Wells Fargo is raising minimum credit score requirements on Federal Housing Administration loans, part of the ongoing jockeying by large banks to limit lawsuits by the Justice Department for defective FHA loans.

John Shrewsberry, Wells Fargo's CFO, said Wednesday that the San Francisco bank will not make loans to FHA borrowers with low credit scores because of their higher rates of default.

"We will be adding back the credit overlays so we make fewer loans that are close to [the FHA's] most accommodative end of the credit spectrum," Shrewsberry said at the Barclays Global Financial Services Conference in New York. "Those are the loans that are going to default and those are the defaults loans that we're going to be arguing about 10 years from now and we're not going to do that again."

Last year Wells lowered credit scores to a minimum of 600 on FHA purchase loans through its retail channel. This week, the minimum FICO score was raised back to a minimum of 640, the same requirement for the company's correspondent channels, said Tom Goyda, a Wells spokesman.

The change by Wells, the largest U.S. home lender, was prompted by an FHA proposal earlier this month regarding loan-level certification. That proposal, which reiterates current policy and is open for public comment until Nov. 2, would require that lenders certify that loans backed by the FHA do not have any mistakes or material defects.

The proposal includes a provision that would require all lenders to certify that they have completed a review of all loans and that no deficiencies or defects were found to make the loans ineligible for FHA insurance. Such reviews must be conducted before FHA endorses the loans.

Banks have said the proposal lacks clarity and they want more assurances that they will not be sued by the Justice Department for minor defects in FHA loans. When a bank certifies that a loan is eligible for FHA insurance and the agency later finds a defect, a bank can be held liable for triple damages under the False Claims Act.

But many banks, including Wells Fargo, Quicken Loans, PNC Financial Services Group, Regions Financial and BB&T all have outstanding investigations of FHA loans, according to company filings.

Most of the top banks including Bank of America, JPMorgan Chase, Citigroup and U.S. Bancorp have already reached settlements with the FHA, a unit of the Department of Housing and Urban Development.

Raising credit scores in its retail channel will have limited impact on Wells' overall mortgage production volume, Shrewsberry said. Most FHA loans are originated through its correspondent channel.

"The FHA came out earlier in September and informed people that they didn't intend to make any meaningful changes to their loan-level certification," he said. "They had gone out for comment, we gave them feedback, industry groups gave them feedback, consumer groups gave them feedback that they would need to do more and they chose not to."

Credit "overlays" are higher credit score requirements for FHA loans than the agency's own credit standards. Credit overlays have long been controversial. For many years, consumer advocates have lobbied banks to eliminate credit overlays claiming that requiring borrowers to a credit score of at least 640 may exclude about 15% of potential FHA borrowers.

The FHA provides mortgage insurance to approved lenders essentially protecting banks against losses when a homeowner defaults. Lenders have to indemnify the agency for possible losses for fraud, misrepresentation, or serious or material defects.

Wells originated $62 billion in home loans in the second quarter, up 32% from the previous quarter. Retail made up $36 billion of production, while correspondent purchases added $25 billion. Purchase loans were 54% of the total, up from 45% in the first quarter. Wells does not provide breakout numbers on FHA loans.

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