Chairman Reed, Ranking Member Allard, distinguished Members of the Subcommittee, thank you for inviting me to testify on the FHA Multifamily Housing Mortgage Insurance Program.

In your letter of invitation you express interest in three issues: the impending increase in mortgage insurance premiums; program credit subsidy rates; and, the Administration's proposed increase in the per-unit mortgage loan limits.

Mortgage Insurance Premium Increase

The National Housing Act authorizes the Secretary to set the premium charge for insurance of mortgages. The range within which the Secretary may set the charges must be between one-fourth of one percent per annum (25 basis points) and one percent per annum (100 basis points) of the principal obligation of the mortgage outstanding at any time. The mortgage insurance premium (MIP) for most multifamily mortgage insurance programs has been set by regulation at one-half of one percent of the average outstanding principal balance of the mortgage per year. (A different calculation is used for the construction period to account for the disbursement of mortgage proceeds during construction.)

In FY 2001, Congress appropriated $101 million for credit subsidy. The Department effectively obligated all of the available credit subsidy by May, for reasons that I described in my confirmation hearing at that time. At the end of FY 2000 the Department ran out of credit subsidy, and promptly used the first $12 million of credit subsidy for FY 2001 to fund the projects left over in the pipeline. Also, there was an unexpected increase in applications in the 221(d)(3) program - multifamily housing sponsored by nonprofits - which carries a higher credit subsidy rate than most other FHA multifamily programs. Some of these projects should have been treated as having for-profit sponsors. In recent years, the number of Section 221(d)(3) commitments has varied, but they did account for about 13 percent of the credit subsidy obligated in FY 2000. This year, it accounts for 40 percent. If the FY 2000 activity level had continued this year, FHA would have obligated approximately $23 million less in credit subsidy, and we would not have this problem.

As the Department exhausted its credit subsidy, we advised all field offices to halt the issuance of FHA commitments conditioned on credit subsidy. To meet the need for multifamily housing, the Secretary then decided to request a supplemental appropriation of $40 million in credit subsidy and at the same time to implement a premium increase. On July 2, the Department published a notice in the Federal Register increasing the multifamily mortgage insurance premium for the programs requiring credit subsidy to eight tenths of one percent or 80 basis points. The rule and notice become effective on August 1 and field offices will be authorized to resume issuing commitments for the positive credit subsidy programs. All FHA commitments issued on or after that date for the specified programs, primarily our Section 221(d)(3) and 221(d)(4) new construction/substantial rehabilitation programs, will be processed at the higher premium. Projects in the Headquarters queue for credit subsidy with outstanding FHA commitments will be allowed to proceed to closing at the lower premium subject to the availability of credit subsidy in FY 2001. The increase will lower the credit subsidy rates.

The purpose of these proposals is both to resume the production of needed multifamily housing, and to put FHA's basic multifamily program on a demand basis, like the 203(b) program for single-family mortgage insurance. This is the third time in eight years that FHA has run out of credit subsidy before the end of the fiscal year. The Secretary wants to eliminate the stops and starts that have plagued our multifamily programs, and make sure that this situation does not happen again. The premium increase of 30 basis points achieves these purposes. It is in line with the Administration's proposal in the FY 2002 budget.

Credit Subsidy Rates

Under the Federal Credit Reform Act of 1990, HUD, like all other federal agencies with loan programs, is required to estimate the probable cost to the agency of its programs and must request credit subsidy as part of its budget each fiscal year to cover those costs. In calculating the credit subsidy estimates, HUD has engaged contractors who looked at the historic loan performance of FHA's major programs - prepayments, claims, the income FHA receives from application /inspection fees, mortgage insurance premiums and recoveries from note and property sales. This analysis becomes the basis of the credit subsidy rate in each year's Federal budget. Loan performance has greatly improved in recent years. In FY 2001 FHA's major new construction program, Section 221(d)(4) required a subsidy of 3.35 cents for each dollar of loan insured. That is down from 7.12 cents last year and 11.96 in 1996.

The industry has questioned the underlying data used in the credit subsidy calculations and the underlying assumptions. At my confirmation hearing I promised to conduct a complete reanalysis of the methodology, and make a new judgment as to the appropriate credit subsidy rate and the appropriate MIP. We are now in the middle of that analysis. Meanwhile, we have provided the industry with the credit subsidy computer model and assumptions, and it is my understanding that they are conducting a parallel analysis. My staff met with industry representatives three weeks ago and agreed to further analyze some issues that were particularly important, in their view. The industry also believes that the 1986 changes in tax law, and more recent changes in FHA underwriting standards, are not given adequate weight in the credit subsidy analysis. In our work, we are evaluating their concerns and how they might be accounted for . Once the staff analysis is complete, I will make recommendations to the Secretary and to the Office of Management and Budget as to whether the credit subsidy rates and the MIP should be changed. As I mentioned, the Secretary now has statutory authority to change the MIP; under that authority, the Department issued an interim rule on July 2, which allows the Secretary to raise or lower the MIP within the range of his statutory authority.

FHA Statutory Per Unit Limits

The National Housing Act includes per unit limits by bedroom size for the various new construction/substantial rehabilitation programs with a maximum adjustment of 140%(with exceptions for Alaska, Guam and Hawaii) where the Secretary determines it is necessary on a project-by-project basis. The base limits in the National Housing Act have not been raised since 1992. The effect has been to limit the use of the FHA multifamily mortgage insurance programs in high cost areas of the country like Boston, New York, Philadelphia, Chicago and San Francisco because the FHA maximum insurable mortgage would be controlled by the mortgage limits rather than economic considerations such as debt service or replacement cost. This would result in much greater equity requirements for developers in those areas, and a disincentive to use the programs.

In analyzing construction cost data for 74 selected cities across the country, we found that construction costs had increased an average of 25% since 1992. For that reason the Secretary and the President have proposed an increase of 25% in the base limits. Individual projects will still be able to take advantage of the maximum 140% adjustment where feasible and appropriate. We believe this will encourage the construction of much needed multifamily rental housing in the major metropolitan areas across the country.

This concludes my statement, Mr. Chairman. Thank you again for the opportunity to appear before you.