updated 11/12/2009 10:54:33 AM ET 2009-11-12T15:54:33

The Federal Housing Administration says its financial cushion has dipped to a dangerously low level but should remain above zero under "most economic scenarios."

The agency, a major source of funds for first-time homebuyers, faces mounting concerns that it will eventually need a taxpayer bailout as losses grow from homeowners who lose their jobs and can't pay their mortgages.

An independent audit being sent to Congress shows reserves for the fiscal year ending Sept. 30 fell to $3.6 billion, compared with $685 billion in outstanding insured loans. That's a ratio of 0.53 percent and far below the 2 percent level Congress has required since the 1990s.

That reserve money, effectively a backup fund for the agency, has been drained as foreclosures and defaults have soared. "It is absolutely critical that going forward, we build that cushion back up," Housing Secretary Shaun Donovan told reporters.

Since the collapse of the subprime lending market, the government has taken up the slack. The FHA has insured nearly a quarter of all new loans made this year, and about half of all loans to first-time homebuyers this year.

The agency itself does not make loans, but rather offers insurance against default. Borrowers are willing to pay for the insurance because FHA loans only require down payments of 3.5 percent of the purchase price. The FHA now insures about 5.3 million mortgages, up from about 4 million three years ago.

But as of this summer, about 17 percent of FHA borrowers were at least one payment behind or in foreclosure, compared to 13 percent for all loans, according to the Mortgage Bankers Association.

National data Thursday from RealtyTrac Inc. showed foreclosure-related filings fell in October, the third straight monthly decline.

"Foreclosures are still far higher than we want them to be, but we do appear to have them on the right path now," Donovan said.

While agency officials say they are making more loans to far more creditworthy borrowers than in the pasts, critics say FHA borrowers are still vulnerable to default, particularly if job losses keep soaring and the recent increase in home prices proves elusive.

Edward Pinto, a financial consultant and former chief credit officer, expects the agency to need a taxpayer rescue of $40 billion within two or three years. A big problem, he said, will come from condominium loans. The FHA's efforts to limit riskier activities, he said, are bound to fall short because the agency consistently faces pressure to keep its standards relaxed to promote homeownership.

"Even though they're tightening up, they're not tightening up fast enough," Pinto said.

Copyright 2009 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

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