2011   Financial Report of the United States Government

Notes to the Financial Statements

Note 11. Investments in and Liabilities to Government-Sponsored Enterprises

Fannie Mae and Freddie Mac are stockholder-owned GSEs. Congress established the GSEs to support the supply of mortgage loans. A key function is to package purchased mortgages into securities, which are subsequently sold to investors.

In the lead up to the financial crisis, increasingly difficult conditions in the housing market challenged the soundness and profitability of the GSEs, thereby undermining the entire housing market. This led Congress to pass the HERA. This Act created the FHFA, with enhanced regulatory authority over the GSEs, and provided the Secretary of the Treasury with certain authorities intended to ensure the financial stability of the GSEs, if necessary.

On September 7, 2008, FHFA placed the GSEs under conservatorship and Treasury entered into a SPSPA with each GSE. These actions were taken to preserve the GSEs' assets, ensure a sound and solvent financial condition, and mitigate systemic risks that contributed to current market instability.

The actions taken by Treasury thus far are temporary, as defined by section 1117 of HERA, and are intended to provide financial stability. The purpose of Treasury's actions are to maintain the solvency of the GSEs so they can continue to fulfill their vital roles in the home mortgage market while the Administration and Congress determine what structural changes should be made. The FHFA director may terminate the conservatorship if safe and solvent conditions can be established. Draws under the SPSPAs are designed to ensure the GSEs maintain positive net worth as a result of any net losses from operations, and also meet taxpayer dividend requirements under the SPSPAs. While this arrangement is somewhat circular in the event dividends exceed net income and draws are made to fund dividends, the SPSPAs were structured to ensure any draws result in an increased nominal investment as further discussed below. Per SFFAC No. 2, Entity and Display, these entities meet the criteria of "bailed out" entities. Accordingly, the Federal Government has not consolidated them into the financial statements, but included disclosure of the relationship(s) with the bailed out entities and any actual or potential material costs or liabilities in the consolidated financial statements.

Senior Preferred Stock Purchase Agreements (SPSPAs)

Under the SPSPAs, Treasury initially received from each GSE: (1) 1,000,000 shares of non-voting variable liquidation preference senior preferred stock with a liquidation preference value of $1,000 per share and (2) a non-transferable warrant for the purchase, at a nominal cost, of 79.9 percent of common stock on a fully-diluted basis. The warrants expire on September 7, 2028.

The senior preferred stock accrues dividends at 10.0 percent per year, payable quarterly. This rate will increase to 12 percent if, in any quarter, the dividends are not paid in cash, until all accrued dividends have been paid. Dividends of $15.6 billion and $12.1 billion were received during fiscal years ended September 30, 2011, and September 30, 2010, respectively. In addition, beginning on March 31, 2011, the GSEs were scheduled to begin paying Treasury a Periodic Commitment Fee (PCF) on a quarterly basis, payable in cash or via an increase to the liquidation preference. The PCF was to initially be established by Treasury on December 31, 2010, based on mutual agreement between Treasury and each GSE in consultation with the Chairman of the Federal Reserve Board, and then subsequently re-established every 5 years thereafter. This fee may be waived by Treasury for up to 1 year at a time, if warranted by adverse mortgage market conditions. Treasury waived the PCF for the calendar year 2011 given that the imposition of the PCF at that time would not fulfill its intended purpose of generating increased compensation to the American taxpayer.

These initial SPSPAs, which have no expiration date, provide that Treasury will disburse funds to the GSEs if at the end of any quarter the FHFA determines that the liabilities of either GSE exceed its assets. The maximum amount available to each GSE under this agreement was originally $100 billion and, in May 2009, the maximum was raised to $200 billion. In December 2009, Treasury amended the SPSPAs to replace the $200 billion per GSE funding commitment cap with a formulaic cap that will allow continued draws for 3 years at amounts that will automatically adjust upwards quarterly by the cumulative amount of any losses realized by either GSE and downward by the cumulative amount of any gains, but not below $200 billion, and will become fixed at the end of the 3 years. At the conclusion of the 3 year period ending December 2012, the remaining commitment will then be fully available to be drawn per the terms of the agreements (referred to hereafter as the "Adjusted Caps"). Draws against the funding commitment of the SPSPAs do not result in the issuance of additional shares of senior preferred stock; instead the liquidation preference of the initial 1,000,000 shares is increased by the amount of the draw.

Actual payments to the GSEs for fiscal years ended September 30, 2011, and 2010, were $20.8 billion and $52.6 billion, respectively. Additionally, $316.2 billion and $359.9 billion were accrued as a contingent liability as of September 30, 2011, and 2010, respectively. This accrued contingent liability is based on the projected draws under the SPSPAs. It is undiscounted and does not take into account any of the offsetting dividends which may be received as a result of those draws.

The $316.2 billion contingent liability as of September 30, 2011, represents the total estimated future payments for the life of the agreement under the Adjusted Caps and is the most likely liability estimate. Under this scenario, the estimated ultimate payments made to the GSEs under the SPSPAs total $485.2 billion. This amount consists of the $169.0 billion of payments made through September 30, 2011, and the $316.2 billion liability as of that date. Under an "extreme case" scenario, the estimated ultimate payments made to the GSEs under the SPSPAs total $545.1 billion.

OMB issued guidance to Treasury on October 7, 2009, allowing the use of fair value accounting for non-Federal securities beginning with reporting for fiscal year 2009. As a result, the GSE investments are reported at fair value as of September 30, 2011, and 2010. Annual valuations are performed as of September 30 for the preferred stock and warrants. In accordance with SFFAS No. 7, the annual valuation is classified as usual and recurring and thus recorded as an expense or revenue to the financial statements.

Changing Regulatory Environment

On June 20, 2011, FHFA published, in the Federal Register, a final rule to clarify certain terms of conservatorship and receivership operations for the GSEs. This rule was effective July 20, 2011. The key issues addressed in the final rule are the status and priority of claims and the relationships among various classes of creditors and equity-holders under conservatorships or receiverships.

On July 21, 2010, the President signed the Wall Street Reform and Consumer Protection Act (Dodd-Frank Act), into law, which significantly changed the regulation of the financial services industry, including the creation of new standards related to regulatory oversight of financial institutions deemed systemically important; an orderly liquidation mechanism for these institutions; and oversight of derivatives, capital requirements, asset-backed securitization, mortgage underwriting, and consumer financial protection. The Dodd-Frank Act may result in the GSEs being subjected to new and additional regulatory oversight and standards, which would lead to increased restrictions on their day-to-day business and operations. Also, it contains a provision requiring the Secretary of the Treasury to conduct a study and develop recommendations regarding the options for ending the conservatorship. On February 11, 2011, the President delivered to Congress a report from the Secretary that provided recommendations regarding the options for ending the conservatorship and plans to wind down the GSEs. To date, Congress has not approved a plan to address what will be done with the GSEs.

As of September 30, 2011, and 2010, GSE investments consisted of the following:

Investments in GSE as of September 30, 2011
(In billions of dollars)
Gross Investments as of 9/30/11
Cumulative Valuation (Loss)
9/30/11 Fair Value
Fannie Mae Senior Preferred Stock 104.5 (26.7) 77.8
Freddie Mac Senior Preferred Stock 66.0 (12.4) 53.6
Fannie Mae Warrants Common Stock 3.1 (2.1) 1.0
Freddie Mac Warrants Common Stock 2.3 (1.7) 0.6
  Total GSE Investment 175.9 (42.9) 133.0

Investments in GSE as of September 30, 2010
(In billions of dollars)
Gross Investments as of 9/30/10
Cumulative Valuation (Loss)
9/30/10 Fair Value
Fannie Mae Senior Preferred Stock 85.9 (29.4) 56.5
Freddie Mac Senior Preferred Stock 63.9 (12.7) 51.2
Fannie Mae Warrants Common Stock 3.1 (2.1) 1.0
Freddie Mac Warrants Common Stock 2.3 (1.8) 0.5
  Total GSE Investment 155.2 (46.0) 109.2


Last Updated:  February 16, 2012