The release Sunday of housing finance reform legislation by the two most senior members of the Senate Banking Committee was potentially a landmark step in efforts to chart a path beyond Fannie Mae and Freddie Mac.
The final fate of the legislation authored by Banking Committee Chairman Tim Johnson, D-S.D., and ranking member Mike Crapo, R-Idaho, is still very unclear. The House Republican leadership still appears to favor a very different approach, and progress for any bill dealing with the government-sponsored enterprises could be hampered by the distraction of the midterm elections.
But release of the Johnson-Crapo bill which is closely based on earlier legislation by Sens. Bob Corker, R-Tenn., and Mark Warner, D-Va. now means GSE reform may finally come up for a vote.
Similar to the earlier legislation, Johnson and Crapo’s 442-page bill would create a new regulator, the Federal Mortgage Insurance Corp., to provide an explicit government backstop for certain mortgage-backed securities. Private firms would be permitted to buy mortgages and sell the securities after putting up 10% in first-loss capital. Meanwhile, a new small lender mutual cooperative would aim to provide members with access to the secondary mortgage market through a cash window and securitization services.
Lawmakers on the committee are expected to review the legislation closely in the coming weeks, with panel leaders pushing for a markup before the spring recess beginning April 11.
Here is a look at how Johnson and Crapo address key issues in the legislation:
Role of Federal Mortgage Insurer
Under the Johnson-Crapo plan, the FMIC would act as an independent regulator overseeing the mortgage finance market while also being tasked with insuring approved mortgage-backed securities. The agency would supervise private-sector participants in the mortgage sphere and provide additional means of support to the mortgage market during economic downturns.
FMIC would also be responsible for establishing securitization standards and underwriting requirements in loans that make up securities backed by the government. The agency would be directed to model its underwriting standards after those established by the Consumer Financial Protection Bureau in the bureau’s “qualified-mortgage” rule. FMIC’s underwriting standards would also include a down payment requirement of 3.5% for first-time homebuyers and 5% for other buyers.
The agency’s backing for MBS would come in the form of the Mortgage Insurance Fund. It would protect investors’ losses beyond a 10% first-loss position held by private participants in the market. The MIF would initially be capitalized through assessments charged to Fannie and Freddie, but later that cost would be shifted to private market participants once Fannie and Freddie are wound down. MIF’s reserves would start out at 1.25% of the unpaid principal balance on covered securities, but that reserve ratio would later rise to 2.5%.
In many ways, FMIC’s structure is modeled after the Federal Deposit Insurance Corp. The new agency would be led by a five-member board of directors nominated by the president and confirmed by the Senate.
Unwinding Fannie and Freddie
The Johnson-Crapo bill provides crucial detail on how regulators would wind down Fannie and Freddie and begin the transition to a new system.
The plan calls for the process to take place over five years, at the end of which FMIC would be required to have met several benchmarks, including getting a new securitization platform up and running and approving a “sufficient number” of guarantors, aggregators, private mortgage insurers and multifamily guarantors.
The legislation leaves the door open for additional time to meet the criteria under certain circumstances, though extensions would be subject to “heightened approval standards,” as described in a bill summary provided by the committee.
Six months after enactment, the legislation would transfer power to the FMIC from the Federal Housing Finance Agency, which currently oversees Fannie and Freddie. At that point, the FHFA would become an independent office within the new regulator.
Private First-Loss Requirement
Johnson and Crapo maintained the same 10% capital buffer for private firms included in the Corker-Warner plan, but the new legislation would leave regulators with wide latitude for determining how the capital buffer is met.
More specifically, the bill leaves open the possibility for the 10% to be satisfied via a bond guarantor structure or through other certain types of capital markets executions, which would have to be approved by the FMIC.
This flexibility could prove crucial for helping to attract enough private capital into the market to the support the new system.
Common Securitization Platform
Also building on Corker-Warner, the new bill proposed a securitization platform for the secondary mortgage market that would establish a universal standard for the type of security guaranteed by the FMIC, with an emphasis on assets made up of a 30-year, fixed-rate mortgages.
The new securitization platform would operate as a cooperative owned by its members and regulated by the FMIC. Initially, the FMIC will create a five-member board made up of platform members. After initial terms of board members have expired, subsequent boards will be comprised of nine elected directors representing members of the platform. The bill specifies that at least one director must represent the interest of small mortgage lenders, and another will be an independent director.
While Johnson and Crapo removed the concrete affordable housing goals now required for the GSEs, the bill would put in place for lenders market-based incentives to promote business in underserved areas. For example, the legislation would create an incentive-based fee structure to support several funds, including the Housing Trust Fund, and would also authorize the FMIC to collect these fees. The funds, which are not paid for through taxpayer dollars, will focus on ensuring that there is ample quality housing available.
The bill also amends the Housing Trust Fund to require a set-aside for federally-recognized tribes, which will be administrated through a grant process by the Department of Housing and Urban Development. It also establishes a new requirement that the Capital Magnet Fund consider tribal housing needs.
Additionally, a newly created Market Access Fund will also support the creation of responsible lending products to serve the needs of underserved communities.
Johnson and Crapo’s would also preserve the ability of consumers to lock in interest rates before closing a home purchase and ensure that a 30-year fixed rate mortgage is available.
Small Bank Mutual
The Banking Committee leaders also proposed a new small lender mutual cooperative to provide members with access to the secondary mortgage market via a cash window and through pooling and securitization services.
Very large banks with up to $500 billion in assets can be members, and non-bank mortgage lenders must meet a $2.5 million net worth test, which is currently required by the GSEs. The co-op's board of directors can also allow “other small lenders” to be members.
The bill also opens the door for the Federal Home Loan Banks to be members of the cooperative, and allows for the creation of other small lender mutual cooperatives. Key areas of Fannie and Freddie’s current securitization processes and technology will be transferred to the cooperative to ensure small lender access to the secondary market.
Brian Collins contributed to this article, which originally appeared in American Banker.