The Obama administration is laying out three broad options for overhauling the mortgage lending system, but will let Congress make the final decision.

The Treasury Department says in a report released Friday that the government should withdraw its support for the mortgage market slowly, over five years or more. The report describes a path for winding down the troubled mortgage giants Fannie Mae and Freddie Mac.

The three options are: end the government’s role in guaranteeing most mortgages; support the mortgage market only in times of stress; or provide a government guarantee for mortgage investments created by private companies.

Under any scenario, the private sector will assume a greater role in housing finance as the government scales back its involvement. The government currently owns or guarantees more than 90% of U.S. mortgages.

The bailouts of Fannie and Freddie, which were created by Congress but became public, stockholder-owned companies, have cost taxpayers nearly $150 billion.

The report comes after years of debate about how to end the government’s role in housing. The options have been discussed for years.

By handing the decision to Congress, the administration sidesteps one of the most complex and politically explosive questions facing the financial system. Any of the three options will almost certain force mortgage rates to rise.

Republicans have called for Fannie and Freddie to be abolished. But there is a growing recognition that drastic action would upend the housing finance system, threatening the broader economy.

A near-complete withdrawal by the government could end the popular 30-year fixed rate mortgage or, at least, make it more expensive. Banks would prefer adjustable-rate mortgages that would fluctuate with market interest rates.

Treasury Secretary Tim Geithner says mortgages would be “modestly” more expensive as government withdraws.

However, all three options maintain some level of government support, either through guarantees or through existing agencies,such as the Federal Housing Administration.

Administration officials say the proposals will end the hybrid model of public-private companies that left the public on the hook for billions when Fannie and Freddie failed.

“Under any of the scenarios there’s going to need to be more private capital in the housing system,” said Michael Barr, who recently left his post as assistant treasury secretary to return to teaching at Michigan University Law School. “That’s going to mean more pressure on interest rates.”

The greater the government involvement, the milder the impact on borrowing costs. But more government involvement also places more taxpayer money at risk.

Republicans complained that the administration is stepping back from one of the most consequential, and politically explosive, questions for the financial system.

“It’s disappointing that the administration is abdicating an opportunity to lead and is instead opting to punt,” said Kurt Bardella, spokesman for Darrell Issa, R-Calif., a vocal critic of Fannie and Freddie and chairman of the House Committee on Oversight and Government Reform.

“It’s mind-boggling how the administration is not acting with more urgency to put forward a plan given the multibillion dollars taxpayers have at stake,” he said.

But Republicans, who control the House of Representatives, have offered no specific plan of their own. And even conservative scholars concede that the remedy is less about urgency than it is about stepping away from the reliance on Fannie and Freddie at a moderate pace.

A report prepared by scholars at the conservative American Enterprise Institute, which the Treasury report is expected to allude to, also calls for gradual withdrawal of Fannie and Freddie from the housing finance market over a period of five years.

Mark Zandi, an economist who has advised Democrats and Republicans, proposed the middle-of-the-road option of giving the government a role that insures mortgages only in catastrophic market conditions.

That type of insurance would be paid for by homeowners, he said, and it “would keep rates measurably lower, allow mortgage credit and would preserve the 30-year fixed rate mortgage.”

The report comes as Republicans and Democrats struggle to find a way to find a way to repair the financing system for the nation’s $11 trillion housing market. By offering options and spelling out the advantages and disadvantages of each, the report is designed to have a soft landing on Capitol Hill.

Recognizing that the changes in the system will be gradual, the administration is in no hurry to demand a quick fix.

At a House hearing Wednesday, neither Republicans nor Democrats displayed a desire to push specific plans or timetables for overhauling Fannie Mae and Freddie Mac. Republicans, however, have long argued the two mortgage lenders were central players in the 2008 financial meltdown and have called for their demise.

The report also is expected to call for the gradual reduction of Fannie’s and Freddie’s combined $1.5 trillion portfolios. The administration would like to reduce the government’s mortgage support to somewhere below 50% within five to seven years.

It also would support trimming the maximum size of mortgages they can purchase from the current high of $729,750 to $625,000. Congress set the higher limit in 2008 and it expires in September.

By: Justin Vaught, Alan Fram, and Daniel Wagner
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