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I
TO Chairman Eccles
FROM J. If. Daiger
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MEMORANDUM OS TK£ CONSOLIDATED O U ROF LEGISLATIONPROPOSED BY THE
HOKI 01 X)AN CORPORATIONFEDERAL HOUSING AEMINlSTfUTION
The proposed amendments to the N&tionel Housing Act
the Home OfflMtrs Lorn Corporetion Act contained in the consolidated
f the legislation r.bove referred to, ere set forth in Sec-
tions 2 to 31 '"-nd Sections 32 to 42, respectively. The reat
rity of these r-endnents : re si -.r:ly technical or clarifying
in nature end require no detniled oonMiit*
lag up first the proposed cnend&ents to the National
Housing /ct, the following rre those which to some degree Involve
Bubst&ntiYe c a in the present Btetvtti
« Section 6 luthorizes the /dministrrtor to insurein excess of eighty percent (30*) upon
roperties i \ed at net sore tbaa forty-fivehundred doil »,;00) i nd constructed rfter
:u: vy 1, 1936 hnd before July .!, 1937.
se of thii-; esenebMttt is to tu '. Bible need
- tion of construction cf homes for the lower
M groups* This is tcco iplishsd \y enabling tl nirtretor
to reduce the amount of the twenty , ercent (20^) cash et uity now
to such extent ae Bay be i t with
ind Lending ".ice. To thi? end the eraendaent expressly provider
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% ^ that the Ada
•gage
^ure thr-t aaount by which tiu. bt exc?
.%) of the appro L iue of tfre property. la ,
persons pitta is are not in . c—
cu«ulata twenty percent (20%) of the cost o ae for the -a»n
.it although their general credit standing or other collateral
resources t>re JO secure tbt n«
Thi »ould enable the AdmLnisti
to establish re under vhic eac& case of this character
could be handled u us, thu ; worthy borro
Le to atet ireaienta except that of a twenty percent (2J%)
down •)•. , Lid homes, the cost of which i^ within the
.jpe of their prc ted income*
It is not intended that the amendment should entiiii the
uiarestrictec 3; but that in ev^ry case, the
soundness of the transaction sould be carefully scrutinized sad a
loan in excu . cent (30$>) would be approved only where
the borrower L ition to support the excess, either b.,
ting up securi w other additional collat-
eral, by obtaining th imit jr &v\r ntee of his note
other ftimnotallj responsible person, or by othenfise c L i
regulations designed to raeke the excess loan secure.
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I
: in-
• -
..-nty y- rs« Luidng thiti time, . >i,., the
.. in in -
. . . . . . . i, QO1A| LD td.-
.
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lartg£~. that with which they B io
•nt.
-
July 1, 1937 wou- LL
progr&M ju that program in coauaencing to roai the init.
rgaoisation una become really
wo not 01 bjuc-
>r t hich Cont
ictf but to unc
by the Fee ing Aaainistra-Lion toward th
eat housing a conditic action on no
basis o£ the hoa^ mort, I country.
It should bev°^lIl1:'ed out that th lousing
AQMinistrution aebentures by the riment reprefceata only a con-
oiiity upon which thei *ood oi' th rn-
ever . .jntingent liability tccbnicaliy
2(1 Dy ths OUT. .inL cue on AV . ,-,*- j - •
voulci haT auae default* o.veciosureii on practic .y
hone in %he country and t LOHS oi .ue in fty
in orjier to arrii biiity
-ike the amount ] nt^ci by the outstandin
ts on insured mort.
U)
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.
run try
Lnistr^tion,
It
~ng
td cjnt: o in-
volved it jvernaent iousing amiii ion
del
ction :^ion .by proviciin^ in
rryingwhich C 7t
I t . t
i
.
oDigitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis
of low income ould be x>roperly handled through the insurance
feature of Title II, and the primary purpose of this amendment
. Ay to cover, in sufficient legal detail, the intention ex-
pressed by Congress in a condensed and general form in enacting
such section*
In only two respects of any importance does the amend
differ from the original Section 207. They are as folloi
(a) An insurance fund separate hrid distinct frcn theMutual Mortgage Insurance Fund Is 3et up forlarge mortgages upon low cost housing projects*
The National Housing Act created a system of mutual
mortgage insurance. Mutual insurance is in essence the grouping of
similar ris^s. There is no similarity of risk and hence no mutu-
ality between a $1,000,000, corporate mortgage • nd a $16,000 home
mortgage; yet these risk3 are grouped together in one fund as the
Act now stand3» The proposed amendment takes the large mortgages
out of the small mortgage fund. Thus a condition preventing true
mutuality among the small mortgages is removed and the original
intent of Congress as shown by the Committee Reports, can be
realized*
(b) Provision is made for the insurance of debenturupon assignment of the mortgage to the Adminis-trator after default instead of upon conveyanceof the property after foreclosure.
The wisdom of putting the Government in the business of
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c .closing mortfages against home owners haa been seriously ques-
tioned. With this in mind the Congress authorized the payment of
mortgage insurance only after the mortgagee had completed foreclo-
sure against the home owner and was in possession of the property*
This method of settlement *;s the Act now stands also applies to
large corporate mortgages under Section 207, but the considerations
prompting this method of settlement obviously do not apply to large
corporate mortgages. There is no reason, therefore, why mortgage
insurance should not be paid upon assignment of the mortgage in the
case of corporate mortgages*
In addition, this mwthod arould induce private capital to
finance large-scale housing at lower interest rate3 because it as-
sures the certain end speedy collection of the insurance. The
certainty of the insurance improves the mortgage security and
lowers the money cost. Low money cost is vital in housing low in-
come groups. The government is lso better protected because it
>f the property more promptly and thus main-
i the project as a going concern, safeguarding earning power
ana rty values by eliminating the possibility of waste and
milking.
The proposed amendment also clarifies the Adminis-trator^ right to insure mortgages covering housingfor sale as well as for rent.
The statute as it now stands, leaves some doubt upon
thi t. Under the amendment, the Administrator i3 given the
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t to supervise an operation leading to a result already easily
xble through indirect methods. For, even assuming thct the
trator may only insure mortgages covering housing for rentt
the mortgagor in a given ca3e may by the simple expedient of re-
financing the mortgage without the insurance, proceed to sell off
the property.
It is felt that under the amendment, wide use will be
made of the insured mortgage device in the development of new sub-
divisi- garden apartments. These developments, however, in
order to obtain mortgage insurance must be planned according to
sound reel e3tate and housing practices, and the limited dividend
corporations or other agencies, public or private, undertaking the
projects, must submit to strict supervision designed to protect the
3 the risk which the government assumes. In this
the unbridled speculative practices of the past may be largely
The proposed amendment to Section 207 does not change
the classification of eligible mortgagors; the size or chf- acter
of ell the character or Kind of eligiole proper-
ties or the premium rate for insurance. In short, the proposed
i3nt merely perfects & vehicle for carrying out a policy to
the Congress is already clearly committed.
8
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at.*. In a,
Loos
J
O jtn /. *-. also inci . N tioo
.nor t .
jcuoiein
Cm
1-
C
. . . . : •
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•
i
j .
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•V > i j
- • , i ,
bentur«
.
ua«dnt . . / r^ac trictio
•
otian *A inci • .-iich au.y t .
of
;
-
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C ^ on th narrow spread, it is essential that the
volume o. which may be done by the association
increased as much ie.
In view of the safeguards thrown about the operations of
National Mortgage Associi tionst there is no reason why
to 1 ratio should be inherently any less sound than a
ratio -» For judging this matter Ln practice, the
only evidence available is tht-t presented by the op&rbti
of certain European and South American institutions o
ce. These have operated soundly and conserva-
tively over a period of many years with ratios as high
to 1 and without any guarantee of underlying collateral.
C , Since every issue of debeaturea must be approved b A.d-
aini3trator and the total amount of all such debentures mubt
be supported by an equivalent amount of insured mortgages,
cash, or government securities, it is difficult to understand
how the increase of this ratio froa 20 to 1 can be attacKed
an unsound financial practice»
The purpose of capital stock in an institution selling its
obligations to the public is to enable that institution to
absorb li . xined on account of assets held as co
lateral to its public obligations, £hen such collateral is
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restricted to cash, government securiti insured mort-
gages which are eventu& lly guaranteed by the government, no
severe losses on account of collateral can be sustained by
the association. Any losses actually sustained can, further-
more, be offset by earnings, A cushion represented b
talization of 1 to 20 represents tm adequate safeguard i
Xc l collateral which cannot be met out of operating
revenue.
5. Section 2$. amends Section f>136 of the revisedstatutes, as amended, by providing that nationalbanks may subscribe or invest not exceeding 6
rcent of their paid up net capital stocksurplus of national mortgage associations.
This power has already been conferred upon commercial
banks operating under state laws in thirty-six states, upon
savings banks in thirty states and upon trust companies in thirty-
seven states, as a result of amendments to their applicable laws
sed since the adoption of the National Housing Act. Bailees
have been the chief source of the funds advanced to date under
mortgages insured under Title II, and their relationship to the
entire insured mortgage program is perhaps more fundamentally im-
portant than that of any other class of private lending insti-
The purpose of the proposed amendment is 3imply to
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coonlete the integration of the functions of national banks ami
the Federal Housing Administration of mortgage financing by-
according to national banks the right already possessed by sttte
banking institutions.
National banks corapris. e substantial portion of the
institutions already approved and active &3 mortgagees under
Title II and their direct interest in giving to Injured mort-
gages as high B degree of liquidity or shiftability as possible
obriouSf and national mortgage associations were provided ior
by Congress for this express purpose* It is felt, therefore,
that national mortgage associations in which national banks have a
financial interest would be assured the most competent end res-
ponsible management that it is possible to give theft*
In view of the close governmental supervision to which
both national banks and national mortgage associations &re sub-
ject by l&wf it Lfl submitted that the authorization of national
banks to invest in the stock of national mortgage associations
cannot be attacked as an unsound or unwise innovation in
banking and financial practice.
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With respect to the proposed aaencbneats to the Home
Owners Loan Corporation Aet0 we submit the following coamentsgl a Section 33 authorizes the Home Owners Loan Corporation
Mto sake loans to individuals to enable them to buildhomes after this Act takes effect,, or to buy homesbuilt after this Act takes effect, or to improve homes0Properties dealt with under this section should notexceed $59000 in value and shall be for the occupancyof the persons securing such loans Such loans shallnot exceed 20$ of the appraised value • . • . but maybe made as '. part of or subject to loans by other lenderson such prr ertieso* Th- terns and conditions underwhich such -cans are to be made are to be prescribed bythe corporation,, an* the corporation is authorized toexpend $200o00090C r the purposes of this sub-sectiono
To this proposal the Federal Housing Administration is in
opposition for the following reasons?
ao The Borne Owners Loan Corporation was created as an
emergency organization to perform a specific tasko This
task has been admirably perfomed and is essentially com-
plete If ever the government expects to withdraw from
this type of direct lending operation it should do so
nowo The effect of this proposed legislation would be
to perpetuate the Home Owners Loan Corporation organiza-
tion consisting of some 283 offices with Ht,rly 20,000
employees^ It would project a paternalistic form of
government financial practice indefinitely into the
futur*o
b9 The wording of the proposed legislation is so broad and
general that i t is difficult precisely to understand the
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type of operations which would be authorized^ As
f drawn6 the language could certainly be interpreted
to include the making of direct loans by the govern-
ment for the purposes of modernizing and repairing
existing properties* This type of loan is now being
made by private financing insti tut Ions insured by the
Federal Housing Administration under Title Z of the
National Housing Aoto The average TOluae of loans
insured for this purpose during the past 6 months- has
been over $26,000^000 per month through more than 6v000
private financial institutions.,
oThe direct lending of government funds for this purpose
would be a serious duplication and create direct competi-
tion on the part of the government with these private
lending institutlonso This legislation proposes to put
the government Into business at a tine when many repre-
sentatives of the administration have been indicating that
every effort would be made to take the government out of
business and out of competition with private business
wherever possible, From a political point of view, thert-
fore» this would seem to be an unwise proposalo
There is nothing in the proposed legislation to indicate
the nature of the security to be taken on these loans or
whether any security would be required,. It may be assumed,
however, that some type of mortgage security such as a
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second or junior mortgage would be required; If such
advances are made on mortgage security, some sort of
inspection and appraisal of the collateral would be
required: Without then the operations would be impose
sibly hazardouso If the loans were made in any con-
siderable volume, these operations would necessitate
the creation or retention of an organization large
enough to handle all these Inspections and appraisals.;
Such an organization would be exactly duplicating the
functions cf the Federal Housing Administration
The costs of making the necessary inspections and
appraisals would be the same as those involved in
making any mortgage loan on properties, and there
would be no source of Income to offset these cost«0
When the average size of these loans is considered the
costs of making them would certainly be exorbitant
All the operations wo#ld have to be carried out directly
with all expenses paid by the government In contrast,
the Federal Housing Administration carries on no direct
lending operations but utilizes 8,000 private Institutions
which absorb these expenses and enables the Federal Housing
Administration to maintain a low expense ratio
do If the purpose is to make second mortgages, we believe that
it represents unsound financing, the perpetuation by direct
government activity of one of the most iniquitous features
of home financing practice,, that the policy represented would
be diametrically opposed to one of the basic features of the
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National Housing Act* and that as a precedent it would be difficult if
not impossible to discontinue this activity
If the government made a loan on a siortgage junior to a prior lien,
in case of default on the first mortgage it would either forfeit its
loan or would be obliged to assume the liability of the prior lien©
Aa sum ing an average advance of $lp000» or 20$ of ths appraised value
on a $59000 house, and an underlying mortgage of 70$ of $3,500, the
total arrant advanced and the total contingent liability of the
government would be approximately $9009000»000©
If the government abandoned its claim against the property in case
of default on the first lien, the advance of funds represents a bonus
on which government losses might b« very greato
fhe abandonment of these claims would result In the ho .der of the
first mortgage obtaining properties at a price which would represent
at least 20$ less than the total loans against the propertyo
Ho interest rates or other limitations are proposed In this legis-
lation0 It aay be assumed that the interest rate would not be in
excess of the 5$ now charged by the Home Owners loan Corporation
In many cases the interest rate on underlying mortgages would be in
excess of Sjto The government would thus be placed in the anomalous
position of guaranteeing in effect the first mortgage which bore a
higher interest rate than its secondo
TSven though the Act restricted the Interest rate on advances on
prior liens to say 4$e the advance of government funds on second
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mortgages would be tantamount to a guarantee of the prior lien and
would create a great deal of confusion with respect to the government
program in connection with the guarantee of mortgageso
The government would be placed in the ridiculous position of operating
tin programs of mortgage guaranteeB one of which required the payment
of a premium and the other did noto
The government is now authorised to subscribe to 78$ of the stock in
Federal Building and Loan Associations, This proposed legislation
would authorize the overanent to advance 20$ directly above mort-
gages made by the Nations o Of the total amount lent in such
an operation, gover onds would represent 76*2£ of the entire
loan. Thus of ever. advanced to the borrower, $752 would be
government funds-
This program would be in direct competition with that of national
bankSo state banks,, members of the Federal Reserve System, savings
banks» life insurance companies* and building and loan associations
which are cooperating in the program of the Federal Housing Adminis=
t rat ion Under this program private lending institutions have ad*
vanced during the past six months an average of over $2295000000
per inonth and have reached a level of $7&000a000 per week with a
present rate of increase of nearly $loOGOnQOO per week These
private lending institutions cannot compete with the kind of prograa
proposedo The effect, therefore, would be to drive these institu-
tions out of the type of operation now represented by the program
of the Federal Housing Administration,
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titive advantage to the building and loen associations in
connection with their mortgage lending operations.
Federal fa g end loan associations can no» lend up to 75%
of the value of the property without mortgage insurance. If
a 20% loan is obtained under the proposed program, the tot
amount borrowed would represent 95% of the value of the property•
State building and lo< jciations can lend up to 66 or 67%;
and thus a borrower could secure through ,hem and through
the government loan up to 86 or 87% of the value of the property.
But national banksf state banks, members of the Federal Re-
serve System and life insurance companies are limited to
£ Ioan3 of 50 to 60% on uninsured mortgages> This amount
loan of government funds constitutes considerably leas
than the percentage of property value which can be covered
by lotus from Federal and other types of building and loan
associations under .graau
The program would be exceedingly difficult to administer in
3uch a way as not to exoose both the government and borrowers
to extraordinary risk due to shoddy construction, ov g$
I construction costs, and all the other bed practices
which are associated with second mortgage lending* In the
ograia of the Federal Housing Administration provision is
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made and an organization in trained to enforce regulations
designed for the protection of both borrowers and lenders
against these practices.
h* The proposal, though made as a temporary or emergency measure*
would have the effect of confirming private lending institu-
tions in the ancient practice of lending only $0% or 63% of
the value of the property on first iieaa. The government
would be in a position of perpetuating mortgage practices by
lending institutions which would encourage and almost compel
the use of secondary financing. This type of financing prac~
tice was vigorously condemned by the Chairman of the Home
Loan Bank Board in his testimony before the Senate Banking aad
Currency Committee in May 1934 i& the following words*
"But so far as it is humanly possible la the futureto eliminate secondary financing of that characterit ought to be done. It hf_s been done in othercountries to a Yery large extent end there is noreason why it cannot be done here."
i» It is doubtful whether the proposed program would result, as
suggested, la the stimulation of construetion# It ls more
likely that it would result in merely changing the channels
through which funds are made available for construction* .'-
Khile these funds are now coining from private sources in an
increasing volume, the effect of this proposal would be to
substitute government funds on second mortgage and reduce
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;rtg&ge.
^tive of the pur-
ch ce or the cost c tyf on a loan, a private
fin 3 ti tut ion and the borrower himself would xititurally
prefer & rtgage . -vermaent second mortgage to
! \% first mortgage from a private lender.
connection with every home under
$5, Ln con, • Ication would be made for
government loan.. The J00 fund would thus probably
be cfaickly ui in connection wi+h projects which will un-
doubtedly proceed ttitfoaut such fin&ncing, end additional funds
would be required to continue the program.
jo in sumiaary no proposal could be made th&t would
re successfully defeat many of the major objectives of the
->£ram of the Federal Housing Administration.
Section 3U authorizes tlie Home Owners Loan Corpora-tion to expend $3,000,000 "to promote cooperativethrift and home building, to assist in the rehabil-itation of mortgage lending institutions and gener-ally aid Ln the development of a sound home buildingand home ownership program throughout the UnitedStates."
It is difficult to foraul&te a precise judgment with
ect to thi 8 of the general term3 in v/hicht
the legislation is drawn. Inso rposes of this
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legislation are tp enable the corporatLon to 3 the est -
iish&ent ana development of federal saYin loan associations
we feel that it :3.
Th? , •. certai . .. dearth rids available for in-
vestment in Mortgage any gener icing facilities
tliroughout t r•.-..: > 8 whole. If 11 mcaded that there
^hich fundk are able, Feder 1
Sav.L ^Bpfiiationa can be created ;itted
case »ut thi liture 0J«
The Federal ,
of festively promoting the organisation of acrdi-
tional Federj ,, ociatio:_-. During a period in
Wiiic _ ' •. • | une
Reconstructio ^ieral Housing Adainis-• * ' •
tration hive bei , , interest rates, many of these
Federal ing high rates*
notwithstt- - i ent funds may be invested in
these institu >ereent of their total
Alt the*-general policy of the Administration ss
est; . . ,1 Housing Act is to insure mortgages upX
to 80 jereeni -. s of the property, these associfctioas
.fc io ijZed to aake loans in excess of 75 percent.
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Thi3 could be accomplished by amendment of charters by the Federal
Home Loan Bank Board, but this Board has never takaa any action
in that direction..
While the type of function performed by both the Federal
and non-Federal Savings end Loan Associations is recognized by
the Federal Housing Administration &s important, at th<5 same time
it must be remembered that both theoe of institutions, ac-
cording to estimates by the Federal Home Loan Bank Board, hold
only approximately 23 percent of the home mortgages of the country.
We do not see the wisdo® of the government*s expending $3,000,000
in tha rehabilitation of this type of institution and in the es-
tablisliiaent of additional Federal associations*
Inioff-r as the purpose* of this amendment are nto aid
in the development of a sound home building and home ownership
program" it obviously duplicates almost verbatim the functions
of the Federal Housing Administration provided in the National
Housing Act- It would seem undesirable for the government to
duplicate the expenditures and organization to accomplish these
identical purposes*
3° Sectior 42 provides for the establishment of aNational Housing Corsaission.
On this we are for the most part neutral. Attention
is called to the fact, however, that there exists at the present
time a Senate Committee and a President's Commission established
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for the purpose of studying the methods of coordinating activities
In the Executive Departments of the government. Vie assume that
these committees will study the problem of coordinating housing
agenciesu It seems a duplication of the functions of these cc
mittess to establishment of a National Housing Coa-
aiscv; in thi3 drafto
re, furthermore, that the establishment of such
oi} can ba accomplished by Executive Order or by a
Senate or Hours resolution without the formality of legislation.
The Federal Housing Administrationi, however, would support legis-
lation designed to establish a Housing Coordination Board con-
sisting of the heads of housing agencies, with power to take such
action aj they deem advisable to consolidate all the housing ac-
tivities of the government under such agency or agencies as
ded advisable«
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