From the Funding Longevity Task Force
The Funding Longevity Task Force at The American College of Financial Services has been at the forefront of financial analysis demonstrating the important role reverse mortgages can play in retirement planning if used properly. As part of its ongoing mission, the Task Force tracks important developments within the reverse mortgage program. New communications from the Housing and Urban Development Department (HUD) emphasize the importance of understanding both the scope and limits of the HECM Line of Credit which can be an important tool in successful retirement outcomes. The Task Force is gratified to learn that National Reverse Mortgage Lender Association (NRMLA) is proactively taking steps to assure that reverse mortgage lenders fully understand the appropriate parameters for the program. The Task Force also supports HUD’s recent initiative to further clarify program requirements particularly in regard to the intersection of HUD regulations and state lending laws.
Statement On Disbursement Limit for HECM
On January 19, 2017, HUD published a final rule in the Federal Register. The Rule’s goal is to strengthen the FHA Home Equity Conversion Mortgage (HECM) program by making changes that reduce the risk to the Mutual Mortgage Insurance fund and increase the stability of the program for seniors accessing home equity via reverse mortgages. The Final Rule, 82 FR 7094 Federal Housing Administration: Strengthening the Home Equity Conversion Mortgage Program can be found here, The Rule has revived attention around possible disbursement limits on HECM loans. A straightforward reading of the regulations indicates that an additional cap exists on disbursements from all HECM loan payment options later in the life of the loan.
The current regulation, 24 CFR 206.19(f), updated by the new regulations to be 24 CFR 2016.19(h) contains slight variations in language, including changing the word ‘payment’ to ‘disbursement.’ However, the regulation generally remains consistent. Quoting the new regulation “For all HECMs, no disbursements shall be made under any of the payment options, notwithstanding anything to the contrary in this section or in § 206.25, in an amount which shall cause the outstanding loan balance after the payment to exceed any maximum mortgage amount in the security instruments or to otherwise exceed the amount secured by a first lien.” This regulation limits the total amount of disbursements for a single HECM loan.
It would appear that the maximum mortgage amount allowed would be limited to 150% of the Maximum Claim Amount. The Maximum Claim Amount is defined as the appraised value of the property or the FHA Lending Limit, whichever is less. The Maximum Mortgage Amount is customarily recorded at 150% of the Maximum Claim Amount. For example, a house at the current HECM FHA Lending Limit would have a Maximum Claim Amount of $636,150. The Maximum Mortgage Amount would thus be 1.5 x $636,150 =$954,225. Lower priced homes would have proportionally lower Maximum Mortgage Amounts.
As such, the cap on disbursements from any HECM option appears to be $954,225. However, the outstanding debt could continue to grow after that last disbursement without any cap. Furthermore, the limit to not “exceed the amount secured by a first lien” appears to put an additional cap of any additional disbursements.
For example, while a Line of Credit (LOC) on a HECM can keep growing, if the LOC surpassed the Maximum Mortgage Amount, the borrower could draw up to the Maximum Mortgage Amount and the theoretical LOC beyond this number would not be accessible. However, it is important to note, that a loan modification might be able to solve the cap issue for some borrowers, depending on state law and a variety of other factors.
A Cap On Disbursements Is The Correct Policy:
Some limited but vocal marketing initiatives have encouraged borrowers to participate in a so-called HECM “Ruthless Strategy.” The Ruthless Strategy involves establishing a HECM LOC and only drawing on it if the LOC surpasses the value of the home. A draw of this nature would trigger the non-recourse feature underwritten by the MMI fund. While research has shown that very few borrowers have ever engaged in this strategy, the Task Force supports a reasonable and unambiguous limit. A disbursement limit on the LOC would stem some of the risk for the taxpayer, the Mutual Mortgage Insurance fund, and the program. Notably, the advantages of integrating housing wealth into a retirement plan are not materially affected by the proposed limits.
Need For HUD Clarifications:
The reverse mortgage industry requires further clarification from HUD on the disbursement limits and how they will be applied by HUD in the future. Additional information from HUD is also required on the impact of disbursement limits, if any, on “tenure payment” options. HUD should also address and clarify what is meant by “the amount secured by a first lien.” While HUD does provide some information on the phrase, it is unclear on how it would apply to a disbursement cap.
Task Force Contact Information:
The seven-member task force is comprised of prominent thought leaders and researchers in the financial planning profession: Shelley Giordano, Chair; Marguerita Cheng, CFP®; Thomas C. B. Davison, MA, PhD, CFP®; Wade D. Pfau, PhD, CFA®; Barry H. Sacks, PhD, JD; John Salter, PhD, CFP®, AIFA®; and Sandra Timmermann, Ed.D. Jamie Hopkins, Co-director of The American College New York Life Center for Retirement Income, is spearheading the collaboration between the Task Force and The College.
For more information or to speak with a Funding Longevity Task Force expert please email Shelley Giordano at firstname.lastname@example.org.
My position is very similar to that of the Task Force with notable exceptions.
First, the regulation do not limit disbursements to or for borrowers (including ongoing MIP disbursements) in the following way: “This regulation limits the total amount of disbursements for a single HECM loan.”
For example if the home at closing was appraised $600,000 and the available line of credit was $304,000 at closing because the borrower was 62 and the expected interest rate was 5%, then the maximum mortgage amount is $900,000. The only thing the borrower financed at closing were the closing costs of $10,400. The borrower’s intent was to use the line of credit as a Standby HECM. So at the start of year two, the borrower takes out $250,000, and pays it back in full with all accrued interest and MIP related to it six months later. Then in year 5, the borrower does exactly the same thing. In year 7, the borrower at 69 does exactly the same thing all over again. Now at the very start of year 10, the available line of credit is larger than $250,000 but can the borrower borrow another $250,000 at the start of year 10? By the wording of the quotation, the disbursement would be limited to $137,939 (probably even less), since previous disbursements to the borrower totaled $762,061 (probably even more if one adds in the ongoing MIP paid off with the related prior disbursements of $250,000 each).
So let us look at the loan at the start of year 10. Let us assume that the average effective interest rate was 5.25% throughout the life of the HECM. At the end of year nine, the principal limit would be $545,533 and the balance due would be $18,638, making the line of credit $526,895. At this time, the third limitation would be $881,362 so that there is no limitation restriction on a $250,000 disbursement to the borrower. The quotation says that if the latest disbursement would exceed $900,000 in total, which it does, the fourth request for a disbursement of $250,000 would be denied. I do not believe that is true at all since the regulation restricts any disbursement to the difference between the maximum mortgage amount minus the balance due at the time of the disbursement.
The second point of disagreement is the following: “However, it is important to note, that a loan modification might be able to solve the cap issue for some borrowers, depending on state law and a variety of other factors.”
A loan modification might restrict further payouts from the line of credit based on the current terms of the loan despite security document modification. For example if in the same example above the loan balance due grew to be $1,000,000 at the beginning of year 30 with total disbursements (including closing costs), accrued interest and ongoing MIP, the security agreement was modified so that the maximum loan amount was now $1,100,000 but not the maximum mortgage amount for the terms of the loan (so that the third limitation was still based on a maximum mortgage amount of $900,000), then no disbursement to the borrower would be available. However if at the beginning of year 30 the borrower pays down the mortgage to $700,000 balance due, how much could be taken out at the beginning of year 33 if no other transactions take place in the line of credit in that 3 year period? The principal limit would be $2,502,519, the balance due would be $850,370, the available line of credit would be $1,652,149 but the third limitation would only allow a disbursement of $49,630 rather than $249,630.
The third and final difference is this: “The Ruthless Strategy involves establishing a HECM LOC and only drawing on it if the LOC surpasses the value of the home. A draw of this nature would trigger the non-recourse feature underwritten by the MMI fund.”
Until termination, the gross balance due remains the total amount due on the loan. The nonrecourse nature of a HECM means that if the lender receives the collateral on the loan as payment in full, the lender has no right of recourse in the courts even if the value of the collateral is less than the amount due; however the lender has a right of reimbursement from HUD for that difference. Nothing happens when a performing HECM has the balance due exceed the value of the collateral; that issue would only arise in termination where the note was satisfied but the value of the asset used to satisfy the loan was less than the balance due. Besides practically speaking, the value of the collateral is generally unknown to the lender until termination is under way.