RapidReverse® has always offered a simple answer to a complex problem. It was designed to provide reverse mortgage professionals with 100% accurate principal limits for the federally insured Home Equity Conversion Mortgage (HECM). And RapidReverse can do that, and more, in 10 seconds or less.
However, it has relied on each user knowing current Expected Interest Rates. Remember, the Expected Interest Rate is not the borrower’s interest rate. Rather, it is the best estimate of what a loan might average over the next 10 years. HUD requires us to use that figure when calculating a borrower’s principal limit.
For example, if I sell a HECM ARM between Tuesday 4/18/23 and Monday 4/24/23, the average 10-year CMT from the previous week – 3.44% – would be added to the lender margins shown below:
“But how do I know the weekly average of the 10-year CMT?”
Over the last year, this was the top request – “Let ME choose the lender margin, and YOU tell me current Expected Interest Rates in the mobile app.”
DONE! Thanks to my good friend and business partner, Tom Blankenship, RapidReverse now pulls the weekly average 10-year CMT every weekend. Your mobile application will reflect updated expected rates the next time you open it.
Update Notices:
The slider is now labeled “Lender Margin” and will default to 2.5%.
The “Expected Interest Rate” is now a calculated figure.
The Tool Tips next to each term have been updated for easy explanation.
Traditional loan origination systems may not be updated until Monday afternoons.
One additional advantage to this update: The Report now uses the current expected rate (rather than the rounded expected rate) to generate loan balance accruals and line-of-credit growth. This makes the reporting function more accurate.
We hope you enjoy this update. Please reach out to me with any questions.
After June 30, 2023, the 1-month and 1-year LIBOR indices will no longer be published. Therefore, existing borrowers with LIBOR-based loans must be notified, prior to their next rate adjustment, that the variable portion of their interest rate will be tied to an alternate index.
What can you tell me about the LIBOR Transition?
The most popular reverse mortgage product is the federally insured Home Equity Conversion Mortgage or HECM. Most HECMs in service are variable-rate loans where the rate is adjusted periodically using an established lender margin plus a published index. Loan originators currently sell HECM ARMs tied to the Constant Maturity Treasury (CMT), but that was not always the case. Many HECMs originated prior to 2021 utilized an international index known as the London Interbank Offered Rate or LIBOR index.
Here are some of the questions I’ve received on this topic as well as my best efforts to answer them:
WHY IS THE LIBOR GOING AWAY?
First, the LIBOR index was somewhat inaccurate, as it didn’t accurately measure the cost of institutional borrowing. More problematic, however, is that the LIBOR was open to manipulation. This is because 1) It relied on self-reporting, and 2) Large banks could make money by strategically trading at the right time. In fact, it was the source of the largest banking scandal in history at the time.
Fortunately, this scandal had no apparent impact on reverse mortgage borrowers. But in 2017, British officials announced their plan to eventually close the published index.
IS THE LENDER AUTHORIZED TO CHANGE THE INDEX?
Yes. Every HECM ARM borrower signed a HECM ARM NOTE at closing. Section 5 of the NOTE states, “If the Index is no longer available, Lender will use as a new Index any index prescribed by the Secretary (HUD). Lender will give Borrower notice of the new Index.” These notices will be sent in 2023 and 2024 depending on the borrower’s adjustment date.
WHAT DID HUD’S 2021 MORTGAGEE LETTER ACCOMPLISH?
When HUD published Mortgagee Letter 2021-08, HUD officially removed the LIBOR index as an option for originating new HECM loans. While the industry had already shifted to the CMT index, HUD also approved the Secured Overnight Financing Rate or SOFR index.
In addition, HUD chose to 1) update the HECM Model Note, 2) remove a comingling prohibition that would allow the SOFR to use the 10-year CMT for calculating expected rates, and 3) eliminate negative index values if rates were to drop that low in the future.
WHAT IS THE REPLACEMENT INDEX?
The U.S. Department of Housing and Urban Development (HUD) announced on March 1, 2023, the establishment of a “spread-adjusted SOFR” index. This was identified as the HUD-approved replacement index when transitioning away from the LIBOR.
The SOFR is a U.S.-based LIBOR substitute. The reason it is “spread-adjusted” is because the SOFR is designed to be an overnight rate. The spread accurately accounts for differences between the SOFR when compared to the 1-month and 1-year LIBOR. This makes the spread-adjusted SOFR the most appropriate replacement index available.
WILL ALL OTHER TERMS OF THE MORTGAGE APPLY?
Yes. According to HUD’s announcement on 3/1/23, “For existing mortgages that transition to spread-adjusted SOFR, we do not anticipate a significant economic impact. For all existing FHA-insured ARMs, the per-adjustment and lifetime caps on total adjustments will continue to apply, minimizing the impact to borrowers or mortgagees as a result of the transition to SOFR.”
For more information on reverse mortgage guidelines, please purchase the book Understanding Reverse, and subscribe to my blog in the upper right corner of this page.
The federally insured reverse mortgage product known as a Home Equity Conversion Mortgage or HECM has been around for more than 30 years. During that time, the U.S. Department of Housing and Urban Development (HUD) and other governmental agencies have added layers of protection for older Americans. Let us begin at #10 and count our way down to #1.
10. Counseling protocol
HUD regulations require each borrower to receive HECM counseling from a HUD-approved agency. This is done to ensure that the consumer has been advised on the product by someone other than the loan originator. One role of the counselor that is critical and often overlooked – a required assessment to determine if the borrower understands the basics of the HECM product.
9. HECM-to-HECM refinancing tests
To prevent loan flipping, equity stripping, or churning, there are restrictions when originating HECM-to-HECM refinances. HUD has their requirements, but industry trade associations and lenders have ethical overlays to consider. In essence, we need to show that the refinance offers a bona-fide advantage to the client before refinancing.
8. The HECM maturity date
So long as the loan remains in good standing, the default HECM maturity date is 50 years beyond the youngest borrower’s 100th birthday. This date is listed in the Security Instrument and is set with the expectation that the borrower will not outlive the HECM loan. For a consumer concerned about the loan maturing, outliving a HECM should be the least of their concerns.
7. Cross-selling restrictions
Cross-selling is the practice of offering a client an additional product that might interest them. This might be an insurance policy, an annuity, or an investment. To some, that sounds harmless. But this practice opens the door for exploitation. While a reverse mortgage is designed to increase cash flow, decisions on the use of funds should be left to the borrower and their trusted advisors.
6. Initial disbursement limits
In 2013, HUD began restricting initial disbursements with the HECM product. As a result, homeowners may not be able to access all their principal limit upfront unless those funds are paying off large mortgage balances. This regulation worked. It protected consumers from over-consuming their line of credit, and we find that borrowers are now using the product more prudently.
5. Principal limit protection (PLP) lock
Long-term interest rates (expected rates) determine a HECM applicant’s borrowing power. When expected rates rise, the borrower will qualify for less principal. Fortunately, HUD allows us to “lock-in” an expected rate to protect the applicant. So long as closing takes place within 120 days of FHA case number assignment, the borrower has principal limit protection.
4. Financial Assessment
Since 2015, every lender must evaluate each borrower’s ability meet their financial obligations and to comply with the mortgage requirements. Those requirements are to 1) Occupy and maintain the home, and 2) Pay all property charges. HUD-required Financial Assessment is all about consumer protection. We must make sure this is a sustainable solution for all HECM borrowers and their households.
3. Non-borrowing spouse
HUD defines a non-borrowing spouse (NBS) as “the spouse of the HECM borrower, at the time of closing, who is also not a borrower.” With this consumer protection in 2014, the due & payable status of a HECM loan may be deferred for an eligible NBS after the death or incapacity of the borrowing spouse. While the NBS cannot borrow, they may be able to remain in the home for life.
2. HECM line-of-credit
The HECM line-of-credit (LOC) is a consumer protection because the borrower can draw funds as they need them, irrespective of home value. The LOC is not only secure, but also the available LOC grows at the same rate the loan balance grows (monthly at 1/12th the interest rate plus 0.5%). This gives the borrower a greater capacity to draw more of their equity in the future.
1. The non-recourse feature
My top consumer protection is the Non-Recourse Feature because it benefits both the homeowners and their heirs. When the homeowner chooses to sell the home, or passes away, FHA guarantees that neither the borrower nor their heirs will owe more than the home is worth at the time the home is sold. The homeowner does not carry any of the risk of the home becoming upside down.
There are two results of these regulatory reforms, 1) HECM lenders receive few CFPB complaints about the product, and 2) Client satisfaction is high.
So, there you have it – my Top 10 list of Reverse Mortgage Consumer Protections. Tell me if you think the order is accurate and if I have missed any critical advantages.
For more information on reverse mortgage guidelines, please purchase the book Understanding Reverse, and subscribe to my blog in the upper right corner of this page.
When making big decisions, procrastination is only natural. We fight this battle every morning when we determine which activities are important, and which are easy. Unfortunately, making estate planning decisions based on tax law, Social Security strategies, Medicare guidelines, market conditions, and interest rate projections, is not easy. One thing we know for sure – if you are a homeowner 62 and older, waiting to get a reverse mortgage simply doesn’t pay.1
When a Financial Planner tells a homeowner that their funds will run out at age “X”, the EASIEST solution is to say:
“If I live to age ‘X’, I will consider a reverse mortgage. Otherwise, I’ll crack open the home equity nest egg by 1) selling the home and 2) either move into a retirement home or move in with family members.”
The easy solution is rarely the best. Some of the brightest retirement researchers have been publishing guidance in the Journal of Financial Planning for nearly 10 years stating that waiting and using the reverse mortgage as a “last resort” is generally not a good idea.2 Waiting reduces the amount of funds available to a homeowner when they need the funds when compared to those who obtained one early in retirement. In addition, there are substantial risks of waiting that cannot be ignored.
WHY DO WE HEAR INACCURATE ADVICE?
If you only have a basic understanding of reverse mortgages, waiting appears to be the right advice. After all, older borrowers get more money, right? If I wait 5 more years, I’ll be older, which generally allows the homeowner to qualify for a higher percentage of their home’s value. In addition, my home will be worth more and I will have paid down my traditional mortgage.
These may seem like logical reasons to wait… to the novice. But those who understand reverse know this is foolish and mathematically incorrect.
HERE ARE A FEW REASONS WHY THEY ARE WRONG:
Reverse mortgage proceeds are also based on interest rates
Long-term rates are still historically low, and that means homeowners currently qualify for higher principal limits. If a homeowner waits – and rates go up – they will qualify for LESS with a reverse mortgage. While there is no way to know future rates, most analysts believe they should, and will, go up. This could dramatically reduce an applicant’s proceeds.
Homeowners who get a reverse mortgage at age 62 are not required to borrow the funds for which they qualify. In fact, unused principal will grow – in the borrower’s favor – at current interest rates plus 0.50%. If a homeowner gets a reverse mortgage now, the available line-of-credit (LOC) will grow even faster as interest rates go up. Many reverse mortgage applicants who understand this concept WANT interest rates to rise. This increasing credit line creates future security later in retirement.
There is no guarantee one will qualify in the future
The federally insured reverse mortgage changes periodically. While some changes may be advantageous, most have created additional challenges. Consider that many homeowners believe reverse mortgages don’t consider credit history and income. That is not true, and since 2015 many who decided to wait until a reverse mortgage was desperately needed, found that they no longer qualify under HUD’s financial assessment guidelines.
While we don’t want to create an unmerited sense of urgency, homeowners need to be aware that research shows that waiting for a reverse mortgage generally isn’t optimal and NOW may be the best time to obtain one.
For more information on the strategic uses for reverse mortgages, please subscribe to this blog and purchase my book, Understanding Reverse.
As part of HUD’s 2015 rollout of Financial Assessment, every lender must now examine every applicant’s credit history and property charge history as well as their residual income. This is done to determine whether the reverse mortgage is a sustainable solution for the borrower. Please note that the lender is not looking at a FICO score; actual credit scores are not relevant to the underwriting decision.
Also known as “The WILLINGNESS Test” the lender’s underwriter will review an applicant’s credit report and property charge history records.
What is satisfactory CREDIT history?
Housing and installment debt payments are considered satisfactory if all payments were paid on time in previous 12 months with no more than two 30-day late payments in the previous 24 months.
Revolving account debt payments are considered satisfactory so long as there have been no major derogatory accounts in previous 12 months.
Note: Major derogatory credit is defined as payments made more than 90 Days after the due date, or three or more payments more than 60 Days after the due date.
What is satisfactory PROPERTY CHARGE history?
Satisfactory property charge history will show that all property taxes for all owned real estate are current with no property tax arrearages in prior 24 months.
In addition, all HOA, condominium, or PUD fees are current with no arrearages in the prior 24 months.
Note: If the borrower did not have homeowners and flood insurance (if applicable), borrowers must obtain coverage and prepay for 12 months at loan closing.
Unless the borrower can document extenuating circumstances that meet HUD’s guidelines, a failure of one of these tests (credit history or property charge history) will result in a fully-funded Life Expectancy Set-aside (LESA) to pay for critical property charges.
One difficult challenge for any reverse mortgage professional is getting a homeowner qualified after they’ve missed a mortgage payment or a property charge payment. If a homeowner falls short of HUD’s definition of “satisfactory credit” we’ll often need to set-aside enough principal to pay property taxes and homeowner insurance for that borrower over their expected lifetime.
For this reason, it is imperative that borrower’s seek assistance from a reverse mortgage professional before their credit history is damaged.
A common concern is whether a homeowner may obtain a HECM if they have a Chapter 7 or Chapter 13 bankruptcy on their record. The answer will depend on the type of HECM transaction.
HECM Refinance with a bankruptcy record
For a refinance, a bankruptcy alone does not disqualify a homeowner for a HECM. The underwriter will look at when a Chapter 7 was discharged and the payment history on a Chapter 13 bankruptcy.
HECM Purchase with a bankruptcy record
Bankruptcy is a bigger issue for a HECM for Purchase transaction. A Chapter 7 bankruptcy may require at least two years to have elapsed since the date of the bankruptcy discharge. If there were acceptable extenuating circumstances beyond the homeowner’s control, then less than two years, but not less than 12 months, may be acceptable.
A Chapter 13 bankruptcy will generally need to show that at least 12 months of the pay-out period under the bankruptcy has elapsed.
For more information on reverse mortgage guidelines, please purchase the book Understanding Reverse, and subscribe to my blog in the upper right corner of this page.
When a spouse is not a borrower in a HECM transaction, he or she is referred to as a non-borrowing spouse (NBS). This is often due to the spouse not meeting the age requirement of 62.Understanding Reverse-2021
A non-borrowing spouse (NBS) is the spouse of a reverse mortgage borrower that will not be a borrower. But the guidelines are not that simple and are commonly misunderstood. Let’s see if I can explain the rules, and why they were created.
The Problem:
Some spouses are not included in the reverse mortgage. Although there are many reasons for this, in most cases this is because they are not old enough (age 62).
Regardless, prior to 2014, these non-borrowing spouses had little protection after the death of the last borrower. If the last borrower died or permanently vacated the home, the loan automatically became due and payable…. even if the surviving spouse was still living in the home. This is no longer the case.
The Solution [ML 2014-07]
FHA changed HECM guidelines in 2014 allowing certain “Qualified Non-Borrowing Spouses” to continue living in their home following the death of the last borrower. The “due and payable” status of the mortgage could be deferred if the spouse is “qualified”, meaning 1) they are married at the time of application and continue to be married over the life of the loan, and 2) the Non-Borrowing Spouse occupies the home and continues to occupy the home for the life of the loan.
This created another issue: Having an NBS generally meant the borrower would have access to less funds. This was because the borrower’s available funds became based on the youngest age, which was likely the non-borrowing spouse. This was true whether the NBS was qualified for the deferment or not.
The Clarification [ML 2015-02]
Some lenders argued that if an NBS is “NOT qualified”, they shouldn’t be required to use the age of the NBS in the calculation of the borrower’s principal limit. As a result, FHA issued Mortgagee Letter 2015-02 to create new designations – Ineligible and Eligible Non-Borrowing Spouses.
An INELIGIBLE Non-Borrowing Spouse:
Generally does not occupy the home,
Is not protected by the “due and payable” deferral provisions, and
Does not have their age used in the calculation of the borrower’s principal limit
An ELIGIBLE Non-Borrowing Spouse:
Occupies the home
May be protected by the “due and payable” deferral provisions, and
Has their age included in the calculation of the borrower’s principal limit
2021 Changes to NBS Guidelines
There were two significant changes in 2021 that improved protection for non-borrowing spouses.
The first eliminated the requirement for the NBS to “obtain ownership of the property or other legal right to remain in the property” within 90 days after the death of their spouse. This was a big hurdle for a grieving spouse. This now makes it easier to qualify for the due and payable deferral.
The second expanded the criteria that would qualify for the deferral period. Until this mortgagee letter, the borrowing spouse had to die for the spouse to qualify for the deferral. Now, the spouse may still qualify for the deferral if the borrower resides in a health care facility for more than 12 consecutive months.
Frequently Asked Questions
Can a non-borrowing Spouse remain on title?
YES. HUD made additional regulatory changes in 2017 that redefined the terms “mortgagor” and “borrower.” That change allowed an NBS to remain on title as a mortgagor. Keep in mind, this does not make them a borrower in any way.
What are the obligations off the non-borrowing Spouse?
After the last borrower dies or permanently vacates the home for mental or physical illness, the NBS will need to make sure to keep up with all the obligations of the HECM including the payment of property charges. While they may be able to remain in the home, they will need to ensure the loan does not become due and payable for other reasons.
Can a non-borrowing Spouse draw from the line of credit?
NO. the NBS is not a borrower or party to the loan in any way. No disbursements can be made during the deferral period other than repair charges paid through a repair set-aside. This means that the line-of-credit and monthly payments will cease, including a Life Expectancy Set-Aside (LESA) used to pay property charges.
What are the exceptions to the rule?
These protections only apply to HECM loans with FHA Case numbers assigned on, or after, August 4, 2014. For loans originated prior to that date, the lender has the option, but not the obligation, to assign the loan to HUD. This assignment of the loan may provide similar protection for the NBS.
For more information on reverse mortgage guidelines, please purchase the book Understanding Reverse, and subscribe to my blog in the upper right corner of this page.
The answer is maybe, but probably not for the reason you think. Rate caps restrict the movements of interest rates, and the conventional wisdom is that more restrictive caps are better for the borrower, right? Not necessarily.
Of course, we do not know what the future holds, but the easier question to answer is have they mattered in the past? While that depends on which Home Equity Conversion Mortgage (HECM) product was selected and when the loan was originated, I can answer the question.
Keep in mind the following items when discussing reverse mortgage rate caps:
Monthly-adjusted HECMs do not have regulated cap structures. Historically, they have been offered with a Lifetime cap of 10% above the starting rate. Only in recent years have 5-cap monthly ARMs been offered.
Annually-adjusted HECM ARMs do have regulated cap structures – the rate cannot move more than 2% (up or down) from year to year, and no more than 5% (up or down) from the starting rate.
The LIBOR index was used from 2008 to 2020. However, for this analysis we’ll focus on the currently-used 1-year CMT index which dates back to the origins of the HECM program.
The interest rate is the sum of the lender margin plus the appropriate index rate. Because the margin never changes and is not relevant to the analysis, we will only focus on the index portion.
Monthly HECM – 10% Lifetime Cap
Historically speaking, the monthly 10-cap HECM has never had interest rates restricted. We know this because the 1-year CMT has ranged between a low 0.06% and high 9.78% since the foundation of the HECM program in the late 1980s. Consequently, the interest rate has never moved more than 10% (up or down) during that time.
Monthly HECM – 5% Lifetime Cap
It doesn’t appear the monthly 5-cap HECM has been capped either. However, it should be noted that this cap option is relatively recent – offered on and off over the last 10 years when index rates have been low.
Annual – 2% Periodic and 5% Lifetime Caps
YES, this option has been capped in the past. Remember, annually adjusted HECM rates cannot go up OR down by more 2% from year to year or 5% over the life of the loan. Most of the restricted rates occurred on the lower bound (falling rates), not on the upper bound (rising rates).
For example:
Consider a borrower that obtained a HECM 20 years ago in January 2001.
Starting date: 1/1/2001
Starting index rate: 4.81%
The following chart demonstrates how the Annual HECM cap structure restricted the interest rate for this borrower over a 20-year period:
As you can see, this borrower’s interest rates would have been capped three times over the last 20 years; all three were a result of interest rates falling rapidly. Consequently, this borrower’s average index rate over the life of the loan is higher – calculated at 1.75%. A borrower with a monthly adjustable product would have benefited from an average index rate of 1.58% where their rates were free to drop freely.
While most borrowers think more restrictive caps protect them and always work to their advantage, this example proves that is not always the case. The monthly adjustable with 10% caps had lower index rates while the annual product with more restrictive (2%/5%) caps had higher rates because of the cap structure.
For more information on reverse mortgages, please subscribe to this blog and consider buying your copy of Understanding Reverse.
Many still claim reverse mortgages do not require income, and prior to 2015 they would have been correct. That changed when HUD began requiring every lender to examine the financial capacity of the borrower and the sustainability of each HECM loan. Residual income analysis can be summarized using the following 3-step process:
1. Calculate effective monthly income
The underwriter will calculate monthly income, including social security benefits and employment income that is likely to continue for three years. The underwriter may also consider pension, IRA, 401(k), rental, disability, annuities, and many more sources of income or cash flow. Even assets may be counted as income. This is called imputed income or dissipation. In this context, “dissipate” means to spread the after-tax value of the asset over the youngest borrower’s remaining life expectancy.
2. Subtract monthly expenses
The underwriter will then consider monthly debt obligations from the credit report as well as a monthly calculation of property charges for all owned real estate, including but not limited to, property taxes, homeowner (hazard) insurance, and Homeowner Association (HOA) dues. The underwriter will also estimate maintenance and utility charges by multiplying the square footage of the subject property by 14 cents.
3. Compare the residual income to HUD’s requirements
HUD requires that residual income be sufficient to pay for items that cannot be documented with a credit report. Those household costs tend to vary by region and family size. Therefore, the underwriter will use the following charts to determine the required threshold:
Required Residual Income by Region and Family Size
States by Region
If it does not appear that there is sufficient residual income, there are several compensating factors that an underwriter may consider. In addition, family size may be reduced if an underwriter wishes to document the income and credit history for a non-borrowing household member that has the financial capacity to carry their own weight.
If the residual income is still not sufficient, a portion of the principal limit may be earmarked for paying property charges. This is accomplished by using a Life Expectancy Set-Aside(LESA).
For more clarification on how the reverse mortgage works, please subscribe to this blog and consider purchasing your copy of Understanding Reverse.
One of the great advantages of the adjustable rate Home Equity Conversion Mortgage (HECM) is the ability to draw funds from the line of credit (LOC) when needed. For this reason, the HECM ARM is often preferred over the fixed rate option which does not allow for an open line of credit. Furthermore, those funds left in a line of credit LOC will tend to grow at the same rate as borrowed funds.
In fact, there are two factors that drive growth. The first is what I call “organic” growth where the LOC naturally increases at the same rate as the loan balance. The second is what I call “prepayment” growth. This creates one of the lesser-known advantages of the product – the flexibility to pay back funds when NOT needed. These payments are called “voluntary partial prepayments.”
Sadly, there has been widespread confusion about the application of prepayments with a reverse mortgage. Let’s be clear – when a voluntary prepayment is made by a homeowner with an adjustable rate HECM, the line of credit increases, dollar-for-dollar, at the time the payment is posted.
Where does it say that?
In addition to the HUD formulas for calculating Net Principal Limit, there are three references that serve as the basis for prepayment growth:
HUD Handbook 4235.1 CH 5-12C
A borrower may choose to make a partial prepayment to set up or to increase a line of credit without altering existing monthly payments. By reducing the outstanding balance, the borrower increases the net principal limit. All or part of the increase in the net principal limit may be set aside for a line of credit.
Adjustable Rate Note
A Borrower may specify whether a prepayment is to be credited to that portion of the principal balance representing monthly payments or the line of credit. If Borrower does not designate which portion of the principal balance is to be prepaid, Lender shall apply any partial prepayments to an existing line of credit or create a new line of credit.
HUD Handbook 4330.1 CH 13-21B
Establish Or Increase A Line Of Credit. A mortgagor may choose to make a partial prepayment to set up or to increase a line of credit without altering existing monthly payments. By reducing the outstanding balance, the mortgagor increases the net principal limit. All or part of the increase in the net principal limit may be set aside for a line of credit.
But what gets paid back first?
We know that certain parts of the outstanding loan balance get paid pack first with HECM prepayments. We often call this the “servicing waterfall” or “prepayment waterfall” and is useful to the servicer, the investor, and the client for tax and accounting purposes. However, the application of prepayment should not impact the resulting LOC credit for future draws. If that were true, then repeated borrowing and prepayment could leave the borrower with no significant balance AND no LOC. Furthermore, the servicer would be out of balance with HUD’s system of record (HERMIT).
The LOC does not care what portion of the loan balance was paid back when a payment is applied. All it knows is that the Net Principal Limit has now increased. In the regulations above, HUD is clear that what increases the LOC in these cases is a reduction in the outstanding balance. It does not matter what portion of the loan balance was reduced.
Can you show me an example?
Sure. One way to explain this concept is with a simple equation:
LOC = CPL – LB
For most HECM loans, the Line of Credit at any given time equals the Current Principal Limit minus the Loan Balance. In other words, the line of credit equals what you can borrow minus what you have already borrowed. So naturally, removing $5,000 from the loan balance will increase the line of credit.
It is also important to know that HUD regulations require that ALL parts of this equation grow monthly at the same rate – 1/12th of the current interest rate and MIP rate.
So, consider a HECM ARM with no set-asides, 3.0% interest rate, 0.5% MIP rate, and a Principal Limit of $150,000. If the borrower has a loan balance of $100,000, that leaves $50,0000 in the LOC.
$50,000 = $150,000 – $100,000
After the prepayment of $5,000, and monthly accruals (1/12th of 3.5%), the next servicing statement should read the following:
$55,146 = $150,438 – $95,292
Notice that because of monthly accruals, the net increase in the line of credit (+$5,146) does not identically match the net reduction in loan balance (-$4,708). The reason for this is two-fold 1) the Current Principal Limit is also increasing, and 2) the accruals in dollars will be in proportion to the amount to which the rate is applied.
Essentially, there is a dollar-for-dollar impact at the time the payment is posted, but the loan accruals at the end of the month make it appear as though this is not the case.
For more clarification on how the reverse mortgage works, please subscribe to this blog and consider purchasing your copy of Understanding Reverse.
Rates are extremely low right now, and I’m not just talking about traditional fixed rate mortgages. When reverse mortgage rates drop, it’s highly beneficial to new reverse mortgage prospects as well as for existing borrowers with federally insured reverse mortgages called a Home Equity Conversion Mortgages (HECMs). As a result, I’ve been asked by many loan originators and consumers to explain how and when their variable rate HECM loans will adjust.
WHEN DO RATES CHANGE?
Monthly adjustable HECMs, as the name implies, adjust each month. The more popular annually adjustable HECM adjusts once every year. At closing, the lender will choose a specific annual adjustment day within HUD parameters. By convention, annual HECMs generally adjust on the 1st day of the month following the anniversary of the closing date.
For example, if you closed on July 15, 2019, your rate change would be scheduled 12.5 months later – August 1, 2020. In this example, the first of August would be your designated rate change date every year.
AM I NOTIFIED OF THE CHANGE?
Yes. HUD requires the borrower to be notified of the specific rate and publication date 25 daysbefore any rate change. Using the example above, the notification would be postmarked on, or before, July 7, 2020.
WHAT RATE IS USED?
For the annually adjusted HECM, that is generally the 1-year LIBOR index published in the Monday Wall Street Journal. When the LIBOR index is phased out at the end of 2021, a comparable index will be approved by HUD and used for future rate changes.
Contrary to popular opinion, we are NOT using the rate that is “PUBLISHED” 30 days prior (or 1 month prior) to the rate change date. Rather, we are using the rate that is “IN EFFECT” 30 days prior the rate change date.
Once again, using our example above, the servicer would use the rate in effect on July 2, 2020 for the August 1, 2020 rate change.
REAL WORLD EXAMPLE
Let’s look at published 1-year LIBOR rates at the end of June and beginning of July 2020:
Friday 6/26/20 0.566%*
Wednesday 7/1/20 0.533% (1 month prior to 8/1 rate change)
Thursday 7/2/20 0.539% (30 days prior to 8/1 rate change)
*Note: This rate is published on Monday 6/29 and is in effect Tuesday 6/30 through Monday 7/6
In this case, the rate that was in effect 30 days prior to August 1st was the Friday June 26th rate published on Monday June 29th, even though that is more than 1 month before the rate change.
If this existing HECM loan has a 2% lender margin, the borrower’s interest rate will adjust to 2.566% on August 1st and remain at that rate for 12 months.
I hope this clarifies a rather confusing reverse mortgage concept. For more information on how reverse mortgages function, please subscribe to this blog and consider purchasing a copy of Understanding Reverse.
It’s best to plan for retirement cash flow needs, and now is
an ideal time for many homeowners to look at their options. In fact, those that
believe that a reverse mortgage is a last resort may find that their
options could be limited if they wait.
Keep in mind, the reverse mortgage industry must be careful not to create an undue sense of urgency. Advertisements that encourage seniors to “Act now” and “Don’t miss this time-sensitive opportunity” for their financial product are often irresponsible and are often considered unethical by regulators.
Therefore, don’t misinterpret my intentions with this title. In this blog, I simply hope to educate the reverse mortgage novice on certain product details and market conditions that could impact their retirement planning decisions.
1. Credit deficiencies can reduce your options
One difficult challenge for any reverse mortgage
professional is getting a homeowner qualified after they’ve missed a mortgage
payment or property charge payment. Since 2015, each lender must examine every applicant’s
credit history and property charge history. If a homeowner falls short of HUD’s
definition of “satisfactory,” then we’ll often need to set-aside enough
principal to pay property taxes and homeowner insurance for that borrower over
their expected lifetime. For many younger homeowners in high-tax regions, that
could be as much as $100,000 of their principal that won’t be accessible. Does
that leave the borrower with enough principal to pay off their existing
mortgage and closing costs? Sadly, the answer is often no.
If you are running out of cash and might be forced to miss a
required mortgage payment, property charge payment, installment debt, and even
revolving debt, that could be a problem. It’s very important that you investigate
your reverse mortgage options before those deficiencies occur.
2. Interest rates are very low right now
Keep in mind, many reverse mortgage products consider two
types of rates – long-term rates, which we call “expected rates,” and
short-term rates which we call the “note rate” or “interest rate.” Some will ask,
“why do interest rate even matter?After all, there’s no required
monthly principal and interest mortgage payment with a reverse mortgage, right?”
That’s correct, but there are two reasons why today’s low
interest rate environment makes reverse mortgages more attractive:
– When long-term rates are low, HUD
allows lenders to offer homeowners a higher percentage of their home’s value. If
you don’t need the additional funds, the unused portion is securely held in a
line-of-credit that may be available for future use. In essence, today’s low
expected rates make the initial line of credit larger.
– When short-term rates are low, the
amounts drawn from the reverse mortgage will accrue interest at much slower
rates. Recently, some homeowners were seduced by record low rates on the
30-year fixed rate mortgage. However, many failed to notice that rates on the federally
insured reverse mortgage product were even lower.
3. Market volatility
It’s hard to tell how the stock market will perform during a recession. But for retirees, that is often a poor time to draw monthly cash needs from assets that may decline in value. Some advisors will call this “sequence of returns risk.” For younger investors, a bear market is a great opportunity to buy more shares at reduced prices. However, retirees naturally pull money OUT of the market. This means they are selling investments at the worst possible time. Some call this “volatility drain.”
Consider a $100 investment that declines 50% to $50. Many
investors will incorrectly assume that a 50% gain will bring them back to their
original value. But of course, that investor would need a 100% gain to get back
on track.
Now imagine this investor was a retiree who removed $10 from
the portfolio when the market was down. That retiree would need a 150% gain ($60)
to get from $40 back to $100. That is the essence of volatility drain.
Fortunately, home values have remained stable, for now.
Tax-free distributions from the home equity nest egg can potentially reduce
your tax liability and protect a struggling retirement portfolio during this
crisis.
If you, or a loved one, feels the need to leverage their home equity for any reason (e.g. retirement cash flow, in-home care, home repairs, tax strategies, etc.), then please do your research. Purchase a copy of Understanding Reverse and reach out to me or another qualified reverse mortgage professional.
I recently had the opportunity to present at our national
conference alongside industry trainer, Jim McMinn. During this presentation,
one talking point stood out as a misconception that needed addressed – what
is necessary to satisfy a HECM loan when it matures?
The conventional wisdom is that a HECM payoff will be the
lesser of the loan balance or 95% of the property’s appraised value.
Unfortunately, this is only true under certain circumstances.
Consider an older borrower whose financial position has changed.
Maybe it was a life insurance claim for a deceased spouse, inherited funds, or
an investment that matured. Whatever the reason, if that borrower wishes to pay
off a HECM loan balance, they owe the full loan balance.
There are cases, however, where borrowers or their heirs can
satisfy the HECM for 95% of the appraised value. The availability of this
option may depend on whether the loan is “due
and payable,” who is doing the satisfying, and the definition of the word “sale.”
WITH A TRADITIONAL
SALE OF THE PROPERTY
The borrower or their estate may sell the property at any
time for the lesser of the following two values:
The debt due under the mortgage, or
The appraised value at the time of the sale. *
Therefore, one CANNOT arbitrarily sell the home for 95% of the appraised value and satisfy a HECM loan balance that exceeds this amount.
WHEN THE LOAN IS DUE
AND PAYABLE
If the mortgage is due and payable at the time the contract
for sale is executed, the threshold is reduced. This is generally the case when
the last borrower has died. In this event, the borrower may sell the property
for the lesser of the loan balance or 95% of the current appraised value. **
In essence, the “95% SALE” option becomes available when the
HECM loan becomes due and payable.
IF THE HEIRS WANT TO
KEEP THE PROPERTY
This can get tricky. The non-recourse feature offered with
reverse mortgages requires a sale of the home. Fortunately, HUD
interprets the word “sale” to include any post-death conveyance of the mortgage
property to the borrower’s estate or heirs. ***
Therefore, if the heirs want to keep the home AND want a
discounted payoff of the HECM loan balance, they will need to show a transfer
of title that occurs upon the death of the last borrower, or after. This could
be in the form of a trust, a life estate, or simply probating the homeowner’s
will.
The danger is that heirs who are already on title at the
time of the last borrower’s death may not qualify for the reduced payoff.
For more information on details related to reverse mortgage products, subscribe to this blog and consider buying a copy of Understanding Reverse.
The short answer is yes. ANY homeowner or estate can lose a home for various reasons. While the media sensationalizes this as “news,” they haven’t taken the time to understand reverse. But as ridiculous as this sounds to the novice, there are ACCEPTABLE foreclosures from the borrowers’ (and the heirs’) point of view.
Consider Susan, who after the death of her father decided to “walk away” from the property she inherited. That’s okay. Susan is protected by the “non-recourse” feature that guarantees her right to do this… with no recourse, even if the loan balance far exceeds the value of the property. While this type of foreclosure is often vilified by the media, it was a very favorable financial transaction for Susan’s father, and a non-recourse foreclosure was acceptable to Susan.
When we think of foreclosure, we naturally think of the most common reason traditional (forward) loans end in foreclosure – failure to make the required monthly mortgage payment. Of course, that wouldn’t make sense with a reverse mortgage that carries no monthly repayment obligation. So, it’s understandable why homeowners, their heirs, and the media are often confused when they see that reverse mortgage foreclosures happen from time to time.
WHY WOULD A REVERSE FORECLOSURE
OCCUR?
While reverse mortgages don’t require a monthly principal
and interest mortgage payment during the life of the loan, there are other borrower
obligations contained in the reverse mortgage loan agreement. The borrower has
agreed to occupy and maintain the home, as well as pay all property-related
charges. Failure to do these things will cause the loan to mature. When a loan
maturity event happens, the borrower (or their heirs) will often sell the home
to pay off the loan balance.
For example, when the last surviving borrower leaves the
home for 12 consecutive months for mental or physical incapacity (e.g. nursing
home or assisted living), that is a maturity event. The borrower or their heirs
will often notify the lender of their intentions to sell the property. The
lender will then allow them 6 months to sell the home and HUD generally
approves two 3-month extensions for up to one year.
If no action is taken to sell the home, the lender will need
to foreclosure on the home, handling the sale themselves so that the loan can
be repaid.
The following are two common reasons reverse foreclosures occur:
1. No equity remains at loan maturity
When the loan balance exceeds any reasonable sales price of the home, the estate has no economic incentive to sell the home on their own. Fortunately, all reverse mortgages are “non-recourse” loans. Nevertheless, foreclosure is the mechanism that conveys title to HUD (or the Lender) so the home can be sold to pay off at least a portion of the loan balance.
2. A property tax default occurs
Failure to pay property taxes will almost always result in foreclosure. This is true whether the homeowner has a reverse mortgage, a traditional mortgage, or no mortgage at all. However, the lender is the major lien-holder on the home and is required by federal guidelines to foreclose on the property for most reverse mortgages.
Keep in mind, a reverse mortgage naturally allows the
homeowner access to funds, which should theoretically REDUCE the
likelihood that a borrower will default on their obligations. But with the
increased financial pressures of retirement, we cannot always guarantee that homeowners
will keep funds in reserve.
PROPERTY CHARGE FORECLOSURES ARE DOWN DRAMATICALLY!
While nothing can be done to keep people from the grave, two
measures were implemented by HUD over the last six years that have been helpful
in reducing the numbers of foreclosures caused by tax defaults – InitialDisbursement
Limits and Financial Assessment.
Initial
disbursement limits were implemented that restrict the consumption of
proceeds for the first year of the loan. Unless the borrower has large mortgage
payoffs that necessitate higher draws, the borrower may be initially limited to
60% of their funds. As a result, borrowers now keep a portion of their proceeds
in a growing line-of-credit available for future emergencies.
Financial
Assessment requires the lender to examine the credit history, property
charge history, and residual income for one primary reason – to determine
whether the reverse mortgage is a sustainable solution for the borrower. To
ensure sustainability, some borrowers are now required to set-aside a portion
of the proceeds to pay property charges.
These two changes have reduced the number of reverse
mortgages nationwide but has also reduced the number of foreclosures.
Yes. Foreclosures can happen, and they will continue to occur. Remember, Susan walked away because her father consumed more available funds during his retirement than the home was eventually worth. For more information on all forms of reverse mortgage product offerings, subscribe to this blog and consider buying the reverse mortgage resource consumers and finance professionals use – Understanding Reverse.
On Friday, December 14th, we saw The U.S. Department of Housing and Urban Development (HUD) raise the 2019 limits for FHA’s reverse mortgage product – the Home Equity Conversion Mortgage (HECM). This means that homes valued above $726,525 are capped at that figure when calculating principal limits.
This is an increase of nearly $47,000 from 2018 and comes at a time when more non-government “proprietary” jumbo reverse mortgage products are making the opposite move – appeal to more lower value homes.
The end result is that more consumers are finding more options for accessing their housing wealth as part of a comprehensive retirement plan. Because of this shift, I have updated my book for 2019 to include the new HECM lending limits as well as a new chapter titled, “What are Proprietary Reverse Mortgages.” The following is a preview of the new chapter:
HECM or Proprietary Reverse Mortgage?
The federally insured HECM has been the dominant reverse mortgage product for the last three decades. That’s changing, however, as innovative mortgage lenders have found that certain restrictive HECM guidelines have opened the door for non-agency reverse mortgage products.
These “proprietary” reverse mortgage options still maintain many of the consumer protections of the HECM program. Reverse mortgages, FHA-insured or not, must be non-recourse loans. But, of course, these proprietary products do not charge the initial MIP (2%) or annual MIP (0.5%). So, while the rates may be slightly higher, you might find the up-front charges to be significantly reduced.
NOT JUST A JUMBO OPTION ANYMORE
For the last few years, the phrase “jumbo reverse mortgage” was used to describe these options, as lenders were able to better serve borrowers who owned higher-priced homes.
However, these new products solve other problems that HECMs currently do not. Here are a few:
HECMs require condominium complexes to be FHA approved before units can be eligible for HECM financing. Proprietary products may finance units within non-approved condo projects.
HECMs have initial disbursement limits that often prevent borrowers from accessing more than 60% of their principal limit within the first year. Proprietary products have no such restrictions.
HECMs require all existing liens to be paid off a closing. One proprietary product now allows the reverse mortgage to be in second lien position.
HECMs do not currently allow the payoff of unsecured debt at closing. Proprietary products may allow the payoff of personal debt and other items at closing.
HECMs require most liens to be seasoned for 12 months before closing. Proprietary products often have no seasoning requirement.
HECMs require all borrowers to be age 62 or older. One proprietary product offers financing for borrowers as young as age 60.
Some are offered as first liens. Some are structured with a growing line of credit that mimics the HECM ARM. Still, others allow the loan to remain in a second-lien position in cases where the first mortgage has an attractive low rate.
For more information on all forms of reverse mortgage product offerings, subscribe to this blog and consider buying the reverse mortgage resource consumers and finance professionals use – Understanding Reverse.
Reverse Mortgage Professionals find themselves constantly touting, defending, and pitching the numerous advantages of the federally insured Home Equity Conversion Mortgage (HECM). The primary reason they put in so much effort is not to make a sale. It is because the public is still confused and largely unaware of the lifestyle and financial planning advantages of the product. After 30 years, many older homeowners still think they lose title and ownership of their homes with this financial tool.
However, most eligible candidates are ALSO unaware of the many reasons NOT to get one. The fact is, there are individuals for whom this is not a good fit. It would be best to identify them upfront before they spend the time, energy, and money it required to complete the mandatory HECM counseling. So, let’s highlight a few conditions that could mean that a reverse mortgage might not be a good option:
If the home does not fit the homeowner’s long-term needs
If the homeowner has the intention of selling the home within the short-term, or if the home does not meet their long-term physical needs, a reverse mortgage may not be a good fit. While they can certainly sell the home at any time, the program was designed to meet the needs of older Americans who wish to age in place. If you want to stay, and are physically able to stay, you have passed my first test.
If the Reverse Mortgage does not provide a tangible benefit
It not only has to make sense right now, but also needs to provide a sustainable solution throughout retirement. If the reverse mortgage offers little current or future advantage to a borrower, then the homeowner should look for other options.
And using a reverse mortgage to eliminate monthly mortgage payments does not always guarantee that a homeowner will have positive monthly cash flow. New regulations, however, were implemented to ensure that monthly residual income is considered in underwriting the loan.
If the homeowner does not adequately understand the product
A HECM borrower or their trusted advisor must be comfortable paying property charges, maintaining the home, and managing finances. Unfortunately, many are not accustomed to handling these items. In addition, some may have competency issues that prevent them from fully understanding the complex loan product for which they are applying. Consequently, HECM Counseling is required to make sure all parties understand not only the product, but also other options that may be available to them.
If the homeowner wishes to protect a legacy
I reluctantly include this item on the list. Many experts don’t consider inheritance a reason NOT to get a reverse mortgage. This is because homeowners who obtain a growing HECM line-of-credit early in retirement are better equipped to decide how future expenses are paid – by the homeowner, by the heirs, or by the home.
Some homeowners, however, wish to protect their home’s equity as a legacy for their heirs and would never consider accessing home equity in an emergency. That’s a very nice gesture, and I can understand wanting to leave this world giving an inheritance to those you love. The debate becomes whether an inheritance is a right of the heirs or a gift from the parents. That will be a blog for another day.
If the homeowner wants to stay in the home, and understands the advantages for themselves and their heirs, come explore the strategic uses of home equity in retirement. For more information, subscribe to this blog and purchase the book, Understanding Reverse.
