Financial Warning Sounded on Fannie Mae

By David S. Hilzenrath
Washington Post Staff Writer
Wednesday, September 22, 2004

A long running regulatory examination of Fannie Mae has found accounting and other problems at the giant government-chartered mortgage company that raise doubts about "the quality of its management supervision" and the company's "overall safety and soundness," Fannie Mae reported this morning.

In at least one instance, the Office of Federal Housing Enterprise Oversight found that Fannie Mae deferred expenses "apparently to achieve bonus compensation targets," Ann McLaughlin Korologos, Fannie Mae's presiding director, said in a statement issued by the company.

In a letter to Fannie's board summarizing its report, OFHEO said Fannie "maintained a corporate culture that emphasized stable earnings at the expense of accurate financial disclosures," Korologos said.

The Securities and Exchange Commission has been conducting an informal inquiry that includes issues raised by OFHEO, Korologos said.

Regulators found that Fannie Mae tolerated deficiencies in its internal controls and failed to comply with accounting rules in accounting for financial instruments and transactions used to hedge against movements in interest rates, Korologos said.

In its report, OFHEO said its findings "are serious and raise doubts concerning the validity of previously reported financial results" and the adequacy of Fannie's capital, a cushion against potential losses, Korologos said.

Fannie, one of the nation's largest and most complex financial institutions, guarantees payment on about $1.9 trillion of mortgage-backed securities.

Based in the District, it was chartered by the government to provide a steady flow of funds for home mortgages. To do that, it borrows money from investors and buys mortgages from banks, savings and loans and other mortgage lenders. It also packages mortgages into securities for sale to investors.

OFHEO, a small agency responsible for regulating Fannie Mae's financial safety and soundness, began scrutinizing Fannie Mae's accounting late last year after an investigation of rival mortgage funding company Freddie Mac found that Freddie had used elaborate maneuvers to make its earnings appear steadier than they were.

Freddie last year replaced its senior management team and, to settle OFHEO's investigation, paid $125 million.

OFHEO presented a report to Fannie's board Monday.

The board "takes the report seriously and is working with OFHEO to resolve these matters," Korologos said.

The board has created a committee of independent directors to take the lead in the matter and has hired former senator Warren Rudman (R-N.H.) as counsel to the committee.

"Fannie Mae's Board of Directors is committed to working with our regulators to resolve these matters consistent with our commitment to the highest standards of corporate governance, financial reporting and transparency to the marketplace," Korologos said.

Korologos's statement did not quantify the potential impact of the alleged accounting violations on Fannie's previously reported earnings.

Critics such as Federal Reserve Chairman Alan Greenspan have been warning that Fannie's size and rapid growth could pose a risk to the financial system. Although the government disavows any responsibility for Fannie's debts, many government and private analysts say U.S. taxpayers could be called upon to bail the company out in a crunch.

The Bush administration and some members of Congress have pushing for legislation to tighten regulation of Fannie Mae, but those efforts stalled this year amid resistance from the company.

Fannie Mae chairman and chief executive Franklin D. Raines, who served as budget director in the Clinton administration, last year distanced Fannie from the accounting scandal at rival Freddie Mac, saying Fannie had "not undertaken any transactions to distort our true financial condition."

More Home Equity News