Shouldering Fannie, Freddie bailout

Regulator wants banks to buy back bad loans

September 15, 2010 

WASHINGTON — The nation's largest banks have an obligation to pay some of the cost for bailing out mortgage buyers Fannie Mae and Freddie Mac because they sold them bad mortgages, a government regulator said Wednesday.

Edward DeMarco, the acting director for the Federal Housing Finance Agency, said the banks this summer have refused to take back $11 billion in bad loans sold to the two government-controlled companies, in written testimony submitted for a House subcommittee hearing Wednesday. A third of those requests have been outstanding for at least three months.

DeMarco said the banks have a legal obligation to buy back the loans and called the delays "a significant concern." He said the government may take steps to force those buybacks if "discussions do not yield reasonable outcomes soon."

In an interview with reporters after the hearing, DeMarco declined to give further details on what the government might do next. He said only that "we're looking for contractual obligations to be fulfilled."

Fannie and Freddie buy mortgages and package them into securities with a guarantee against default.

The two mortgage giants nearly collapsed two years ago when the housing market went bust. The government stepped in to rescue them, and it has cost taxpayers about $148 billion. The rescue is on track to be the most expensive piece of stabilizing of the financial system.

Fannie and Freddie have a legal right to return bad loans, especially if they later discover fraudulent statements on applications. Any money they recover offsets losses.

The amount in question is a fraction of the total government rescue, said Ed Mills, financial policy analyst at FBR Capital Markets.

Still, lenders say Fannie and Freddie are trying to return too many loans. And in some cases, they are pushing back loans in which it's not clear fraud was committed, the lenders say.

Mortgage industry consultant Brian Chappelle said the requests often apply to loans that met the mortgage buyers' guidelines at the time.

"The industry believes that the pendulum has swung far beyond what is reasonable," he said. As a result, he said, lenders are being extremely cautious about making new loans.

Wall Street has worried that the costs of bailing out Fannie and Freddie could get pushed back on big banks. Fitch Ratings said in a report last month that the four largest U.S. banks could book losses of up to $42 billion if Fannie Mae and Freddie Mac force them to take back troubled mortgages they made. It also estimated that JPMorgan Chase & Co., Citigroup Inc., Bank of America Corp. and Wells Fargo & Co. could record $17 billion in losses if they repurchase a quarter of the mortgage giants' seriously delinquent loans.

The leading Democrat on the panel, a House Financial Services subcommittee, indicated the banks bear some responsibility.

"We must begin to think about approaches for recouping taxpayers' money in the long run," said Rep. Paul Kanjorski. "We found a way to pay for the savings and loan crisis, and we can find a way to recover the costs associated with this crisis."

Future of housing finance

A bigger headache for lawmakers is figuring out what to do with Fannie and Freddie in the future.

The Obama administration is working on a plan to restructure the mortgage market and make sure home loans are affordable. Officials don't plan to release details until next year. But Michael Barr, an assistant Treasury secretary, told the panel that Fannie and Freddie "will not exist in the same form as they did in the past."

Sorting out the future of housing finance has been a divisive issue on Capitol Hill. And it could grow even more contentious if Republicans take control of one or both houses of Congress.

Republicans have seized on the administration's management of Fannie and Freddie to illustrate Democrats' push for broadening the reach of the federal government. They say loans acquired by Fannie and Freddie since the September 2008 takeover have put taxpayers at risk.

"It's time for the government to get out of that business," said Rep. Spencer Bachus, the top Republican on the House Financial Services Committee.

But Democrats and regulators say the loans acquired by Fannie and Freddie before their takeover represent the overwhelming majority of the companies' losses. New loans acquired since then have been performing well, they note.

"There is no urgency," to reform the two companies, said Rep. Barney Frank, the committee's chairman. "The pattern of abuse they had engaged in has been changed. ... Fannie and Freddie are behaving differently and are causing far less problems."

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