of FHA-insured single family home purchase mortgages were to first-time homebuyers, compared with the target of 73 percent and the 79.5 percent achieved in fiscal year 2007. This comparable level of home purchase mortgages endorsed to firsttime homebuyers for fiscal year 2008 may be attributable to FHA’s continued commitment to reaching first-time homebuyers. FHA will continue its efforts to reach potential first-time homebuyers through participation in conferences, seminars and other outreach events. Endorse at least 525,000 FHA single family mortgages nationwide. Although FHA did not establish an output goal in the Annual Performance Plan for the number of single family endorsements nationwide, the agency established an internal field-planning target of 525,000 endorsements. Homeownership Centers can use this target to allocate processing and underwriting workload across the nation to help increase single family homeownership rates. During fiscal year 2008, FHA endorsed 1,200,111 single family mortgages for insurance, exceeding the internal field-planning target of 525,000 endorsements. The increase in the total volume of single family mortgage insurance endorsements from 532,494 in fiscal year 2007 to 1,200,111 in fiscal year 2008 is largely attributable to the collapse of the sub-prime mortgage market. Other contributing factors to the increase in FHA endorsement levels include a rise in the number of mortgage refinance transactions, a continued significant volume of reverse mortgage endorsements, and an overall strong homebuyer acceptance of FHA products. In fiscal year 2008, the Department and the Congress put in place several initiatives to deal with the crosscurrents in the mortgage markets and in particular the high rates of foreclosure. These initiatives, including the FHA Modernization Act of 2008 and the HOPE for Homeowners Program, have made FHA mortgage insurance a more prominent portion of the nation’s overall mortgage market. Endorse 33 percent of FHA-insured first-time single family home purchase mortgages to minorities. To help increase the number of minority families able to secure financing for their first home, FHA established a target of 33 percent for its Homeownership Centers for single family home purchase mortgage endorsements to minority first-time homebuyers. In fiscal year 2008, FHA-insured 31.2 percent of single family home purchase mortgages to first-time homebuyers who were minority, compared with the target of 33 percent and the 33 percent achieved in fiscal year 2007. There was a 1.8 percent decrease from fiscal year 2007 in the share of home purchase mortgages endorsed to minority first-time 20 Management’s Discussion and Analysis homebuyers. Still, FHA continues with its major programmatic efforts in increasing new minority homebuyers while also minimizing attrition of existing minority homeowners during stressful market conditions. FHA will continue to pursue the President’s commitment to reaching minorities and increasing the minority homeownership rate through housing counseling outreach programs and print and radio advertising. Sell 45 percent of FHA Real Estate Owned (REO) properties to owner-occupants. In fiscal year 2008, FHA Single Family Housing surpassed the goal of selling 45 percent of REO properties to owner-occupants by achieving a rate of 50.1 percent. FHA sold 23,185 of 46,308 REO properties that it held to owner-occupants. B. Strategic Goal: Strengthen Communities Endorse at least 35 percent of FHA-insured single family mortgages in underserved communities. FHA established a national goal to ensure that at least 35 percent of single family mortgages endorsed for insurance are in underserved communities, thereby enhancing homeownership opportunities in these neighborhoods. During fiscal year 2008, FHA endorsed 455,523 out of 1,160,956 single family mortgages in underserved communities, representing 39.2 percent. C. Strategic Goal: Embrace High Standards of Ethics, Management and Accountability Meet congressionally mandated capital reserve targets on the FHA Mutual Mortgage Insurance Fund. FHA’s Mutual Mortgage Insurance (MMI) Fund is responsible for all expenses, excluding administrative expenses but including insurance claims incurred under FHA’s basic single family mortgage insurance program. The capital ratio is an indicator of the MMI Fund’s financial soundness. In fiscal year 2008, FHA achieved a 3.0 percent MMI fund ratio compared to 6.4 percent for fiscal year 2007. The capital ratio is calculated based on the economic value of the fund and insurance-in-force. The estimated economic value of the MMI fund decreased significantly with the forecast of expected house price declines due to a declining housing market. Conversely, the total MMI insurance-inforce, increased significantly due to the volume of new endorsements. The combination of these factors resulted in a decrease in the capital ratio. In the future, this ratio is expected to remain above the mandated 2.0 percent goal. Average at least 50 percent net recovery rate per property sale. FHA established a net recovery rate goal of 50 percent per HUD Real Estate Owned (REO) property sale to reduce insurance claim losses associated with foreclosures. During fiscal year 2008, the average net recovery rate per sale was 53.4 percent. This result exceeds the goal set for this performance indicator in fiscal year 2008. 21 Management’s Discussion and Analysis Conduct 300 lender-monitoring reviews of FHA-approved lenders. HUD set a national goal to conduct 300 lender-monitoring reviews of FHA-approved lenders in fiscal year 2008. HUD exceeded that goal by conducting 313 reviews in fiscal year 2008. Office of Multifamily Housing Programs The following sections summarize the Office of Multifamily Housing’s achievements in meeting its fiscal year 2008 performance goals. A. Strategic Goal: Increase the Availability of Affordable Rental Housing Endorse 750 Multifamily Initial Loans. Multifamily initial endorsements for fiscal year 2008 totaled 647. The goal of 750 initial endorsements was not met because of heavy refinancing activity in fiscal year 2005 and 2006, which reduced the number of loans available for refinancing in the current fiscal year. In addition, the tightening of credit and higher interest rates in fiscal year 2008 contributed to the decrease in multifamily financing and endorsements. B. Strategic Goal: Improve Management Accountability for Assisted Housing Ensure 98 percent of the active inventory of Multifamily properties has no compliance flags or have their findings closed. Multifamily Housing continues to improve the financial condition of properties by assuring that all property owners submit Annual Financial Statements (AFS) to the Real Estate Assessment Center and HUD field offices for review. Multifamily Housing exceeded the goal by ensuring that 100 percent of the properties in the multifamily inventory exhibit no compliance flags or have their findings closed in fiscal year 2008. Bring at least 75 percent HUD-held loans that are 90 or more days delinquent under control. HUD-held loans are placed under a workout plan when delinquent. Delinquent loans that do not have a workout plan are recommended for foreclosure, put in the mortgage sale, or referred to the Departmental Enforcement Center for further action. In fiscal year 2008, 80 percent of the HUD-held loans that are 90 or more days delinquent were brought under control. 22 Management’s Discussion and Analysis C. Strategic Goal: Help Communities More Readily Access Revitalization Resources to Become More Livable Maintain the share of multifamily properties in underserved areas insured by FHA at 33 percent of initial endorsements. FHA set a goal of endorsing at least 33 percent of initial endorsements of multifamily properties in underserved areas in fiscal year 2008. FHA exceeded the goal as of the end of the year and endorsed 384 multifamily properties serving underserved communities, equaling 59 percent of its initial endorsements. 2008 Schedule of Performance Goals and Actual Results Strategic Goals and Performance Objectives Goals Actual Results Goal Met (Yes/No) 55% 73% 525 33% 45% 64.5% 77.9% 1,200 31.2% 50.1% Yes Yes Yes No Yes 35% 39.2% Yes 2% 3% Yes 50% 300 53.4% 313 Yes Yes 750 647 No 98% 100% Yes 75% 80% Yes Office of Single Family Housing Programs A. Increase Homeownership Opportunities Resolve claims on FHA-insured mortgages through loss mitigation Endorse mortgages to first-time homebuyers Endorse mortgages nationwide (in thousands) Endorse mortgages to first-time minority home buyers Sell REO Properties to owner-occupants B. Strengthen Communities Endorse FHA-insured mortgages in underserved communities C. Embrace High Standards of Ethics, Management and Accountability Meet congressional mandated reserve target of 2% Achieve property sale recovery rate Perform FHA-approved lenders monitor reviews Office of Multifamily Housing Programs A. Enhance the Availability of Affordable Rental Housing Complete Initial Endorsements B. Improve Management Accountability for Assisted Housing Ensure properties have no compliance flags or have their finding closed Maintain control over/reduce delinquency of HUD-held loans C. Help Communities More Readily Access Revitalization Resources to Become More Livable Maintain Initial endorsements in underserved areas 33% 59% Yes 23 Management’s Discussion and Analysis FINANCIAL STATEMENTS Credit Reform Accounting The financial statements have been prepared in accordance with the Federal Accounting Standards Advisory Board’s (FASAB) Statement of Federal Financial Accounting Standards (SFFAS). The authoritative guidance for the statements are contained primarily in: SFFAS No. 2, Accounting for Direct Loans and Loan Guarantees, as amended; by SFFAS No. 18, Amendments to Accounting Standards for Direct Loans and Loan Guarantees; SFFAS No. 19, Technical Amendments to Accounting Standards for Direct Loans and Loan Guarantees; the Federal Credit Reform Act (FCRA) of 1990. Before the enactment of the FCRA, credit program costs were recorded in the budget of the U.S. federal government on the cash basis. While this accurately reflected the actual cash flows, it did not reflect the ultimate costs of credit programs, and thus hindered the comparison between the costs of these programs with those of other federal programs. Beginning in fiscal year 1992, the FCRA requires that the ultimate costs of a credit program be calculated, and the budgetary resources obtained, before new direct loan obligations are incurred and new loan guarantee commitments are made. The cost of loan guarantee programs is the net present value of the estimated future cash flows from payments (for claims, interest rate subsidies, and other payments) and collections (for loan origination and other fees, penalties and recoveries) by credit agencies. SFFAS No. 2, which generally mirrors the requirements of the FCRA, established guidance for estimating the cost of direct and guaranteed loan programs, as well as for recording direct loans and the liability for loan guarantees for financial reporting purposes. SFFAS No. 2 states that the actual and expected costs of federal credit programs should be fully recognized in both budgetary and financial reporting. To accomplish this, agencies first predict or estimate the future performance of direct and guaranteed loans when preparing their annual budgets. The data used for these budgetary estimates are re-estimated after the fiscal year-end to reflect changes in actual loan performance and the actual interest rate in effect when the loans were insured. This reestimated data is then used to report the cost of the loans disbursed under the direct or guaranteed loan program as a “Program Cost” on the agencies’ Statement of Net Costs. The FCRA establishes budgetary and financing control for each credit program through the use of the program, financing, and negative subsidy receipt accounts for loan guarantee commitments and direct loans obligated after September 30, 1991. It also establishes the liquidating account for any loan guarantee commitments and direct loans obligated before October 1, 1991. For further information regarding the FCRA and credit reform accounting, refer to Notes 1 and 6 of the Notes to Principal Financial Statements. Budgetary Resources FHA finances its operations primarily through appropriations, borrowings from the U.S. Treasury, spending authority from offsetting collections, and prior year unobligated balances. During fiscal year 2008, FHA received appropriations of $627 million, borrowings of $943 million, spending 24 Management’s Discussion and Analysis authority from offsetting collections of $15,729 million, and recoveries of prior year obligations of $91 million. Additionally, FHA’s budgetary resources were increased by $26,920 million of unobligated balances carried forward from fiscal year 2007 and reduced by $1,025 million for repayment of borrowings, the return of the unobligated GI/SRI liquidating account balances to Treasury, the return of cancelled program funds, and non expenditure transfers for working capital fund expenses. For fiscal year 2008, $77 million in appropriations were received for MMI/CMHI contract expenses. FHA transferred $25 million to the working capital fund and obligated $48 million for contract expenses in fiscal year 2008. The GI/SRI program received appropriations for subsidy and contract expenses totaling $101 million in fiscal year 2008. FHA transferred $16 million to the working capital fund and obligated $62 million for contract expenses in fiscal year 2008. During the year, FHA used its borrowing authority to obtain approximately $943 million from the U.S. Treasury and the public. These funds were used to pay for loan guarantee claims and for negative credit subsidy. Spending authority of $13,458 million and $2,271 million was received from offsetting collections in the MMI and GI/SRI funds, respectively. These offsetting collections include collections of premiums, fees, sales proceeds of credit program assets and credit subsidy transferred between different FHA accounts. These funds provided FHA the resources to cover the fiscal year 2008 obligations totaling $15,590 million. These obligations included: payments on defaulted guaranteed loans; the cost of acquiring, maintaining and disposing of foreclosed properties; the transfers of credit subsidy reestimates; and maintaining MMI reserves (capital ratios) as required by the National Affordable Housing Act of 1990. Assets and Liabilities FHA maintains a highly liquid balance sheet with the majority of its assets consisting of fund balances with the U.S. Treasury and investments in non-marketable, market-based securities issued by the U.S. Treasury. The nature of FHA’s business requires it to carry, or acquire through borrowing, the assets necessary for claim payments on defaulted guaranteed loans. Additionally, FHA must meet credit reform requirements of transferring out negative subsidy and downward credit subsidy re-estimates from the financing accounts. The negative subsidy and downward reestimate calculations are based on vari