The Department of Housing and Urban Development will soon require lenders to sue certain borrowers who default on Federal Housing Administration-insured mortgages so that HUD can recoup its losses and discourage abuse of the popular loan program.
Some lenders and housing industry representatives said, however, the new rules will prove to be more trouble than they are worth and doubt that they will contribute much to the government's effort to eliminate a persistent loan fraud problem.
Under final regulations issued Feb. 16, which go into effect March 28, HUD will have the right to require mortgage companies to obtain deficiency judgments against borrowers before the agency will pay a lender's claim for a foreclosed FHA single-family home mortgage. Deficiency judgments make borrowers liable for any unpaid balance when proceeds from a foreclosure sale are not sufficient to pay off a mortgage. Lenders then would assign the judgment to HUD. The agency could then attach other property or assets a borrower owns and recover its losses.
However, the agency won't force lenders to go after every borrower who defaults, said James Nistler, HUD's deputy assistant secretary for single-family housing. "We're not out to get the guy who defaults because he loses his job," he said.
Instead, the agency will focus on owners it suspects have other assets and could have avoided a foreclosure, particularly investors, who generally own other properties. Also, HUD would take into account whether the amount of money at stake is significant and whether the borrower defaulted on other FHA mortgages when deciding which borrowers lenders should sue.
HUD would use a borrower's original mortgage application and run credit checks to determine whether a borrower has assets that would make it worthwhile to pursue a deficiency judgment, Nistler said. Moreover, the new regulations only apply to mortgages approved after March 28. The agency would reimburse lenders for their legal costs, he said.
The new regulations are part of a recent effort to crack down on fraud in the FHA mortgage program, particularly by investors, agency officials said. Although HUD has compiled no overall figures on fraud, a recent study in seven cities nationwide, including Denver, Chicago and Los Angeles, resulted in 65 individuals or firms being charged with criminal offenses in connection with questionable loans. Of those, 54 were convicted for fraud. In one case, a company made more than 1,800 loans to investors totaling $116 million, said Steven Switzer, HUD's assistant inspector general for audits.
Some cases involved borrowers who misrepresented their earnings to qualify for a loan. But most resulted from investors engaging in "equity skimming," or engaging someone who never intended to occupy the property to buy a property with an FHA mortgage, then assuming the loan and defaulting while collecting rent from the property.
The housing bill President Reagan recently signed provides for jail terms and fines up to $250,000 for equity skimming.
Nistler said the new regulations will further cut down on fraud. Before, HUD had no authority to require lenders to obtain deficiency judgments. The agency could only request lenders to do so and could not reimburse them for their costs, Nistler said.
Although HUD only expects to seek 400 to 500 deficiency judgments a year, "the whole idea is that once we start attaching assets, abusers will think twice about walking away," Nistler said. There were 64,000 FHA single-family home mortgage foreclosures in fiscal 1987.
While supporting the move, some housing industry representatives and lenders doubt that the new rules will have much effect.
"It will help in some cases. But for people trying to defraud the government, they probably won't reveal the rest of their assets" when they apply for a loan, said James Wasson, director of loan administration for the U.S. League of Savings Institutions. "Investors are capable of shielding their assets."
Russell Rothstein, vice president of American Home Funding Corp., a Rockville mortgage company, said "credit checks don't always reflect a person's true assets either."
But Robert O'Toole, vice president of government relations and finance for the Mortgage Bankers Association of America, a trade group representing lenders, said "the word is out now that on a FHA loan, unless HUD can prove a criminal case, it won't go after anyone. But with this action, individuals will know if the loan goes into default, they will be responsible for the money. And if people have to fear for their money, they won't do it."