In a report to Congress, the Department of Housing and Urban Development was blasted for using outdated data and for excluding important data altogether from its automated evaluation of FHA lenders.
Recent questions and concerns regarding the effectiveness of the TOTAL Scorecard prompted the General Accountability Office to evaluate the way the Federal Housing Administration developed and uses the tool.
While acknowledging the scorecard has provided lenders with less paperwork and more consistent underwriting decisions, the report GAO issued to the Subcommittee on Housing and Community Opportunity Committee on Financial Services emphasized FHA made some choices during the development process that could affect TOTAL's effectiveness.
FHA neither developed a formal plan for updating TOTAL on a regular basis nor included all the important variables that could help explain expected loan performance, it selected a type of model that limits how the scorecard can be used, and did not base cut points on the loan data used to develop TOTAL, according to the report.
"For example, the data that FHA and its contractors used to develop TOTAL were 12 years old by the time FHA implemented the scorecard" in 2004, the auditing office wrote. "The market has changed significantly since 1992, in part because many borrowers have lower credit scores and receive down payment assistance," and there are new mortgage products that have allowed borrowers who would previously have needed an FHA-insured loan to seek conventional mortgages.
"FHA's TOTAL does not take these market changes into account," the auditors added.
The use of down payment assistance in the FHA program has grown rapidly over the last five years and research shows FHA loans without assistance have had lower delinquency and insurance claim rates than loans with such assistance, GAO said. Additionally, "HUD contractors, HUD's Inspector General, and us have all identified the source of a down payment as an important indicator of risk, yet the source of the down payment is not included in the scorecard."
Among other variables, TOTAL, an acronym for Technology Open to Approved Lenders, does not assign higher risks to adjustable rate loans than to fixed-rate loans nor does it include indicators for property type.
"The fact that FHA's scoring system does not consider the extra risk inherent in ARMs or distinguish between different types of properties, while competitors' systems do, could have important consequences," the office said. "If marginal applications that are ARMs or multiunit properties are rejected by competitors' systems, but accepted by FHA's, then FHA's share of these riskier loans may increase."
By not developing and implementing policies and procedures for routinely updating TOTAL, as best practices call for, the scorecard may become less reliable, and, therefore, less effective at predicting defaults, the office said.
"With a relatively current scorecard, FHA could monitor market changes and TOTAL's effectiveness at predicting defaults in the current climate," and could strengthen the insurance fund through development of new products and could improve the transparency of the secondary mortgage market, according to the report.
In response, the Department of Housing and Urban Development reportedly told the Federal Housing Commissioner "that TOTAL was working exactly as envisioned."
HUD informed it does intend to re-analyze all available variables, including the source and amount of down payment assistance.
HUD's current plan calls for one update to TOTAL to be completed by 2007 but there is no provision for subsequent updates, GAO said, reemphasizing that it continues to believe that HUD should develop policies and procedures for updating TOTAL on a regular basis.