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Fifth Circuit affirms dismissal of Fannie, Freddie shareholders’ claims related to FHFA removal restriction and funding
On October 12, the U.S. Court of Appeals for the Fifth Circuit affirmed dismissal of Fannie Mae and Freddie Mac shareholders’ claims that the FHFA’s unconstitutional removal restriction caused them harm and that the FHFA’s funding mechanism is inconsistent with the Appropriations Clause. After the Federal Housing Finance Agency (FHFA) placed Fannie Mae and Freddie Mac into conservatorship, it entered into several preferred stock purchase agreements with the U.S. Treasury. As a result of these agreements, any value the companies generated would go to the Treasury and not to junior preferred and common stockholders such as plaintiffs.
The plaintiff shareholders sued in 2016, arguing that the “for cause” removal protection for the director of the FHFA was unconstitutional. The district court granted summary judgment in favor of FHFA, but a panel of the 5th Circuit reversed. Sitting en banc, the 5th Circuit then determined that the removal provision violated the separation of powers, and held that the proper remedy was to sever the removal restriction from the rest of the authorizing statute. On further appeal, the Supreme Court held that for-cause restriction on the President’s removal authority violates the separation of powers, but it refused to hold that the relevant preferred stock purchase agreement must be undone.
The Supreme Court remanded the case for lower courts to resolve whether the unconstitutional removal provision caused harm to plaintiffs as shareholders, and the 5th Circuit, again sitting en banc, remanded that question to the district court. Plaintiffs filed an amended complaint on remand, bringing claims under the Administrative Procedure Act (“APA”) and directly under the Constitution. The amended complaint also alleged, for the first time, that the FHFA’s financing structure violates the Appropriations Clause. Defendants moved to dismiss, and the district court granted the motion in its entirety and dismissed all claims with prejudice.
The 5th Circuit determined that the removal claims were within the scope of the remand order, contrary to the district court’s conclusion, but that the plaintiff’s APA claim was barred by an anti-injunction clause in the authorizing statute. Turning to the Constitutional claim, the 5th Circuit concluded that judicial review was not precluded and proceeded to the merits of the claim.
To show compensable harm from the unconstitutional removal provision, plaintiffs had to allege, among other things, a “nexus between the desire to remove and the challenged actions taken by the insulated actor.” More specifically, they had to allege a connection between the Trump Administration’s desire to remove the director of the FHFA and the Administration’s failure to have FHFA exit the conservatorships and return Fannie Mae and Freddie Mac to private control. The amended complaint, however, failed to plead facts demonstrating that the Trump Administration’s purported plan for re-privatization would have been completed if President Trump had been able to remove the existing FHFA director. Those allegations, the Fifth Circuit held, were insufficient.
The 5th Circuit agreed with the district court that the plaintiffs’ Appropriations Clause argument was outside the mandate of the earlier remand order. The appeals court reasoned that the remand order “[left] no opening for plaintiffs to bring a challenge under a completely different constitutional theory for the first time on remand,” nor was there an intervening change in the law such that the mandate rule would not apply.
FHFA revises policies for Covid-19 forbearance on GSE mortgages
On October 16, the Federal Housing Finance Agency (FHFA) announced it will revise how Fannie Mae and Freddie Mac (GSE) single-family mortgages are treated for borrowers who have entered Covid-19 forbearance under the GSEs’ representations and warranties framework. Under the revised policies, loans for which borrowers elected Covid-19 forbearance will be treated similarly to loans for which borrowers obtained forbearance due to a natural disaster. The GSEs’ current representations and warranties framework for natural disaster forbearance allows for consideration of the period during which a borrower is in forbearance as part of their demonstrated satisfactory payment history for the initial 36 months after the loan's origination. This framework will now be extended to loans with Covid-19 forbearance. FHFA Director Sandra L. Thompson said, "Servicers went to great lengths to implement forbearance quickly amid a national emergency, and the loans they service should not be subject to greater repurchase risk simply because a borrower was impacted by the pandemic."
The updates will be effective on October 31.
FHFA OIG report reveals Federal Home Loan banks did not meet credit risk expectations
On September 21, FHFA Office of Inspector General (OIG) released a report on Federal Home Loan Bank Supervisory Activities in 2023 in Response to Market Disruptions (report), to evaluate the Division of Federal Home Loan Bank Regulation (DBR) risk assessment. DBR is responsible for supervising the Federal Home Loan (FHL) Bank System “to ensure the safe and sound operation of FHL banks.” The OIG addressed March bank failures and how the DBR scrutinized the FHL banks’ member credit risk management practices and, more broadly, into the system’s role in lending to troubled members. The report found that DBR examiners, in response to the increased risk environment, adjusted its supervisory activities and examination planning. Additionally, the OIG noted that DBR intends to conduct a comprehensive assessment of credit risk management across the entire FHL bank system to address concerns regarding systemic vulnerabilities. The report also revealed that in the review of examiner compliance, although DBR mostly followed procedure and requirements, “in certain instances, examiners did not describe primary worksteps in their pre-examination analysis memoranda, as required by DBR procedures.”
According to the report, FHFA also ordered an assessment of six FHL banks during or after the March market disruption, “in response to the abrupt increase in demand for FHLBank advances and the collapse of several member banks.” The report notably revealed that home loan banks’ credit risk management “fail[ed] to meet existing expectations.” As a result, DBR is preparing a supervisory letter for all the FHL banks and an advisory bulletin on member credit risk.
Fannie Mae, Freddie Mac annual stress tests results
On August 10, FHFA published the Dodd-Frank Act Stress Tests Results – Severely Adverse Scenario containing the results of the ninth annual stress tests conducted by Fannie Mae and Freddie Mac (GSEs) as required by the Dodd-Frank Act. Last year, FHFA published orders for the GSEs to conduct a stress test with specific scenarios to determine whether companies have the capital necessary to absorb losses as a result of severely adverse economic conditions (covered by InfoBytes here). According to the report, the total comprehensive income loss is between $8.4 billion and $9.9 billion depending on how deferred tax assets are treated. Notably, compared to last year, the severely adverse scenario includes a larger increase in the unemployment rate due to the lower unemployment rate at the beginning of the planning horizon. FHFA also expanded the scope of entities considered within the primary counterparty default component of the worldwide market shock. This expansion encompasses mortgage insurers, unsecured overnight deposits, providers of multifamily credit enhancements, nonbank servicers, and credit risk transfer reinsurance counterparties.
Biden Administration, agencies take action to protect renters
On July 27, the Biden administration released a fact sheet detailing new actions to develop the Blueprint for a Renters Bill of Rights, which was rolled out early this year (covered by InfoBytes here). The three new actions aim to support renters by (i) “ensuring all renters have an opportunity to address incorrect tenant screening reports”; (ii) “providing new funding to support tenant organizing efforts”; and (iii) “ensuring that renters are given fair notice in advance of eviction.” Additionally, the CFPB, USDA, FHFA, and HUD concurrently released statements aimed at landlords, reminding them of “best practices” and their obligation to inform tenants of their rights.
FHFA published Director Sandra L. Thompson’s statement on “best practices” for the delivery of adverse action notices to renters by GSE-backed multifamily housing borrowers. Referencing research showing that tenant screening reports often contain imprecise or inaccurate information, Director Thompson “strongly encouraged” borrowers who deny a rental application to provide written adverse action notices to the applicants and a copy of any consumer screening report that was relied upon. FHFA’s guidance is based on the FCRA’s requirement that landlords and property managers inform rental applicants of negative information from a consumer screening report that resulted in their rental application being rejected or another unfavorable outcome.
The CFPB posted a blog entry that emphasized landlords’ obligation under the FCRA adverse action notice requirement, which mandates that landlords who take any action against a current or prospective tenant based on a consumer report notify the tenant of the decision and how they can contact the company that created the report. The Bureau advised that renters have the right to review their rental background check report and to dispute information they believe to be inaccurate and encouraged tenants to obtain a free copy of the report from the company that compiled it and dispute any errors (covered by InfoBytes here).
In conjunction with the White House press release, HUD announced it is taking multiple actions to improve rental screening transparency and support renters. It is sending reminders to public housing agencies and property owners about their obligation to inform rejected applicants about reasons for their denial, which provides renters with the opportunity to correct any errors. Additionally, HUD is providing $10 million for tenant education and outreach in Section 8 program properties to assist tenants with “capacity building efforts” for engagement with property management. Furthermore, HUD will issue a proposed rule requiring a 30-day written notification for evictions due to nonpayment of rent in certain subsidized housing.
Also mentioned was the recent White House announcement of actions it is taking to combat “unfair and hidden fees” concerning rental housing (covered by InfoBytes here).
FHFA proposes amendments to strengthen Suspended Counterparty Program
On July 7, the FHFA issued a notice of proposed rulemaking and announced that it is seeking feedback on a proposed rule to amend the Suspended Counterparty Program (SCP) regulation. The SCP regulation currently requires FHFA-regulated entities to report to FHFA if they became aware of certain forms of misconduct committed within the past three years by individuals or institutions they do business with. The SCP regulation also grants FHFA the authority to issue orders directing the regulated entities to cease or refrain from doing business with certain counterparties.
According to FHFA Director Sandra L. Thompson, the proposed rule aims to strengthen FHFA’s ability to protect its regulated entities from business risks associated with misconduct, enabling them to continue serving as reliable sources of liquidity. The proposed rule would specifically authorize the suspension of business between regulated entities and counterparties who are found to have committed misconduct in the context of civil enforcement actions in connection with the management or ownership of real property. Furthermore, the proposed rule would allow FHFA to immediately suspend business without prior notice when misconduct has resulted in debarment, suspension, or limited denial of participation imposed by a federal agency. Comments on the proposed rule are due within 60 days of publication in the Federal Register.
Agencies propose ROV guidance
On June 8, the CFPB joined the Federal Reserve Board, FDIC, NCUA, and the OCC to request comments on proposed interagency guidance relating to reconsiderations of value (ROV) for residential real estate valuations. The proposed guidance advises financial institutions on policies that would afford consumers an opportunity to introduce evidence that was not previously considered in the original appraisal. The proposal references the occurrence of “deficiencies” in real estate valuations, which can be due to errors or omissions, valuation methods, assumptions, or other factors. According to the proposed guidance, these kind of valuation deficiencies can “prevent individuals, families, and neighborhoods from building wealth through homeownership by potentially preventing homeowners from accessing accumulated equity, preventing prospective buyers from purchasing homes, making it harder for homeowners to sell or refinance their homes, and increasing the risk of default.” Also noted is the risk non-credible valuations pose to financial institutions, which may lead to loan losses, violations of law, fines, civil money penalties, damages, and civil litigation.
The proposed guidance (i) provides direction on how ROVs overlap with appraisal independence requirements and compliance with relative laws and regulations; (ii) identifies how financial institutions can implement and improve existing ROV policies while remaining compliant with regulations, preserving appraiser independence, and being responsive to consumers; (iii) explains how deficiencies can pose risk to financial institutions and describes how ROV policies should be factored into risk management functions; and (iv) provides examples of ROV policies, procedures, control systems, and complaint processes to address deficient valuations.
Comments on the proposed guidance are due within 60 days of publication in the Federal Register.
Agencies propose new standards for AVMs
On June 1, the CFPB joined the Federal Reserve Board, OCC, FDIC, NCUA, and FHFA in issuing a notice of proposed rulemaking (NPRM) to implement quality control standards mandated by the Dodd-Frank Act concerning automated valuation models (AVMs) used by mortgage originators and secondary market issuers. Specifically, institutions that engage in certain credit decisions or make securitization determinations would be required to adopt quality control standards to ensure a high level of confidence that estimates produced by an AVM are fair and nondiscriminatory. Other requirements would necessitate institutions to protect against data manipulation and avoid conflicts of interest. Institutions would also be required to conduct random sample testing and reviews and comply with applicable nondiscrimination laws. The agencies acknowledged that while advances in AVM technology and data availability may contribute to lower costs and reduce loan cycle times, institutions’ reliance on AMV technology must not be used as an excuse to evade the law.
CFPB Director Rohit Chopra explained that, while AVMs rely on mathematical formulas and number crunching to produce estimates (and are often used to “check” human appraisers or used in place of an appraisal), they can still embed the human biases they are meant to correct. This is due in part to the data fed into the AVMs, the algorithms used within the machines, and biases and blind spots attributed to the individuals who develop the models, Chopra warned, commenting that AVMs can actually “make bias harder to eradicate in home valuations because the algorithms used cloak the biased inputs and design in a false mantle of objectivity.”
Chopra went on to explain that inaccurate or biased algorithms can lead to serious harms to consumers, neighborhoods, and the housing market, and may also impact the tax base. A focus common to all the agencies, Chopra said, is ensuring that automated systems and artificial intelligence modeling technologies are developed and used in accordance with federal laws to avert discriminatory outcomes and prevent negative impacts on consumer financial stability.
Comments on the NPRM are due within 60 days of publication in the Federal Register.
FHFA requests feedback on single-family pricing framework
Recently, the FHFA issued a request for input (RFI) on a single-family pricing framework for Fannie Mae and Freddie Mac (GSEs), including feedback on policy priorities and goals that FHFA should pursue in its oversight of the framework. “Through this RFI, FHFA seeks input on how to ensure the pricing framework adequately protects the [GSEs] and taxpayers against potential future losses, supports affordable, sustainable housing and first-time homebuyers, and fosters liquidity in the secondary mortgage market,” FHFA Director Sandra L. Thompson said in the announcement. The RFI also seeks input on the GSEs’ single-family upfront guarantee fees and whether it is appropriate to continue linking those fees to the Enterprise Regulatory Capital Framework. FHFA explained that guarantee fees are intended to cover the GSEs’ administrative costs, expected credit losses, and cost of capital associated with guaranteeing securities backed by single-family mortgage loans. Comments on the RFI are due August 14.
FHFA rescinds GSE fee based on DTI ratios
On May 10, FHFA announced it is rescinding a debt-to-income-based loan-level pricing adjustment announced in January. As previously covered by InfoBytes, FHFA made several changes relating to upfront fees for certain borrowers with debt-to-income (DTI) ratios above 40 percent. The updated and recalibrated pricing grids also included the upfront fee eliminations announced last October to increase pricing support for purchase borrowers limited by income or by wealth, FHFA said at the time. The implementation of the DTI pricing adjustment, which would have affected loans acquired by Fannie Mae and Freddie Mac, was delayed to August 1, but after the mortgage industry and other market participants expressed concerns about implementation challenges, FHFA made the decision to rescind the DTI-ratio based fee to provide additional transparency. The agency will issue a request for public input on the single-family guarantee fee pricing framework shortly.