Fannie Mae and Citibank officials were developing a principal reduction pilot program that was supposed to go live in July 2010 when it was “mysteriously” stopped and later terminated, according to congressional investigators.

A Fannie employee told the investigators the pilot was terminated by officials who were “philosophically opposed to writing down principal balances.”

Ranking Democrats on the House Oversight Committee are demanding to know why acting Federal Housing Finance Agency (FHFA) director Edward DeMarco never mentioned the pilot program that included a shared equity feature where the GSE could share in future increases of property values.

Reps. Elijah Cummings, D-Md., and John Tierney, D-Mass., have been pressing DeMarco for over six months to permit the GSEs to offer their underwater borrowers a principal reduction option. But the GSE regulator continues to raise objections to that approach, claiming it will encourage defaults by borrowers who are current on their payments, thus increasing losses to taxpayers.

Internal Fannie documents obtained by Cummings and Tierney show Fannie officials concluded the GSE “might reduce its losses in many cases by writing down principal.”

Internal memos state: the “business case for shared equity is strong.”

The memos also note that “underwater borrowers will perform better on a modification that re-establishes equity” and default rates will be “far below” other modifications.

At deadline FHFA had no comment on the matter.

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