You might recall the scandalous findings by the Treasury Department's Inspector General that the Internal Revenue Service sent $7,500 and $8,000 first-time homebuyer tax credit checks to thousands of people who simply asked for them between 2008 and 2010, with no documentation showing they were eligible or had even purchased a house. Among the recipients: hundreds of prison inmates, kids as young as three, and dead people.
Now investigators from Congress's watchdog agency, the Government Accountability Office, have turned up a new scandal, but this one involves thousands of people who improperly purchased homes using Federal Housing Administration (FHA) mortgage insurance and obtained tax credits despite the fact that they owed what was often significant amounts of back taxes to the IRS.
In a report to Congress last Thursday, the GAO said FHA insured more than $1.44 billion in mortgages for 6,327 borrowers who owed nearly $78 million in unpaid taxes to the IRS.
Of these, 3,815 also received a total of $27.4 million in first-time buyer credits. The average mortgage amount approved to these borrowers by FHA was $352,309 -- much larger than typical because the American Recovery and Reinvestment Act of 2009 temporarily raised the maximum size mortgages FHA could insure to $729,750 in some high-cost markets.
Federal rules specifically prohibit FHA from insuring loans to borrowers who have outstanding federal tax debts on their records. Strange as it may sound, however, the rules did not prohibit the IRS from sending out housing tax credit checks to individuals who were already delinquent on their income tax payments, and whom the IRS could easily identify.
Complicating things further, it turns out the tax debtors who got extra-large FHA mortgages to buy houses were far more likely to end up in default, potentially triggering claims against FHA's mortgage insurance funds. As of last September, according to the GAO, 32 percent of the mortgages extended to borrowers with unpaid tax bills were seriously delinquent on their payments, compared with 15.4 percent of other FHA-insured loans. These borrowers were also more than twice as likely to go into foreclosure -- 6.3 percent versus 2.4 percent. The aggregate FHA insurance written on their loans was about $45 million.
The GAO noted ominously that "FHA's risk from insuring tax debtors is unlikely to be limited" to the cases uncovered by investigators. Since the GAO study was limited to borrowers assisted under one or both of the two housing benefits provided by the 2009 stimulus law -- extra-large loans and tax credits -- and since FHA uses identical methods to insure (all other) mortgages as the ones highlighted by the investigation, "it is reasonable to assume that some portion" of FHA's total volume is going to borrowers who are tax debtors.
The GAO attributed the erroneous insurance of mortgages to "shortcomings" in FHA's rules requiring lenders to pull credit reports and use a proprietary Department of Housing and Urban Development (HUD) database to identify delinquent taxpayers and reject their applications. Among the shortcomings: The agency's "policies requiring lenders to investigate (tax liens) … are unclear and may be misinterpreted." The lenders interviewed by GAO "believed they were in compliance with FHA policies when they provided FHA-insured loans to applicants with tax liens, but FHA officials indicated otherwise," said the report.
Put another way: We have no idea how many tax debtors are slipping through the system and getting FHA insurance in violation of federal rules. And since it's clear that tax-delinquent borrowers default and go to foreclosure at much higher rates than other borrowers, the government has no idea how big a hit FHA's insurance fund might be taking as a consequence.
To help cut the losses, GAO recommended that HUD and the IRS jointly develop better procedures to identify tax debtors applying for FHA loans. It also called on FHA to improve its current guidance to lenders.
In response to the study, acting FHA commissioner Carol J. Galante said that she generally agrees with the recommendations and will seek to clarify the agency's guidance on the subject. But Galante added that a complicating factor is "the strict confidentiality associated with tax information," which makes the "disclosing of delinquent tax debt" difficult, and can "lead to the issuance of FHA loans (to) borrowers whose delinquent tax debt is unknown to the FHA and the lender."
Meanwhile, it appears that thousands of tax-delinquent borrowers have received not only federal tax credits of up to $8,000, but low down payment FHA mortgages with extra-large balances. These same folks, in turn, are racking up defaults and foreclosures that drain FHA's insurance coffers and force the agency to raise insurance premiums on -- you guessed it -- everybody else.
Ken Harney writes an award-winning, nationally syndicated column, "The Nation's Housing," and is the author of two books on real estate and mortgage finance.
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