Federal Housing Administration (FHA) insurance has doubled over the past two years and is projected to redouble to $1.5 trillion over the next five. Despite clear signs of strain in the FHA’s Mutual Mortgage Insurance Fund, a recent actuarial review indicates that the FHA will not need any form of government support. We identify four risk factors that make such a funding request more likely; the review underestimates how many FHA borrowers are underwater and in economic distress; it uses measures of house values that lower loss estimates; it does not incorporate early-warning signals of future losses that are available from mortgage delinquency; and it ignores potential risks associated with recent down-payment assistant programs despite higher losses on previous programs of this type. We propose measures that could be taken to improve the predictive accuracy of FHA risk assessment. Residential real estate, sitting as it does at the epicenter of the recent financial crisis, has recently received many sources of public support. Examples include the $1.25 trillion dollar agency mortgage backed security (MBS) purchases by the Federal Reserve and the Federal First-Time Homebuyer tax credit program. The Federal Housing Agency (FHA) provides an additional important source of support in the form of federally-backed insurance on low down-payment mortgages.

This support has doubled over the past two years and is projected to redouble to $1.5 trillion over the next five years. This rapid ramp up in issuance has resulted in significant losses to the FHA’s Mutual Mortgage Insurance (MMI) Fund, which has fallen from $15.8 billion to $2.73 billion over the past two years (Integrated Financial Engineering (IFE) [2009]).3 Recent projections of the future evolution of the MMI Fund are contained in the actuarial review that FHA is mandated to conduct on an annual basis (IFE [2009]) and the contemporaneous report to congress (HUD [2009]). The actuarial review asserts that, in the most likely case, FHA will not need any form of government support (HUD [2009], figure 1). Hence, any request for funding in the near term would raise questions as to whether early warning signals were missed in the review. We identify four such signals.