How Fannie Mae Made Its Profit

Mortgage buyer and insurer Fannie Mae was in the news again this week.

First, let me review a little of the history of how we got here. Fannie Mae (otherwise known as the Federal National Mortgage Association) was created by an act of the United States Congress in 1938 as a government-sponsored enterprise (GSE) intended to purchase loans that had been guaranteed directly by the U.S. government through the FHA. Subsequently Fannie got into the business of buying loans that were not guaranteed by FHA, as well as issuing its own guarantees on bundles of other loans that it put together and resold to private investors. In 1970, Congress chartered the Federal Home Loan Mortgage Corporation (Freddie Mac) to do the same thing and act as a competitor to Fannie. But in 2008 with mortgage loans going bad, Fannie and Freddie did not have adequate capital to fulfill their guarantees, and the federal government took both Fannie and Freddie into conservatorship, where they remain today.

Now this week Bloomberg reported:

Fannie Mae (FNMA), the mortgage-financier seized by U.S. regulators in 2008, will pay the Treasury Department $59.4 billion after reporting a record quarterly profit driven by rising home prices and declining delinquencies….

After its latest payment, Fannie Mae will have sent the Treasury a total of $95 billion, compared with the $117.1 billion of capital infusions that the company has received. Freddie Mac, which yesterday reported a $4.6 billion profit, will have paid $36 billion, after drawing $72 billion of aid, and Chief Executive Officer Don Layton said it may release $30.1 billion of tax-credit writedowns as soon as next quarter.

The coming large payments from the companies will probably help delay the amount of time the U.S. government has until running out of room under its debt ceiling to sometime in October, the Bipartisan Policy Center said today in a posting on its website.

But if you study Fannie Mae’s 10Q report, you’ll find that most of the 2013:Q1 reported profit came from Fannie’s decision to recredit itself with $50.6 B in deferred-tax assets. The company’s theory prior to 2008 was that, with all its previous losses, it wouldn’t have to pay much future taxes as a result of carrying those losses forward. Fannie had been counting the taxes it wouldn’t have to pay in the future as one of its main net assets in 2008. When Fannie was taken into conservatorship in 2008, there was a decision that maybe the enterprise would never go back to being a “private” company that owed any taxes, so those deferred-tax assets were written off as a big loss. Now the enterprise is putting them back on the books, as a result of which it claimed a huge after-tax profit for 2013:Q1. So Fannie plans to pay the U.S. Treasury (the GSE’s current owner) a big dividend.

It’s pretty amusing to see how this is getting covered by some of the press. For example, CNN’s headline was Fannie Mae, Freddie Mac to help cut deficit:

U.S. taxpayers will soon reap a nearly $67 billion benefit from the recovering housing market, which will help to shrink deficits and delay the need to raise the country’s debt ceiling.

To translate, you don’t need to worry so much about the outstanding government debt because maybe some day Fannie is going to be a private company again that won’t have to pay taxes for quite a while. Because the taxes that Fannie isn’t going to pay in the future count as an asset to its current owner (the U.S. government), we can now declare ourselves to be better off financially than we were a week ago.

But I have another question about the rest of that $59 B in income earned by Fannie. The U.S. government is currently the residual claimant who receives the income from the fees that Fannie is collecting for guaranteeing mortgage-backed securities. So who is the residual guarantor of those securities?

Mortgage debt held by government-sponsored enterprises or in agency- or GSE-backed mortgage pools, 1952:Q1 – 2012:Q3. Top panel: in billions of dollars. Middle panel: as a percent of GDP. Bottom panel: as a percent of all mortgages. Data source: Flow of Funds, Federal Reserve Board, Table L217.