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SEC Chief Accountant Testifies on Fannie Mae's Accounting Errors

SEC Chief Accountant Donald Nicolaisen testified before the House Subcommittee on Capital Markets, Insurance and Government Sponsored Enterprises on his staff's December 2004 decision that the Federal National Mortgage Association, or Fannie Mae, did not comply with certain Generally Accepted Accounting Principles relating to its accounting for deferred purchase price adjustments and for derivatives and hedging activities. As a result of Office of the Chief Accountant's findings, Fannie Mae plans to restate its financial results for the periods between 2001 and June 2004, but has not yet filed its revised financial statements. Subcommittee Chairman Richard Baker noted that Fannie Mae will pay certain benefits to its former executives even though some of the incentive payments linked to its financial results may be under review.

Mr. Baker asked whether the accounting standards with which Fannie Mae failed to comply were so difficult that companies do not get it right. Mr. Nicolaisen said that he believes that other companies are complying with Statements No. 91 and 133, that the standards are workable and are being followed. While Mr. Baker sought concurrence that the failure to comply with the standards was the result of a determined managerial decision, Mr. Nicolaisen said that he had reached no such conclusion.

Ranking member Paul Kanjorski asked how it could be that the Office of Federal Housing Enterprise Oversight, Fannie Mae's regulator, and its internal and external auditors all could have failed to detect the lack of compliance with GAAP for such a lengthy period of time. Mr. Nicolaisen explained that his testimony and responses would deal only with the two accounting standards. He has not looked at the causes, he said, but those will be dealt with during the SEC's investigation. Rep. Kanjorski suggested that if the Fannie Mae, the largest user of derivatives in the world, had failed to comply with GAAP in these areas, that the problem could be systemic. Rep. David Scott also inquired about how common the use of Statement 133 was and whether companies were frequently not in compliance with the standard.

Rep. Christopher Shays noted that Franklin Raines, Fannie Mae's former chief executive officer, had testified prior to the SEC's findings and had angrily and defiantly maintained that the SEC would vindicate Fannie Mae from the findings in OFHEO's September 2004 report. Mr. Nicolaisen said that with respect to the two accounting issues on which he was testifying, Statements 91 and 133, Fannie Mae did not comply with GAAP. On those two issues, OCA concurred with the OFHEO report. OFHEO's report covered a number of other issues, however, that Mr. Nicolaisen would not address.

Rep. Debbie Wasserman-Shultz, a new member of Congress, said that she was new to the process and unaccustomed to not getting answers to the questions that were posed and asked whether the members eventually would receive the information. Rep. Baker assured her that the information would be provided to the Subcommittee as it becomes legally available. Rep. Jim Matheson asked whether Statement 133 was adequate for the emerging and expanding use of derivatives and whether it should be revised. Mr. Nicolaisen agreed that the standard should be reviewed periodically to ensure that it is meeting its objectives, but he assured Rep. Matheson that the standard is currently being used, reviewed and enforced.

Rep. Gregory Meeks asked how Fannie Mae's auditor could have believed that Fannie Mae was complying with Statements 91 and 133, if the issue was black and white, as described by OFHEO. Mr. Nicolaisen again referred to the ongoing investigation. The investigators first look to the preparer of the financial statements, he explained, and then will look at the auditor. You should assume that the SEC will conduct a very thorough investigation, he said, but he would not say now what went wrong in 2001.