U.S. Foresaw Better Return in Seizing Fannie and Freddie Profits – from NYT

U.S. Foresaw Better Return in Seizing Fannie and Freddie Profits

In August 2012, the federal government abruptly changed the terms of the bailout provided to Fannie Mae and Freddie Mac, the mortgage finance giants that had been devastated by the financial crisis. Instead of continuing to receive payments on the taxpayer assistance, Treasury officials decided to begin seizing all the profits both companies generated every quarter.

It was an unusual move, given that the companies still had public shareholders. But it was necessary, the Treasury said, to protect taxpayers from likely future losses in their operations. Justice Department lawyers have reiterated this view in court, saying that the bailout terms were modified because the companies were in a death spiral.

But newly unsealed documents show that as early as December 2011, high-level Treasury officials knew that Fannie and Freddie would soon become profitable again. The materials also show that government officials involved in the decision to divert the profits knew the change would most likely generate more money for Treasury than the original rescue terms, which required the companies to pay taxpayers 10 percent annually on the bailout assistance they had received.

A December 2011 information memo to Timothy F. Geithner, the former Treasury secretary, is among the newly released documents. The 17-page memo from Mary John Miller, assistant secretary for financial markets, shows that the idea to extract all of Fannie’s and Freddie’s profits coincided with their anticipated turnaround.

Ms. Miller outlined “restructuring and transition options” for Fannie and Freddie in the memo, saying the No. 1 option was changing the terms of the bailout to “replace the current 10 percent fixed dividend with a permanent ‘net worth sweep.’” The memo noted that Freddie Mac was “expected to be net income positive by the end of 2012 and Fannie by the end of 2013.”Another unsealed document, a draft memorandum circulated before the profit sweep, shows that federal officials recognized it would generate more money than the original bailout terms. Net income generated by Fannie and Freddie and paid to the government “will likely exceed the amount that would have been paid if the 10 percent was still in effect,” it stated.

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Ms. Miller, who left Treasury in 2014 and sits on the board of the SVB Financial Group, the parent of Silicon Valley Bank, did not respond to an email seeking comment, nor did a Treasury spokeswoman.

The documents, released under a court order, emerged in a lawsuit against the government by Fannie and Freddie shareholders, who contend that the profits — now totaling in the tens of billions of dollars — rightfully belong to them. The plaintiffs argue that the move was a taking of private property without remuneration.

The Treasury’s policy of diverting the profits seemed to further its stated goal of winding down the companies, an outcome that some contend could eventually put the housing finance system on a sounder footing. But legal experts say pursuing that goal while the companies were under a form of government control called conservatorship flouted the law that led to the rescue, the Housing and Economic Recovery Act of 2008.

Passed by Congress that July, the law set up the Federal Housing Finance Agency as a new regulator for the companies and directed the agency, as their conservator, to preserve their assets so they could operate independently again in the future. Unlike a receivership, in which a company’s assets are sold and its operations wound down, the conservatorship was supposed to be a temporary solution until Fannie and Freddie got back on their feet.

Instead, the Treasury and the housing finance agency depleted the companies’ assets by instigating the profit sweep. Fannie and Freddie currently operate their multitrillion-dollar businesses on almost no capital.

After they were taken into conservatorship in September 2008, the government advanced $187.5 billion to the two companies. But since their operations began to turn around in 2012, Fannie and Freddie have returned $270.9 billion to the government, $83.4 billion more than they drew.

A calculation by plaintiffs in another case against the government involving the profit sweep states that Fannie and Freddie have paid $130 billion more to the government than they would have under the original rescue plan.

Altogether, some 3,500 documents were recently unsealed in the case, pending before Judge Margaret M. Sweeney in the United States Court of Federal Claims.

Fairholme Funds, a mutual fund that owns shares in Fannie and Freddie, is the main plaintiff in the case. Bruce R. Berkowitz, president of Fairholme, said in a statement that the unsealed documents “prove that senior officials in the previous administration knowingly violated their statutory authorities and deliberately fabricated a tale to justify their unlawful actions.”

From the outset, the government demanded unusual secrecy in the litigation, withholding more than 11,000 documents and asserting that they were protected by various privileges. In a rare move, the government asserted presidential privilege on 45 documents.

The Obama administration argued that disclosure of the documents would roil the financial markets.

But it has been almost nine years since the government took over Fannie and Freddie in the face of a growing mortgage mess. The companies remain in conservatorship and are essentially the last piece of unfinished business from the crisis.

The document stating that the profit sweep would probably generate more money to the government than the previous arrangement also contradicts court testimony from another housing official, Mario Ugoletti, a former special adviser to the director of the housing finance agency.

Mr. Ugoletti swore in a 2013 declaration that by mid-2012, the amounts owed by Fannie and Freddie under the original rescue had grown so large that “it appeared unlikely that either of the enterprises would be able to meet that amount consistently without drawing additional funds from Treasury.”

The intention of the change “was not to increase compensation to Treasury,” he stated.

Mr. Ugoletti could not be reached for comment for this article.

Two years ago, The New York Times intervened in the case, arguing that unsealing some of the documents would “enable the public to understand more fully the decisions the government has made in the public’s name and to assess the wisdom and effect of those decisions.”