Statement before the House Banking and Financial Services Committee
Deputy Assistant Secretary for Single Family Housing
Subcommittee on Housing and Community Opportunity
April 1, 1998
Mr. Chairman and members of the Committee, my name is Emelda Johnson
and I am Deputy Assistant Secretary for Single Family Housing
at the U.S. Department of Housing and Urban Development (HUD).
With me today is Paul Leonard, Deputy Assistant Secretary for
Policy Development at HUD. I am pleased to be here on behalf
of HUD Secretary Andrew Cuomo and want to thank you for the opportunity
to testify on the Federal Housing Administration's (FHA) single
family housing programs. I also want to thank the Subcommittee
for giving these important issues and the Administration's current
legislative proposal its thorough consideration.
Under the leadership of Secretary Andrew Cuomo, FHA is the strongest
it has been in decades, and it is positioned to become even stronger.
Secretary Cuomo's Management 2020 Reform effort is creating new
and more effective ways for FHA to conduct its business. Instead
of working out of 81 small and inefficient field offices, FHA
now does business through four state-of-the-art Home Ownership
Centers (HOCs). Working with Freddie Mac, FHA lenders and borrowers
now have access to a state-of-the-art automated underwriting system,
reducing from days to a matter of minutes, the time needed to
approve an FHA borrower for a loan.
HUD's 2020 Reform is also dramatically restructuring FHA's loan
loss mitigation and property disposition activities, the topics
for today's hearing. In February, FHA opened a new Loss Mitigation
Servicing Center in Oklahoma to help boost use of our comprehensive
Loss Mitigation Program. And in March, FHA sent a proposed Real
Estate Owned (REO) rule to Congress that will revolutionize the
way we dispose of foreclosed properties. Using existing authority,
this initiative represents a dramatic shift to large scale privatization
of FHA's property disposition program. This rule will allow HUD
to manage its single family inventory in accordance with the best
private sector practices, to streamline the disposition process
and to reduce the time and cost of selling properties, generating
Building on accomplishments to date, HUD's FY1999 Budget proposes
further dramatic reform of the property disposition process.
Once enacted, HUD's proposed property disposition legislation
will allow HUD to intervene earlier in the loan default cycle
and transfer notes to private real estate professionals prior
to foreclosure. The new legislation, under consideration in this
and other committees, will not only improve FHA efforts at loan
loss mitigation and property disposition, it will also further
reduce costs associated with foreclosure and disposition, resulting
in $525 million in savings.
In short, FHA is streamlining operations, centralizing back-office
functions and staff, investing in advanced technology and drawing
on private sector expertise wherever possible. Secretary Cuomo
is leading FHA into the 21st Century, and turning it
into a state-of-the-art mortgage insurance company.
Even so, in the face of these recent accomplishments, today's
hearing addresses what critics allege to be continued flaws in
HUD loan loss mitigation and property disposition efforts. It
will feature many of the same voices that have criticized HUD
for similar failings over the past decades. While we welcome
the opportunity to respond to positive suggestions as to how to
improve HUD programs, quite frankly, Mr. Chairman, it is my belief
that many of the criticisms reflect a focus on the past, rather
than the present and the future. FHA's critics fail to recognize
that within a matter of months FHA will no longer be in the real
estate asset management and property disposition business, but
will instead turn this function over to private sector specialist.
So while we welcome suggestions for improvement, I think that
it is important that I begin my testimony with a detailed discussion
of where FHA is today, and our vision for how best to address
issues relating to distressed single-family housing in the years
HUD 2020 REFORM: THE NEW VISION FOR PROPERTY DISPOSITION
As part of Secretary Cuomo's Management 2020 reform efforts, FHA
is revolutionizing how it handles single-family loan loss mitigation,
real estate asset management and property disposition. Under current
legislative authority, FHA already has:
- Moved to Privatize Sales of FHA-Owned Properties:
In March, 1998, FHA sent a proposed rule to Congress that will
streamline the property disposition process. Modeled after HUD's
successful single family notes sales program, the new procedures
will permit FHA to sell blocks of foreclosed properties to private
parties specializing in property disposition, a move that will
speed the sale of these properties and result in significant savings.
Private purchasers of FHA properties will be free of the constraints
HUD faces in disposition, such as reliance on a sealed bid sales
process and an inability to market properties through computerized
multiple listings. FHA is prepared to move forward with bulk
sales as soon as the proposed rule takes effect.
- Developed New Loan Loss Mitigation Tools and Created Ways
to Increase Use of These Alternatives to Foreclosure: At
the direction of Congress, FHA created a new comprehensive set
of loan loss mitigation tools, including special forbearance periods,
modification of loan payments, balance and/or interest rate, as
well as pre-foreclosure sales. These efforts to keep borrowers
in their homes, or if necessary encourage owners to sell prior
to foreclosure, protect the interests of both homeowners and FHA.
HUD is working to increase use of loss mitigation tools by providing
training to housing counselors and lenders in loss mitigation
options, and by improving monitoring and enforcement of lender
In addition, HUD has pending before Congress new legislative
authority for FHA to take notes in lieu of property which
will result in increased use of loan loss mitigation efforts and,
when needed, further speed the foreclosure and property disposition
- Property Disposition Legislation: This new legislation
will give HUD the authority to pay claims prior to foreclosure
and take back the mortgage note instead of the property. These
notes then can be quickly sold to private sector specialists in
loan loss mitigation and property disposition. The sale of FHA
notes will enhance HUD's capacity to realize greater recovery
against insurance claims, lead to quicker sales of foreclosed
properties and reduce any adverse impact foreclosure may have
on the surrounding neighborhood. Overall, OMB estimates this
innovative legislative proposal will generate $525 million in
budget scored savings.
By 1999, FHA plans to be out of the retail property sales
business, instead relying on private sector partners, including
nonprofit organizations, to perform all loss mitigation and property
disposition functions. These private partners will be better
able to respond quickly and efficiently to fluctuations in the
demand for loan servicing and property disposition that may result
from a severe downturn in a regional or local economy.
Under the new system, FHA will continue to work with existing
lenders to engage in early intervention at the first indication
of borrower distress. HUD is now exploring the potential for
adapting risk assessment tools, such as the Freddie Mac/MGIC Early
Indicator System for use by FHA. The Early Indicator System represents
state of the art technology for assessing the likelihood that
a loan in default will cure (e.g. return to making timely payments)
or fall further into arrears. Using the Early Indicator or some
equivalent system, HUD can help FHA lenders focus resources on
those loans that are most likely to cure, and identify the more
difficult loans to be turned over to private partners, who will
pursue additional loss mitigation efforts and, if necessary, manage
foreclosure and disposition activities.
Finally, even as FHA moves to streamline and privatize its loan
loss mitigation and property disposition procedures, FHA will
continue to hold a small number of properties in inventory in
anticipation of possible transfer to local government or nonprofit
entities. Building on knowledge gained during a pilot effort
with a large national real estate firm, FHA anticipates that any
future management and marketing (M&M) activities still required
will be done through regional contracts with real estate firms
with the capacity to perform all required management and disposition
In 1996 Congress authorized a comprehensive new program of loan
loss mitigation that protects the interest of borrowers and the
financial integrity of the MMI Fund. This new program replaces
the ineffective Assignment Program, which often left borrowers
deeper in debt and was costly to the Fund. Loss Mitigation offers
five alternatives to foreclosure that address a far greater range
of borrower problems than could be addressed through the Assignment
Program. Perhaps most importantly, the Loss Mitigation Program
shifts the emphasis to early intervention in the default cycle,
when there is the greatest potential for the borrower to recover
from default and remain in their home.
Mr. Chairman, I'd like to take just a minute to describe a few
features of the Loss Mitigation Program.
- Lenders Evaluate All Loans in Default. The new program
provides lenders both the authority and the responsibility to
review and to consider the workout potential of every defaulted
- Lender Evaluations are Mandatory. Though lenders have
great latitude in selecting the loss mitigation strategy most
appropriate for each borrower, participation in the program is
mandatory for all lenders. Lenders are required to document
that they have considered all reasonable means to address delinquency.
They must inform borrowers of counseling options. They must
evaluate the workout potential of each delinquent loan prior to
initiating foreclosure. And they must re-evaluate each loan monthly.
- Incentives Encourage Use of Loss Mitigation Tools.
FHA offers lenders an extensive set of incentives to encourage
use of loss mitigation including cash compensation, other financial
incentives and increased authority to use loss mitigation tools.
FHA also reimburses lenders for a portion of their costs associated
with use of loss mitigation, at a rate that Price Waterhouse described
in the 1997 Actuarial Review as "similar to the reimbursement
given for use of similar loss mitigation tools used in the conventional
market by Fannie Mae and Freddie Mac."
- New Computerized Loan Tracking System Highlights Troubled
Loans on the Census Tract Level. FHA's Neighborhood Watch
system, a web-based computer system, is designed to highlight
neighborhoods and/or lenders with exceptionally high default and
claim rates. After extensive testing in demonstration programs,
the system will be launched nationwide in May of this year. It
will give HUD the ability to track default and claim rates at
the census tract level, which will greatly enhance lenders'
ability to target poorly performing loans for loss mitigation
and also help FHA monitors target poorly performing lenders for
- Sanctions Further Reinforce Program Use. Failure on
the part of the lender to comply with the provisions of the Loss
Mitigation Program may result in the loss of incentive compensation,
reduced reimbursement of foreclosure expenses, and curtailment
of claimable interest. Furthermore, a pattern of refusal or failure
to comply can lead to withdrawal of approval to originate FHA
I want to assure the Subcommittee that FHA is working hard to
facilitate the transition from the Assignment Program to the new
Loss Mitigation Program. Efforts to smooth this transition and
to increase the use of loss mitigation include:
- HUD is investing in training. We sponsored training
conducted by the National Consumer Law Center for over 500 HUD-approved
housing counselors in loss mitigation policy and procedures.
Participating housing counseling organizations facilitate loss
mitigation by representing homeowners in financial distress, mediating
between the homeowner and lender, and assisting the homeowner
in formulating a strategy to avoid foreclosure and achieve debt-free
homeownership whenever possible. Trained counselors acting as
advocates for their clients will also increase use of loss mitigation
by showing how loss mitigation strategies in specific cases both
reduce claims and prevent foreclosure.
- HUD is providing more consumer and lender assistance
through a new HUD servicing center in Oklahoma City, which specializes
in responding to loss mitigation inquiries from homeowners, the
lending industry and housing advocates across the country. Since
opening in February, 1998, the Oklahoma City Service Center has
hit the ground running. It now receives more than 125 calls per
day. The toll free number for the Service Center is (888) 297-8685.
- HUD is forcing lenders to help troubled borrowers more
quickly by advancing the foreclosure initiation date from
nine months to six months from the date of default, under a new
HUD mortgagee letter in January, 1998. This will force lenders
to evaluate alternatives to foreclosure earlier in the course
of a delinquency, which counselors, housing advocates and mortgage
lenders all agree is a more likely path to successful foreclosure
avoidance than later interventions.
- HUD recently performed rigorous lender performance evaluations
in loss mitigation for FY 1997. FHA lender monitors have
been trained to evaluate the effectiveness of lenders' loss mitigation
efforts. Lenders' scores recently were published and those scoring
in the top 25th percentile were given cash compensation,
other financial incentives and authority to use loss mitigation
tools. This lender scorecard immediately prompted inquiries from
lenders about how to improve their loss mitigation performance.
These performance ratings will be published annually.
These efforts are already paying off. In the first five months
of FY 1998, FHA reported nearly 3,100 new Loss Mitigation cases,
with the monthly average number of cases increasing each month.
Based on this rapid growth, HUD estimates over 10,000 borrowers
will participate in the Loss Mitigation Program by the end of
the fiscal year. HUD projects that approximately 5,000 program
participants will use non-sale loss mitigation alternatives, such
as loan modifications, special forbearance and partial claim,
while another 5,000 will use the new pre-foreclosure sales option.
As housing counselors, lenders and borrowers become more familiar
with loss mitigation options, HUD expects the number of cases
in FY 1999 to equal or exceed assignment cases in previous years,
which averaged 12,000 annually.
Finally, it is important to remember that FY 1997 essentially
was a transition year when FHA worked on phasing out the Assignment
Program, while also implementing the new Loss Mitigation Program.
In FY 1997 a total of 12,677 foreclosures were avoided through
the two programs. This total includes 7,655 assignment cases
and 5,022 loss mitigation cases.
The more than 7,600 cases still in the assignment pipeline in
1997 represent borrowers who had registered to participate in
the Assignment Program as of November, 1996, when FHA launched
the Loss Mitigation Program. As the pipeline of assignment claims
declines in FY 1998, HUD anticipates lenders will be freed up
to work on more loss mitigation claims.
Even greater increases in loss mitigation volume will come from
approval of the Clinton Administration's FY 1999 property disposition
proposal. The new approach
will ensure the full potential benefits of loss mitigation are
achieved by moving the decision to a private entity with even
greater economic incentive to prevent foreclosures, where possible,
and reduce costs to the insurance Fund.
After several successful demonstration projects with private partners,
HUD recognizes that private real estate professionals, including
nonprofit organizations, can often service loans, pursue loan
loss mitigation and, if necessary, manage foreclosure and property
disposition more efficiently. Now we're acting on this belief
by taking aggressive measures to privatize FHA's property disposition
The REO rule currently under pre-publication review by Congress,
will streamline FHA's property disposition process. Using existing
authority, the new program will enable HUD to sell blocks of foreclosed
properties to private parties specializing in property disposition.
These private entities are expected to sell the properties to
new homeowners more quickly, reducing the period that homes are
vacant. HUD estimates this new rule will result significant savings.
FHA is prepared to move forward with the first bulk sale of properties
as soon as the proposed rule takes effect. This sale will launch
FHA into the future, toward large scale privatization of its property
management and disposition process. Furthermore, FHA can use
this existing authority to conduct not only multiple sales of
existing inventory, but to sell the right to a future pipeline
of foreclosed properties, further speeding the transfer to private
real estate professionals who can more quickly dispose of properties.
Ultimately, FHA will use these sales to transfer the vast majority
of properties to private parties, effectively eliminating much
of the need for REAMs and other existing contracts.
In addition to this rule, we can do more to boost the use of loss
mitigation and to speed the disposition of foreclosed properties.
President Clinton's FY 1999 budget proposes dramatic reform of
the property disposition procedures. It asks Congress to grant
FHA the authority to pay claims and obtain mortgage notes prior
to foreclosure. This will enable FHA to intervene earlier in
the borrower default cycle and sell the mortgage notes to a private
third party, who will handle all loan servicing, loss mitigation
and if necessary, foreclosure and disposition activities. Under
this approach, the private third party will own the note, and
ultimately the property, if it goes to foreclosure. Since the
new note holder will have its own money on the line, it will be
motivated to take action quickly and effectively.
The new approach has numerous advantages:
- Property Disposition Reform Will Save Taxpayers Millions
of Dollars. OMB estimates this new approach to property disposition
will generate savings of approximately $525 million. The Congressional
Budget Office (CBO) estimates savings in FY 1999 will be $400
- Property Disposition Reform Will Further Enhance Loss Mitigation
Efforts. Following acquisition of a mortgage note, the new
note holder in many cases will actively pursue loss mitigation,
since keeping the family in the home often makes financial sense
for all parties. This belief was confirmed by HUD's experience
with several prior sales of assignment notes. Private sector
purchasers of assignment loans had great success in turning defaults
into re-performing loans, by getting borrowers back on track
making regular payments and avoiding foreclosure altogether.
Key to this success was the ability of the new note holder to
refinance the loan at less than full value, an option that FHA
lacks the authority to pursue.
- Disposition Reform Will Speed the Sale of Foreclosed Properties.
If the borrower is not capable of meeting future loan payments,
the private third party entity will pursue foreclosure and sale
of the property. With the most up-to-date technology and the
flexibility to shift trained professionals around the country
to meet the often unpredictable and erratic demand for servicing
and disposition services, HUD's private sector partners will be
much more efficient than FHA.
- Disposition Reform Will Reduce HUD Staffing Needs.
By selling notes prior to foreclosure, HUD will own, manage and
dispose of far fewer properties. Therefore, the number of staff
required to manage FHA's REO operation is expected to drop by
more than half.
This new approach simply will provide one additional tool available
to FHA for performing loan loss mitigation, property management
and disposition activities. It will complement existing disposition
processes available under existing authority, such as individual
competitive sales, direct sales to nonprofit organizations and
government agencies, auctions or bulk sales. No single procedure
will ever be right for all locations or economic conditions.
Availability of a number of different tools will allow FHA to
match its disposition program to the local market and maximize
the return to the Fund. Further options will enhance FHA's ability
to adapt to different market conditions.
REAL ESTATE ASSET MANAGEMENT (REAM)
Finally, I'd like to address concerns raised by GAO in a recent
report on improvements needed in HUD's oversight of REAM contractors.
The report highlights several suggestions for improving HUD's
oversight process. We welcome these suggestions, and already
have taken action to follow through on many of them. First, I
would like to remind members of the Subcommittee that with the
implementation of the new REO rule, HUD will within a matter of
months be substantially out of the business of property management,
marketing and disposition.
I also would like to encourage the Subcommittee to judge the HUD
property management and disposition efforts by the results. Over
the last 12 months ending February 28, 1998, HUD sold 61,317 properties.
The average time a property remained in our inventory over this
period was approximately six months. And the rate of recovery
based on acquisition cost (the recovery amount as a percentage
of the costs of paying the insurance claim plus all capitalized
expenses) was more than 64 percent.
Moreover, the rate of recovery based on acquisition value (the
recovery amount as a percentage of the appraised value of the
property at the time of HUD acquisition plus capitalized expenses)
was more than 83 percent.
Overall, the rate of recovery for HUD's disposed properties, whether
measured as a percentage of acquisition cost or value, compares
favorably with private industry standards. HUD admittedly takes
longer to sell properties than the private sector (six months
as opposed to four months) but much of this difference reflects
delays associated with requirements that FHA hold a portion of
its inventory for sale to local government or community based
nonprofit organizations, a practice that will continue under the
proposed property disposition reforms, as it reflects FHA's mission
and continues to be a Department objective.
By implementing a new REO rule, FHA is taking steps to reduce
the time properties are held in portfolio. Nevertheless, it is
significant to note that FHA's current recovery rate and average
time properties are held in portfolio are near industry standards.
We also realize that private sector real estate firms have many
advantages over FHA in managing and disposing of properties.
Private firms have the ability to move staff and resources around
the country to respond to the fluctuating demand for loan servicing,
property management and disposition that results from regional
downturns in specific real estate markets. That is why we are
taking aggressive steps to get HUD out of the property management
and disposition business. Following the proposed bulk property
sales, the private purchasers will be responsible for all property
management and disposition activities, greatly reducing the work
required of HUD property management and disposition oversight
However, the transition to this new system will occur over a period
of months. And even after it is adopted, not all FHA properties
will be transferred to private partners. Some properties may
be retained to meet FHA's public purpose goals in property disposition.
So we recognize the need to improve the existing system of property
management and disposition.
To meet immediate property management and disposition needs, FHA
will be more broadly implementing a new marketing and management
contract format to improve current practices until privatization
can take hold. This type of contract combines the property management
and property disposition functions under one contractor instead
of separating them.
Mr. Chairman, we know this approach works. A pilot program with
Golden Feather Realty Services, Inc. using this contracting method
in Maryland, Louisiana and Sacramento, California has proven to
be successful. During FY 1997 the pilot contractor was able to
dispose of properties significantly quicker than HUD in all three
sites. For example, in the Maryland State Office, the turnover
rate under the pilot was reduced from seven months to four months;
in the Louisiana State Office the rate was reduced from 7.8 months
to five months. In the Sacramento office, where the economic
conditions are poor, the turnover rate decreased from 5.4 months
to 4.7 months. This resulted in properties returning to private
ownership much more quickly. In addition, at two of the sites,
the average sales price under the pilot increased and the average
FHA profit per property sold increased or remained constant.
Over the next several months, these contracts will be made available
to HUD field offices where the REO workload exceeds the staffing
level necessary to perform required functions. Furthermore, FHA
will use these contracts over the long term to manage the relatively
small percentage of foreclosed properties that will continue to
be held within the HUD portfolio to address FHA's public purpose
Finally, HUD also has taken action to immediately address several
of the concerns raised by the GAO report, including the following:
- HUD is conducting risk assessments of all REAM contractors
coming up for renewal.
- HUD is issuing cure letters to all poorly performing REAM
contractors in Massachusetts and Illinois. A cure letter
detailing several deficiencies was issued to Countryside Agency,
the sole contractor in Massachusetts, on March 24, 1998. The
contractor has ten days to respond. This letter is an initial,
formal step to begin laying the foundation for termination of
the REAM contract if deficiencies are not addressed. Similar
cure letters for several REAMs contractors in Illinois are being
prepared and will be mailed within thirty days.
- HUD is hiring more contract REAM monitors in both Massachusetts
and Illinois. These outside monitors provide a quick means of
complimenting HUD staff efforts to effectively monitor REAM contractors.
- HUD sent swat teams of senior headquarters and field
office quality assurance staff to inspect the condition of FHA-owned
properties, assess the status of HUD's REAM monitoring and gather
information on HUD contractors. The Boston swat team, which was
led by a counselor to the FHA Commissioner, found that many of
the deficiencies identified in the GAO report already have been
addressed. The team reported that the REAM contractor has shown
improvement since the time of the GAO audit, as a result of hiring
a new manager who is coordinating property management activities
in a much more effective manner than had previously been the case.
- Staff of the Atlanta Homeownership Center reviewed the
Chicago office's REAM operations, examined files and reviewed
all REAM contractors' performance. The HOC center staff identified
three "high risk" contractors, and re-organized Chicago
REO staff into geographical teams to perform follow-up monitoring.
All three "high risk" contractors also will receive
cure letters within thirty days. In addition, the swat team prepared
a work plan to facilitate the REAM contract renewal process.
This plan includes comprehensive evaluations of all REAM contracts,
prior to any contract renewal.
HUD's new Home Ownership Centers (HOCs) are primarily responsible
for general oversight of all procurement and administration of
REAM contracts in the future. HOC staff also are responsible
for supervising all REO staff in HUD field offices. And, headquarters
staff, under the direct supervision of the Deputy Assistant for
Single Family Housing, is responsible for overseeing HOC activities.
Members of the Subcommittee, I would like to conclude my remarks
by reiterating that I believe FHA is heading in the right direction.
The results of several years of focused, cooperative work by
HUD and Congress to strengthen FHA's MMI Fund are paying off.
The Fund now has an economic value of $11.3 billion, a more than
318 percent increase over the value in 1990, $2.7 billion, when
Congress passed the Cranston-Gonzalez National Affordable Housing
Act. And the Fund's capital ratio is 2.8 percent, well above
the Congressionally-mandated target of 2.0 by the year 2000.
We have come a long way toward restoring FHA to fiscal health.
But we can do more to improve FHA's operations and enhance the
Fund's ability to serve borrowers not well served by the private
sector. Secretary Cuomo is committed to fundamentally changing
the way FHA does business. Under his leadership, FHA is aggressively
using existing authority to take significant strides toward privatizing
FHA's property disposition program. And if Congress approves
our request for new authority to pay claims prior to foreclosure,
we plan to revolutionize the way FHA pursues loan loss mitigation
and property disposition. With this new authority, FHA will largely
get out of the retail property disposition business, and will
rely instead on private sector real estate specialists with the
expertise, flexibility and access to advanced technology necessary
to most effectively pursue loan loss mitigation and property management
Thank you for this opportunity to testify.
Content Archived: January 20, 2009