Mortgages: The Danger of Capital-Free GSEs

While such huge and universal issues as healthcare and tax reform dominate the headlines from Capitol Hill, lurking in the background is the trillion-dollar question of what to …

Federal Reserve Building

While such huge and universal issues as healthcare and tax reform dominate the headlines from Capitol Hill, lurking in the background is the trillion-dollar question of what to do with Fannie Mae and Freddie Mac. The answer – one way or the other – could impact real estate financing for decades.

Fannie Mae and Freddie Mac are GSEs – government-sponsored enterprises, strange financial beings that originally were part corporation and part government agency. Their purpose is to be part of the secondary market and buy local mortgages with money obtained from investors. By selling their mortgages local lenders have new capital that allows them to make additional loans. The result is a nationwide mortgage marketplace where no community lacks real estate funding and rates are pretty much the same regardless of where you live.

As quasi-government entities the GSEs had a number of marketplace advantages unavailable to competing mortgage buyers prior to 2008. They could raise money in the stock market but did not have to bother with SEC registration requirements. They could make big profits but did not have to pay state income taxes. And if things went wrong they had each had a $2.5 billion line of credit with the US Treasury. Such lines of credit suggested that the government would step in if Fannie and Freddie ran into trouble, a view which enabled the GSEs to borrow at lower rates than competitors.

On July 10, 2008, in the midst of the financial crisis, James B. Lockhart, the Director of the Office of Federal Housing Enterprise Oversight, the regulator overseeing the the GSEs, announced that they were “adequately capitalized, holding capital well in excess of the OFHEO-directed requirement, which exceeds the statutory minimums. They have large liquidity portfolios, access to the debt market and over $1.5 trillion in unpledged assets.”

“Including the $7.4 billion Fannie Mae raised in May in accordance with our March agreement, the Enterprises have raised over $20 billion in capital,” said Lockhart. “They are using it to continue to grow and to play a critical role in the mortgage markets, which we expect them to continue to do. To support their mission, Freddie Mac is committed to raising an additional $5.5 billion, which they will do given appropriate market conditions. At a very difficult time in the market, the Enterprises have the flexibility and sound operations needed to support their mission.”

On September 6, 2008, less than two months later, Fannie Mae and Freddie Mac were placed into a conservatorship by the government. Since then the government has provided $116 to Fannie Mae and so far received $163 billion in return, a tidy $46.4 billion profit according to research by ProPublica. It’s also done pretty well with Freddie Mac: the government provided $71.3 billion and has gotten back $108 billion for a $36.8 billion profit to date.

Claim up to $26,000 per W2 Employee

  • Billions of dollars in funding available
  • Funds are available to U.S. Businesses NOW
  • This is not a loan. These tax credits do not need to be repaid
The ERC Program is currently open, but has been amended in the past. We recommend you claim yours before anything changes.

Fannie Mae & Freddie Mac On The Brink?

By normal business standards Fannie Mae and Freddie Mac are a huge success. They never closed operations and as a result local lenders always had a way to sell their mortgages in exchange for new cash, meaning that without the GSEs millions of local homes might not have been financed and refinanced with conforming loans after the mortgage meltdown. And on top of everything, Fannie and Freddie repaid all federal advances and sent more than $80 billion in profits to the government.

While other banks and auto companies repaid their federal bailout money and are now firmly in the private sector, that’s not what happened with Fannie and Freddie. In 2012 the federal government announced a new deal: “Instead of paying the Treasury a 10 percent dividend on outstanding senior preferred stock as was the case prior to 2012, Fannie Mae and Freddie Mac will pay Treasury a quarterly net worth sweep.”

The sweep required Fannie and Freddie to remit all profits to the Treasury. No longer was the conservatorship a bailout, it was now a new source of government funding, an arrangement which raises several big questions:

First, there are actual shareholders who own stock in both companies. Has the government engaged in an illegal “taking” without fair compensation, something prohibited by the Constitution? Attorney Richard Epstein explains on that “no court will read the statute in a way that would allow for the de facto confiscation of all dividends, liquidation, and control rights, which is tantamount to a compensable taking under the Fifth Amendment.” This is a matter now in the courts.

Second, is the government pursuing the wrong goal? In 2012 the Treasury explained that the purpose of the sweep was to “help expedite the wind down of Fannie Mae and Freddie Mac, make sure that every dollar of earnings each firm generates is used to benefit taxpayers, and support the continued flow of mortgage credit during a responsible transition to a reformed housing finance market.”

”With the real estate market doing so well do we now want to end Fannie Mae and Freddie Mac?,” asked Rick Sharga, executive vice president at “If yes, replace them with what? What would be the impact on mortgage rates and loan availability?”

Third, if the government takes all profits then will the financial stability of the GSEs be eroded – and with them the mortgage marketplace?

According to the Motley Fool, “beginning in January 2018, the (GSEs) won’t be permitted to keep any capital in reserve — everything will go to the Treasury. This situation will make the companies more vulnerable to downturns, and it increases the chances of future needed bailouts.”

“What is called the ‘Third Amendment sweep’ effectively prevents Fannie Mae and Freddie Mac from building a financial buffer for the proverbial rainy day,” reported The Hill. “It is all but certain that the rainy day will come and when it does taxpayers will once again be asked to put the two entities, as Government Sponsored Enterprises (GSEs), on sound footing.”

Right now the mortgage marketplace is humming along with low rates and few foreclosures, but things can change – just think of the difference in the mortgage marketplace between 2005 and 2008. Without retained capital will Fannie Mae and Freddie Mac be able to sustain a down period? Answer wrong and with the secondary market in disarray a big chunk of the economy will be in peril.


Does Your Small Business Qualify?

Claim Up to $26K Per Employee

Don't Wait. Program Expires Soon.

Click Here

Share This:

In this article