HUD Steps Up Credit Watch.(U.S. Department of Housing and Urban Development)

Mr. Schulman, a frequent speaker at mortgage industry events, is an attorney in the Washington office of Kirkpatrick & Lockhart. This is an excerpt from an article advising lenders about developments in the FHA credit watch program.

In an effort to reduce losses in connection with Federal Housing Administration-insured mortgage loans, and in compliance with the National Housing Act, the U.S. Department of Housing and Urban Development reviews the rate of early defaults (i.e., loans in default for 90 days or more) and claims on FHA-insured loans originated by approved mortgage lenders. In September 1998, HUD promulgated regulations setting forth the circumstances under which it will propose termination of a lender's FHA Origination Approval Agreement due to high default/claim rates. It has since issued numerous Mortgagee Letters clarifying the department's intent and setting forth the numeric thresholds required for termination. Until recently, a lender's default/claim rate had to exceed both the national average and 300% of the local HUD field office average in order to trigger a proposed termination action. On Sept. 25, 2002, HUD issued a Mortgagee Letter in which it announced that it will gradually reduce the credit watch termination threshold from 300% to 200% between September 2002 and June 2003.

When HUD proposes a termination of a mortgagee, it affords the mortgagee an opportunity to oppose the termination and defend its default/claim rate. The department has expressed willingness to consider mitigating factors in determining whether termination action is appropriate in any given instance, and some lenders have avoided branch terminations due to a showing of unique circumstances. Nevertheless, it appears that most proposed terminations have become effective absent a lender's showing that the default/claim rate on which HUD relied in proposing the action is inaccurate. Termination of a branch office will prohibit that branch from originating FHA-insured loans in a particular jurisdiction for six months.

Given the declining threshold, it is now more crucial than ever that lenders understand how the department's credit watch termination initiatives work, including the scheduled threshold reductions, the effect of a branch office termination, the appeals process, defenses to a proposed termination and reinstatement of FHA approval, and preventive measures that may help avoid a proposed termination altogether. Lenders should take advantage of HUD's Neighborhood Watch system to monitor their own default/claim rates and be ready to both take preventive action in order to avoid a notice of proposed termination ...