Fannie Mae 2005 Annual Report Download - page 100

mortgage credit book of business was 721 as of December 31, 2005. These credit risk characteristics were
substantially the same as of December 31, 2006. We discuss the characteristics of our conventional single-
family mortgage credit book of business in greater detail in “Risk Management—Mortgage Credit Risk
Management—Single-Family.”
As discussed above, the demand for ARM products, including non-traditional products such as interest-only
ARMs and negative-amortizing ARMs, remained higher than historical norms in 2004 and 2005, making up
33% and 32%, respectively, of conventional single-family mortgage originations. The popularity of ARMs
declined in 2006, making up 29% of conventional single-family mortgage originations, and has continued to
decline in 2007 as a result of the decline in interest rates on fixed-rate mortgages; the decrease in the spread,
or difference, between interest rates on fixed-rate mortgages and ARMs; and improvements in housing
affordability from the 20-year low recorded in July 2006. Additional factors that we believe may be
contributing to the continued decline in the popularity of ARMs include heightened consumer awareness of
the risks of certain non-traditional ARM product features, and lender approaches that may be evolving as a
result of the interagency guidance on non-traditional mortgages. We believe that these factors may result in
many homeowners choosing to refinance into fixed-rate mortgages in anticipation of future interest rate resets
on ARMs. We estimate that approximately $1.1 trillion in ARMs are scheduled to reset at least once during
2007, with approximately an additional $300 billion scheduled to reset in 2008.
We are focused on understanding and serving our customers’ needs, strengthening our relationships with key
partners, and helping lenders reach and serve new, emerging and non-traditional markets by providing more
flexible, low-cost mortgage options. We also continue to expand our mortgage options for borrowers with
weaker credit histories.
HCD Business
Our Housing and Community Development business generated net income of $462 million, $337 million and
$286 million in 2005, 2004 and 2003, respectively. The primary sources of revenues for our HCD business are
guaranty fee income and fee and other income. Expenses primarily include administrative expenses, credit-
related expenses and losses associated with LIHTC and other partnership investments that are offset by the
related tax benefits from these investments.
Net income for the HCD business segment increased by $125 million, or 37%, in 2005 from 2004 as a result
of increased tax benefits from tax-advantaged investments and higher fee and other income. HCD makes a
variety of partnership investments in affordable housing. These investments include tax-advantaged investments
(primarily LIHTC investments) where the economic benefits are primarily derived from tax credits, as well as
other affordable housing investments that generate cash flow and equity appreciation. LIHTC investments,
which totaled $7.7 billion in 2005, compared to $6.8 billion in 2004, comprised the largest proportion of
investment activity in 2005. Losses from partnership investments increased by $147 million as HCD increased
its investment activity; however, these losses were more than offset by increased LIHTC tax benefits which
were the primary reason for the reduction in our 2005 effective corporate tax rate to 17%. Guaranty fee
income was down slightly as the 5% increase in the average multifamily mortgage credit book of business was
offset by lower effective guaranty fee rates in 2005. Fee and other income doubled in 2005 to $628 million
primarily due to an increase in multifamily transaction fees caused by higher borrower refinancing activity in
2005 as compared to 2004. Expenses increased 28% in 2005 due to the segments’ allocation of a portion of
the costs associated with our restatement and related matters.
Net income for the HCD business segment increased by 18% in 2004 from 2003, primarily due to an increase
in tax benefits from tax-advantaged investments, guaranty fee income and fee and other income. These
increases in revenues are partially offset by higher expenses. The increase in income tax benefits was largely
attributable to growth in LIHTC and other partnership investment balances, reduced by a 10% increase in pre-
tax losses from these partnership investments. Guaranty fee income increased by 25% in 2004, as a result of
growth in the average multifamily mortgage credit book of business in 2004 at stable effective guaranty fee
rates. Growth in fee and other income was fueled by increases in multifamily transaction fees that resulted
from substantially higher borrower refinancing activity in 2004 compared to 2003. Other expenses increased
due to the allocation of a portion of the $400 million civil penalty paid to the U.S. Treasury in connection
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