CHICAGO (CN) – In a ruling Thursday, the Seventh Circuit upheld the Federal Housing Finance Agency’s authority to divert Fannie Mae and Freddie Mac’s future profits to the U.S. Treasury Department as a condition of their $188 billion bailout during the 2008 financial crisis.
“With regard to the agency, our review is squarely foreclosed,” Chief U.S. Circuit Judge Diane Wood said, citing federal administrative law. “Because the agency acted within its powers as conservator in agreeing to the preferred stock purchase agreements and the third amendment, declaratory and injunctive relief cannot run against it.”
According to the government, the 2008 collapse of the housing market left the Federal National Mortgage Association, also called Fannie Mae, and the Federal Home Loan Mortgage Corp., or Freddie Mac, in danger of folding.
To avoid the economic disaster that such a collapse would create, Congress enacted the Housing and Economic Recovery Act, or HERA, authorizing the Treasury to purchase any obligations or securities issued by either company.
The Federal Housing Finance Agency, abbreviated as FHFA, placed Fannie and Freddie under conservatorship in September 2008, and committed $100 billion in funding to each corporation.
A second amendment to the bailout agreement raised the limit to $200 billion each, in exchange for a dividend worth 10 percent of the Treasury’s existing liquidation preference.
In a third amendment to the deal, the Treasury replaced the previous dividend formula and simply required that Fannie and Freddie pay the Treasury the amount by which their net worth exceeded a fixed capital buffer, a figure that shrank each quarter.
This final amendment, according to Fannie and Freddie shareholders, effectively nationalized the mortgage lenders by diverting every penny of profits to the Treasury.
“With the stroke of a pen, the agencies had nationalized the companies and taken all the value of the companies for Treasury, thereby depriving the private shareholders of all their economic rights, well in excess of the authority granted to the FHFA as conservator,” according to the shareholders’ complaint, which was filed in February 2016 in Chicago federal court.
When Fannie and Freddie agreed to this amendment in 2012, the Treasury had provided $187.5 billion to the companies with the promise of more money as needed.
Fannie and Freddie have since paid the bailout money back and are now hugely profitable, but all those profits – $186 billion since 2012 – go to the government, not to shareholders.
A federal judge ruled against the shareholders last year, granting the government’s motion to dismiss the complaint.
The Seventh Circuit affirmed that decision Thursday.
“The plaintiffs fail to appreciate that the agency’s conservatorship of the companies has no fixed expiration date,” Judge Wood wrote for a three-judge panel. “Even if the amendment has benefited Treasury thus far – and the agency could anticipate its having done so – that does not establish that the amendment will ultimately place the companies in a worse financial position than they would have been in under prior versions of the agreement.”
For example, the new tax law is expected to create a net loss for both companies in the fourth quarter of 2017 – an estimated $6.7 billion at Fannie Mae, of which it will draw $3.7 billion from the Treasury, and $312 million at Freddie Mac.
The Chicago-based appeals court also dismissed investors’ claims against the Treasury Department.
“An injunction or declaratory judgment preventing Treasury – the agency’s counterparty – from honoring the terms of the third amendment would fundamentally ‘affect’ the agency’s conservatorships of Fannie and Freddie and so would run afoul of [federal law],” Wood said.
Wood’s opinion was joined by U.S. Circuit Judges William Bauer and Frank Easterbrook.
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