The FHA has backed nearly a quarter of all loans made this year and its loans have been the primary source of financing for borrowers who lack good credit or cannot afford to come up with large down payments.  However, its defaults have been climbing, raising fears that taxpayers may be forced to rescue the mortgage provider. 

With the collapse of the mortgage market in 2007, the FHA became one of the last sources of low down-payment mortgages allowing borrowers to put as little as 3.5% down on a home.  But, lawmakers are seeking to increase that amount to 5% with the introduction of a bill last week requiring larger down payments on FHA-backed loans. 

The agency is opposing this measure with its claim that it has been hugely responsible for helping to breathe life back into the housing market this year. 

At a Congressional hearing on Thursday, mortgage industry veteran Edward Pinto said in a prepared testimony, "It appears that the FHA is destined for a taxpayer bailout in the next 24 to 36 months."  This is due to an estimate that the agency faces losses of $70 billion on loans it has made which will leave short its current reserves by around $40 billion.  

The concern is also based on the fact that the default rate on FHA-back loans reached 8.1% in August and housing economist Thomas Lawler estimates that the agency is carrying approximately $66 billion in loans that are currently in default. 

However, FHA Commissioner, David H. Stevens disagreed with this analysis saying that, absent a catastrophic decline in home prices, "we will not need a bailout." 

Although the fund is at a historic low, Stevens said that there is an additional fund that the agency can turn to.  In total, the two funds were equal to $30.4 billion and he claimed that this would be adequate to cover future losses.  He also stressed that the reserves will rebound over the next two or three years as a result of the recovery in housing prices. 

Pinto disputed this and called the agency's predictions "overly optimistic" warning the panel that the FHA's increased rate of defaults and eroding reserves are a portend of disastrous consequences.  This based, primarily, on a comparison of Fannie Mae's loans of 2006, which he said had similar problems. 

FHA Commissioner, Stevens furthered his argument saying that the comparison to the Fannie Mae books of 2006 is flawed since those loans did not require borrowers to verify their income which is something that the FHA is now requiring of all borrowers. 

The FHA has played a key role this year by making credit more widely available to home buyers.  If this agency is forced to employ stricter guidelines by raising the down payment amount, it could do a lot of damage to the housing market recovery.

The question is - will the FHA be able to continue at its current pace without running the risk of becoming stretched too thin? 

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