Rules for Reverse Mortgages May Become More Restrictive
By TARA SIEGEL BERNARD
Published: July 12, 2013
Many baby boomers will need to consider how their homes — and the value locked inside — will help finance their retirement years. Reverse mortgages, which essentially allow people to use their home as an A.T.M., could become an integral part of many retirees’ financial plans, especially those who are short on cash but do not want to move.
Right now, practically anyone who is breathing can qualify for a reverse mortgage — no underwriting or credit scores necessary. But that might be about to change.
Most reverse mortgages, which allow homeowners 62 and older to tap their home equity, are made through the Department of Housing and Urban Development, whose Federal Housing Administration arm insures the loans. But declining home prices after the housing crisis took a big toll on the federal program. So did the popularity of one type of mortgage, which allowed homeowners to withdraw the maximum amount of money available in a big lump sum.
The F.H.A. eliminated that type of loan this year. And over the last few years, in an effort to strengthen the program, the agency raised its fees and reduced the amounts people could borrow.
But now, the F.H.A. says it will need to take even bigger steps by the beginning of its new fiscal year in October.
Because of the turmoil in the housing market and because many borrowers in the program didn’t have enough money to pay their property taxes and homeowners insurance over the long term, the F.H.A. wants to require borrowers to undergo a financial assessment. It may also factor in borrowers’ credit scores, something it has not done in the past.
Before the agency can do either, it needs Congressional approval. The House gave its assent last month, but it’s unclear whether the Senate will follow suit.
If the F.H.A. fails to get Congress’s blessing, it will have to take more draconian actions in the coming months, according to F.H.A. officials who did not want to be named because they were still working with Congress on the issue. That means that effective Oct. 1, yet another of its reverse mortgage products will probably be eliminated, leaving borrowers with options that would allow them to get access to 10 to 15 percent less cash than they can now.
“Instead of using a scalpel, they will have to use a hatchet,” said Christopher J. Mayer, professor of real estate, finance and economics at Columbia Business School, who is also a partner in a start-up company, Longbridge Financial, that provides reverse mortgages.
Borrowers who are now contemplating what is called a HECM (pronounced HECK-um) Standard (for home equity conversion mortgage) reverse mortgage should know that it could disappear in the fall. (Of course, that doesn’t mean borrowers should rush out and get one. We will probably know the fate of the loan sometime next month.)
With all reverse mortgages, the amount of cash you can obtain largely depends on the age of the youngest borrower, the home value and the prevailing interest rate. The older you are, the higher your home’s value and the lower the interest rate, the more money you can withdraw. You don’t have to make payments, but the interest is tacked onto the balance of the loan, which grows over time. When borrowers are ready to sell (or when they die), the bank takes its share of the proceeds from the sale, and borrowers or their heirs receive whatever is left, if anything.
Right now, using a “standard” reverse mortgage, a 65-year-old borrower with a home worth $400,000 could tap about $226,800 in cash or a line of credit after various fees, according to calculations by ReverseVision Inc., a reverse mortgage software company.
Borrowers can receive the money in several other ways, too, including payments over the life of the loan or in installments in higher amounts over a specific term.
If the F.H.A. were to eliminate the standard mortgage, the same borrower could instead use the “saver” reverse mortgage, which has lower fees but permits you to withdraw less: this homeowner could withdraw about $194,800, or 14 percent less than the “standard,” in cash or a line of credit, after all fees. (Another “saver” option would also be available; see the chart accompanying this article for more specifics).
F.H.A. officials told me that they would prefer to keep all of the agency’s mortgage offerings and instead put rules into place that would help ensure that they accept only borrowers who can actually afford to pay their property taxes and homeowners insurance, which is required to avoid foreclosure. Nearly 10 percent of reverse mortgage borrowers are in default because they failed to make those payments.
So here’s what the F.H.A. would like to do: First, make the loans contingent on the financial assessment, which would look at how much cash a borrower had left over after paying typical living expenses, in addition to property taxes, homeowners insurance, any homeowner association dues, utilities, taxes and other debts. Credit scores would be considered, though the agency said they would not be a predominant factor.
If borrowers were deemed risky, the F.H.A. would require them to set aside money from the loan proceeds to cover property taxes and insurance in an escrow account of sorts. The amount would depend on the borrower’s circumstances, the agency officials said. Some homeowners might be required to set aside enough tax and insurance payments to cover the entire life of the expected loan, which might be impossible for some potential borrowers who didn’t have enough equity. But borrowers who were judged to be less risky might need to set aside as little as two years’ worth of payments.
The agency also said it would like to cap the amount borrowers would be able to pull out at 60 percent of the maximum sum they were eligible for, or the amount needed to pay off their current mortgage, whichever was greater. (Reverse mortgage borrowers need to pay off their regular mortgage to obtain the reverse mortgage).
The hardest part of formulating the assessment will be striking the right balance — and one that doesn’t squeeze out the people who need the program the most.
“The problem is that almost by definition the people who take out reverse mortgages are in financial distress,” Anthony Webb, a research economist at the Center for Retirement Research at Boston College, said. “We want to avoid lending to people who aren’t likely to pay their taxes and insurance and end up in foreclosure. But if you impose a very rigorous factor of affordability, you will end up withdrawing the product from the people who are most likely to use it in the first place. It is a very, very fine line. I’m not sure it’s easy to distinguish the two types. “
The agency is trying to fast-track these changes through Congress because putting the new rules into place through the more formal rule-making process could take up to two years. Given its budgetary pressures, it needs to act quickly or it will be forced to make further cuts to the program.
The National Reverse Mortgage Lenders Association, the industry’s trade group, and the National Council on Aging said they supported the F.H.A.’s proposed changes. AARP is also generally supportive, although it doesn’t want the changes fast-tracked. It also has concerns about credit scores being used as part of the financial assessment, and it has a point: many people don’t use credit regularly, which means their scores may not even be available. The industry association has said the lack of a score shouldn’t eliminate would-be borrowers.
Whatever changes are ultimately made, it’s important that the reverse mortgage remain a viable option for retirees. With just Social Security and scant savings, many people are going to need to resort to other sources of income, and their homes may be their best option.
“Given the decline in pensions and the retirement savings losses so many boomers have experienced, there is no doubt in our mind that home equity will become an increasingly important financial management tool,” said Ramsey Alwin, senior director of economic security at the National Council on Aging. “It’s not a matter of if they will tap their home equity. It is a matter of when. And the when and the way they tap their home equity is really critical.”
A version of this article appeared in print on July 13, 2013, on page B1 of the New York edition with the headline: Rules for Reverse Mortgages May Become More Restrictive.