WASHINGTON — Reforms to the government's oversight of Fannie Mae and Freddie Mac announced in the final days of the Trump administration are under fire as lenders, housing advocates and others charge that one of the changes penalizes minority borrowers.
Critics are zeroing in on a provision that caps the amount of "high-risk" loans that Fannie and Freddie can buy. The new policy defines such mortgages based on loan-to value and debt-to-income ratios, as well as a borrower's credit score.
Many in the lending industry and elsewhere argue the changes will disproportionately hurt people of color who will find it harder to access loans.
“Objectively, looking at those limitations on the LTV, the DTI and FICO scores, those seem to run counter to the missions of Fannie and Freddie,” said Ann Kossachev, the director of regulatory affairs at the National Association of Federally-Insured Credit Unions. “If the mission is to ensure access for all Americans … then this defeats the purpose.”
Some have also criticized restrictions in the new agreements that limit the size of transactions completed through the GSEs' cash window. Smaller lenders can use the window to gain liquidity through higher-volume sales.
In January, days before President Biden took office, former Treasury Secretary Steven Mnuchin and Federal Housing Finance Agency Director Mark Calabria
The changes allow Fannie and Freddie to retain all of their earnings until they meet the requirements of the FHFA's new capital framework, which is seen as necessary for the companies ultimately to reenter the private sector.
But the agreements also contained several restrictions on the GSEs' business practices, including limiting their purchases of high-risk single-family mortgages to 6% of their total book and high-risk refinances to 3%. Under the new PSPA agreements, a loan is considered high-risk if two of the following apply: it is more than 90% of a home’s value, the borrower's DTI is more than 45% or if the borrower has a FICO below 680.
Housing finance experts say that, based on the median LTVs, DTIs and credit scores of Black and Hispanic borrowers, the policy will make it harder for people of color to access credit. For example, the median LTVs for Black and Hispanic borrowers were each 96.5% — higher than the cutoff — in 2019 data compiled by the Consumer Financial Protection Bureau.
“The limits imposed in the PSPAs make little sense," according to a February
That limit is on top of new capital requirements that require Fannie and Freddie to hold wider cushions for riskier loans, which the Urban Institute said made the new limits “redundant.”
“The FHFA has already implicitly priced for the mortgage products that are restricted in the PSPA through its final risk-based capital rule,” the report said.
Many industry stakeholders have expressed confusion about the provisions that they warn could have unintended consequences.
“Everything we've learned about mortgage underwriting is that it's a dynamic equation that involves compensating factors of risk, and anytime you try to put that in a simple box, you have to look at, at best, unintended consequences, and at worst, ulterior motives,” said David Dworkin, president and CEO of the National Housing Conference.
Some argue that the limits on high-risk loans in the new agreements as well as the cash-window restrictions, could force the Biden administration to revise the preferred stock agreements.
“We believe Team Biden is not going to want to see Fannie and Freddie back away from supporting minority homeownership,” said Jaret Seiberg, an analyst with Cowen Washington Research Group, in a note about the Urban Institute report. “As such, that suggests Biden's Treasury Department will reopen the preferred stock purchase agreement.”
The result of the new agreements negotiated by Mnuchin and Calabria could be a wider homeownership gap, said Laurence Platt, a partner at Mayer Brown.
“I think the affluent will continue to have privilege in getting loans, and the less than affluent will continue to lack privilege in getting loans,” he said. “Since there is a greater proportion of prospective borrowers of color who are less affluent, I think it will impact their access to credit.”
Meanwhile, under the agreements, starting next year Fannie and Freddie will be unable to acquire more than a combined $3 billion from a single seller through the cash window, which lowers the pricing for lenders to sell loans directly to the GSEs. Industry experts say that could shut out certain lenders from doing business with the GSEs.
Instead of imposing limitations on the high-risk loans Fannie and Freddie can purchase, the FHFA could have relied on its own capital framework and supervisory capabilities to ensure the safety and soundness of the companies, said Pete Mills, senior vice president at the Mortgage Bankers Association.
“All of these caps, both on product and on cash window, are all issues that are and probably should continue to be addressed through supervisory means by FHFA, and then also, by the way the capital rule works,” he said.
The additional limits are “counterintuitive,” agreed Ron Haynie, senior vice president of mortgage finance policy at the Independent Community Bankers of America.
“The product restrictions and the cash window restrictions and high risk restrictions — it doesn't make any sense,” he said.
In a statement, the FHFA said Calabria “appreciates the issues raised in the Urban Institute paper.”
“He looks forward to having conversations about steps that can be taken to strengthen the enterprises so they can serve the market in good times and bad,” a spokesperson said. “It is important to note that the biggest constraint on the credit box is lack of capital at the enterprises, which the PSPA helps to build.”
The FHFA spokesperson said the restrictions on high-risk loans and the use of the cash window were insisted on by the Treasury Department, which was at the time headed by Mnuchin.
That could open the door to revisiting the PSPAs under current Treasury Secretary Janet Yellen, if she supports a different approach.
“There are opportunities to further amend the PSPAs. They just have to come to an agreement on that, so some of these changes could be undone certainly in the future,” said Kossachev. “This isn't set in stone. The PSPAs have been amended multiple times now, and so that could happen again.”
In particular, Mills said he could see the Biden administration revisiting the cap on the use of the cash window, which he called "a solution in search of a problem."
The Urban Institute expressed concern that the cap could undermine the single security that Fannie and Freddie started issuing in 2019 in an effort to increase liquidity and encourage market participation.
“If you eliminate larger players being able to sell into the cash window, you are going to reduce the diversity in those pools, and it will have an impact on pricing,” said Haynie.
Kossachev added that the restrictions on the cash window could limit the ability of smaller lenders “who are looking to serve communities most in need.”
“Fair pricing and equal access — those are our bedrock principles, and we just want to make sure that the ongoing administrative reforms that are taking place at the FHFA and with Treasury keep those principles front and center,” she said.
Platt said the FHFA and Treasury may have fallen short in balancing a need for the GSEs to build capital with a need for the GSEs to serve their public mission of making homeownership affordable and accessible.
“On one hand, you have public policy actively trying to find ways to increase access to credit for this emerging population, and yet, at the same time, it's got to get balanced with the risk of loss,” he said. “It does seem to fly in the face of this greater public policy goal of providing responsible credit to persons who haven't been able to get it in the past.”
