If you’re 62 or older and own the house that you currently live in outright or almost entirely, a reverse mortgage lets you tap your equity without having to repay the loan until you die or sell the property. Loan proceeds can fund home improvement projects, supplement your income, pay for long-term care, and erase debts. But if you haven’t kept up with changes in the mortgage industry, you might be unaware of new rules shaping reverse mortgages.
The Reverse Mortgage Stabilization Act passed by Congress in 2013 gave the Federal Housing Administration (FHA) the green light to revamp its Home Equity Conversion Mortgage Program (HECM)—the oldest and most common reverse mortgage program, as well as the only federally insured program. The Act established safeguards to decrease reverse mortgage default rates and shield the FHA from high insurance losses. This was a much-needed action considering how “9.4 percent of reverse mortgages in 2012 were at risk of default—nearly double the 5 percent default risk for ordinary home mortgages,” says the Consumer Financial Protection Bureau.
But although safeguards protect seniors, they’ve also prompted tighter guidelines, which have had a major impact on reverse mortgage payouts and eligibility.
The new Financial Assessment is one of the biggest changes to the reverse mortgage program. Before the program’s reform, borrowers could get a reverse mortgage without income verification or a credit check. Limited underwriting meant it was easier to qualify, but seniors who couldn’t keep up with their property taxes and property insurance payments risked eviction.
The introduction of the Financial Assessment requires lenders to complete a thorough analysis of a borrower’s assets, income (employment and/or non-employment sources), and credit history (debt ratios and payment history) prior to approving a reverse mortgage. This review assesses a borrower’s ability to pay their loan obligations and housing obligations—such as property taxes, property insurance, and property maintenance—over the life of the loan.
Poor credit history and/or inadequate income doesn’t immediately disqualify an application for a reverse mortgage. A lender may approve your request, but only if you agree to a fully funded or a partially funded life expectancy set-aside (LESA).
This concept is comparable to how an escrow account works. Your lender estimates how much income you’ll need for property taxes and property insurance over the life of the loan, and then withholds some of the proceeds from your reverse mortgage to cover these expenses.
The LESA—which is calculated based on your age and life expectancy—ensures enough funds for continuous mortgage-related costs, thus lowering the risk of default and eviction. But unfortunately, the life expectancy set-aside can be a substantial amount of your reverse mortgage proceeds and significantly reduce your payout.
New regulations provide that the maximum size of a loan will depend on the age of the youngest borrower, the value of the home and current interest rates, and also restrict the amount you can receive from a reverse mortgage. Convertible equity post-reform is roughly 10 percent to 15 percent less than what you could have previously converted into cash. Additionally, the program limits the amount of equity accessible within the first 12 months of your loan closing. Called the initial principal limit, you can only withdraw 60 percent of your available equity during the first 12 months, with the remaining equity becoming available after the first 12 months.
The only exception is if your mandatory obligations exceed 60 percent of your available equity. In this case, you can withdraw more than 60 percent of your available equity, plus 10 percent of your initial principal limit. Mandatory obligations include fees paid at closing, such as the payoff for an existing mortgage, an upfront mortgage insurance premium, origination fees, and delinquent federal debt. If you withdraw more than 60 percent of your available equity in the first year, your upfront mortgage insurance premium to the FHA will be higher than the upfront mortgage insurance premium paid to withdraw less than 60 percent.
Reverse mortgages increase the principal mortgage amount and decrease home equity (it is a negative amortization loan). Borrowers are responsible for paying property taxes and homeowner’s insurance (which may be substantial). We do not establish an escrow account for disbursements of these payments. A set-aside account can be set up to pay taxes and insurance and may be required in some cases. Borrowers must occupy the home as their primary residence and pay for ongoing maintenance; otherwise, the loan becomes due and payable. The loan also becomes due and payable when the last borrower, or eligible non-borrowing spouse, dies, sells the home, permanently moves out, defaults on taxes or insurance payments, or does not otherwise comply with loan terms. These materials are not from HUD or FHA and were not approved by HUD or government agency. See Department of Housing and Urban Development’s Mortgagee Letter 2014-10 for more information with regard to FHA requirements for advertising reverse mortgages. Information is provided as an advertisement and is not a guarantee of lending.
*The borrower must meet all loan obligations, including living in the property as the principal residence and paying property charges, including property taxes, fees, hazard insurance. The borrower must maintain the home. If the homeowner does not meet these loan obligations, then the loan will need to be repaid. This material is not from HUD or FHA and has not been approved by HUD or any government agency. Atlantic Coast Mortgage is not affiliated or acting on behalf of FHA or any Federal or Government Agency.
