oversight

Secondary Mortgage Market: Information on Underwriting and Home Loans in the Atlanta Area

Published by the Government Accountability Office on 1990-11-28.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

           .          United   States   General   Accounting   Office
                      Report to Congressional Requesters
GAO”

November       1990
                      SECONDARY
                      MORTGAGE MARKET
                      Information on
                      Underwriting and Home
                      LOXE        Atlanta




GAO,‘RCED-91-Z
          United States
GAO       General Accounting Office
          Washington, D.C. 20548

          Resources, Community,   and
          Economic Development    Division

          B-239564

          November   28,199O

          The Honorable Alan J. Dixon, Chairman
          The Honorable Christopher S. Bond, Ranking Minority Member
          Subcommittee on Consumer and Regulatory Affairs
          Committee on Banking, Housing,
            and Urban Affairs
          United States Senate

          Your June 22, 1989, letter asked us to examine various aspects of home
          mortgage lending. Specifically, you asked us to examine whether (1)
          underwriting criteria of secondary market institutions and private mort-
          gage insurers contribute to racial discrimination and (2) statistical evi-
          dence of discrimination exists in the Atlanta, Georgia, area by home
          mortgage lenders that are not depository institutions.

          As you know, by purchasing home loans, the secondary mortgage
          market agencies spread financial risk and provide liquidity to primary
          lenders, thereby making additional credit available to qualified bor-
          rowers. Nondepository institutions include organizations such as mort-
          gage bankers as opposed to depository institutions such as banks,
          savings and loans, and credit unions.

          As discussed with your office, we were unable to fully address your
          areas of concern because of the absence of readily available data on
          lending activities of nondepository institutions and the extensive effort
          required to gather and analyze such data from original sources. Thus.
          we agreed to provide you with information on (1) underwriting guide-
          lines established by certain secondary mortgage market agencies to help
          them determine whether they should purchase, insure, or guarantee
          single-family home loans made by lenders and (2) statistical data on
          such loan activity by these agencies in the Atlanta, Georgia, metropol-
          itan area.
      L
          We reviewed and summarized underwriting guidelines and loan activity
          data of the Federal National Mortgage Association (Fannie Mae) and the
          Federal Home Loan Mortgage Corporation (Freddie Mac), which
          together market most of the dollar value of mortgages sold in the WC-
          ondary market. The Government National Mortgage Association (Gmnie
          Mae) also is a secondary market organization that guarantees sewrlt ies
          backed by mortgage loans insured by the Department of Housing and
          Urban Development (HUD) or guaranteed by the Department of 1’crt~rans
          Affairs (VA). Ginnie Mae has no underwriting guidelines of its olvn rl(jr


          Page 1                                 GAO/RCED91-2   Secondary   Mortgage   Market
B-239664




does it have an automated system for identifying the details of the indi-
vidual HUD or VA loans that it handles. Therefore, we also summarized
HUD’S and VA’S loan approval guidelines and loan activity data to
represent Ginnie Mae.

The statistical data for Fannie Mae, Freddie Mac, and HUD represent the
number and value of single-family home mortgage loans that these orga-
nizations purchased or insured within 80 residential ZIP code areas in a
five-county metropolitan Atlanta area during the period July 1, 1987,
through June 30, 1989. Unlike Fannie Mae, Freddie Mac, and HUD, VA
could not provide us with loan data at the ZIP code level. Therefore, we
summarized the VA data separately by county, the only level of data
available to us. Thus, the VA loan activity data represent the number and
value of VA-guaranteed loans in the five metropolitan Atlanta counties.

The loan activity data provide information on the extent and location of
secondary market loan activity in the metropolitan Atlanta area. Iiow-
ever, these data should not be used to derive conclusions on discrimina-
tion in secondary market loan activity because data limitations
prevented us from determining the reasons for the variations in the
activity among ZIP code areas. A key limitation in the data is that it
would be very difficult to determine the demand for loans-a primary
factor in determining whether credit needs for housing have been met
and a potentially significant reason for differences in loan activity
among ZIP code areas-because such data are not regularly maintained
by 1enders.l Other limitations include the use of multiple sources of data
that we could not verify for accuracy, the absence of comparable
housing markets within ZIP code areas, and the lack of information on
the race of the actual buyer. (See app. I for details on data limitations.)


Fannie Mae and Freddie Mac provide similar guidance to lenders from
whom they purchase mortgages. Each agency sets out its standards in a
Seller/Servicer Guide provided to lenders to assist them in making
acceptable loans. While Ginnie Mae does not have any underwriting
guidelines, it relies on the HUD- and VA-established guidelines that lenders
use to determine which mortgages qualify for HUD insurance or a L-\
guarantee.


‘The Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (Public, 1-1~ I’ ‘I 73 I,
August 9, 1989, now requires lenders to retain information on loan applications. II)XIV..I( I ILLII!.made.
and loans purchased starting on January 1,199O.



Page 2                                                 GAO/RCED91-2       Secondary    Mongagr    Market
             B-239564




             All four agencies (Fannie Mae, Freddie Mac, HUD, and VA) require that in
             determining which loans to approve lenders consider a potential bor-
             rower’s ability and willingness to repay the debt and the property’s
             value. The agencies suggest that lenders consider factors such as the
             borrower’s housing expense-to-income ratio and track record in fulfilling
             previous debts. Property appraisals are required to ensure that the
             property’s market value is sufficient to provide adequate collateral for
             the mortgage loan.

             During the 2-year period from July 1, 1987, through June 30, 1989,
             Fannie Mae, Freddie Mac, HUD, and VA purchased, insured, or guaranteed
             63,586 home loans in the metropolitan Atlanta area that we studied. Of
             the 57,227 loans purchased or insured by Fannie Mae, Freddie Mac, and
             HUD, 87 percent were for properties located in predominately white
             (defined as the range from 61-100 percent white) ZIP code areas. About
             83 percent of these loans were for properties in ZIP code areas having
             average annual incomes of $35,000-$74,999. Median home prices were
             also highest in the predominately white, higher income areas. Of the
             6,359 VA-guaranteed loans, 53 percent went to white individuals and 47
             percent went to minority individuals.


             A secondary mortgage market buys and sells mortgage loans or securi-
Background   ties backed by mortgage loans. The secondary market agencies are not
             primary lenders and have no direct contact with borrowers. The agen-
             cies do not originate mortgage loans; rather, they purchase loans from
             lenders or guarantee securities based on the loans.

             Fannie Mae, Freddie Mac, and Ginnie Mae were created by the Congress
             for the purpose of sponsoring a secondary market for mortgages.
             Although under federal charter, Fannie Mae and Freddie Mac are pri-
             vate corporations. However, Ginnie Mae is a United States government
             corporation. From 1987 through the first half of 1989, the three agen-
             cies accounted for 57 percent of the total dollar volume of secondary
             mortgage market loan purchase activity.2

             Fannie Mae and Freddie            Mac together market most of the dollar value of
             conventional mortgages           in the secondary market. They mainly purchase
             conventional mortgages           from lenders such as mortgage banking compa-
             nies, thrifts, commercial         banks, and others. The mortgages are packaged

             2The source of these data, HUD, includes Giie Mae’s issuance of securities in the loan purchase
             data. However, technically, Ginnie Mae does not purchase mortgages.



              Page 3                                             GAO/RCED91-2      secondary   Mortgage   Market
                   B239564




                   into securities and are sold to investors. The sale of such loans and secu-
                   rities returns funds to the institution originating the loan, creating
                   liquidity and allowing the originator to make additional loans or other-
                   wise reuse the funds.

                   Ginnie Mae is the secondary market organization that guarantees securi-
                   ties backed by HuBinsured and VA-guaranteed home loans. Ginnie Mae
                   does not purchase mortgage loans but guarantees the timely payment of
                   principal and interest for privately issued securities. Ginnie Mae-
                   approved banks, mortgage lenders, and other institutions issue securi-
                   ties based on pools of HuDinsured and VA-guaranteed loans. Through the
                   Ginnie Mae guarantee, these securities are backed by the full faith and
                   credit of the United States. In the event the issuer defaults on the securi-
                   ties, Ginnie Mae takes over principal and interest payments to the
                   investor.

                   Underwriting is the process of identifying potential risks associated
                   with financial instruments and developing guidelines to assess the
                   expected costs of covering those risks. Underwriting standards indi-
                   rectly establish the qualifications that loans to individual borrowers
                   must meet to be eligible for delivery to the secondary mortgage market.
                   Lenders use the underwriting process to determine whether they will
                   make individual loans or whether the loans will be held in their portfo-
                   lios or later sold in a secondary market.


                   The underwriting guidelines for Fannie Mae, Freddie Mac, HUD, and VA
Underwriting       are built around certain risk assessments. The risk assessments-which
Guidelines         lenders also consider in analyzing the degree of risk associated with
                   making a home mortgage loan-include the following:

               l The borrower’s ability to repay the debt.
               l The borrower’s willingness to repay the debt.
               . The sufficiency of the property to secure the mortgage.

                   To make the first two assessments, underwriting guidelines address fac-
                   tors such as past credit history, current and projected income, and
                   expenses. This information is used in making the lending decision. When
                   a lender decides to make a loan, it sets loan terms, including an interest
                   rate, collateral values, and other conditions consistent with the risks
                   involved in the loan. Therefore, an individual with a good credit rating
                   and sufficient collateral may receive more favorable terms than a bor-
                   rower with a delinquent payment history or limited financial resources.


                   Page 4                                  GAO/BCEJS91-2   Secondary   Mortgage   Market
                   B-239564




                   In making the third assessment, lenders rely on property appraisals to
                   assess the sufficiency of the property to secure the mortgage.


                   In the 80 Atlanta ZIP code itreas we studied, Fannie Mae and Freddie Mac
Loan Activity in   purchased 45,700 mortgage loans, and HUD insured 11,527 mortgage
Atlanta            loans during the 2-year period ending June 30, 1989. In the five-county,
                   Atlanta metropolitan area, VA guaranteed 6,359 loans during the same
                   period.

                   The number of homeowners in various income and race population clas-
                   sifications differed substantially in most cases. Therefore, we generally
                   presented loan activity data for Fannie Mae, Freddie Mac, and HUD in
                   terms of the number of loans per 100 homeowners in an income or race
                   category.

                   Fannie Mae, Freddie Mac, and HUD purchased or insured almost twice as
                   many home mortgage loans per 100 homeowners in predominately white
                   (61-100 percent white) areas as in the predominately minority (defined
                   as the range from O-40 percent white) areas. In the areas with 6 1 per-
                   cent to 100 percent white population, Fannie Mae, Freddie Mac, and HUD
                   purchased or insured 13.9 loans per 100 homeowners. In areas with 61
                   percent to 100 percent minority population, the agencies’ loan activity
                   was 7.0 loans per 100 homeowners.

                   Fannie Mae, Freddie Mac, and HUD purchased or insured the greatest
                   number of loans per 100 homeowners in ZIP code areas with higher
                   income levels. Loan activity per 100 homeowners was 1.8 times as great
                   in areas with average income levels of $35,000 to $74,999 as it was in
                   areas with average income levels of $7,500 to $34,999.

                   Home prices were generally higher in predominately white and higher
                   income areas. For example, in predominately minority (O-20 percent
                   white) areas, the median home price was about $56,000, and in the pre-
                   dominately white (81-100 percent white) areas, the median home price
                   was $101,000. The median home price ranged from $53,000 in the lower
                   income ($7,500-$24,999) areas to $146,000 in the higher income
                   ($50,000~$74,999) areas.

                   VA does not include ZIPcodes in its loan guarantee data base; howvtbr. it
                   did provide us with data on a county level, by race. For the five**ounty
                   area, 53 percent of the loans VA guaranteed were for white indivltirl;ils
                   and 47 percent were for minorities. In terms of dollar values, .55 ptmvnt


                    Page 5                                GAO/ltCJD91-2   Secondary   MO-   Market
                  5239564




                  went to white individuals and 45 percent to minorities. We have summa-
                  rized the VA data separately in appendix III of this report.


                  We received written comments on a draft of this report from Freddie
Agency Comments   Mac and Fannie Mae within the 30 calendar-day limit specified by law
                  (see app. IV and V). We also received oral comments from HI!D and VA
                  officials.

                  Subsequently, we received written comments on a draft of this report
                  from HUD. The comments were received too late for us to present and
                  evaluate without delaying the report’s issuance; therefore, they have
                  not been reproduced in the report. However, copies of HUD'S comments
                  will be provided to the requesters. The essence of HUD'S comments are
                  discussed below.

                  HUD  stressed the importance of ensuring that the loan activity data not
                  be misinterpreted. We agree. In fact, concern that the data could be mis-
                  interpreted is one of the reasons we have caveated these data and
                  pointed out that these caveats preclude reaching conclusions on discrim-
                  ination in the secondary mortgage market.

                  HUD  also said that the discussion on its performance in the various ZIP
                  code areas of Atlanta should be presented separately from the discus-
                  sion on Freddie Mac’s and Fannie Mae’s performance. HUD belie\,es that
                  because it has a much lower maximum loan amount than those agencies,
                  a very different geographic pattern may emerge for its loan activity
                  data than the pattern resulting from combining its data with those of
                  Freddie Mac and Fannie Mae. Our report combines the loan activity data
                  of Freddie Mac, Fannie Mae, and HUD because of the confidential nature
                  of the data Freddie Mac and Fannie Mae provided to us.

                  Freddie Mac acknowledged that it had leadership responsibih t ies in sup-
                  port of affordable housing opportunities and against discriminatory
                  lending practices. It also said that our report correctly points orlt r hat its
                  guidelines will not permit the consideration of race of a borrowcar in any
                  aspect of the loan underwriting process. Also, according to Frt~ci(iit~Mac,
                  the information contained in our report which shows that t htb II IIrnber of
                  loans purchased by Freddie Mac per 100 homeowners increati+ \VI~h the
                  percent of whites within an area’s population “is consistent w rt 11the
                  well-documented pattern of discrimination reported in the .At I;I11I ,1Con-
                  stitution’s ‘The Color of Money’ series.” This result, according ! I 1l‘rcddie
                  Mac, is to be expected since the mortgage loans it purchase5 t‘r( ‘RI


                  Page6                                    GAO/RCEDSl-2   Secondaq   Hdmwc(r   .Market
B-239564




lending institutions would reflect the mortgage loans originated by those
lending institutions that are making such loans directly to borrowers.

Fannie Mae said that the major finding of our report, that secondary
market purchasing activity declines with decreasing neighborhood
income or increasing neighborhood minority composition, warrants con-
cern from all sectors of the mortgage finance industry. It also said that
while our report raises serious questions and concerns, it is important
that our findings be placed in the proper perspective given the data limi-
tations described in our report. In this regard, Fannie Mae reiterated
some of the limitations in the loan activity data described in appendix I
and how these limitations preclude any inferences concerning the causes
of the observed purchasing patterns.

Freddie Mac and Fannie Mae also stressed their commitment to ensure
that all potential homebuyers have equal access to credit. Freddie Mac
pointed out that its recently created Affordable Housing Initiatives
Department will help it and the industry design homeownership and
rental programs to address this issue. Fannie Mae pointed out that it had
a long-standing commitment to the homebuying credit needs of low- and
moderate-income households and residents of inner city neighborhoods.
It also said that many of its activities that particularly benefit inner city
and low-income neighborhoods are not covered in this report, such as its
purchases of multifamily mortgages and mortgage revenue bonds.

A VA official agreed with the factual information presented in this report
on that agency.


This report discusses (1) the scope and methodology for our revieit .
including data limitations that prevent us from reaching conclusions
about the causes of differences in secondary market loan activity among
areas in metropolitan Atlanta, (2) underwriting guidelines established
by the secondary mortgage market agencies, and (3) a summary of the
secondary market loan activity in the Atlanta area by population groups
and income levels. We performed our work between July 1989 and May
 1990.

At your request, we plan no further distribution of this report until :30
days from the date of this letter. At that time, we will send topics to the
appropriate congressional committees, the Secretaries of HI'D and L:!. the




Page 7                                  GAO/RCED91-2   Secondary   Mortgage   Market
0239564




Chief Executive Officers of Fannie Mae and Freddie Mac, and the Presi-
dent of Ginnie Mae. We will also make copies available to others upon
request.

If I can be of further assistance to you, please contact me at (202) 275-
5525. Major contributors to this report are listed in appendix VI.




John M. Ols, Jr.
Director, Housing and
  Community Development Issues




Page 6                                  GAO/ECED91-2 secondary Mon~gr   Market
Page 9   GAO/RCED91-2   Secondary   Maflmuv   Market
Contents


Letter                                                                                                  1

Appendix I                                                                                             14
Scope and               Data Limitations                                                               16
Methodology
Appendix II                                                                                           20
Underwriting            General Requirements                                                          20
                        Borrower’s Ability to Repay the Debt                                          21
Guidelines Used by      Borrower’s Willingness to Repay the Debt                                      26
Fannie Mae, Freddie     Sufficiency of the Property Value to Cover the Mortgage                       28
Mac, HUD, and VA
Appendix III                                                                                          34
Secondary Market        Atlanta Demographics
                        Loan Activity by Population Group
                                                                                                      34
                                                                                                      37
Loan Activity in the    Loan Activity by Income Level                                                 40
Metropolitan Atlanta    Loan Activity by Income Level and Population Group                            43
                        VA Loan Activity                                                              45
Area -
Appendix IV                                                                                            47
Comments From the
Federal Home Loan
Mortgage Corporation
Appendix V                                                                                             49
Comments From the
Federal National
Mortgage Association
Appendix VI
Major Contributors to
This Report



                        Page 10                              GAO/RCJCD-91-2 Secondary   Mortgage   Market
Tables    Table II. 1: General Loan Requirements for Fannie Mae,                         21
              Freddie Mac, HUD, and VA
          Table 11.2:Comparison of Income Ratios for Fannie Mae,                         23
              Freddie Mac, HUD, and VA
          Table 11.3:Residual Monthly Incomes by Region for Loan                         23
              Amounts of $69,999 and Below
          Table 11.4:Residual Monthly Incomes by Region for Loan                         24
              Amounts of $70,000 and Above
          Table 111.1:Number of ZIP Codes by Population Group                            35
          Table 111.2:Number of ZIP Codes by Average Income                              35
              Level
          Table 111.3:Loan Activity and Number of ZIP Codes by                           44
              Population Group and Average Income Level
          Table 111.4:Number of VA-Guaranteed Loans for White                            46
               and Minority Individuals in Five Metropolitan
              Atlanta Counties
          Table 111.5:Dollar Value of VA-Guaranteed Loans for                            46
              White and Minority Individuals in Five Metropolitan
               Atlanta Counties

Figures   Figure III. 1: Percentage of Total Homeowners by                               36
               Population Group
          Figure 111.2:Percentage of Homeowners by Income Level                          37
          Figure 111.3:Number of Loans per 100 Homeowners by                             38
               Population Group
          Figure 111.4:Average and Median Loan Amounts by                                39
               Population Group
          Figure 111.5:Average and Median Home Prices by                                 40
               Population Group
          Figure 111.6:Number of Loans per 100 Homeowners by                             41
               Income Level
          Figure 111.7:Average and Median Loan Amounts by                                42
               Income Level
          Figure 111.8:Average and Median Home Price by Income                           43
               Level
          Figure 111.9:Number of Loans per 100 Homeowners by                             45
               Population Group and Income Level




          Page 11                              GAO/ECJZD-91-2 Secondary   Mortgage   Market
Contents




Abbreviations

DMIS             Donnelley Marketing Information Services
Fannie MCUZ Federal       National Mortgage Association
Freddie    Mac   Federal Home ban Mortgage Corporation
GAO              General Accounting Office
Ginnie MW        Government National Mortgage Association
HUD              Department of Housing and Urban Development
LTV              loan-to-value ratio
VA               Department of Veterans Affairs
ZIP              Zone Improvement Plan


Page 12                                   GAO/XCED-91-2   Secondary   Mortgage   Market
Page 13   GAo/BCED@l-2   Secondary   Mortgage   Market
Appendix I

Scopeand Methodology


             We interviewed officials of Fannie Mae, Freddie Mac, and Ginnie Mae at
             their headquarters locations, in Washington, D.C., and HUD and VA offi-
             cials in their Atlanta Regional Offices to identify the appropriate under-
             writing guidelines. We obtained and reviewed copies of each
             organization’s underwriting guidelines for home mortgage loans.

             To provide statistical data on secondary mortgage market activity in the
             Atlanta, Georgia, metropolitan area, our work focused on the mortgage
             activities of Fannie Mae, Freddie Mac, HUD, and VA. We defined the
             Atlanta metropolitan area as the five counties of Clayton, Cobb, Dekalb,
             Fulton, and Gwinnett.

             To provide insights on the demographic characteristics of each ZIP code
             area, we obtained statistical data on race and income from the Donnelley
             Marketing Information Services (DMIS).' The demographic data are esti-
             mates of 1989 conditions based upon 1980 Census information on popu-
             lation and household income. The data included estimates of the number
             of individuals by race (white, black, and other) and number of house-
             holds per ZIP code area, as well as the number of households within spe-
             cific income categories for each ZIP code area. This data provide general
             demographic information, but does not represent the characteristics of
             specific borrowers associated with the agencies’ loan activity data dis-
             cussed in the report.

             The demographic data were compiled according to 1989 residential ZIP
             code data for the five counties. We sorted the statistical data for Fannie
             Mae, Freddie Mac, and HUD on two demographic variables-number          of
             individuals by race and average income-for each ZIP code.

             The statistical data represent the number and value of single-family
             home mortgage loans that these organizations purchased, insured, or
             guaranteed in 80 ZIP code areas within the five-county metropolitan
             Atlanta area during the period July 1, 1987, through June 30, 1989.
             Although the agencies identified more than 80 ZIPcodes in the five coun-
             ties, our consolidation of loan activity and demographic data from
             various sources resulted in 80 ZIP codes for use in our study. Overall, our
             study of data for the 80 ZIP code areas represents about 85 percent of
             both the number and the total dollar value of loan activity the agencies
             reported to us.

              ‘Donnelley Marketing Information Services, a company of the Dunn & Bradstreet Coqwra111an.pre
              vides selected demographic information from the 1980 Census of the United States, proJwtr4 to
              reflect current year (1989) estimates. The Donnelley Demographics data base contams rstlmatrs for
              various demographic characteristics and is generally used for market analysis.



              Page 14                                             GAO/RCJCD91-2 Secondary      Mortgage   Market
    Appendix I
    Scope and Methodology




    We compiled the statistical data by postal ZIP codes because that was the
    lowest common level that Fannie Mae, Freddie Mac, and HUD could accu-
    mulate to provide the data. However, the VA data were not available
    below the county level because VA does not include ZIP codes in its loan
    guarantee data base. Therefore, the VA data are presented separately, by
    county. Throughout the report, we rounded all percentages to the
    nearest whole number.

    Unlike Fannie Mae, Freddie Mac, and HUD, VA included the race of bor-
    rowers associated with loans guaranteed in the data provided to us.
    However, according to a VA Program Analysis Specialist, VA could not
    provide complete data on borrower income; therefore, we sorted the
    data only by race.

    Because a large number of renters in a ZIPcode area could distort the
    loan activity data, we adjusted the population of households in each ZIP
    code area to reflect only the estimated number of homeowners. For each
    ZIPcode, this adjustment was the estimated number of households in
    1989 less the percentage of renters from the 1980 Census data.

    Generally, we presented the loan activity data in terms of the number of
    loans per 100 homeowners in an income or race category. We used this
    measure to provide greater comparability in terms of the population of
    homeowners among the various categories.

    To identify the racial composition of the ZIPcode areas, we defined two
    population groups- white and minority. We classified the demographic
    data in terms of the percentage of white individuals by ZIPcode area and
    sorted the data into five population groups ranging from O-20 percent
    white to 81-100 percent white. However, these population classifications
    can also express the percentage of minority individuals in a ZIP code
    area. For example, a population group of O-20 percent white can also be
    referred to as 81-100 percent minority.

     To show the loan activity within ZP code areas having various income
     levels, we estimated average household income per ZIPcode area. All 80
     ZIPcodes had average incomes between $7,600 and $74,999. We sorted
     the mortgage loan activity data by the four income levels per ZIP code
     area:

l    $7,500~$24,999;


l    $26,000~$34,999;


.    $35,000-$49,999;       and


     Page 16                               GAO/IlCED91-2   Secondary   blow   Market
                                Appendix I
                                Scope and Methodology




                            l   $50,000-$74,999.




                                We obtained information concerning home prices from Dataman Infor-
                                mation Services, Inc.2 Dataman obtained the information from warranty
                                and security deeds recorded in Fulton, Dekalb, Gwinnett, Cobb, and
                                Clayton County courthouses. This home sales data were the most com-
                                plete and recent that we identified. The data represent the amount paid
                                to the nearest thousand dollars for single-family dwelling properties in
                                the 80 ZIP code areas studied during the period September 1, 1988,
                                through September 30,1989. We merged the home sales and demo-
                                graphic data and computed the average and median sales prices of
                                homes for the selected population and income categories of ZIP code
                                areas.


                                The loan activity data provide information on the extent and location of
Data Limitations                secondary market activity in the Atlanta metropolitan area. However,
                                we were unable to determine the reasons for the variations in loan
                                activity among areas in Atlanta because of data limitations. Conse-
                                quently, the data should not be used to derive conclusions on discrimina-
                                tion in secondary market loan activity.


Reliabili .ty of Data Not       As discussed above, we obtained data on loan activity and demographic
                                characteristics from different agencies as well as private industry
Verified                        sources. Because of time constraints and possible problems obtaining
                                access to data, we could not perform any data reliability assessments to
                                determine the accuracy of the data provided to us by these
                                organizations.

                                The demographic characteristics for each ZIP code area do not necessa-
                                rily represent current (1990) conditions in the Atlanta area. The data on
                                population by race and income levels are estimated 1989 data based on
                                1980 Census data. We obtained this data from a private marketing infor-
                                mation service and did not analyze its method of projecting the data.




                                 ‘Dataman Information Services, Inc., is a privately owned company that collects real I-GUIVAIMSmort-
                                 gage data and prepares detailed analyses of housing activity. Dataman collects such tnf~I~~AI11in as
                                 the purchase price, mortgage amount, loan type, transaction date, and lender name frl NT)H .c.~.u~y
                                 and security deed records at county and municipal courthouses nationwide on a diulv bw\ l‘h~ r&
                                 estate and mortgage data are generally used for market analysis.



                                 Page 16                                             GAO/WED-91-2 Secondary Monw              Market
                             Appendix I
                             Scope and Methodology




Lack of Comparabil .ity of   ZIP codes were the lowest common geographic area for which Fannie
                             Mae, Freddie Mac, and HUD could provide loan activity data. However,
ZIP Code Areas               the lack of comparability in ZIP code areas in terms of demand for
                             housing, the number of renters versus homeowners, and the condition of
                             the housing stock may affect any comparison of loan activity data. In
                             fact, any other unique circumstance for a particular ZIP code may affect
                             the loan activity patterns and may not be representative of the agencies’
                             purchasing or insuring tendencies.

                             The data available to us did not provide a means of controlling for vari-
                             ations in loan demand across the various ZIP codes. We did not measure
                             title transfers, the level of new home construction, the number of
                             existing homes for sale, or resident mobility, which could provide some
                             indication of the housing market and loan demand in each ZIP code.
                             Because loan demand influences the number of loan originations, a
                             greater demand for mortgage loans in one area versus another could
                             indicate a racial pattern that is not caused by discrimination.

                             To ensure greater comparability in terms of homeowners, we adjusted
                             the population of households in each ZP code area to reflect only the
                             estimated number of homeowners. The number of mortgageable residen-
                             tial properties in a ZIP code area with a large number of households
                             living in multifamily rental structures may be much less than the overall
                             household count. For each ZIP code, this adjustment was simply the esti-
                             mated number of households in 1989 less the percentage of renters from
                             the 1980 Census data. However, we do not know what changes may
                             have occurred in the numbers of renters and homeowners in each ZIP
                             code over the past 10 years or what effect these changes would have on
                             the purchasing patterns of the secondary market agencies.


Few ZIP Codes in Some        The demographics of the Atlanta area produced uneven distribution of
                             the 80 ZIP codes over the five race and four income categories we
Race/ Income Categories      defined. In some instances, as few as one or two ZIP codes fell into a
                             particular category. (See table 111.3.)The uneven distribution of the ZIP
                             codes over the various categories may, in part, explain the loan activity
                             patterns. For example, an income and/or racial composition category
                             may reflect unique characteristics, such as proximity to commercial
                             activity, which may prevent lenders from originating loans in those
                             areas. Therefore, we cannot determine whether the loan activity pat-
                             terns are representative of the agencies’ purchasing or insuring tenden-
                             cies or some other factors.



                              Page 17                               GAO/RcEDsl-2   Secondary Mortgage Market
                            Appendix I
                            Scope and Methodology




Compliance With Basic       The loan activity data available to us did not contain information on
Underwriting Criteria Not   why loan applications were approved. Similarly, we had no information
                            on why loan applications were denied. The loan activity data available
Assessed                    did not contain information on loan selection; that is, the process by
                            which lenders determine whether a given loan application is within the
                            bounds of acceptable risk. The data are limited to the overall number
                            and value of loan activity by ZIP code area for each agency and does not
                            provide any information on the individual loans involved. For example,
                            we did not have information on any individual borrower’s income or
                            credit worthiness or the value of properties involved.

                            In addition, we had no way to determine the condition or comparability
                            of the housing stock among the various ZIP code areas. Since home
                            appraisal is a major factor in determining whether a loan is within the
                            bounds of acceptable risk, the condition of the housing stock may
                            account for a difference in the level of loan activity among ZIPUK+
                            areas.

                            The only data we have that are related to the mortgage underwriting
                            process is ZIP code average income. However, this measure is limited
                            because (1) the income of potential mortgagers may be significantly dif-
                            ferent from the ZIP code average and (2) average income may be skewed
                            by a few extremely high or low household incomes within a ZIPcode
                            area.

                            Similarly, population groups are defined by the percentage of whit0 or
                            minority individuals in a ZIP code area; however, we cannot say whether
                            the loan activity or the average and median home prices in thcstl ;irttas
                            are related specifically to white or minority individuals.


Renter Income Included in   The demographic data we obtained from DMIS included the numbvr of
                            households in seven income categories for each of the 80 ZIPcodt~
ZIP Code Average Income     Based on this data, we calculated an average income for each LII’ (.ode in
                            our study. Because the average income figure we calculated is t);t\t4 on
                            household income, the incomes of renters as well as homeownt~rs XV
                            included. The ZIP code average income figure we calculated ma>’ t)(btiis-
                            torted to the extent that renters’ and homeowners’ incomes tilt‘t’t~!


Duplication of Loan Data    Fannie Mae and Freddie Mac loan data may duplicate HITD’S Io;~H (kit ;t to
                            a small extent. We wanted to provide a perspective on the OLc~r;~ll( ;~nnie



                            Page 18                                GAO/RCED-91-2 Seconda   M11nI&UWMarket
                           Appendix   I
                           Soope and Methodology




                           Mae activity in the Atlanta area, but Ginnie Mae does not have auto-
                           mated data to show details on the specific HUD or VA loans it backs. Since
                           Ginnie Mae handles about 90 percent of the HLJD and VA loans, we
                           obtained statistical data from HUD and VA on their mortgage loan
                           activity. We recognize that some duplication exists because both Fannie
                           Mae and Freddie Mac purchased a small percentage of HUD and VA loans.


VA Data Not Available by   VA data were not available below the county level because VA does not
                           include ZJP codes in its loan guarantee data base. Although Ginnie Mae
ZIP Code                   handles 90 percent of all HUDand VA loans, we could not include VA data
                           in our summary of loan activity by ZIPcode area. Therefore, we have
                           provided a separate summary of VA loan activity by race for each
                           county. For the 2-year period, VA guaranteed only 10 percent of the
                           agencies’ loan activity in the 80 ZIPcode areas discussed in this report.


Home Price Data Not        The home sales (price) data we used reflect the average home values in
                           the 80 ZIPcode areas during the period September 1,1988, through Sep
Compatible With Loan       tember 30,1989, and cannot be compared to secondary market loan
Activity Data              activity. Dataman obtained information on home sales from the war-
                           ranty deeds recorded in the respective county courthouses. The home
                           sales data represent all single-family dwelling property transfers that
                           occurred during the period September 1,1988, through September 30,
                           1989. This time period represented the most complete and current data
                           available to us.

                           Also, no relationship exists between the race and income categories in
                           our statistical presentations and the home prices within these catego-
                           ries. We do not know the race or the income levels of the actual buyers.

                           Finally, because the home price data and loan value data are from two
                           different sources, the data cannot be used together to draw conclusions
                           concerning loan-to-value (Lrv) ratios.




                           Pye   19                               GAO/RCTCWl-2 secondary hlw    brket
Appendix II

Underwriting Guidelines Used by Fannie Mae,
Freddie Mac, HUD, and VA

                       This appendix addresses the underwriting guidelines established for
                       individual home loans as set by the secondary market agencies (Fannie
                       Mae and Freddie Mac) and the government agencies (HUD and w).
                       Fannie Mae and Freddie Mac provide similar guidance to lenders from
                       whom they purchase mortgages. Each specifies its standards in a Seller/
                       Servicer Guide provided to lenders to assist them in underwriting
                       acceptable loans.

                       Ginnie Mae does not have any underwriting guidelines of its own but
                       will assist in marketing loans insured by HUD or guaranteed by VA. HCD
                       and VA have each established their own credit and property appraisal
                       guidelines for determining which mortgages to insure or guarantee.
                       HUD'S underwriting    standards are included in handbooks 4155.1 REV-2
                       (credit) and 4150.1 REV-l (appraisal). VA’S underwriting criteria are
                       included in circular 26-80-l 1, revised (credit) and manual M26-2
                       (appraisal).


                       As of January 1, 1990, Fannie Mae and Freddie Mac have had maximum
General Requirements   loan purchase amounts of $187,450, in the continental United States.
                       HUD'S maximum loan insurance amount is $67,500 but can be $124,875’
                       in areas with prevailing high housing costs. The amount of the guaranty
                       for a VA loan depends on the amount of the loan. Since December 1989,
                       the guaranty has been (1) 50 percent of the loan amount for loans of
                       $45,000 or less or $22,500 for loans of greater than $45,000, but not
                       more than $56,250; (2) the lesser of 40 percent or $36,000 for loans of
                       more than $56,250 and not more than $144,000; and (3) the lesser of
                       $46,000 or 25 percent for loans of greater than $144,000.

                       Table II. 1 outlines the general loan requirements for mortgages on
                       single-family dwellings for the four organizations.




                       ‘Effective January 12. 1990, the Congress raised the “high cost” limit to $124.875 for fi.sA year
                       1990. The limit will revert to $101,250 after September 30, 1990, unless the Congress tlstt,nds the
                       fEcal year 1990 increase. Subsequently, the President signed a temporary resolution that Inamtains
                       the $124,875 loan limit until October 31,199O.



                       Page 20                                              GAO/RCEDSl-2 Secondary Mortgage Market
                                        Appendix II
                                        Underwriting    Guidelinea Used by Fannie Mae,
                                        Freddie Mac,    HUD, and VA




Table 11.1:General Loan Requirements
for Fannie Mae, Freddie Mac, HUD, and                             Maximum loan              Maximum loan-to-              Mortgage insurance
VA                                      Agency                    amount                    value ratios.                 required
                                        Fannie Mae                $187,450 in               95 percent                    For LTV greater   than
                                                                  continental United                                      80 percent
                                                                  States
                                        Freddie   Mac             $187,450 in               95 percent                    For LTV greater   than
                                                                  continental United                                      80 percent
                                                                  States
                                        HUD                       $67,500; $124,875    in   97 percent     of first       HUD provided
                                                                  prevailing high           $25,000; 95 percent
                                                                  housing cost area         of remaining     value
                                                                  b                         b
                                        VA                                                                                VA provided
                                        BThe LTV ratio expresses the loan amount as a percentage of the value of the property. Maximum LTV
                                        ratios may differ in certain situations specified in the guidelines.
                                        %A crrcular 26-80-l 1 (rev. Dec. 2. 1987) does not contain the maximum loan amount or the maxrmum
                                        LTV ratio acceptable to VA. According to VA’s Chief of Loan Processing, Atlanta Regronal Office, VA
                                        does not have a maximum loan amount or a maximum loan-to-value ratio.



                                        In determining the borrower’s ability to repay the debt, Fannie Mae,
Borrower’s Ability to                   Freddie Mac, HUD, and VA recommend that the lenders relate the bor-
Repay the Debt                          rower’s income and liabilities to the proposed housing payment. In doing
                                        so the underwriter should assess factors such as borrower income,
                                        housing expense-to-income ratio, total debt-to-income ratio, and
                                        employment.


Income                                  Fannie Mae, Freddie Mac, HUD,and VA recommend that lenders make a
                                        determination regarding the adequacy, stability, and continuance of the
                                        borrower’s income. Each organization requires that the lenders verify 2
                                        years’ previous earnings in making such a determination.

                                        In addition to earnings from the borrower’s primary employment, the
                                        guidelines permit inclusion of the following items in determining total
                                        income:

                                        Secondary income such as bonuses, commissions, overtime, and part-
                                        time or second job income.
                                        Certain military compensation such as income from the National Guard,
                                        flight or hazard pay, or quarters allowance.
                                        Retirement or social security income.
                                        Income from federal, state, or local assistance programs, if disclosed by
                                        the borrower.
                                        Child support or alimony.



                                        Page 21                                                 GAO/BcEDol-2          Secondmy Mortgwje hhrket
                        Appendix II
                        Underwriting Guidelines Used by Fannie Mae,
                        Freddie Mac, HUD, and VA




                l       Other verifiable sources of income.

                        Fannie Mae’s guidelines also permit income from seasonal employment if
                        it has continued for the past 2 years and the borrower expects to be
                        rehired for the next season.

                        In determining the borrower’s stable monthly income and earning poten-
                        tial, Fannie Mae’s and Freddie Mac’s guidelines suggest that lenders con-
                        sider factors such as the borrower’s education, training, technical skills,
                        occupation, and past employment history. On a case-by-case basis,
                        Freddie Mac also considers the borrower’s age in determining stable
                        monthly income.

                        When including income from federal, state, or local assistance programs,
                        alimony, or child support, various factors must be considered in deter-
                        mining the likelihood of such income continuing. These factors and the
                        organizations requiring them include

                    . whether payments are received pursuant to a written agreement or
                      court decree (Fannie Mae, Freddie Mac, HUD, VA);
                    . the length of time the payments have been received or are expected to
                      be received (Fannie Mae, Freddie Mac, HUD, VA);
                    . the regularity of receipt (Fannie Mae, Freddie Mac, HUD, VA);
                    . whether legal procedures are available to compel payment (Freddie Mac,
                      HUD, VA); and
                    l the credit worthiness of the payer, including the payer’s credit history
                      when available to the seller under the Fair Credit Reporting Act or other
                      applicable laws (Freddie Mac, HUD, VA).


Income Ratios           For loans to be eligible for sale to the secondary market, the loans and
                        the borrowers are usually required to meet certain qualifying financial
                        ratios to set limits on the risks involved. Generally, underwriting guide-
                        lines may establish maximum ratio percentages and require the applica-
                        tion of these ratios on a loan-to-loan basis.

                        The secondary market agencies and government agencies use two
                        overall ratios as guidelines to qualify homebuyers. Table II.2 summa-
                        rizes the housing expense-to-income ratios and total debt payment-to-
                        income ratios acceptable to the four underwriting organizations




                         Page 22                                      GAO/RCED91-2   !Secondmy Mortgngr   Market
                                         Appendix II
                                         Underwriting Guidelines Used by Fannie Mae,
                                         Freddie Mac, HUD, and VA




Table 11.2:Comparison of Income Ratios
for Fannie Mae, Freddie Mac, HUD, and                                       Monthly housing expense-            Total monthly debt
VA                                       Agency                             to-income ratio                     payment-to-income ratio
                                         Fannre Mae                         28 percent                          36 percent (For LTV less than
                                                                                                                or equal to 90 percent)
                                                                                                                33 percent (For LTV greater
                                                                                                                than 90 percent)
                                         Freddie   Mac                      28 percent                          36 percent
                                         HUD                                29 percent                          41 percent
                                         VA                                 nonea                               41 percent

                                         %ee tables II 3 and 4


                                         VA’S underwriting guidelines are unique in that they provide for a
                                         residual income method of qualifying a borrower. To qualify a borrower
                                         under this method, housing expenses (including mortgage payments)
                                         and other monthly payments are subtracted from the borrower’s net
                                         effective income. Net effective income is gross income less federal
                                         income taxes. The remaining value is the residual monthly income for
                                         family support. VA provides a table of residual monthly incomes by
                                         region based on Department of Labor consumer expenditure surveys. VA
                                         provides the residual income table as a guide to qualify borrowers; how-
                                         ever, ~4 states that these figures should not automatically trigger
                                         approval or rejection of a loan.

                                         Tables II.3 and 4 show the residual monthly incomes for family support
                                         for loan amounts up to $69,999 and above $70,000.

Table 11.3:Residual Monthly Incomes by
Region for Loan Amounts of $69,999 and   Family size0                            Northeast          Midwest              South              West
Below                                    1                                               $348            $340                $340           $379
                                         2                                               $583            $570                $570           $635
                                         3                                               $702            $687                $687           $765
                                         4                                               $791            $773                $773           $861
                                         5                                               $821            $803                $803           $894

                                         aFor famrlies wrth more than five members, add $70 for each additional member up to a family of seven




                                         Page 23                                                GAO/RCJD91-2 Secondary          Mortgage   Market
                                         Appendix II
                                         Underwriting Guidelines Used by Fannie Mae,
                                         Freddie Mac, HUD, and VA




Table 11.4:Residual Monthly Incomes by
Region for Loan Amounts of $70,000 and   Family size0                            Northeast         Midwest              South             West
Above                                    1                                             $401             $393              $393             $437
                                         2                                             $673             $658              $658             $733
                                         3                                             $810             $792              $792         ~--__$882
                                         4                                             $913             $893              $893             $995
                                         5                                             $946             $925              $925           $1.031

                                         ‘For families with more than five members, add $75 for each additional member up to a family of seven,


                                         Each of the organizations provide for compensating factors which may
                                         allow the borrower to exceed the maximum income ratios or residual
                                         income figures discussed above. Examples of compensating factors pro-
                                         vided for in the various guidelines are

                                         a large down payment;
                                         the demonstrated ability of the borrower to devote a greater portion of
                                         income to housing expense;
                                         the borrower’s net worth being substantial enough to evidence an ability
                                         to repay the mortgage regardless of income;
                                         the likelihood of increased earnings based on education, job training, or
                                         time employed or practiced in a profession;
                                         evidence of an acceptable credit history or limited credit use;
                                         less than maximum mortgage term; and
                                         a health or welfare or community service organization provides funds
                                         for unusual services, house repairs, and the like.

                                         In considering the borrower’s income ratios, Freddie Mac guidelines indi-
                                         cate that more flexibility is appropriate for the monthly housing
                                         expense ratio than for the debt payment ratio.

                                         All guidelines require that the lender provide a written explanation that
                                         includes the compensating factors that justify the use of higher ratios.


Employment                               As part of determining the stability of income, lenders must look at the
                                         borrower’s employment history. Fannie Mae, Freddie Mac, and f11I)
                                         require the lender to verify the borrower’s employment for the 2 >xtars
                                         preceding the loan application. The borrower must explain any frequent
                                         changes or gaps in employment for this time period. VA also requlrcs ver-
                                         ification of the borrower’s preceding 2 years of employment; hok+x>\.cr,
                                         VA provides an exception if this period consisted of active military duty.




                                          Page 24                                               GAO/RCEl%91-2 !Secondaxy Mot-t-           Market
                          Appendix II
                          Underwriting Guidelines Used by Fannie hfae,
                          Freddie Mac, HUD, and VA




                          Fannie Mae guidelines indicate that a shorter employment history may
                          be acceptable with adequate verification for a borrower who has
                          recently graduated from school or was recently discharged from the mil-
                          itary. VA also provides that recently discharged veterans or those with
                          employment of short duration require special attention. Freddie Mac
                          states only that the lender must consider the circumstances surrounding
                          gaps in employment.

                          HUD  guidelines state that no arbitrary limits should be set for the length
                          of time a borrower must have held a position in order to be eligible.
                          However, for employment of short duration, HUD requires special consid-
                          eration. HUD also indicates that in cases where employment on a tempo-
                          rary basis is customary, employment stability will depend on the
                          availability of opportunities for re-employment. Finally, HUD provides
                          guidance indicating that temporary unemployment due to action of rec-
                          ognized labor unions does not necessarily make the borrower ineligible
                          for an insured mortgage.

                          Both Fannie Mae’s and Freddie Mac’s guidelines indicate that frequent
                          job changes do not necessarily indicate the lack of stable income. Ror-
                           rowers who change jobs frequently to advance within the same line of
                           work and who are successful in that work should be considered fator-
                           ably. However, frequent job changes without advancement or changes
                           from one line of work to another could lead to unstable income. Frc>ddie
                           Mac suggests that if the borrower has maintained a stable income over
                           the recent past, job hopping without advancement should not result in
                           unfavorable consideration. Freddie Mac requires that borrowers with
                           unstable employment histories have demonstrated financial strength
                           and the ability to meet financial obligations when due.

                          Fannie Mae guidelines also state that borrowers who have questionable
                          employment histories must have strong offsetting financial strtlngths to
                          be considered for maximum financing. Fannie Mae defines masimum
                          financing as an amount that is within 5 percent of the highest IXI ratio
                          allowed for a specific type of mortgage. For example, for those typt’s of
                          mortgages allowed a 95- percent LTV ratio, any financing that tlsc~t~t& 90
                          percent of the property’s value would be considered maximum
                          financing.


Fannie Mae Requirements    Only Fannie Mae guidelines specify additional lending consltkr;~r :(,115
                           when the LTV exceeds 80 percent. For these high LTV loans, the I(‘III~(T
on High LTV Mortgages      must pay particular attention to the borrower’s


                           Page26                                        GAO/RCED-91-2 Secondary %hr(awr   Market
                               Appendix II
                               Underwriting Guidelines Used by Fannie Mae,
                               Freddie Mac, HUD, and VA




                       l adequacy of reserves after closing,
                       . ability to make a monthly housing payment that is larger than his or her
                         previous mortgage or rental payment,
                       l ability to accumulate savings and to demonstrate proper debt
                         management,
                       l demonstrated capability for increased earnings in future years (espe-
                         cially for adjustable rate mortgages), and
                       . ability to maintain an excellent credit history.

                               If the LTV ratio is above 90 percent, the lender may use higher qualifying
                               ratios only if the borrower satisfies one of the following requirements:

                       l       Has financial reserves that can be used to carry the mortgage debt: part
                               of the savings must be in the form of liquid assets that equal at least 2
                               months of housing expense payments.
                           l   Has a demonstrated ability to devote a greater portion of income to
                               housing expenses (but the housing expense for the mortgage the appli-
                               cant is seeking should not exceed the borrower’s previous housing
                               expense), an excellent payment history on any prior mortgage obliga-
                               tion, and an excellent credit history.
                           l   Has a debt payment-to-income ratio (at the time of the application) of 30
                               percent or less, an excellent payment history on any prior mortgage obli-
                               gation, and an excellent credit history.



                               ties’ guidelines suggest that the lender should consider the borrower’s
Willingness to Repay           track record for meeting previous credit obligations. This analysis
the Debt                       requires a review of the borrower’s manner of paying obligations and
                               the ability to manage financial affairs. According to HUD guidelines, past
                               credit performance serves as the most reliable guide in determining the
                               credit attitudes that govern the individual’s future actions.

                               If the borrower has a history of slow payments on existing or previous
                               debt, Fannie Mae, Freddie Mac, and VA require that the borrower provide
                               an explanation. Lenders must also pay careful consideration to past
                               bankruptcies and foreclosures and other adverse credit actions.

                                HUD   guidelines indicate that the lender should not look for the isolated
                                case of unsatisfactory or slow payment of an account but for a general
                                pattern of credit behavior. A period in the past containing financial dif-
                                ficulty does not necessarily make the risk unacceptable, if, subse-
                                quently, a good payment record has been maintained. However, if the


                                Page 26                                      GAO/RCED91-2 Secondary Mortgage Market
Appendix II
Underwriting Guidelines Used by Fannie Mae,
Freddie Mac, HUD, and VA




borrower has adequate income but consistently fails to repay creditors
promptly, the reasons for this pattern must be carefully analyzed.

Fannie Mae standards state that a borrower who has satisfactorily made
payments on outstanding or previous credit obligations may be consid-
ered favorably. However, a borrower who continually increases liabili-
ties and periodically bails out through refinancing and debt
consolidation is a marginal credit risk.

Freddie Mac relies on the lender’s determination that the borrower is
credit worthy. Freddie Mac requires the lender determine that the bor-
rower’s credit reputation would be acceptable to mortgage lenders in the
area.

VA states that if the credit analysis develops any derogatory credit infor-
mation and, despite such facts, it is determined that the borrower is a
satisfactory credit risk, the lender must explain the basis for the
decision.

Fannie Mae, Freddie Mac, and VA require a term of at least 2 years after
a bankruptcy proceeding against the borrower before the applicant can
be considered for a loan. A shorter term is acceptable if the lender can
prove that extraordinary circumstances caused the bankruptcy. Exam-
ples of extraordinary circumstances provided in the various guidelines
are those that are beyond the control of the borrower such as a serious,
long-term illness not covered by insurance, death of a principal wage-
earner, or loss of employment due to factory slowdowns, strikes, or
reductions in force. HUD requires that at least 1 year has passed before
considering the borrower for a mortgage. In all cases the lenders must
determine that the borrower has re-established good credit.

Generally, Fannie Mae and Freddie Mac will not purchase and HII) will
not insure any loan for a borrower who has defaulted on a mortgage
within the past 3 years. However, if the borrower has owned property
that was subject to foreclosure proceedings within the past 3 years, the
lender must document that the foreclosure resulted from extraordinary
circumstances.

VA does not make specific comments concerning previous mortgage
defaults; however, VA does address prior VA loan experience. w states
that such experience, especially if it is recent, may be so unfa\.or;ible
that further credit is not warranted. VA does not state an acceptabltL time



Page 27                                       GAO/WED-91-2 Secondary Mortgage   Market
                     Appendix II
                     Underwriting Guidelines Used by Fannie Mae,
                     Freddie Mac, HUD, and VA




                     frame after which adverse prior mortgage experience would not be con-
                     sidered in the lending decision.

                     Fannie Mae, HUD, and VA indicate that the absence of credit history will
                     not generally be viewed as an adverse factor in credit underwriting.
                     Fannie Mae and VA require that efforts should be made to develop evi-
                     dence of timely payment of obligations such as rent and utilities pay-
                     ments Fannie Mae guidelines indicate that when adequate credit
                     histories cannot be established in this manner, the lender should con-
                     sider very conservative mortgage terms only and even those may not be
                     appropriate without strong offsetting factors. Freddie Mac does not
                     address the absence of borrower credit history.


                     The primary purpose of conducting a property appraisal is to estimate
Sufficiency of the   the fair market value of the property that is the collateral securing the
Property Value to    mortgage loan. The appraiser’s role is to provide a defensible estimate of
Cover the Mortgage   property value and provide a complete, accurate description of the
                     property and other related information to support the appraiser’s esti-
                     mate of market value and related risks. Appraisals are important
                     because in the event of a default, the collateral’s market value is what
                     stands between the lender and a potential loss. The lender can recover
                     the investment in the property without suffering a loss only if the prop-
                     erty can be sold for an amount greater than the unpaid loan balance plus
                     the cost of foreclosure proceedings.

                     Fannie Mae’s and Freddie Mac’s appraisal guidelines are included in
                     their Seller/Servicer guides. HUD'S appraisal guidelines are in Handbook
                     4150.1 Rev-l. VA'S standards are in Manual M26-2 (January 26, 1988).
                     Each agency uses the “Uniform Residential Appraisal Report” form in
                     conducting the appraisal.

                     Fannie Mae and HUD appraisal guidelines focus on analyses of the neigh-
                     borhood or location of the property, a physical inspection of the site and
                     improvements, and the valuation of the property which are the main
                     sections on the “Uniform Residential Appraisal Report.” Freddie Mac
                     and VA address these areas; however, their guidelines generally do not
                     provide specific procedures for performing the appraisal other than
                     requiring completion of the “Uniform Residential Appraisal Report .”
                     Each set of guidelines outlines three approaches for appraisers to llse in
                     determining the market value of property -market or sales comparison,
                     cost, and income.



                     Page 29                                       GAO/ltCEDBl-2   Secondary Mm-tgagr Market
                                   Appendix II
                                   Underwriting Guidelines Used by Fannie Mae,
                                   Freddle Mae, HUD, and VA




Neighborhood/Location              Fannie Mae and HUD guidelines provide for a neighborhood/location
Analysis: Fannie Mae and           analysis to determine the value of property based on economic, social,
                                   government, or environmental forces that affect it. Fannie Mae defines a
HUD                                neighborhood as an area with a group of properties that have comple-
                                   mentary land uses. HUD'S location analysis involves a comparison of sim-
                                   ilar locations without regard to the character or quality of the building
                                   improvements that exist on the site. In other words, a vacant site should
                                   receive the same location evaluation as an improved site in a similar
                                   location-one that includes properties having similar amenities and
                                   values to those in the subject location/neighborhood.

                                   As stated in Fannie Mae and HUD guidelines, examples of the forces that
                                   may influence the market value of a property in a particular neighbor-
                                   hood or location are

                           l industrial, commercial, agricultural, and retail sales activity (HUD);
                           l price and wage levels or the purchasing power of individuals (HUD);
                           l employment opportunities (HUD);
                           . supply and demand for living units (HUD, Fannie Mae);
                           l taxation levels (HUD);
                           l population change (HUD);
                           l attractiveness of neighborhood buildings (HUD);
                           . neighborhood character and character of neighborhood structures (HUD);
                           l age of structures (HUD, Fannie Mae);
                             adequacy of transportation (HUD);
                               l


                             degree of development and growth rate (Fannie Mae);
                               l


                           . property values (Fannie Mae);
                           . changes in property from owner-occupied to tenant-occupied dwellings
                             (Fannie Mae); and
                              high vacancy rates (Fannie Mae).
                               l




                                   Fannie Mae states that neither the racial composition nor the age of the
                                   neighborhood is a reliable appraisal factor. Fannie Mae states that it
                                   does not designate certain areas as being acceptable or unacceptable, but
                                   does recognize that “locational factors are fundamental to proper
                                   appraising and prudent underwriting and that there is nothing improper
                                   about underwriting on the basis of a realistic perception of risk in a
                                   given neighborhood.” Fannie Mae also states that the appraiser must be
                                   impartial and specific in describing the favorable or unfavorable factors
                                   in a neighborhood and should avoid the use of subjective terms such as
                                   “pride of ownership” or “neighborhoodin transition.”




                                    Page 29                                      GAO/WED-91-2 Secondary Mortgage   Market
Appendix II
Underwriting Guidelines Used by Fannie Mae,
Freddie Mac, HUD, and VA




HUD  provides specific statements pertaining to property located in low-
income areas. For example, concerning the attractiveness of neighbor-
hood buildings, HUD states that the appeal of a location is strengthened if
the buildings in a neighborhood are attractive as a group and harmonize
with one another and with their physical surroundings and that a
pleasing variety that results in harmoniously blended properties
without monotonous repetition is desirable. HUD further states that “it
has been demonstrated that a pleasing variety in dwelling design need
not be sacrificed in a neighborhood composed of low-cost housing.” HUD
also states that “areas occupied by low-income families will ordinarily
have easier and less expensive access to [community] facilities.”

In assessing the neighborhood, HUD and Fannie Mae require the
appraiser to give consideration to environmental changes such as neigh-
borhood decline. HUD considers that the “infiltration of commercial,
manufacturing, industrial enterprises and other nonconforming uses in
residential sections, and the physical deterioration of buildings in these
sections, are other obvious and common causes” of neighborhood
decline. HUD guidelines state that “consideration must be given to the
causes of decline in desirability and utility of residential districts in
order to develop the greatest accuracy in valuation estimates.” Fannie
Mae’s guidelines do not give examples of causes of neighborhood decline
but state that appraisers must consider the cause of the property’s
decline and its effect on the property’s marketability. According to
Fannie Mae’s guidelines, properties in areas of declining value must be
reviewed with great care. Fannie Mae standards state that a “lender
must not consider the use of maximum financing in any instance in
which property values are declining.”

HUD   states that any older existing community which is found unaccept-
able because of certain features adversely affecting its location may be
eligible for special funds under its section 223(e) program. The purpose
of the section 223(e) program is to permit the use of HUD mortgage insur-
ance in older, declining urban areas, in order to provide housing for low-
and moderate-income families and to contribute to the upgrading or sta-
bilization of such areas. Special funds have been appropriated by the
Congress for this program since the insurance of mortgages in such
areas constitutes a higher risk than other localities. HUD states that the
Chief Appraiser in each field office should become acquainted with and
be aware of such neighborhoods so as to assure that the special high-
risk funds are used for properties in such areas.




Page 30                                       GAO/RCEBBl-2 Secondary Mortgag(r Market
Appendix II
Underwriting Guidelines Used by Fannie Mae,
Freddie Mac, HUD, and VA




According to HUD, this is not to be confused with “redlining.” To redline
is to withhold home loan funds or insurance from neighborhoods consid-
ered poor economic risks. HUD states that it does not withhold insurance,
but rather designates the insurance fund program which must be used in
connection with the insuring of loans in these areas.

Finally, HUD states that gentrification may reverse the rate of decline of
an older neighborhood assuming it is not subject to heavy commercial or
industrial encroachment. Gentrification occurs when people move into
older or declining neighborhoods and restore the homes.

Both Fannie Mae and HUD use an analysis of similar neighborhoods in
determining the strength of the subject neighborhood-the    neighbor-
hood containing the property an applicant is trying to buy. Fannie Mae
provides guidance for a neighborhood rating system in which the
appraiser rates the various aspects of a neighborhood by comparing
them to the same aspects of similar neighborhoods. A similar neighbor-
hood is one that includes properties having similar amenities and values
to those in the subject neighborhood.

In performing this analysis, appraisers must rate the principal items in a
neighborhood that are generally considered important by people when
they purchase a home- convenience to employment, shopping, and
 schools; adequacy of public transportation or utilities; police and fire
 protection; general appearance of the properties; and property compati-
 bility. An average rating should indicate that the characteristics of sub-
ject neighborhoods are equal to those that represent the norm for the
 market area and that are considered acceptable in competing neighbor-
 hoods. The use of neighborhood ratings should not preclude appraiser
 comments on the neighborhood conditions. Fannie Mae provides the fol-
 lowing example. If a neighborhood is characterized by a lack of mainte-
 nance or absence of local government services (which may be typlc*al for
 similar neighborhoods and, therefore, warrant an “average” rating 1.the
 appraiser still must describe such neighborhood conditions on the
 appraisal form.

HUD requires a similar location analysis. HUD guidelines state that ;m
acceptable location must be related to the needs of the prospect 1LILI MW-
pants and to the alternatives available to them in other similar ICH;II Ions.




Page 31                                       GAO/RCRDBl-2 Secondary Wongaur   Harket
                                   Appendix II
                                   Underwriting Guidelinea Used by Fannie Mse,
                                   Freddie Mac, HUD, and VA




Site Analysis                      Fannie Mae states that in order folr a property to qualify for maximum
Requirements: Fannie Mae           financing, the site should be of the size, shape, and topography that gen-
                                   erally conforms and is acceptable in the market area. HUD does not spe-
and HUD                            cifically address a “site analysis” but includes similar guidelines such as
                                   those listed below in its location analysis discussed earlier. Fannie Mae
                                   suggests that the appraiser comment on the following factors that affect
                                   the site:

                           . zoning classification and compliance;
                           l a determination of the highest and best use of the land;
                           l the acceptability of the utilities and streets;
                           l the topography, shape, size, and drainage of the lot; and
                           l whether property improvements are located in a flood hazard area.


Appraisal Guidelines:              Freddie Mac requires the lender to obtain an appraisal report for each
Freddie Mac                        mortgage. The appraisal report must be completed in a manner that sup-
                                   ports the appraiser’s estimate of market value and presents to the
                                   reader a visual picture of the neighborhood, site, and improvements.
                                   The appraiser is encouraged to use the “Comments” section of the
                                   appraisal report or attach addenda to make this presentation. The
                                   appraiser must also evaluate the stability and marketability of the mort-
                                   gaged premises compared with other properties in the mortgaged prem-
                                   ises’ price range. Freddie Mac generally does not provide specific
                                   guidance for conducting the appraisal. Freddie Mac’s guidelines state
                                   that as a matter of corporate policy, Freddie Mac will not purchase any
                                   loan made that is supported by an appraisal report that makes reference
                                   to race or the racial composition of the neighborhood.


Appraisal Guidelines: VA           While VA generally does not provide specific procedures for conducting
                                   the appraisal other than requiring the use of the “Uniform Residential
                                   Appraisal Report,” the guidelines require the appraiser to use acctapt-
                                   able appraisal techniques and standards. VA'S guidelines also addwss
                                   other areas such as the following:

                               . designation      of appraisers,
                           l     procedures      for requesting a determination of reasonable valutb.
                               . procedures      for assigning appraisers,
                               l procedures      for reviewing the appraisal report,
                               l procedures      for preparing certificates of reasonable value,
                               l procedures      for determining appraiser’s fees, and



                                   Page 32                                       GAO/RCED914   Secondary %l~cw-~mmtv
                                                                                                                 Uarket
                               Appendix II
                               Underwriting   Guidelines Used by Fannie Mae,
                               Freddie   Mac, HUD, and VA




                           l   VA'Sminimum property requirements for proposed and existing
                               construction.


Approaches to                  The four agencies suggest that appraisers use either the market or sales
Determining Market Value       comparison, cost, or income approaches to determine the value of a
                               property. Fannie Mae and HUD place more emphasis on the market
                               approach. Fannie Mae will not accept appraisals that rely solely on
                               either the income or the cost approach. Freddie Mac does not specify
                               that one method is preferred over another, but states that it does not
                               rely heavily on the cost approach. VA guidelines indicate that the market
                               approach will be used; however, in certain cases the cost or income
                               approaches should be used as appropriate.

                               The market or sales comparison approach uses the market price in
                               determining the value of the property. The market price is the price at
                               which a property may be currently bought or sold. Appraisers must
                               determine the relationship between the market value and estimated
                               market price through an analysis of all circumstances affecting the
                               property and the transaction. Appraisers estimate the market value of a
                               property by analyzing prices paid for similar properties. Appraisers con-
                               sider the major characteristics of the similar properties and determine
                               whether they add to or subtract from the value of the property. The
                               cost approach involves valuing property as the sum of building repro-
                               duction costs less depreciation plus the value of the land. The income
                               approach involves looking at the actual return on investment from the
                               subject property.




                               Page 33                                         GAO/RCEDBl-2   Secoridary   Mortgagr   Market
Appendix III

Secondary Market Loan Activity in the
Metropolitan Atlanta Area

                       The summary data include loans purchased by Fannie Mae and Freddie
                       Mac and loans insured by HUD for 80 residential ZIP code areas in a five-
                       county metropolitan Atlanta area for the 2-year period ending June 30,
                       1989. As discussed in appendix I, we were unable to determine the rea-
                       sons for the variations in loan activity among areas in Atlanta because
                       of data limitations. Consequently, the data in this appendix should not
                       be used to derive conclusions on discrimination in secondary market
                       loan activity. Also, in the following discussion of loan data by popula-
                       tion group and average income levels, we refer to the data for Fannie
                       Mae, Freddie Mac, and HUD as secondary market loan activity. As previ-
                       ously stated, VA could not provide loan data at the ZIP code level; there-
                       fore, we presented the loan activity data for VA separately by race and
                       county.

                       The secondary mortgage market loan activity data were greatest in pre-
                       dominately white (61-100 percent white) ZIP code areas and in ZIP code
                       areas having average incomes between $35,000 and $74,999. Fannie
                       Mae accounted for the majority of the loan activity (40 percent) while
                       Freddie Mac and HUD accounted for 32 percent and 18 percent, respec-
                       tively, during this period. The average loan amount purchased by
                       Fannie Mae and Freddie Mac and insured by HUD was $77,093 and the
                       median loan amount was $70,531.

                       VA  accounted for the smallest percentage (10 percent) of overall loan
                       activity of the four organizations. Minority individuals received the
                       greatest percentage of VA-guaranteed loans in Dekalb and Fulton C’oun-
                       ties. However, in Cobb, Clayton, and Gwinnett Counties, white individ-
                       uals received the greater percentage of VA loans.

                       During the period September 1, 1988, through September 30, 1989. the
                       average home price for the five-county Atlanta area was $12 1,772. The
                       median home price was $93,000.


                       An understanding of the demographic make-up of the metropolitan
Atlanta Demographics   Atlanta area is important to the assessment of.secondary market loan
                       activity over race and income variables.

                       Four of the five metropolitan Atlanta counties, Clayton, Cobb. [k~lialb,
                       and Gwinnett, are predominately white (86, 92,68, and 97 wrc’tbnr
                       white, respectively). Fulton County, which contains most of t htx VIt y of
                       Atlanta, is 51 percent minority. The city of Atlanta, itself. is ti7 pbrc,ent
                       minority.


                       Page 34                                  GAO/RCED-91-2   !bcondarJ   Morrgwr   Market
                                     Appendix III
                                     Secondary Market Loan Activity   in the
                                     Metropolitan Atlanta Area




                                     As discussed in appendix I of this report, we classified 80 ZIP code areas
                                     in the five-county metropolitan Atlanta area into five population
                                     groups. Most of the ZIP code areas were 81-100 percent white. (See table
                                     111.1.)

Table 111.1:Number of ZIP Codes by
Population Group                     Population group                                             Number of ZIP codes
                                     O-20 percent    white                                                                          8
                                     21-40 percent    white                                                                         6
                                                                                                          -.--       .- -___
                                     41-60 percent    white                                                                         6
                                     61-80 percent    white                                                                         8
                                     81-100 percent     white                                                                      52
                                     Total                                                                                        80


                                     We also classified the 80 ZIP code areas into four average income catego-
                                     ries. Most ZIP code areas had average incomes of $35,000-$49,999. (See
                                     table 111.2)

Table 111.2:Number of ZIP Codes by
Average Income Level                 Average income level                                         Number of ZIP codes
                                     $7,500.$24,999                                                                  9
                                     $25,000~$34,999                                                                               16
                                     $35.000-$49,999                                                                               45
                                     $50,000-$74,999                                                             -                 10
                                     Total                                                                                         80


                                     We estimated that for 1989 the total population of homeowners in the
                                     80 ZIPcode areas was 459,462. (See app. I for estimation methodology.)
                                     Most of the total population of homeowners (78 percent) live in the 60
                                     predominately white ZIP code areas (61-100 percent white). Only 16 per-
                                     cent of the total population of homeowners live in the 14 predominately
                                     minority (O-40 percent white) ZIP code areas and about 6 percent live in
                                     the 6 integrated ZIP code areas (41-60 percent white). (See fig. III. 1.)




                                      Page 35                                  GAO/RCED91-2   Secondary     Mortgage           Market
                                   Appendix III
                                   Secondary Market Loan Activity in the
                                   Metropolitan Atlanta Area




Figure 111.1:Percentage of Total
Homeowners by Population Group




                                                I                                       81-100% White
                                   Source: Demographic   data provided by DMIS and the 1980 Census


                                   The greatest percentage of the total population of homeowners (58 per-
                                   cent) live in ZIP code areas having average incomes of $35,000-$49,999.
                                   The second largest percentage of homeowners (about 21 percent) live in
                                   ZIP code areas having average incomes of $25,000-$34,999. Finally, the
                                   smallest percentage of total homeowners live in ZIP code areas having
                                   average incomes of $50,000-$74,999 and $7,500-$24,999 (about 15 per-
                                   cent and 6 percent, respectively). (See fig. 111.2.)




                                   Page 36                                             GAO/ECED91-2 Secondary Mortgage Market
                                        Appendix III
                                        Secondary Market LOan Activity in the
                                        Metropolitan Atlanta Area




Figure 111.2:Percentage of Homeowners
by Income Level




                                                                                          $3!5,000-$49,999
                                        Source. DemographIc data prowded by DMIS and the 1980 Census



Loan Activity by                        one variable-the    racial composition of the ZIP code areas, the data
Population Group                        show that such activity was greater in predominately white (6 1- 100 per-
                                        cent white) ZIP code areas. The average and median loan amounts and
                                        home prices also increased as the percentage of white population
                                        increased in a ZIP code area.

                                        For the 80 ZIP code areas in the five metropolitan Atlanta counties. the
                                        number of loans per 100 homeowners was higher in the predominately
                                        white ZIP code areas than in the predominately minority or integrated ZIP
                                        code areas. (See fig. 111.3.)The number of loans per 100 homeowners
                                        ranged from 6.2 in the predominately minority (O-20 percent white) ZIP
                                        code areas to 8.3 in the relatively integrated (41-60 percent white
                                        minority) ZIP code areas. However, the 61-80 percent white ZIP code
                                        areas received 17.2 loans per 100 homeowners, and the 81-100 percent
                                        white ZIP code areas received 13.7 loans per 100 homeowners.




                                         Page 37                                          GAO/RCED-91-2 Secondary Monga~   Uarket
                                       Appendix Ill
                                       Secondary Market Loan Activity in the
                                       Metropolitan Atlanta Area




Figure 111.3:Number of Loans per 100
Homeowners by Population Group
                                       25      Laanspu1ooHolnoownor8




                                            Populatia+l Grorp by Peranl whita

                                       Source: Loan data prowded by Fanme Mae, Freddie Mac, and HUD DemographIc data provtded by
                                       DMIS and the 1980 Census.




Average and Median Loan                The average and median loan amounts purchased or insured by Fannie
                                       Mae, Freddie Mac, and HUD increased as the percentage of white popula-
Amounts by Population                  tion increased. (See fig. 111.4.)For example, the average loan amount
Group                                  increased about 76 percent (from $46,168 to $81,179) from the predomi-
                                       nately minority population groups (O-20 percent white) to the predomi-
                                       nately white population groups (81-100 percent white). The median loan
                                       amount increased 103 percent (from $38,763 to $78,762) over the same
                                       range.




                                       Page 38                                          GAO/RCED91-2    Secondary   Mwtgaar(r Market
                                       Appendix III
                                       Secondary Market Loan Activity in the
                                       Metropolitan Atlanta Area




Figure 111.4:Average and Median Loan
Amounts by Population Group            90   Loan Amount   In Thouaanda




                                            B        Awrage Loan Amount
                                            -1-1     Medii Loan Amount
                                       Source: Loan amounts provided by Fanme Mae, Freddie Mac, and HUD. DemographIc data prowded by
                                       DMIS and the 1980 Census.




Average and Median Home                The average home price increased from $67,161 in the predominately
                                       minority (O-20 percent white) ZIP code areas to $132,485 in the 81-100
Prices by Population                   percent white ZIP code areas. The median home prices increased from
Group                                  $56,000 to $101,000 over the same range. (See fig. 111.5.)




                                        Page 39                                         GAO/RCED91-2 Secondary Mortgage Market
                                       Appendix Ill
                                       Secondary Market Loan Activity                  in the
                                       Metropolitan Atlanta Area




Figure 111.5:Average and Median Home
Prices by Population Group              140    DdlaminThouunds

                                        130

                                        120

                                        110

                                        100

                                         60

                                         60

                                         70

                                         60

                                         50                                                                              ..--

                                       &20% whit.                      2140%   whit.            41-   WhHa           61-w%      White               El-100%   Wh

                                       Papubtian          Gnwp   by Pwcanl   Whit@

                                                   -             Aim-age Hwne price
                                                   ----          Median Home Price

                                        Source. Home price data provided by Dataman Inc. Demographic data provided by DMIS and tne 1980
                                        Census



                                        When considering the patterns of secondary market loan activity over
Loan Activity by                        only the ZIP code average income variable, the data show that such
Income Level                            activity was greater in ZIP code areas having higher average incomes
                                        ($35,000-$74,999) than in those having lower average incomes (57,.500-
                                        $34,999). Average and median loan amounts and home prices also
                                        increased over the range from lower to higher average incomes.

                                        Total loan activity per 100 homeowners in ZIP code areas with the two
                                        highest income categories ($35,000-$49,999 and $50,000-$74.499$) was
                                        1.8 times the total loan activity in those ZIP code areas with the tkvo
                                        lowest average income levels ($7,500~$24,999 and $25,000-53~.9!)9$.
                                        The ZIP codes in the $35,000-$49,999 and $50,000-$74,999 incomc
                                        groups each received 14.2 loans per 100 homeowners while ZIPcotir~sin
                                        the $7,500-$24,999 and $25,000~$34,999 income groups receivchcl3 8 and
                                        8.2 loans per 100 homeowners, respectively. (See fig. 111.6.)




                                        Page 40                                                       GAO/RCEB91-2     Secondary        Mort~(agv    Market
                                       Appendix III
                                       Secondary Market Loan Activity in the
                                       Metropolitan Atlanta Area




Figure 111.6:Number of Loans per 100
Homeowners by Income Level             20   Loan8pu100Homoownon




                                       Source: Loan data prowded by Fannie Mae, Freddie Mac, and HUD. Demographic data prowded by
                                       DMIS and the 1980 Census.




Average and Median Loan                The average amount of the loans purchased by Fannie Mae and Freddie
                                       Mac and insured by HUD increased about 113 percent and the median
Amount by Income Level                 loan amount increased by 161 percent as the average income of the LIP
                                       code areas increased. For example, the average loan amount was
                                       $44,746 in the ZIP code areas with average income levels of $7,500 to
                                       $24,999, and $95,274 in the areas with average incomes of $50.000 to
                                       $74,999. The median loan amount was $36,393 in the lowest income
                                       area and $95,138 in the highest income area. (See fig. 111.7.)




                                        Page 41                                          GAO/RCEB91-2     Secondary MorQww %rkN
                                       Appendix Ill
                                       Secondary Market Loan Activity in the
                                       Metropolitan Atlanta Area




Figure 111.7:Average and Median Loan
Amounts by Income Level                100   LomAmountlnlhoumnb




                                             -        AverageLanAmount
                                             1-1,     MsdianLoanArnom

                                       Source: Loan amounts prowded by Fannie Mae, Freddie Mac, and HUD. Demographic data provided    by
                                       DMIS and the 1980 Census.




Average and Median Home                The average home price increased from $67,119 in ZIP code areas with
Price by Income Level                  the lowest income level ($7,500~$24,999) to $176,425 for those arcas
                                       with the highest incomes ($50,000-$74,999). The median home pnce
                                       increased from $53,000 to $146,000 over the same range. (See fig. 111.8.)




                                       Page 42                                           GAO/RCED91-2     !3econdaq   Y~n~(u(r   Market
                                       Appendix III
                                       Secondary Market Loan Activity in the
                                       Metropolitan Atlanta Area




Figure 111.8:Average and Median Home
Price by Income Level                  190      Dollaninlhomada


                                       rm                                                                                     /

                                       150


                                       130


                                       110


                                        90


                                        m

                                        !I0




                                       lncomo       Lovol

                                                -           Average Home Price
                                                -1-1        MedianHornePrica
                                       Source: Home pnce data prowded by Dataman Inc. Demographic data provided by DMIS and the 1980
                                       Census.



                                       Previously, we showed the patterns of secondary market loan activity
Loan Activity by                       over the isolated variables of racial composition and average income of
Income Level and                       the ZIP code areas. Here, we have presented the loan activity across the
Population Group                       population groups at four average income levels. In general, loan
                                       activity fluctuated over population groups having the same average
                                       income. However, for ZIP code areas having an average income of
                                       $25,000-$34,999, the number of loa.ns per 100 homeowners increased as
                                       the percent of white population increased.

                                       Loan activity per 100 homeowners varied with no specific pattern over
                                       the population groups having average incomes of $7,500~$24,999,
                                       $35,000-$49,999, and $50,000-$74,999. Also, the number of ZIP wdc
                                       areas in the population groups/income levels varied from 0 to 37. ( SW
                                       table 111.3.)



                                       Page 43                                          GAO/RCEDSl-2 Secondary Mortgagr       .Market
                                          Appendix IIl
                                          !hcondary Market Loan Activity in the
                                          Metropolitan Atlanta Area




Table 111.3:Loan Activity and Number of
ZIP Code8 by Population Group and                                                              Number of                   Loan activity per
Average Income Level                      Population group income/level                        ZIP codes                   100 homeowners
                                          O-20 Percent White:
                                          $7,500~$24,999                                                  5                                56
                                          $25,000-$34,999                                                 3                                6.8
                                          $35,000~$49,999                                                 0                                   .
                                          $50,000-$74,999                                                 0                                      .
                                          21-40 Percent White:
                                          $7,500~$24,999                                                  3                                46
                                          $25,000~$34,999                                                 2                                72
                                          $35,000~$49,999                                                 1                              13.8
                                          $50.000-$74.999                                                 0                                  .
                                          41-80 Percent White:
                                          $7,500~$24,999                                                  1
                                                                                                                            -
                                                                                                                                          18.4
                                          $25,000~$34,999                                                 3                                79
                                          $35,ooo-$49,999                                                 2                                8.3
                                          $50,000-$74,999                                                 0                                      .
                                          81-80 Percent White:
                                          $7,500-$24,999                                                  0
                                          $25,000~$34,999                                                 3                                93
                                          $35,000-$49,999                                                 5                               21.5
                                          $5o,ooo-$74,999                                                 0                                      .
                                          81-100 Percent White:
                                          $7,500~$24,999                                                  0                                  .
                                          $25,000~$34,999                                                 5                                96
                                          $35,000-$49,999                                                37                               142
                                          $50.000-$74.999                                                10                               142

                                          Source: Loan activity data provided by Fannie Mae, Freddie Mac, and HUD. Number of ZIP codes from
                                          DMIS.


                                          Not all of the population groups contained each of the income levels. For
                                          example, only one income level, $25,000-$34,999, is common to each of
                                          the five population groups. For this income category, the number of
                                          loans per 100 homeowners increased as the percent of white population
                                          increased. Homeowners in the predominately white (81-100 ptlrcvnt
                                          white) ZIP code areas received 41 percent (or 2.8) more loans per 100
                                          homeowners than in the predominately minority (O-20 percent iv bite) ZIP
                                          code areas at this income level. In addition, seven race/incomcl (xtrgo-
                                          ries for predominantly minority, middle- and upper-income mu ()f
                                          Atlanta show no activity, because our study did not contain an!. LIPcode
                                          areas that fell within these race/income categories. Consequthnr 1) this
                                          does not necessarily mean that secondary market agencies arcaIII IT


                                           Page 44                                            GAO/RcEDsl-2      Secondaq     M~wtmgr   ,Markct
                                     Appendix Ill
                                     Secondary Market Loan Activity in the
                                     Metropolitan Atlanta Area




                                     buying loans in these areas of Atlanta. (See fig. 111.9.The data presented
                                     in table III.3 form the basis for fig. 111.9.)


Figure 111.9:Number of Loans per
100 Homeowners by Population Group   26   AvuagoLowmpu1ooHomoowmn
and Income Level

                                     20



                                     1s




                                     10




                                      5




                                      0

                                          o%-2o%whilo                   21lbauwhlto   41%60%    whit.     619HO%   Whtto   BlXl#)w
                                                                                                                           whna
                                          Porcallt    whltr


                                          1          1 $7,50&s24,992

                                                       $25,oow34,999

                                                       @5.ooo-s49,sss
                                          m
                                                       s5o,ooo$74,9QQ

                                     Source: Loan data prowded by Fanme Mae, Freddie Mac, and HUD. Demographic data prowdea by
                                     DMIS and the 1980 Census.




                                     Minority individuals received more VA-guaranteed loans than did u’hlte
VA Loan Activity                     individuals in Dekalb and Fulton Counties. In Clayton, Cobb, and Cwin-
                                     nett Counties, white individuals received more loans. The dollar ~.aluc of
                                     VA loans guaranteed follows a similar pattern.

                                     VA guaranteed its greatest number of loans in Dekalb and Cobb Co~lntres,
                                     respectively. In Cobb County i’O percent of VA’S total loan volume n’a~nt
                                     to white individuals. However, in Dekalb County minority indivltiu;lls
                                     received 64 percent of VA’S total loan volume. Minority individu;ll\



                                     Page 45                                                   GAO/RCED-91-2 Secondary Moml(ayr Warket
                                           Appendix III
                                           Secondary Market Loan Activity in the
                                           Metropolitan Atlanta Area




                                           received the greatest percentage of loan volume in Fulton County (71
                                           percent) and the least in Gwinnett County (25 percent). (See table 111.4.)
                                           Of the five metropolitan Atlanta counties, only Fulton County has a pre-
                                           dominately minority population (51 percent minority).

Table 111.4:Number of VA-Guaranteed
Loans for White and Minority Individuals                                                       Loans for Individuals
in Five Metropolitan Atlanta Counties                                        Total        White                     Minority
                                           Countv                           loans     Number    Percent        Number       Percent
                                           Clavton                          1.183          605         51.1             578        48.9
                                           Cobb                             1,488        1,044         70.2             444        29.8
                                           Dekalb                           1.541          550         35.7             991        64.3
                                           Fulton                             933          272         29.2             661        70.8
                                           Gwmnett                          1,214          908         74.8             306        25.2
                                           Total                            6.359        3.379        53.1            2.980       46.9
                                           Source. Loan data by race provided by VA


                                           VA also guaranteed its greatest dollar volume of loans in Cobb and
                                           Dekalb Counties. In Cobb County 70 percent of VA’S total dollar volume
                                           went to white ‘individuals. However, in Dekalb County minority individ-
                                           uals received 64 percent of VA’S total loan volume. Minority individuals
                                           received the greatest percentage of VA’S total dollar volume in Fulton
                                           County (65 percent). (See table 111.5.)

Table 111.5:Dollar Value of VA-
Guaranteed Loans for White and Minority    Dollars in thousands
Individuals in Five Metropolitan Atlanta                                                          Loans for Individuals
Counties                                                                     Total           White                     Minority
                                                                            dollar       Dollar                     Dollar
                                           County                           value        value     Percent          value       Percent
                                           Clavton                        $80,026      $40,374         50.5         $39,652        49.5
                                           Cobb                           122,118       86,000         70.4          36,117        29.6
                                           Dekalb                         116,827       43,850         37.5          72,978        62.5
                                           Fulton                          69,015       24,059         34.9          44956         65.1
                                           Gwinnett                        97,890       73,512         75.1          24,378        24.9
                                           Total                        $485,876      $267,795         55.1       $218,081         44.9
                                           Average                        $97,175      $53,559                      $43,616
                                           Source: Loan data by race provided by VA




                                            Page 46                                        GAO/RcEDsl-2       Secondary Mortgage Market
Appendix IV .

Cements From the Federal Home Loan
Mortgage Corporation


                                                                                                                                                        1




                September          6.    1990


                Mr. John M. 01s
                Director,     Housing      and Community
                   Development      Issues
                U.S. General      Accounting     Office
                Warrhington,    DC 20546

                Dear     Mr.     01s:

                Thank      you     for    the   opportunity         to comment ou the GAO Report,
                                                        kstr      mv
                          in the u.”                              As a major       source    of fundr     for        home
                loana     nationwide.       the Federal             Home Loan Mortgage          Corporation
                (“Freddie       Mac”)    acknowledges             its   leadership       responsibilities              in
                support      of affordable       housing            opportunities        and against
                discriminatory         landing     practicer.

                We are pleased              that     this    report    draws a clear          distinction         bet-en
                primary        market       lending       and secondary       market      activity.            As the report
                reflects.          Freddie       Mac doea not make mortgage                 loans       directly      to
                borrowers;           rather,       it purchases        mortgages       from lending
                institutions.               The finding          in the report       that     the number of loans
                purchased         by rraddie           Mac per 100 homeomercl             increares          with   the
                percent        of whites         within      an area’s      population        is consistent           with the
                well-documented               pattern      of discrimination           as reported           in the Atlanta
                Constitution’s              “The Color         of Money”     series.        As a remit,           ona would
                expect        secondary        market      purchases      to reflect        primary        market
                originations.

                We   are also pleased          that   GAO’s    report    highlights      attempts      to assure
                that    racial   discrimination         does not occur          in the underwriting
                decision,      as reflected         in Freddie     Mac’s    underwriting       guidelines.        As
                GAO correctly       points       out,  Freddie     Mac guidelines        will    not permit     the
                consideration       of race of a borrower             in any aspect       of   the   loan
                underwriting      process.

                In closing,           I should     mention        that    as part       of our effort           to easura
                that     all     potential     homebuyers           have equal         access     to credit,        we
                recently         created    ao Affordable            Aouaing      Initiatives            Department      to
                help us,         and the entire          industry,        design      homeomerahip             and rental
                programs         to address      this      issue.       Affordable          housing       pr0gram.s    nay    not
                directly         address    racial       discrimination           in lending         practicer.
                However,         we do hope that           these     programs       -- which        will     combine




                  Page     47                                                                GAO/RCEKMlS              Secondary     Mortg~gr   Yarkrt
Appendix N
Comments From the Federal Home Loan
Mortgage Corporation




John H. 01s
September  6,            1990
Page 2


financial            risk-sharing     with    more flexible  undmwriting     criteria      --
will          have   the added benefit        of improving  homeomerehip     opportunities
for         tboee    who have traditionally         had more difficulty    in obtaininq
credit.

Sincerely.



cszI%Adw
Leland   C. Brendsel
Chairman   and Chief             Executive     Officer

LCB:tepr019lN




  Page 48                                                         GAO/RCED91-2 Secondary Mortgage ,MMarket
Appendix V

comrrients From the Federal National
Mortgage Association


                3SlO Wimwia   Avenue. NW        William R. Malone
                Wnhingtan.  DC 24015289g        Ssniw Vie0 Reaiknt-
                mz 762 7130                     Policy and Public ARkn




                                                                          x‘I4
                                                                          4
                                                                                   FannieMae
               September      10, 1990

               John M. 018, Jr.
               Director,   Housing and Community                     Development   Iesues
               United States General Accounting                       Office
               441 G Street,    NW
               Room 4073
               Washington,   DC 20540
               Dear Wr. 016:
               Thank you for the opportunity              to review and comment on your
               report      to     Senator       Dixon    concerning      secondary       market
               underwriting        ntandardr,     and mortgage      purchaee    patterns      in
               Atlanta.       I also appreciate       the professionaliem       exhibited     by
               you and your staff               and the receptiveness         to input      you
               exhibited      throughout      the conduct of this study.
               The    major     finding       of    the      study,       that     secondary       market
               purchasingfaecuritization                activity       declines      with decreasing
               neighborhood         income or increasing                   neighborhood         minority
               composition,       warrants concern from all mectora of the mortgage
               finance      industry.        At Fannie Mae, we bold a long-standing
               commitment       to the homebuying                 credit       needs of low-           and
               moderate-income           houaeholde         and residents            of inner        city
               neighborhoods.           This commitment has translated                   into a broad-
               bamed strategy         to meet the credit            needs OS those with limited
               incomes.        Wany of our activities                that particularly            benefit
               inner-city      and low-income neighborhoods                  are not covered in the
               study,     much as our purchases                 of multifamily          mortgagee      and
               mortgage revenue bonds.                These activities            play an important
               role in providing            decent,      safe, and affordable               housing for
               low- and moderate-income             and minority         households and residents
               of inner city neighborhoods.
               Pannie Wae ~EI continuing             ita development       of creative       products
               and programs that are designed to address the credit                          needs of
               low- and moderate-income                and minority     communities.           We are
               committed        to     the     objective     of providing             an equitable
               distribution        of home mortgage credit            to such communities              in
               Atlanta      and in all metropolitan           areas across the nation.                 As
               noted above,          the GAO study         raises     serious        questions       and
               concerna.       However, given the limitations              acknowledged by GAO,
               it is important            that the findings         be placed        in the proper
               perspective.         As the report's         conclusion        points    out,    severe
               data limitations          preclude any inferences         concerning       the causes


               Pmnk Mu       'lb USA'sHousing   Partner




                Page49                                                        GAO/RCEBBl-2SecondaryMortgageMarket
Appendix V
Commente From the Federal National
Mortgage Association




of the observed          purchasing     patterns.        The study does not
attempt    to employ, nor will          the data permit,            a statistical
analysis    of the apparent relationship           between secondary market
purchasing      activity     and neighborhood         racial     composition      or
income.     Though the numbers and graphs presented                  in the study
euggeet     a relationship          between     these      factors,      the data
problems     and the lack of statistical                  analysis      prevent    a
conclusive     finding     to this end.
As the report          itself     euggeete,     the apparent         relationship
between race and loans per 100 homeowners could be a result                           of
the hidden effects          of factors     not included      in the study.          The
report     mentions      several     of these missing         factors,       such ae
individual      borrower's       (as opposed to neighborhood                average)
income and creditworthiness             and the condition        of neighborhood
propertiee.         Without      including     these    factors       and without
conducting      some form of statistical            analysis      to isolate        the
effect     of the race variable,          it is not possible         to establish
that a relationship           does in fact exist        between neighborhood
racial     composition       and secondary market purchasing              activity.

If,     for example,    prospective      home purchasers          in minority
neighborhoods     have lower incomes, poorer credit            histories,     and
lees wealth     than prospective        purchasers       in white neighbor-
hoods, then the minority         neighborhoods      will    experience     lower
lending volumes than the white neighborhoods.                  Because a loan
cannot be purchased         or eecuritieed       until     it is made by a
lender,     a tendency     for lower lending           volumes     in minority
neighborhoods      would translate        into   lower secondary          market
activities    in these neighborhoods.
A  similar    argument could be constructed           regarding     the apparent
relationship       between neighborhood      average income and secondary
market purchasing         activity.     The income measure used in the
study      is too imprecise,         and the omitted            factors      (e.g.,
household wealth)        potentially     affecting      lending     activity     are
too numerous, to definitively            conclude that secondary market
activity     declines    with neighborhood         income.
Though numerous data limitations                   are discussed      at some length
in the study,        these problems             are severe enough to warrant
reiteration.         First,       only 80 of the approximately                200 zip
codes for which data were provided were included                        in the study.
Though substantial          difficulties        inevitably      arise in assembling
a data set from several               disparate     sources,     it would have been
useful      in assessing        the study to know which ZIP codes were
included      and which were omitted.              Without such information,         it
is difficult       to know how the findings                might have differed       if
alternative       ZIP codes were analyzed.

                                           2




Page 50                                                  GAO/RCEDslI        Secondary Mowge   Market
Appendix VI

Major’Contributors to This Report


                        Edward Kratzer, Assistant Director
Resources,              Robert Procaccini, Assistant Director
Community, and          Patrick Valentine, Assignment Manager
                        Patrick Doerning, Senior Operational Research Assistant
Economic                Mitchell Karpman, Senior Operational Research AssiStant
Development Division,
Washington, D.C.

                        Jerry Coffey, Evaluator-in-Charge
Atlanta Regional        Fannie Bivins, Site Supervisor
Office                  Deborah Baker, Evaluator
                        James Landers, Programmer Analyst




(995194)                Page 53                              GAo/ltcEDw3   second8Iy MOM   Market
Appendi.xV
CommentsFromtbeFederalNational
MortgageAeeociation




The studyts     discussion     of insufficient       observations     in some
race/income     categories      is also worthy of repeating.               This
problem is particularly         eevere when the data are analyzed             by
income and race simultaneously.              The finding     that secondary
market activity     decreases with increaningminority             composition
for the 925,000 to $34,999 income group is very difficult                     to
eubstantiate    becau8e there are only two or three neighborhoode
in most of the racial       categories     within   this income grouping.
An examination            of Figure III.9        exemplifies    how problematic      and
potentially          misleading       this sparsity        of observations      can be.
This figure          shows zero loan8 per 100 homeowners for ZIP codes
with O-20 percent               white population           and average      incomes of
$34,000-$74,999.               A casual look at this figure             might suggest
that     the necondary            market is not buying            any loans in the
predominantly           minority,     middle- and upper-income          neighborhoods
of Atlanta.           What is not apparent            from Figure III.9         is that
there are no ZIP codes includsd                   in the study which fall within
these race/income              categories.         A failure    to cross-reference
Figure       III.9       with     Table    III.3     may lead to the mistaken
conclusion         that the lack of loans is caused by ths failure                    of
financial          institutions         to provide         an adequate       supply   of
credit.
Another major concern which is expressed                      in the study is that
the data set does not provide             sufficient          information     by which
to assess neighborhood           variations         in loan demand.             Because
loan demand is a critical            determinant           of the volume of loan
originations       and, ultimately,         of loan purchasen,              this   data
limitation       prevents      consideration             of     a major       possible
explanatory     factor.     Without information              on loan demand across
neighborhoods,       it io not possible            to determine          whether low-
income and minority        neighborhoods        received        fewer   loans because
credit     was not available      or because there was less demand for
loans in these neighborhoods.               This data limitation              prevents
evaluation     of a central       issue:       whether or not the need for
mortgage credit        is being fulfilled          in low-income and minority
communities.
The study notes a number of other              important      limitations,          which
are outlined  briefly  below:
0        The data were assembled from several  sources,                      with
         no attempts  at verification of data validity.
0        The number of homeowners per ZIP code, which is
         used to calculate        the number of loans per 100
         homeowners, is calculated       based on an 1989 estimate
         of total      households   and the 1980 Census count of
         renter      households.      It  is possible   that  these
         figures      do not accurately      reflect  the current
         residential      makeup of the ZIP codes used in the
                                           3




Page51                                                 GAO/IUXD9l-2!ikcondaryMortgage       Market
Appendix V
Comments From the Federal National
Mortgage As.sociation




       study.      Any errors    in the estimates                  of owner
       households     per ZIP code translate  into               inaccurate
       lending   rates.
0      The income measure used in the study has several
       problems.         First,    average ZIP code income may be
       guitc     different      from the incomes of prospective
       mortgagors       in a ZIP code.      Because it is the income
       of the prospective         mortgagor that is important      in a
       lender's       assee8ment      of a loan application,       this
       difference       could substantially        distort the income
       analysis       in the study.       Another problem with the
       income measure is that ZIP code average income can
       be skewed by a few unusually            high or low household
       incomes and therefore            may not accurately    reflect
       the typical        income for an area.
0      In the study,        all   FHA   loans are assumed to be
       purchased     by   the     Government     National    Mortgage
       Association,     when in fact a small proportion            are
       purchased    by Fannie l4ae and Freddie            Mac.    This
       assumption     leads     to double-counting        of a small
       number of FHA loans.
The numerous difficulties            mentioned above are indicative                 of
the complexities       of the problem which you have endeavored                     to
study, and of the lack of readily              available      and reliable      data.
Over the coming months,              new market           information        such as
enhanced Home Mortgage Disclosure                 Act and 1990 Census data
will   be available.        This information           will    enable businesses
and regulators       to better    identify       and address housing market
discrimination.         The efficient         and effective         allocation      of
credit       to  minority       and      low-income          neighborhoods         and
communities     deserves     careful      attention       not only by GAO, but
also by the housing industry            as a whole.
Sincerely,




Page 52                                                 GAO/RCEDSl-2 Secondary Murt+ge   Market