“I contend that past and current leadership of HUD, as evidenced by their management of FHA’s now $1.1 trillion mortgage insurance program, is not more capable or noble than their private-sector counterparts. They just have the financial backing of the United States Treasury, which prevents them from failing as a result of their mistakes and/or economic crises. And they have a government-granted, mortgage insurance monopoly that allows them to be “self-sustaining” over the long run, as they can recapitalize themselves by overcharging, relative to their risk, future American borrowers for mortgage insurance.” Michael Perry

“This idea that markets tend to fall into self-perpetuating crises and only wise government can extract the country out of this crisis implicitly assumes that you have two kinds of people. Normal people who are operating in the markets and better people who work for the state. They deny human nature.” “The Man Who Saved Poland”, Leszek Balcerowicz, former Polish Central Bank Governor, WSJ, December 15, 2012

“The great achievements of civilization have not come from government bureaus…Do they (American Presidents) choose their appointees on the basis of the virtue of the people appointed or on the basis of their political clout? Is it really true that political self-interest is nobler somehow than economic self-interest?” Presidential Medal of Freedom Recipient and Nobel Economist, Milton Friedman speaking with Phil Donahue, 1979

FHA’s Single Family MMI Fund:

It is correct that FHA didn’t reduce its lending standards, like many private mortgage lenders, pre-crisis. However, FHA’s home lending standards have always been some of the most aggressive and risky in the industry. FHA’s historical credit losses and the current and historical (1990-1991) insolvency of FHA’s Mutual Mortgage Insurance (MMI) Fund attest to this view. In fact, I am not sure that FHA’s single family mortgage insurance program “works” (as a self-sustaining fund), without both home price appreciation and a relatively normal job market.

The November 16, 2012, “Annual Report to Congress, FY2012 Financial Status, FHA MMI Fund” (“FY2012 Financial Status Report”), page 44, Exhibit IV-10 (forward mortgages only), now reveals, in hindsight, how mistaken FHA has been over the years in their attempts to control and price the credit risk of their core, single-family mortgage insurance program. It’s a bar-chart graph, so I had to “eyeball”-estimate the figures.

(Note: “Vintage” is a key term used in assessing credit and insurance risk. It means a particular year, just like with wines. The actuarial estimate for a vintage’s credit losses is for the entire life of the vintage. For FHA’s MMI Fund, the life of every vintage always means 30 years, because FHA offers 30-year, fully-amortizing mortgages and some will stay outstanding for that entire period. The older, often referred to as “seasoned”, the vintage, the more actual historical delinquency and credit loss data available. As a result, actuarial estimates for seasoned vintages will generally be much more reliable than for brand new or recent vintages. The vintage credit loss estimates discussed below, are the most current, from the FY2012 actuarial report, for forward mortgage loans only. HECMs/reverse mortgages are a minor part of the MMI Fund. I could not find historical “by vintage” HECM data.)

From FY1992 to FY1999, vintage credit loss estimates range from 2.50% to just under 4% (around 3% average for each vintage). And it looks like the MMI Fund made a little over 4% in Mortgage Insurance Premium (MIP) revenue for each of these vintages. In my opinion, that’s just about right. The MMI Fund needs to make a little “profit” each vintage to stay above its 2% minimum capital requirement. If the Fund loses a lot (credit losses well exceed MIP revenues), in one or multiple vintages, the solvency of FHA’s MMI Fund is in jeopardy. If the Fund makes too much (MIP revenues well exceed credit losses), FHA is overcharging low-to-moderate income borrowers and first-time homebuyers for mortgage insurance, harming these Americans, and the U.S. housing market and economy.

For vintages FY2000 to FY2003, credit loss estimates moved up to about 4% to 5% and the MMI Fund’s MIP revenue declined to about 3.5%. That’s not sustainable; over time it would cause the MMI Fund to become insolvent. In the FY2004 vintage, credit loss estimates rose to about 7%. In the FY2005 vintage, they exploded to about 11.25%. In the FY2006 vintage, they exploded again to 15.25%. In the FY2007 vintage, they peaked at a whopping 18.25%! And in the FY2008 vintage, they declined to 14%. During the FY2004 to FY2008 time period, the FHA MMI Fund collected about 4% per vintage in MIP revenue. This is how FHA’s MMI Fund became insolvent. In the FY2009 vintage, credit loss estimates were down to about 7.25%, but MIP revenues were just 4.5%; meaning FHA was continuing to worsen its insolvent status (at the same time it was imprudently allowing its share of the U.S. mortgage market to rise to a record level). The FY2010 vintage has a credit loss estimate of about 4% and MIP revenue of about 5% (about the right mix, as I stated above).

I believe it would have been (and still would be) right and politically courageous for HUD, for the first time in FHA’s 78-year history, to seek funds from the U.S. Treasury to recapitalize FHA’s MMI Fund, and then repay them over a relatively long period of time (probably 7 to 10 years or so). Instead, HUD’s current leadership is trying to recapitalize FHA’s MMI Fund over a very short period of time. In my view, primarily “off-the-backs” of low-to-moderate income American borrowers, including first-time home buyers. FHA itself touts the four MIP increases it made through FY2012, as having bolstered the MMI Fund by $20 billion in just a three year period from FY2010-FY2012.

It doesn’t take either skill or political courage for a government monopoly like FHA to dramatically raise MIPs and recapitalize itself by overcharging Americans for mortgage insurance. Especially at this time and in this marketplace, when these borrowers have few, if any, other options. The current HUD administration has raised the upfront Mortgage Insurance Premium (MIP) on forward mortgages to 1.75%, a 75% increase from pre-crisis levels. And they have raised the annual MIPs on forward mortgages (including a fifth increase of 0.10% effective April 1, 2013) to a range of 1.30% to 1.55%, for a 30-year loan. Compared to pre-crisis levels, these annual MIPs are now 160% to 210% higher. Also, pre-crisis, FHA roughly mirrored the private mortgage industry and appropriately cancelled borrowers’ annual MIPs when the loan reached a 78% LTV and had at least five years of amortization. The present HUD administration eliminated this borrower-friendly policy. Now, for most FHA loans, the annual MIPs must be paid for the life of the loan, or the FHA borrower must incur significant costs to refinance (if they can). I suspect that FHA made this change because they were advised that this would create a “long-tail” of annual MIP revenue cash flows in their actuarial calculations. And this “long tail” would improve (by billions; $2.6 billion in FY2013 alone) the actuarial-determined present economic value (solvency) of the MMI Fund. Think about it this way, if this policy change helps the MMI Fund by billions, it hurts new FHA borrowers by exactly the same amount.

FHA’s actuarial estimates prove my point. The FY2011 vintage’s credit loss estimate is just 2.25% and yet FHA is collecting MIP revenues of over 6%. And it gets even worse for FHA borrowers in FY2012 and FY2013. The FY2012 vintage’s credit loss estimate is only 1.75%, yet FHA is collecting MIP revenues of 7%; four times the expected credit losses! Let me state it this way. In the “Actuarial Review of the FHA MMI Fund, Forward Loans for Fiscal Year 2012” on Page ii, Exhibit ES-1, of the Executive Summary, the actuary estimates that the FY2012 “Volume of New Endorsements” (mortgages insured by FHA in 2012) of $211.7 billion, will generate $11.9 billion in positive economic value (“profit”) to the MMI Fund. That’s a 5.6% profit (over and above vintage credit losses) based on insured volume. Let’s put that in terms of individual FHA borrowers. According to FHA, nearly 1.2 million forward mortgage loans were insured in FY2012. That means that the Fund made a profit of almost $10,000 per FY2012 FHA borrower! And, the independent actuary also discloses in Exhibit ES-1, that they expect new loans insured by FHA in FY2013 to generate a similar $11 billion profit, on about the same insurance volume and number of borrowers as FY2012. That’s excessive in my view. These are profit margins that only a government-granted monopoly could charge and sustain, and that’s why I say HUD is recapitalizing FHA’s MMI Fund “off-the-backs” of its new borrowers.

I also learned recently that the current FHA administration is threatening or suing its lenders utilizing the False Claims Act, a new and disturbing tactic that I believe is being used for two reasons: 1) it fits the present administrations’ incorrect and political view that banks and private mortgage lenders are responsible for this crisis and so “let’s make the bad guys pay”, and 2) it’s another way for them to rapidly recapitalize the MMI Fund without seeking funds from the U.S. Treasury (and with their government-granted monopoly, they can get away with it, just like they can in overcharging new FHA borrowers).

FHA has a right and even a duty to seek reimbursement from its private lenders for losses the MMI Fund incurs, that were a result of contractual violations by the lender; typically fraud or material misrepresentations by the borrower. However, it is rare for the FHA lender to know or be involved in borrower fraud or misrepresentation. Historically, FHA and the lender would negotiate loan repurchase and/or indemnification demands in a commercially reasonable manner. And historically, FHA negotiated in good-faith even though they had the “upper hand”; lenders couldn’t negotiate aggressively because they had to maintain their ability to originate and service FHA loans. It is inappropriate for the current FHA administration to betray this historical practice and use the False Claims Act to seek treble damages and threaten criminal penalties, in order to coerce large settlements from lenders. The Supreme Court has rightly limited the False Claims Act’s application. For HUD to be successful in this type of claim, as I understand it, they must prove to a Court of Law that the lender had “knowledge of” and “intent to” defraud (which as I noted above, would be rare). FHA doesn’t seem to care about their historical practices or even about the facts and the law; right now, they only seem to care about using any means possible to recapitalize their insolvent MMI Fund. They know that lenders can’t really challenge them in Court, because of the cost, delay, and uncertainty involved. I would guess it’s even possible that FHA might suspend or terminate an FHA-approved lender, if they exercised their full legal rights and refused to settle promptly? As a result, FHA is using their government-granted monopoly and power and this Act to force lenders into large, quick settlements. Unfortunately, this short-run tactic will have a significant long-term negative effect on the availability and pricing of FHA credit to individual Americans. (I also recently learned that the SBA has adopted a similar tactic

with its lenders. Again, this will have a significant long-term negative effect on the availability and pricing of SBA credit, a program that is vital to the still struggling small business sector.)

I wonder what other questionable tactics HUD is using to bolster FHA’s MMI Fund in the short run. Delaying or preventing legitimate claims from being filed? Denying legitimate claims? As I stated above, HUD should take the politically courageous step of seeking temporary funds from the U.S. Treasury to recapitalize the MMI Fund and pay them back over a longer period of time. This would act to reduce the excessive and unfair economic burden that current FHA borrowers and lenders are being forced by HUD to bear.

The Independent Actuary and FHA’s MMI Fund

Hindsight is a wonderful thing. I’m kidding! It can be, but it can also be incredibly unfair when looking back to judge decisions that were made pre-crisis. Virtually no one predicted this crisis coming; not the economic experts at the Federal Reserve, not me, and certainly not HUD, FHA or their independent actuaries. It was an event that had never occurred in my or my parents’ lifetime (and I was in my mid-40’s at the time). It was an event of such magnitude, that statistically speaking it was considered to be “highly improbable”.

“But what’s good for the goose (the private sector) is good for the gander (the government and HUD/FHA).”

With respect to the single family MMI Fund, FHA has a dual and appropriately conflicting mission: 1) It facilitates fair and appropriate home mortgage credit being provided to deserving low-to moderate income Americans and first-time homebuyers, and 2) It must do so in a manner that keeps the MMI Fund “self-sustaining”, not a cost to the U.S. Treasury/taxpayers. It is supposed to accomplish this second, and equally important mission, as noted above, by properly controlling and pricing the credit risk of its mortgage insurance program. FHA, HUD, and its overseers in Congress, rely heavily on the “Annual Financial Status Report” (as of its fiscal year-end, September 30th) to help it meet this second mission. Key decisions about future credit policy and pricing get made each year, after the results of this report are known.

There are two key components of the MMI Fund’s Financial Status: 1) the current net assets of the fund. This is a simple and straightforward traditional audit of assets and liabilities, and 2) the independent actuaries annual reports that estimates the present economic value of the future cash flows of the $1.1 trillion or so of FHA mortgage Insurance in Force, at September 30th of each year. (There are actually two actuarial reports that must be combined. The large one is for forward mortgages. The much smaller one is for HECMs/reverse mortgages.) So, to summarize, the financial status of the fund is determined by adding the actual net assets on hand (a “pretty darn solid” number) to the present economic value estimate of future cash flows of the $1.1 trillion of mortgage insurance in force (a “wild-ass-guess” number). Stated more simply, as of September 30th of each year, a “pretty darn solid” number is added to a “wild-ass-guess” number and the product determines if the MMI Fund is solvent or not. And that product divided by the Unamortized Mortgage Insurance in Force (at Sept. 30th of each year), represents the MMI Fund’s economic capital ratio (by law, it is required to be at least 2%).

According to the FY2012 Financial Status Report (as of September 30, 2012), the “pretty darn solid” number was a positive $30.3 billion and the “wild-ass-guess” number was a negative -$46.6 billion, so that the MMI Fund had a negative Present Economic Net Worth of -$16.3 billion and a negative Capital Ratio of -1.44%. In other words, the FHA MMI Fund was estimated to be insolvent as of September 30, 2012.

You will see from the analysis below that the FHA MMI Fund’s independent actuaries were no better at predicting the future than the National Statistical Rating Agencies (who are being sued by the government and others for their pre-crisis work). In fact, FHA’s actuaries performance was worse than the credit rating agencies once the crisis became known. In my review back to FY2006 (the last year before the crisis began) and through FY2012, the actuaries assumed that every single future vintage of mortgage insurance (projecting out 6 to 7 years in the future) would produce a positive economic result for the fund. Unbelievably, even when the actuaries had calculated that the current mortgage insurance year (just completed) had produced an economic loss to the fund, they always assumed that the next year’s vintage would immediately turnaround and produce a positive economic value and that each successive future vintage also would produce positive economic results for the fund. Even after the crisis became well known!

In the FY2006 Financial Status Report (before the crisis started), the actuaries estimated the present economic value of the FHA MMI fund, as of September 30, 2006, to be $22 billion and the capital ratio to be a record high of 6.82%. And they projected that each and every future vintage for the next seven years would contribute positively to the fund; and add a total of $5 billion in future economic value to the fund by FY2013. As a result, the FY2006 actuaries predicted that the MMI Fund would have a positive present economic value of $33.8 billion and capital ratio of 6.82% (coincidentally), as of FY2012. We know now, with

the benefit of hindsight, that the actual FY2012 Financial Status Report estimates a negative present economic value of -$16.3 billion and a negative capital ratio of -1.44%. The FY2006 actuaries were “only” too high on their FY2012 estimate by $50 billion in economic value and 8.26% on the capital ratio!

Now, let’s take a look at the FY2008 Financial Status Report, as of September 30, 2008 (well into the housing/mortgage crisis and right at the peak of the financial crisis. IndyMac Bank had been seized by the FDIC on July 11, 2008): As a result of the crisis, the actuaries estimated that the present economic value of FHA’s MMI Fund had declined substantially during the year to $12.9 billion and the capital ratio had fallen by more than half to 3%. Unbelievably, while the actuary calculated that the FY2008 new book of mortgage insurance had cost (generated a loss) the fund -$3.6 billion in negative present economic value, they projected that the FY2009 new book of mortgage insurance would immediately turn around to a $2.4 billion economic profit and that each and every vintage, through FY2015, would contribute positively to the fund. In total, the actuaries estimated that the FY2009-FY2015 books would produce positive economic value (profit) to the fund of $35.1 billion. (FHA was experiencing an influx of volume by this point, as a result of the collapse of the private MBS markets. So the actuaries calculated that more insurance volume meant more positive economic value being created for the fund). The FY2008 actuaries also predicted that the MMI Fund would have a positive present economic value of $33.8 billion and capital ratio of 2.39%, as of FY2012 (more insured volume though, lowers the capital ratio). We know now, with the benefit of hindsight, that the actual FY2012 Financial Status Report estimates a negative present economic value of -$16.3 billion and a negative capital ratio of -1.44%. The FY2008 actuary was again (coincidentally) off by a whopping $50 billion in economic value and the capital ratio was off by 3.83%.

Even in the FY2010 Financial Status Report (just two years ago and well into the crisis) the actuaries were materially wrong. As of FY2010, September 30, 2010, the present economic value estimate of the FHA MMI Fund was down to $4.7 billion and the capital ratio was just 0.50%. It had been declining every year since FY2006 as a result of the crisis. And yet the FY2010 actuary predicted that by FY2012, the MMI fund would have a substantially improved present economic value of $15.6 billion and an improved capital ratio of 1.24%. However, we know now, with the benefit of hindsight, from the FY2012 Financial Status Report, that the FY2010 actuary was off by a whopping $32 billion (in just two years) and the capital ratio was a negative -1.44%, not a positive 1.24%.

I need only have used the figures in this paragraph to prove to you how bad these actuarial figures were during the crisis, but what fun would that be? The actuaries told HUD/FHA on the first day of each fiscal year, for every year this century, that each new year’s book of (FHA mortgage) insurance business would generate an economic profit to the MMI Fund! In fact on October 1, 2006 (the first day of FY2007), the actuaries told FHA that they expected the FY2007 new book of business to produce a positive economic value to the MMI Fund of $81 million. On October 1, 2007 (the first day of FY2008), the actuaries told FHA that they expected the FY2008 new book of business to produce a positive economic value to the MMI Fund of $390 million. And on October 1, 2008 (the first day of FY2009), they told FHA that they expected the FY2009 new book of business to produce a positive economic value to the MMI Fund of a whopping $2.4 billion! And yet, with the benefit of hindsight, we know now that these three “books of business” created the worst mortgage insurance losses for the FHA MMI Fund in its history. The economic value “created” from the FY2007 to FY2009 new books of business was a negative -$40.6 billion (see FY2012 Financial Status Report, Page 37, Exhibit IV-5), not a positive $2.9 billion as the independent actuaries had predicted and told FHA at the time. (And the positive actuarial figure of $2.9 billion includes HECMs, yet the negative -$40.6 billion current estimate only includes forward mortgages. HECM economic losses during this period would cause the “actuarial miss” to be even a little larger.)

Take a look at these actuarial reports for yourself. They are filled with page after page of analysis, data, and tables. It is clear that these actuaries used respected economic forecasts, complicated statistical formulas and customized software applications to produce their estimates/best predictions of the current and future Financial Status of FHA’s MMI Fund. I think it would be reasonable to assume that a fair number of highly-educated “experts” were involved in creating these estimates/predictions and producing these reports. I would guess that hundreds of (maybe thousands of) hours were billed each year and that these reports and their estimates/predictions cost FHA hundreds of thousands of dollars (or more) every year. And yet, with the benefit of hindsight, we know now, that year after year, the best estimates/predictions in these actuarial reports were horribly wrong. They materially overstated the viability of FHA’s core mortgage insurance program and the solvency of the MMI Fund for years.

Why? Because we now understand, as a result of this unprecedented economic crisis, that sophisticated models like these are built on a very shaky foundation; a foundation filled with assumptions about the future; a future which no one, even “independent experts” really can predict. HUD and FHA’s management (and its overseers in Congress), just like the Federal Reserve (and other government economists and financial regulators), and just like IndyMac Bank and other private-sector financial participants, heavily relied on these types of models and the estimates and predictions they produced, to make many key decisions before the crisis. Without them, key decisions would have been left only to more subjective opinion and judgment

(and that’s not very reliable where large data, many variables, and an uncertain future are involved). Today, as a result of the crisis, some have learned to understand the flaws and limitations inherent in these models, and use their intuition, experience, and good, old-fashioned common sense to more critically review and question “what the models say”.

Final Thoughts on FHA’s Single Family MMI Fund

“I think FHA is putting itself out of business with the moves they’ve made in the past couple of years.” Dennis C. Smith, broker and co-owner of Stratis Financial Corp.

“Although they wouldn’t agree with that assessment, the FHA’s top officials readily admit that their priority is not increasing market share but protecting the agency’s multi-billion-dollar insurance fund reserves and cutting losses.” syndicated columnist, Ken R. Harney

(Los Angeles Times, Kenneth R. Harney, “FHA loans get more expensive”, February 10, 2013)

Early in its tenure, the current HUD administration touted the importance of FHA’s “countercyclical role” during FY2007-to-FY2009 as “saving the housing market and the Country from another depression”.

“In particular, FHA’s role has grown substantially from 3 percent of lending by dollar volume in 2006 to approximately 30 percent of all mortgages originated today. FHA exists to serve Americans homeownership needs, particularly in times of economic crisis…” April 29, 2009 HUD Secretary Donovan

“…I can assure you the Nation’s economic problems would be even worse today, where it not for FHA. Any hope for a housing recovery, and for our economy, would clearly be stalled if it wasn’t for the critical role we play.” November 12, 2009, FHA Commissioner Stevens

I don’t know about that. I would think that many Americans who bought homes with an FHA loan, during this 2007-2009 period before housing prices had bottomed, wished they hadn’t done so. These FHA-assisted home purchases really didn’t help these individuals, as much as they helped home builders, Realtors, Big Banks/FHA mortgage lenders, and other businesses tied to the housing industry. The HUD Secretary himself noted that housing prices were “weaker than expected” even in 2011. Housing prices only really began to recover in 2012 and 2013, because of sustained low rates engineered by the Federal Reserve and mostly private institutional capital buying homes for investment/speculation. In fact, FHA’s market share has declined considerably during the period in which housing prices have recovered.

Also in 2009, the current HUD/FHA administration touted the credit improvements they had made and how they would positively impact the 2009 book of business vs. prior books of business.

“The independent study shows that FHA sustained significant losses from loans made before 2009….” November 12, 2009, HUD Secretary Donovan

“Today, the average FICO score is 693 compared to 633 just two years ago.” November 12, 2009, FHA Commissioner Stevens

And the current HUD administration still tout’s FHA’s countercyclical role in “saving the Country from depression” and yet at the same time, they now say that significant portions of FHA’s lending during FY2007 to FY2009 was not prudent! In fact, they now “financially-disown” these vintages (even FY2009, which they previously touted and which happened mostly on their watch), because they are generating tens of billions in credit losses and are the reason the MMI Fund is insolvent today.

“These measures (to improve the solvency of the MMI Fund) will directly address the source of the problem….losses stemming from the legacy books of business in the 2007-09 period….” November 13, 2012, HUD Secretary Donovan

I think it is illogical and hypocritical for the present HUD administration to continue to tout FHA’s “counter-cyclical” lending role during the crisis, when they have “financially-disowned” these same lending books of business. Don’t you?

And really FHA didn’t do anything proactive, related to their home lending, during the crisis. They stood passively by, as huge mortgage volumes flowed to them after the private mortgage markets collapsed in mid-2007. And they incorrectly assumed that the MMI Fund would stay solvent (and promptly rise back above its 2% capital requirement), because the actuaries told them so.

“The study (actuarial) projects the reserve fund will rise above the mandated 2 percent level on its own in just a few years.” November 12, 2009 FHA Commissioner Stevens

Later though, as the actuaries continually and materially revised their estimates down and it became clear that the huge amount of “countercyclical” FHA lending done in FY2007-to-FY2009 (well before housing prices had bottomed) was driving the FHA MMI Fund towards insolvency, they modified their story. In their reporting and comments, they segregated the FY2007-FY2009 together as “legacy books of business”. And they highlighted all the prudent credit policy changes they have made since then (and their MIP revenue increases) and the positive economic books of business that are estimated (by those same actuaries!!!) to have taken place from FY2010-FY2012. The clear implication being, “We are great. It was past administrations who screwed up.”

Unfortunately, I think this is how our government bureaucracies work. They try to avoid objective measures of accountability. And where they can’t and they have an objective and important goal like solvency, they try to downplay it (by highlighting their conflicting goal of being a “lender-of-last-resort” in a crisis). And when that doesn’t fully work, they blame it on the private sector lenders. And when that doesn’t fully work, rather than take responsibility, they blame it on previous administrations.

Hypocritically, the present HUD administration touts its policy changes but ignores the fact that the prior administration, in 2008, pushed Congress to eliminate THE MOST IMPRUDENT home loan FHA has ever allowed (it had been trying for several years to convince Congress to do so); seller-provided, via “shell” not-for-profit organizations, down payment assistance loans. These loans have cost the MMI Fund $15.25 billion as of FY2012. As FHA itself points out, these very risky FHA loans (which should not have been made) are the difference between the current insolvency and solvency of the forward mortgage portion of the MMI Fund.

And finally, as discussed above, in a politically desperate and ultimately unsuccessful attempt to keep the MMI Fund from becoming insolvent on their watch (and now to rapidly recapitalize it), they have inappropriately decided to massively overcharge new FHA borrowers for mortgage insurance and attack FHA lenders using the False Claims Act. These actions are actually hurting the fragile housing market recovery that is underway and is so important to jobs and our economy. As I said earlier, the right and politically courageous action would have been (and still would be) for HUD to seek temporary funds from the U.S. Treasury for the first time in FHA’s 78-year history. Use these Treasury funds to prudently recapitalize the FHA MMI Fund and agree to pay them back over a relatively long period of time (again, by overcharging future borrowers for mortgage insurance, but at a much lower and more reasonable level per individual borrower).

“Therefore, my immediate priorities are for FHA, first, to preserve the solvency of the MMI Fund and ensure FHA does not require taxpayer assistance.” November 12, 2009, FHA Commissioner Stevens

“While this report (showing FHA’S MMI Fund fell below zero….to a negative 1.44 percent; insolvent as of September 30, 2012) does not mean that FHA will have to draw from the Treasury, we take its findings seriously. That is why today we are announcing a series of changes to strengthen the Fund.” November 13, 2012, HUD Secretary Donovan

This is why I contend that HUD is not more capable or noble than their private-sector counterparts, despite their protestations to the contrary.

A Few Historical Statements by FHA:

“FHA Commissioner announces a set of credit policy changes that will enhance FHA’s risk management function, including the hiring of a Chief Risk Officer for the first time in the agency’s 75-year history.” (September 18, 2009, post-crisis) M. Perry: “Think if this was a private bank that had never had a CRO in its history? Isn’t the horse already out of the barn? I guess better late than never!!!”

“FHA proposes to increase the net worth requirements of FHA-approved lenders….” (November 30, 2009) M. Perry: “Isn’t this more than a bit hypocritical given that the FHA MMI Fund itself couldn’t even meet its 2% minimum capital requirement under the law as of FY2009?”

“FHA delinquencies are 240 percent lower than subprime, even though both featured low down payments.” (October 11, 2011) M. Perry: “IndyMac was not a major subprime lender. We were a major Alt-a lender, which historically performed much better than FHA loans. It is ignorant and not appropriate to compare total portfolio delinquencies for FHA and subprime. FHA’s portfolio had grown dramatically and subprime had shrunk significantly by 2011. Rapid new loan volume causes overall

portfolio delinquencies to decline for a time and masks delinquency and credit problems by vintage. See Statement 34 posted on my blog for a greater discussion of this issue. FHA’s credit losses during the bubble vintages are very high.”

Other Key Historical Quotes from HUD Secretary and/or FHA Commissioner

Brief Facts about FHA’s Mutual Mortgage Insurance (MMI) Fund:

1. The Cranston-Gonzalez National Affordable Housing Act (NAHA) mandates that FHA’s MMI Fund maintain a (minimum) capital ratio of 2 percent of Unamortized Insurance in Force (IIF). The FHA MMI Fund has been in violation of the NAHA law since FY2009 (September 30, 2009).
2. The FHA MMI Fund had a peak capital ratio of 6.82% at FY2006. As a result of the housing bubble and bust and the economic crisis (and mistakes by FHA), it has declined every year since. It was a NEGATIVE 1.44% at September 30, 2012 (FY2012).
3. As of September 30, 2012, the FHA MMI Fund was insolvent with a present negative economic value of -$16.3 billion (-$13.5 billion negative present economic value for forward mortgages and -$2.8 billion negative present economic value for HECMs/reverse mortgages).
4. As of September 30, 2012, the FHA MMI Fund had Insurance in Force of $1.1 trillion. To reach the 2% minimum capital ratio mandated by the NAHA law, the MMI Fund would have needed $38.9 billion of additional capital from the U.S. Treasury/taxpayers.
5. With the benefit of hindsight (using current actuarial projections by vintage/year from the FY2012 Financial Status Report), it appears that the FHA MMI Fund has been insolvent since at least September 30, 2009 (FY2009).
6. Had the FHA MMI Fund been shut down at the end of FY2009 (if it had been a private sector mortgage insurer, it likely would have been prohibited from insuring mortgages when it violated its legally mandated minimum capital requirement of 2% at September 30, 2009, and it might have been declared insolvent on a “mark- to-market” basis and forced into bankruptcy by its creditors), it would have cost taxpayers at least $60.1 billion (the negative economic value of the 1992-2009 endorsement vintages on forward mortgages, see FY2012 Financial Status Report, Page 37, Exhibit IV-5).
7. Every new book of business ($1.32 trillion of FHA mortgage insurance) from FY2000 to FY2009 was an economic loser for the MMI Fund, because of the crisis and FHA’s own mistakes. From FY1992-FY2006, FHA insured $1.2 trillion of forward mortgages and created a negative present economic value of -$19.5 billion for the MMI Fund. From FY2007-FY2009, FHA insured $564 billion of forward mortgages and created a negative present economic value of -$40.6 billion for the MMI Fund. From FY2010-FY2012, FHA insured $721 billion of forward mortgages and primarily as a result of four significant increases in the Mortgage Insurance Premiums (MIP), created a positive present economic value of $22.7 billion for the MMI Fund.
8. These figures don’t include HECMs, which are also part of the FHA MMI Fund. I could not find tables by historical vintage in the FY2012 Financial Status Report or the HECM actuarial report as of FY2012. I would note, because of the crisis, every single vintage ever produced of HECMs has to be an “economic loser” for the FHA MMI Fund. As of FY2012, FHA had $78.2 billion in HECM Insurance in Force and the HECM portion of the MMI Fund had a negative present economic value of -$2.8 billion. The HECM portion of the FHA MMI Fund on a stand-alone basis is insolvent. And FHA’s FY2012 HECM actuarial report is projecting that the HECM portion of the MMI Fund will still be insolvent, with a negative economic value of -$426 million, in FY2019.

Edward J. Pinto, former executive vice president and chief credit officer for Fannie Mae in the 1980s and a resident fellow at the American Enterprise Institute, studied 2.4 million loans insured by FHA in fiscal years 2009 and 2010. The following are excerpts from his December 27, 2012, Los Angeles Times OpEd entitled, “The FHA: A home wrecker”:

“Remember, these loans were written after the housing collapse. Today, the FHA’s risky underwriting policies are backfiring in dramatic fashion in cities across America. Even in 2012, 40% of the FHA’s loans are subprime–having a credit score below 660 or a debt-to-income ratio of 50% or more. To put this in perspective, the median FICO score for all individuals in the U.S. is 720…”

“The FHA doesn’t need to give up its mission….it needs to follow a few simple principles that will stop setting up working families to fail.”

“First end the practice of knowingly lending to people who cannot afford to repay their loans. To stop this harmful lending, the FHA should aim to cut its failure rate roughly in half, setting a maximum foreclosure rate (by zip code) of 10% on the loans it insures with an average foreclosure rate of 5%.”

“Taxpayers also have cause for concern……Were it a private mortgage insurer, regulators would shut it down for having a current net worth of negative $25 billion. It hasn’t kept its own house in order…..”

And here is what others have said about FHA recently:

“It’s time for serious reform of the FHA before it needs a taxpayer bailout, if it isn’t already too late.” Sen. Richard Shelby

“Under the law, the FHA’s net worth must not drop below 2% of the outstanding balance of the loans it guarantees. But hit by foreclosures and lower house prices, the agency’s reserve ratio has been dropping since 2006 and ended the 2012 fiscal year at negative 1.44%…..The shortfall could force it to tap the U.S. Treasury, as it is legally allowed to do, for the first time in its 78-year history.” Los Angeles Times

“In mid-November (2012), FHA’s auditor estimated that the fund, which backs $1.1 trillion in mortgages has a value of negative $13.5 billion. In other words, if it were to stop insuring loans today FHA could not cover the losses anticipated on loans it has already insured.” New York Times

“….the report’s loss estimate are somewhat surprising given that the loans it examined were made after the mortgage crisis became evident….FHA does not adequately monitor the risks in the loans it backs, the study said…..Moreover, it does not charge guarantee fees appropriately adjusted to these risks.” New York Times

M. Perry’s Thoughts Re. AEI’s Pinto’s Comments:

I think Mr. Pinto’s comments in his OpEd about FHA being an “a home wrecker” by “aggressively marketing homeownership to marginal borrowers”, “pushing them into homes they can’t afford”, and “leaving families in financial ruin” are wrong and “over the top”. Maybe I don’t understand the conservative American Enterprise Institute’s views? Is the AEI really saying that the government (FHA) must protect individual Americans from themselves and their own financial decisions?

In early 2008, as the magnitude of the crisis became clearer, I took it upon myself to develop a formal “mortgage suitability” policy and program for IndyMac Bank and its borrowers (which I completed in a matter of a few weeks and without assistance from the then non-existent Consumer Financial Protection Bureau). I did this, despite protests from some that it would make us uncompetitive, because I thought it was “good business”. I felt strongly that it would help strengthen our credit underwriting decisions, help borrowers make more-informed decisions (helping reduce investor credit losses) and decrease the risk of lawsuits. (By the way, I don’t recall a single borrower complaining that they did not understand their government-mandated mortgage forms until home prices started to decline). As a result of having a personal investment account, I recall thinking of the suitability forms I had to complete before I was able to invest. I remember asking IndyMac’s regulatory counsel who was advising me, why existing laws didn’t require lenders to determine mortgage suitability and yet they did with respect to my investment account; a uniform mortgage suitability law would have alleviated competitive concerns. I will never forget his response to me. “Mike, you are giving the investment firm your money to invest. A mortgage borrower is getting money from the bank to buy a home. That’s a big difference from a fiduciary responsibility standpoint.” That really was powerful to me. I hadn’t thought of it like that; he was right but I still built that mortgage suitability system, because I thought it was “good business”.

I tell that story, because it goes to the heart of Mr. Pinto’s inappropriate statements about FHA being “a home-wrecker”. I would be shocked to learn that the current HUD Secretary or FHA Commissioner (the mainstream press or even The Center for Responsible Lending) agreed with Mr. Pinto. But here is the thing. Many of them made these exact kinds of statements over the past several years about private-sector mortgage lenders, especially nonconforming and subprime lenders. Think about Pinto’s statement: “First end the (FHA’s) practice of knowingly lending to people who cannot afford to repay their loans”. While I admit to enjoying that statement about FHA (given how much the government has inappropriately blamed the private sector during this crisis), I don’t agree with it. It makes no rational sense, economic or otherwise. That said, I find it unbelievable and hypocritical that the Consumer Financial Protection Bureau (CFPB), who released their “Ability to Repay” rules on January 10, 2013, exempted FHA (and Fannie and Freddie), despite the fact that today FHA is the only major subprime and no (income, asset, or credit) documentation mortgage lender in the Nation (HECMs).

I do agree with Mr. Pinto that 40% of FHA’s loans in 2012 were subprime; it’s an objective fact. A recent WSJ article also noted that 33% of all student loans (another government-dominated market) were originally or have become subprime as of March 31, 2012. The idea that government-guaranteed student loans, albeit unintentionally, might have caused recent American college graduates to become subprime borrowers (because the government let them borrow too much for their education and they can’t find a decent paying job in this economy) doesn’t seem possible, does it? And yet, the CFPB will have to exempt government student loans from “The Ability to Repay” rules too, because a college student’s future employment and income are highly uncertain. I believe that’s why the government doesn’t let students discharge these loans in bankruptcy; I guess they want to hold these young adults accountable for their educational and borrowing decisions? I am not sure that’s entirely right or fair, but that’s what is happening.

The bottom line is that one government bureaucracy (the new CFPB) thinks any other government bureaucracy (FHA, Fannie, Freddie, government student loans) is a responsible party and therefore does not need to comply with prudent “Ability to Repay” rules, but those “private sector” mortgage lenders (with far less than 10% of the U.S. mortgage market today) are not responsible and can’t be trusted; I guess because many of us failed and our loans had high default rates in this crisis? Isn’t this more than a bit hypocritical? Despite its government-granted monopoly power and not-for-profit status, FHA is insolvent today too and has high default rates (FHA itself estimates the lifetime claims/default rate for its FY2007-FY2009 vintages to be 27.5%, 30.5%, and 23.73%, respectively) and losses in the bubble years and Fannie and Freddie were bailed out by U.S. taxpayers to the tune of over $140 billion and have high default rates in those years too. And all three are recapitalizing themselves through massive increases in their mortgage insurance premiums/guarantee fees; as government monopolies they can overcharge new borrowers, relative to their risk, tens of billions a year to pay for their past mistakes.

Also, I guess the government wouldn’t be originating so many subprime mortgages and student loans today, if they really believed the press and their own statements that subprime loans were bad for American consumers?

I got a little off track here, back to Mr. Pinto’s OpEd.

Over the decades, FHA has provided amazing opportunities for homeownership and wealth-building to low and moderateincome Americans, and especially first-time homebuyers. My own young parents bought a newly-built, modest tract home in Rancho Cordova, California in the early 1960’s with the help of an FHA loan. It was a big financial stretch for them at the time. FHA loans have always been a significant risk in the early years, but if FHA hadn’t taken that risk with their low-down payment, high-debt-to-income mortgages, millions of Americans like my parents (three kids, stay-at-home mom, and dad working as an auto mechanic) may never have been able to buy a home. Over time though, as FHA borrower’s incomes grow (and they generally grow faster than average because FHA borrowers tend to be younger and therefore earlier in their careers) and the home’s value in normal times appreciates (because The Federal Reserve since its founding in 1913, has consistently strived through its monetary policies to create 2% or so inflation a year), these two normal economic events act to quite substantially reduce the risk of borrower and FHA failure. I would also note that these two significant, positive future economic events are not considered in a traditional, “point-in-time” loan underwriting (Mr. Pinto certainly doesn’t consider them in his study). It has only been in this “once-in-lifetime” housing bubble and bust that FHA’s mortgage failure rate (just like the private-sector mortgage lenders) is too high. And certainly this housing bust has revealed some mistakes or flaws in the FHA program and FHA has taken several (somewhat belated in relation to the private sector) steps to correct them.

With that said, it does seem to me that some fundamental changes have occurred in America over the decades that FHA has been in existence that have likely permanently increased claims and losses to the insurance fund (e.g. reduced job stability, debt payment and savings moors, divorce rates, etc.) and these negative changes probably were masked, pre-crisis, by the long economic boom and the housing bubble and are still being masked by the housing bust and the crisis. I do agree with Mr. Pinto that FHA needs to carefully monitor its credit and prepayment performance in detail, including its independent annual actuarial reports. And use this information to make timely guideline changes and/or implement a more sophisticated, private sector-like, risk-based pricing system (to prevent private sector lenders from arbitraging FHA insurance in the future).

The recent WSJ OpEd (below), by columnist Mr. Holman W. Jenkins, Jr., makes an important point in connecting “the rule of law” to greater certainty in economic decision-making and commercial transactions and this greater certainty to more robust markets. In this regard, Mr. Jenkins notes that the executive branch of our government is responsible for observing, and fairly and equally enforcing, “the rule of law”. In particular, he notes that the executive branch should not take legal but “arbitrary” actions or actions that are “expedient” but violate “the rule of law”, even in times of crisis. Because these actions, some well-intended, will cause individuals and enterprises in the private sector to lose confidence in government and the certainty “the rule of law” provides and this will lead to a reduced (below normal) level of risk-taking and investment; keys to a vibrant economy.

I concur with Mr. Jenkins viewpoint in this OpEd. I experienced first-hand our government’s arbitrary actions during and after the financial crisis, and read accounts of many others, and they continue to this day (in suing S&P but not Moody’s or Fitch and not holding to account the SEC who licensed and regulated these National Statistical Rating Agencies or the regulators who mandated these ratings use in bank and insurance investment policies and capital requirements). These arbitrary (or some potentially lacking a legal basis) government actions have created and continue to create great uncertainty for individuals and enterprises in the private sector and are hurting economic growth and job creation.

Key Excerpts from Mr. Jenkins’ OpEd:

“Never explained is why some were bailed out and some weren’t.”

“In the next emergency, government is likely to behave arbitrarily in dealing with private parties who come seeking rescues—or whom government feels compelled to rescue against their will. Our accumulation of precedents in this regard rests uneasily in a society built on law, and where trust in law is a precondition for the return of normal business and investment activity.”

“The regulator of Fannie Mae and Freddie Mac trumpeted them as solvent and well-capitalized amid the crisis, and then gave their boards immunity from shareholder lawsuit in the government takeover that followed a short time later, wiping out their shareholders.”

“But so much of today’s economic frustration arises because all sectors of the economy (except government) are sitting on cash, reluctant to commit to consumption or investment. Microsoft, when it found itself under assault during the 1990s by marauding trustbusters posturing as servants of “the law,” kept enough cash on hand to survive a full year without revenues—without a penny coming in. This was a remarkable statement of insecurity in its property and legal rights. Now every company is Microsoft.”

Relevant Excerpts from M. Perry’s Informal Mortgage Industry Talk on November 15, 2012 (see Statement 33):

“1. Fannie Mae and Freddie Mac, when placed in conservatorship, were not bailed out to the tune of $137 billion or whatever it is currently, it was the private and public investors in their unsecured and MBS bonds that were bailed out. This saved many banks, insurers, and bond funds around the world from failure, and government agencies in the U.S., and even some foreign sovereigns from tens of billions in losses. It also preserved the ability of the U.S. to issue Treasury debt to foreigners and protected the dollar as the world’s reserve currency.”

“What is ironic is that we held this multi-billion AAA private MBS portfolio, because it was our core business. We thought it was very safe, and because we believed the government when they said that they would not come to the rescue of Fannie Mae and Freddie Mac, so it was economically rational for us to hold AAA-private MBS. They had a somewhat higher yield but not so much that it would cause you concern. More a “liquidity/less-liquid market” premium and yet under regulatory capital rules had the same capital requirements as Fannie/Freddie backed MBS, and they had subordination/protection below the AAA (typically 6% or so on an Alt-a securitization). And yet, we got screwed both ways on this investment. The government did come in and rescue Fannie and Freddie, and if we had held riskier Alt-a whole loans (the same loans collateralizing our AAA-private MBS, but in whole loan form), while the economics over the long haul would have been somewhat worse (because of the 6% subordination), in the short run, we would not have been subject to abrupt and unprecedented ratings downgrades and mark to market accounting rules (when most of the comparable transactions were distressed transactions). Holding our Alt-a loans as AAA MBS rather than as riskier whole loans perversely led to IndyMac’s rapid demise in 2008. Before TARP, before $250,000 deposit insurance, before unlimited deposit insurance for near-zero-rate transaction accounts, before the SEC’s retroactive (to January 1, 2009) change in mark to market accounting rules, and before the FED-engineered low rate environment (because of the crisis and our business model and this private MBS portfolio), we were unfortunately early and yet Not Too Big To Fail.”

Was the AIG Rescue Legal?

Never explained is why some were bailed out and some weren’t.

By HOLMAN W. JENKINS, JR.

AIG is winding up an ad campaign to thank taxpayers for its bailout and note that the rescue returned a profit to the government. That’s nice, but we aren’t quite ready to wash our hands of the matter.

One reason for dwelling on the AIG bailout is that we may not be done with bailouts. In the next emergency, government is likely to behave arbitrarily in dealing with private parties who come seeking rescues—or whom government feels compelled to rescue against their will. Our accumulation of precedents in this regard rests uneasily in a society built on law, and where trust in law is a precondition for the return of normal business and investment activity.

One lawsuit brought by former AIG CEO Hank Greenberg (who left before the meltdown) was thrown out in November on a technicality, though not before the judge editorialized that government must be free to act in a national crisis. Fine. But that still leaves unanswered questions.

AIG offices in New York in September 2008

The government wiped out AIG shareholders while using AIG to bail out other companies whose shareholders were not wiped out. Why?

AIG’s owners perhaps deserved their fate due to AIG’s reckless reliance on rating agencies and bond insurers. But other companies (including many foreign banks) were excused from suffering for their own reckless reliance on AIG. Why?

All the more so because government’s profit on the bailout ($22.7 billion) so clearly accrued because taxpayers acquired AIG’s assets at fire-sale prices even while sparing other companies similar embarrassment.

GE wasn’t required to hand over chunks of shareholder equity in return for government guarantees of its commercial paper. The money-fund industry wasn’t required to turn over an 80% stake to Uncle Sam in return for a bailout of the money-fund industry. No exaction was required of Goldman Sachs and Morgan Stanley in return for access to the Federal Reserve’s lending window.

Maybe a courtroom isn’t the right place to explore these choices. Maybe AIG doesn’t make a sympathetic plaintiff. But explanations would be nice.

As the world was recently reminded, Mr. Greenberg has another lawsuit pending, which proposes that the AIG rescue was an illicit “taking” under the Constitution. This was the lawsuit AIG itself contemplated joining last month until it was buried in an avalanche of media opprobrium.

Mr. Greenberg’s claim seems a tad less fanciful now that the rescue has paid off so handsomely for taxpayers and for AIG counterparties, and so badly for AIG shareholders. AIG shareholders might have been better off had the company filed for bankruptcy rather than submitting to an ad hoc Washington “rescue.”

If the nuances here sound familiar, they should. In the Chrysler and General Motors bankruptcies, government played the role of “debtor-in-possession” financier, then behaved as no DIP financier would, using its leverage to do favors for an important Democratic constituency group, the United Auto Workers, at the expense of debt holders.

The regulator of Fannie Mae and Freddie Mac trumpeted them as solvent and well-capitalized amid the crisis, then gave their boards immunity from shareholder lawsuit in the government takeover that followed a short time later, wiping out their shareholders.

Not directly related to the financial crisis but coming in the same moment of untrammeled government discretion was the BP oil spill. The White House dictated a $20 billion compensation program, funded by BP shareholders, without benefit of any legal process at all.

One might look upon these criticisms the way history does Henry Stimson’s insistence that “gentlemen don’t read each other’s mail”—as the sort of excessive scruple that must be tossed aside in a crisis.

But so much of today’s economic frustration arises because all sectors of the economy (except government) are sitting on cash, reluctant to commit to consumption or investment. Microsoft, when it found itself under assault during the 1990s by marauding trustbusters posturing as servants of “the law,” kept enough cash on hand to survive a full year without revenues—without a penny coming in. This was a remarkable statement of insecurity in its property and legal rights. Now every company is Microsoft.

There is also a growing consensus that uncertainty about government actions played the biggest part in turning a housing correction into a general panic.

Do we have a solution? No, just a bad feeling. President Obama’s second inaugural address wrote a lot of checks—especially about the inviolability of Social Security, Medicare and Medicaid—that the Fed might be called upon to cash in coming years as the buyer of last resort for U.S. Treasury debt. If so, more disturbances lie ahead, and we may rue the precedent that the rule of law goes out the window just because financial markets are acting up.

“Mr. Perry is now one step closer to moving beyond the financial crisis litigation, with just a couple of private plaintiff lawsuits pending. ‘It remains true that no court has issued a single adverse ruling on the merits against Mr. Perry’, Ms. Veta said, ‘and that is how it should be, because Mike Perry was a smart, honest, and highly capable CEO who did all he could to save IndyMac Bank.’” (Excerpt from “Former IndyMac CEO Resolves FDIC Claims”, Covington & Burling’s press release dated December 14, 2012)

The Covington team representing Mr. Perry was led by Ms. D. Jean Veta and included Benjamin Razi and Dennis Auerbach.

Courts’ Findings (and Approvals of Settlement Agreements) Related to Government Claims:

1. The Court found that Mr. Perry acquired 35,000 shares of Bancorp common stock on March 23, 2007, at a cost of more than $1.03 million.
2. The Court found that Mr. Perry acquired 328,978.99 shares of Bancorp common stock on February 15, 2008, at a cost of more than $2.6 million.
3. The Court found that Mr. Perry sold no IndyMac stock in 2006, 2007, or 2008 and received no bonus for 2007 or 2008.
4. The Court found that Mr. Perry beneficially owned more than 3.1 million share of Bancorp common stock (including stock options) on February 29, 2008, comprising about 3.9 percent of issued and outstanding shares. He was the largest non-institutional Bancorp shareholder at the time. As of December 31, 2006, the Bancorp common stock and options Mr. Perry beneficially owned had a value of more than $69 million. His investment in Bancorp constituted the vast majority of his net worth. As a result, of Bancorp’s bankruptcy filing on July 31, 2008, Mr. Perry lost virtually the entire remainder of his investment in the company.
5. The Court found that in April 2008, Mr. Perry voluntarily cancelled his fully vested options to purchase one million shares of Bancorp common stock in order to make more stock options available for the company’s shareholders and for the retention of its employees.
6. The Court found that Mr. Perry’s IndyMac salary and benefits were not related in any way to alleged false statements and omissions that the SEC contends were contained in IndyMac’s May 12, 2008 SEC filings.
7. The Court found that the 10.26 percent capital ratio….was the operative capital ratio as of March 31, 2008, i.e., the capital ratio considered by the OTS in determining whether the Bank was well capitalized…..the Form 10-Q (filed on May 12, 2008) accurately disclosed that the Bank was well capitalized based on the operative capital ratio.
8. The Court found, on summary judgment, FOR Mr. Perry and DENIED the SEC’s claim for disgorgement.
9. The Court found, on summary judgment, FOR Mr. Perry and DENIED the SEC’s claims based on IndyMac Bancorp, Inc.’s Form 10-K for the year ended December 31, 2007.
10. The Court found, on summary judgment, FOR Mr. Perry and DENIED the SEC’s claims based on IndyMac Bancorp, Inc.’s Form 8-K dated February 12, 2008.
11. The Court found, on summary judgment, FOR Mr. Perry and DENIED the SEC’s claims based on IndyMac Bancorp, Inc.’s Direct Stock Purchase Plan prospectuses dated October 11, 2007, April 3, 2008, and May 2, 2008.
12. The Court found, on summary judgment, FOR Mr. Perry and DENIED the SEC’s claim based on the alleged failure of IndyMac Bancorp, Inc. to timely disclose the deferral of dividends on preferred securities issues by IndyMac Bancorp, Inc. and IndyMac Bank, F.S.B.
13. The Court found, on summary judgment, FOR Mr. Perry and DENIED the SEC’s claim relating to the risk weighting IndyMac Bancorp, Inc. (“Bancorp”) used to calculate the capital ratios of IndyMac Bank, F.S.B. as of March 31, 2008, and the disclosure thereof in Bancorp’s May 12, 2008 SEC filings.
14. The Court found, on summary judgment, FOR Mr. Perry and DENIED the SEC’s claim under section 17(a)(2) of the Securities Act, 15 U.S.C. 77q(a)(2), as to all remaining issues in the case.
15. As part of the September 27, 2012 settlement agreement approved by the Court, the SEC dismissed with prejudice all of the claims in its Complaint filed on February 11, 2011 in which the Court granted summary judgment in favor of Mr. Perry (every item presented to the Court for consideration) on May 31, 2012 and September 10, 2012 (#8 through #14 above). With respect to the SEC’s remaining claim; the alleged disclosure omission of an $18 million capital contribution in the March 31, 2008 10-Q (filed on May 12, 2008), Mr. Perry settled this single negligence-based claim WITHOUT ADMITTING OR DENYING LIABILITY. Mr. Perry paid an $80,000 civil penalty and agreed to an injunction not to violate section 17(a)(3) of the securities laws in the future. Mr. Perry remains able to serve as an officer and/or director of a publicly-traded company.
16. The Court ruled that under California law Mr. Perry’s decisions and actions as an officer (CEO) of IndyMac Bank were not protected by the common law Business Judgment Rule (BJR) and that the FDIC-R could sue him for simple negligence. The BJR protects both officers and directors in nearly every other state in the union from hindsight judgments and second-guessing. The Court agreed with Mr. Perry that California law regarding the BJR was not clear, certified its ruling and allowed him to immediately appeal (its ruling) to the 9th Circuit Court. The 9th Circuit Court declined to hear this matter until after trial.
17. In Mr. Perry’s Court-approved settlement agreement with the FDIC-R, dated December 12, 2012, the FDIC-R claimed: “In its capacity as successor to the Bank’s claims and causes of action against former officers and directors, the FDIC-R has sued Mr. Perry, alleging negligence in failing to reduce the Bank’s core lending volume (in 2007) further and faster than the Bank was doing.” And in the very next sentence of the settlement agreement, Mr. Perry denied this claim: “Mr. Perry DENIES ANY AND ALL LIABILITY”.
18. Importantly, in the same Court-approved settlement agreement, the FDIC-R itself said: “The FDIC-R’s Complaint does not allege that Mr. Perry caused the Bank to fail or that he caused a loss to the FDIC insurance fund.”
19. In order to settle the FDIC-R’s meritless claims (seeking $600 million in damages), Mr. Perry reluctantly agreed as part of the court-approved settlement to pay the FDIC-R $1 million from his personal funds (this amount is NOT a civil penalty or fine) and agreed to accept an FDIC enforcement order that roughly means he is prohibited from becoming a banker again.