U.S. House Rep. Barney Frank, D-Mass., called on the regulator for Fannie Mae (FNM) and Freddie Mac (FRE) to cancel employee bonuses under the companies' retention programs.

In a letter Friday, Frank urged Federal Housing Finance Agency Director James B. Lockhart to rescind any bonuses already paid under the program and to stop any further payments.

"The public, having provided significant support for the purpose of restoring trust and confidence in our country's financial system, rightfully insists that large bonuses such as these awarded by institutions receiving public funds at a time of a serious economic downturn cannot continue," Frank wrote in the letter.

The move comes after $165 million in bonuses paid to employees at American International Group Inc.'s (AIG) Financial Products division ignited a political firestorm this week. The House on Thursday approved legislation to tax at 90% any bonuses to employees earning more than $250,000 at firms that have received at least $5 billion in aid from the government's financial rescue program.

Fannie and Freddie, which will have received a total of $60 billion in taxpayer funds under a separate government program, are covered under the legislation. Fannie announced this week in a regulatory filing that it plans to pay bonuses of at least $1 million each to four executives.

Lockhart defended the bonuses in a letter Friday responding to Frank's, saying they went to employees at all levels of the firms and that care was taken to ensure they weren't excessive. He warned that rescinding them could create "great risk of these same employees deciding this is the last straw and walking away."

Lockhart said he discussed Frank's demand with the chief executives of both companies and the directors of one of the firms, all of whom came on board after the companies were put into conservatorship. He said they were in agreement that the retention programs were crucial for ensuring that Fannie and Freddie are viable and able to perform their role in righting the housing market.

"We believe that FHFA would be violating its duties as conservator to end the retention plans and allow Fannie Mae and Freddie Mac to be hollowed out. There are no other financial institutions that can replace them in this critical time for the nation's economy," Lockhart wrote.

Lockhart said the retention programs were established with the help of an outside pay consultant to ensure that a broad swath of employees didn't desert the firms after they were seized by the government.

He said that more than 5,000 employees at Fannie were promised an average of $21,000 in retention pay spread over the first year and a half of the conservatorship. During that period, 4,000 employees at Freddie will receive on average $19,000 in retention pay.

Lockhart insisted the pay wouldn't go to those who made decisions that triggered mounting losses at the companies. "Retention payments are not a reward for the past. Unlike other financial institutions, I made the decision not to pay severance to departing CEOs," he wrote.

-By Jessica Holzer, Dow Jones Newswires; 202-862-9228; jessica.holzer@dowjones.com