A number of different private-sector and government institutions  participate in the mortgage market. FHA’s Market Share Declined from 1996 through 2005, While the Conventional Market Share Increased, Especially among Minority and Lower-Income Borrowers

FHA’s share of the market for home purchase mortgages in terms of  numbers of loans declined 13 percentage points from 1996 through 2005,  while the prime share increased slightly and the subprime share grew 13  percentage points. Although the decline in FHA’s market share was broad- based, FHA experienced particularly sharp decreases in submarkets where  it traditionally has had a strong presence, such as among minority and  lower-income borrowers. At the same time,  subprime market share increased 14 percentage points (from 1 to 15  percent) among lower-income borrowers and 12 percentage points (from 2  to 14 percent) among upper-income borrowers. The Decline in FHA’s Market Share Was Associated with Several Factors and Has Been Accompanied by Higher Costs for Certain Conventional Borrowers and Increased Credit Risk for FHA

During the period from 1996 through 2005, a combination of factors  created conditions that favored conventional mortgages over FHA  products. These factors included (1) FHA’s product restrictions and lack  of process improvements relative to the conventional market and (2)  product innovations and expanded loan origination and funding channels  in the conventional market. Most subprime mortgages, which grew in  popularity as FHA’s market share declined, had higher ultimate costs, in  part because their initial interest rates could reset to higher rates. In contrast to the  subprime market, the large majority of FHA-insured loans are fixed-rate  mortgages. Certain factors associated with FHA’s decline in market share also  contributed to a worsening in indicators of credit risk among FHA  borrowers. These trends raise questions about FHA’s  ability to fulfill its traditional role and operate successfully in a changing  and competitive mortgage market. For example, relatively high default and foreclosure  rates for subprime mortgages and a contraction of this market segment  could shift market share to FHA. The extent to which this occurs will  depend partly on the efforts of conventional mortgage providers, including  Freddie Mac and Fannie Mae, to provide alternatives to subprime  borrowers. Key contributors to this report are listed in appendix V.

Appendix I: Objectives, Scope, and Methodology

Our objectives were to determine (1) trends in the Federal Housing  Administration’s (FHA) share of the market for home purchase mortgages  and selected submarkets from 1996 through 2005, and how they compared  with the trends for the prime, subprime, and government-sponsored  enterprises (GSE) market segments; and (2) the major factors associated  with the trends in FHA’s market share and the potential implications of  these trends for homebuyers and FHA. Specifically, tables 6, 7, and 8 contain information  on selected borrower and loan characteristics for Federal Housing  Administration (FHA)-insured, prime, and subprime loans.
Why GAO Did This Study

The Federal Housing Administration (FHA) historically has been an important participant in the mortgage market, which includes loans that carry government insurance or guarantees (such as FHA-insured mortgages) and those that do not (conventional mortgages). The conventional market comprises prime loans for the most creditworthy borrowers and subprime loans for borrowers with impaired credit. Reduced demand for FHA-insured mortgages--which are used primarily by borrowers who would have difficulty obtaining conventional prime loans--has raised questions about the agency's role in and ability to adapt to the mortgage market. This report discusses (1) trends in FHA's share of the market for home purchase mortgages from 1996 through 2005, and how they compared with the trends for other market segments; and (2) factors associated with the trends in FHA's market share and the implications of these trends for homebuyers and FHA. To address these objectives, GAO analyzed FHA and Home Mortgage Disclosure Act (HMDA) data and interviewed officials from FHA and other mortgage institutions.

What GAO Found

From 1996 through 2005, FHA's share of the market for home purchase mortgages in terms of numbers of loans declined 13 percentage points (from 19 to 6 percent), while the prime and subprime shares grew 3 and 13 percentage points, respectively. The agency experienced a sharp decrease among populations where it traditionally has had a strong presence. For example, FHA's market share dropped 25 percentage points (from 32 to 7 percent) among minority borrowers and 16 percentage points (from 26 to 10 percent) among low- and moderate-income borrowers. At the same time, subprime market share among these groups rose dramatically. The decline in FHA's market share was associated with a number of factors and has been accompanied by higher ultimate costs for certain conventional borrowers and a worsening in indicators of credit risk among FHA borrowers. More specifically, (1) FHA's product restrictions and lack of process improvements relative to the conventional market and (2) product innovations and expanded loan origination and funding channels in the conventional market--coupled with interest rate and house price changes--provided conditions that favored conventional over FHA-insured mortgages. In contrast to FHA-insured loans, the majority of conventional subprime loans had higher ultimate costs to borrowers, partly because their initial low interest rates could increase substantially in a short period of time. Relatively high default and foreclosure rates for subprime mortgages and a contraction of this market segment could shift market share to FHA. The extent to which this occurs will depend partly on the ability of FHA and other market participants to offer mortgage alternatives to borrowers considering or struggling to maintain higher-priced subprime loans.