A recently released Government Accounting Office study reports that the calculation methods for the conforming loan limit used by Fannie Mae and Freddie Mac will permanently increase and may eventually take market share from lenders in the jumbo loan market.

The report, which was released in October, canvases issues debated after Fannie and Freddie decided against adjusting the conforming loan limit downward for 1994 despite a drop in the limits benchmark index.

Congress authorized Fannie and Freddie to adjust the conforming loan limit based on the average October-to-October home price index maintained by the Federal Home Finance Board. The 1993 and 1994 limits were set at $203,150; the 1995 limit should be announced in December.

While GAO said that both government-sponsored enterprises were authorized not to adjust the limit downward, it also said that maintaining the current calculation method would permanently bias the loan limit upward because the limit, if not adjusted because of a one-year drop in the index, would factor in the following years increase without calculating the previous years decline.

The permanent upward bias would increase the universe of loans available for both the lenders to make and the GSEs to buy. It might also prove beneficial to some borrowers, especially those who would previously have sought jumbo loans because the loans offered by the GSEs would carry lower interest rates.

But it wouldn't necessarily help all lenders. The market for jumbo loans would steadily shrink, particularly if the FHFB index steadily dropped over a number of years and the GSEs maintained their current limits--an albeit unlikely happenstance.

GAO said it did not address whether Fannie and Freddie had the authority to maintain the conforming loan limit regardless of the extent or duration of housing price declines.

It did note, however, that in the event housing prices decline drastically or decline continuously over a period of years, a decision by Fannie or Freddie to maintain the conforming loan limit at an equal level to its highest level obstructs the purposes set by Congress in the Housing and Community Development Act of 1980. It might also result in an inappropriate increase in the share of the secondary market held by the two organizations.

GAO found that alternative methods of adjusting the conforming loan limit would have little effect on what the loan limit would be and the share of conventional loans that would be conforming.

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