* FHA faces $16.3 billion cash shortfall
* FHA financial problems may require Treasury cash infusion
* FHA backs about $1.1 trillion in mortgages
WASHINGTON, Feb 6 (Reuters) - Lawmakers in the U.S. House of Representatives on Wednesday drew battle lines ahead of the next fight over the government's role in the mortgage finance system, focusing on the cash-strapped Federal Housing Administration.
The House Financial Services Committee opened a series of hearings to look into ways to shore-up the finances of the FHA, a government mortgage insurer that is facing a projected $16.3 billion shortfall in its insurance fund.
The projected losses on the $1.1 trillion in mortgages it backs could lead the agency to turn to the U.S. Treasury for a cash infusion for the first time in its 79-year history.
Republicans, who control a majority in the House, want to shrink the FHA's market share. At the hearing, they said the agency's problems were so severe that it needed to be reformed, while Democrats defended the agency as a vital source of funding for low-income and first-time home buyers.
"It is going to be a priority of this committee to forge a sustainable housing finance system in this country," Representative Jeb Hensarling, the Republican chairman of the committee, declared at the hearing.
The FHA's presence in the mortgage market expanded rapidly after the U.S. housing bubble burst. It now insures about 1.2 million mortgages, supporting about 15 percent of all U.S. home loans, up from 5 percent in 2006.
It has faced mounting losses from defaults on mortgages it guaranteed from 2007-09 as the housing bubble deflated.
"If the FHA were a private financial institution, likely somebody would be fired, somebody would be fined and the institution would find itself in receivership," said Hensarling. "It is merely and merrily on its way to becoming the recipient of the next great taxpayer bailout."
House Republicans have not said what steps they believe are needed to bolster the agency, but they are likely to face push-back from Democrats if they seek to curtail the FHA's reach and make it harder to obtain FHA-backed loans. If the House were to pass a bill only along party lines, it would likely not clear the Democrat-controlled Senate.
The determination of whether or not FHA needs to draw funds from the Treasury will come later this year. The White House will issue a projection of the agency's capital needs in the president's upcoming budget proposal.
The FHA's financial woes have become a pressing priority for lawmakers, deflecting attention away from efforts to reform government-run Fannie Mae and Freddie Mac, the biggest providers of mortgage funds to the U.S. housing market.
Those two firms, put under government control in 2008, have drawn almost $190 billion in taxpayer aid. They have started to return to profitability in recent quarters.
Hensarling, one of the most conservative members in the House, has angled to push lawmakers to take a more aggressive approach to changing the current housing finance system. Combined, Fannie Mae, Freddie Mac and the FHA back about nine of 10 new U.S. home loans.
Democrats on the committee argued that the agency had helped prevent a deeper housing bust. The FHA does not make loans but instead insures qualified lenders against losses if borrowers default. With an FHA loan, buyers can put down as little as 3.5 percent.
"It is important to acknowledge FHA's crucial role in our housing finance system, particularly in the last few years," said Representative Maxine Waters, the committee's ranking Democrat. "All the members here today are deeply concerned about the health of the FHA's mutual mortgage insurance fund."
So far, the agency has been able to cover its costs and avoid asking for a Treasury subsidy by raising premiums that borrowers pay and tightening credit standards.
Julia Gordon, director for housing finance and policy at the liberal Center for American Progress, said those actions needed more time. "It is now important to give sufficient time to see the results of the significant improvements made by FHA before adding still more changes to the mix," she said in her testimony.
Gordon said that while the FHA's losses from problem loans will be on the agency's books for several years, more recent business would likely be very profitable.