Published: September 6, 2013
The spigot on reverse mortgages has been slowly tightened over the last several years. Borrowers can no longer tap as much of their home equity as they could before the housing crisis.
Now the rules are about to change again.
As a result, some people with heavy debt who were hoping a reverse mortgage would solve their financial problems may find that it is no longer a viable option. Under the new rules, which go into effect on Sept. 30, many borrowers will be able to get access to even less of the value locked in their home — about 15 percent less — compared to the maximum available now. The rules also put new limits on the amount of money that can be taken out in the first year, which may further deter the most distressed prospective borrowers.
“The changes really put the product on track as a long-term financial planning tool as opposed to a crisis management tool,” said Ramsey Alwin, senior director of economic security at the National Council on Aging.
The Federal Housing Administration, which insures most reverse mortgages, is making the changes in an effort to strengthen the program, which allows people 62 and older to tap their home equity without making payments. Lenders get their money back once the house is sold.
Since the economic crisis, more homeowners withdrew the entire pile of cash they were eligible for all at once, which strained the program’s reserve funds (lenders were also paid more when borrowers took large sums, and reverse mortgage experts say lenders prodded borrowers in this direction). Declining home values also hurt the program’s overall finances, since lenders often could not recoup the full loan amounts when the houses were ultimately sold.
The F.H.A. hopes that the changes, particularly the limits on how much can be withdrawn in the first year, will encourage people to tap their home equity slowly and steadily, in a way that will enable property owners to stay in their homes as they age. That’s a change that several consumer advocates, along with members of the industry, agree was necessary.
Up until now, just about anyone could qualify for a reverse mortgage. But perhaps the biggest change to the program will go into effect early next year, when borrowers will also need to prove that they have the wherewithal to pay property taxes and insurance over the life of the loan. If they cannot, they will have to set that money aside — and that could consume much of the loan’s proceeds.
There is still a little time to get a mortgage using the current program. As long as prospective borrowers go through the required financial counseling and receive a case number before Sept. 28, they will be able to qualify under the current rules.
Here’s a closer look at how the changes will affect prospective borrowers:
FIRST-YEAR LIMIT There will now be a limit on the amount of money that can be withdrawn in the first year. A homeowner eligible to withdraw a total of $200,000 in cash, for example, would be allowed to get only $120,000, or 60 percent of that sum, in the first year.
There are exceptions. Some homeowners will be able to draw a bit more if their existing mortgage, along with other items like delinquent federal debts, exceed the 60 percent limit. Homeowners are required to pay off those items — which regulators call “mandatory obligations” — before qualifying for the loan. So borrowers can withdraw enough to pay off these types of obligations, plus another 10 percent of the maximum allowable amount (in this case that’s an extra $20,000, or 10 percent, of $200,000).
Credit cards are not considered a mandatory obligation, so people with significant credit card debt may find they can’t withdraw enough money to pay those loans off, 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. “There will be fewer financially distressed borrowers for whom a reverse mortgage will provide a satisfactory solution,” he added. “The product will be more attractive for people using it as part of a retirement plan.”
Borrowers generally choose to receive the money in one of two ways: as a lump sum (using a fixed-rate loan) or through a line of credit (which carries a variable rate). But lenders typically require people who use a fixed-rate loan to withdraw all the money at once — so they’ll be limited to 60 percent (or the amount of their mandatory obligations plus 10 percent). Only borrowers who opt for the line of credit may be able to access more money over time.
LOAN AMOUNTS The two types of reverse mortgages available now — the “standard” and the “saver” — are essentially being eliminated and consolidated into one.
The maximum amount of cash you can withdraw still largely depends on the age of the youngest borrower, your 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.)
Starting on Sept. 30, however, many prospective borrowers will have access to about 15 percent less home equity, on average, than the maximum amount available now.
With a mortgage rate of 5 percent, that means a 62-year-old will be able to withdraw up to 52.6 percent of the home’s appraised value, minus fees, under the new rules, according to the F.H.A. Under the existing program, the same person can tap up to 61.9 percent of the home’s value using a standard reverse mortgage, and 52.3 percent using a saver mortgage (which is cheaper than the standard, but gives you access to less home equity).
PRICING Part of the mortgage’s cost will now be based on the amount withdrawn. If borrowers take out more than 60 percent of the total amount available in the first year, they will have to pay a higher upfront fee: the upfront mortgage insurance premium, which can be wrapped into the loan, will be 2.5 percent of the appraised value of the property. Everyone else — that is, people withdrawing less than 60 percent — will pay 0.5 percent of the value of the property. (Previously, the upfront fees were 2 percent for standard mortgages and 0.01 percent for savers.)
The second fee, known as the annual mortgage insurance premium, will remain at 1.25 percent of outstanding loan balance.
FINANCIAL ASSESSMENT Lenders will also be required to ensure that homeowners can afford to make all the necessary tax and insurance payments over the projected life of the loan. Starting Jan. 13, lenders will analyze all income sources, which includes any earnings as well as pension income, Social Security, individual retirement accounts and 401(k)’s, among other things. A borrower’s credit history will also be factored in.
Lenders will also look closely at how much money is left over after paying typical living expenses, which include all property-related costs, federal and state income taxes, utilities and other debts and obligations, like a car payment or alimony.
If a single homeowner has from $529 to $589 left over after paying those expenses (thresholds are higher for couples and families), they will probably be able to qualify for a reverse mortgage free and clear — that is, without having to set aside a big sum of money for property tax and insurance.
If a prospective borrower falls short, the lender is supposed to look at other factors. The guidelines say they can consider “extenuating circumstances,” but it is unclear how lenders will interpret them. F.H.A. officials said they would also factor in how the loan proceeds would help improve a consumer’s financial situation.
SET ASIDE If a lender determines that you may not be able to keep up with property taxes and the required flood and hazard insurance payments, you will be required to set aside money (depending on your situation, it may be charged to your credit line or deducted from your payments), which means less cash in your pocket.
This requirement could disqualify many borrowers. “In many cases, the reserve consumes the entire credit line and then some,” said Mark Browning, president of Community Home Equity Conversion Corporation, a reverse mortgage lender in Rochester. “This provision hits especially hard in geographies where home values are more modest and property taxes and/or insurance charges are higher as a proportion of the home value.”
The upside: Property taxes and insurance would be taken care of, leaving other income to pay for living and other expenses. How all of this will work in practice, of course, remains to be seen.
“What regulators are trying to do is shift behavior so that people are more thoughtful and methodical about how they draw the money,” said Peter H. Bell, president of the National Reverse Mortgage Lenders Association, the industry trade group. “The changes are intended to put the program back on track and encourage people to take what they need and no more.”