Are reverse mortgages headed in reverse? Based on forthcoming federal rule changes for seniors who expect to apply for one, you might think so. But as a taxpayer, you might say, bravo: Toughening up qualification standards — including such basics as checking applicants’ credit, income and cash flows — is a leap forward, long overdue.
Last week the Federal Housing Administration, whose reverse mortgage program dominates the field, adopted guidelines tightening eligibility standards as part of an effort to avoid additional losses to government insurance funds. The changes, which are scheduled to take effect in less than four months, come on top of earlier reductions in maximum financing amounts that have resulted in sharp declines in the numbers of new loans being made. Volume has plunged by more than 50 percent in the past five years alone.
Aggressively marketed by entertainers such as Henry “Fonzie” Winkler and Robert Wagner, reverse mortgages are targeted at seniors 62 or older. They allow borrowers to tap into their home equity to obtain cash. Unlike standard mortgages, there are no monthly payments required and the amounts borrowed need not be repaid until the seniors die, move out or sell their houses.
Originally intended primarily as an income supplement tool for retirees, the program grew rapidly during the last decade. But it also became a nightmarish money pit for taxpayers as thousands of borrowers defaulted on their obligations to pay local property taxes and insurance premiums, and the values of many of the houses securing the mortgages sunk in the wake of the recession. In 2012, one out of 10 borrowers was in default. Ultimately the Treasury had to bail out FHA’s insurance fund with a $1billion-plus cash infusion.
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Under the original rules, applicants were not required to pass the typical underwriting tests associated with home mortgages — nobody checked their credit reports or past financial behavior. All they mainly needed was sufficient equity in their house and a willingness to sit through some brief financial counseling sessions.
Starting March 2, however, that’s going to change dramatically. FHA will require all reverse mortgage applicants to undergo a “financial assessment” that looks a lot like the underwriting process used for standard mortgages. Lenders will vet applicants for:
▪ Credit reports, using merged data from all three national credit bureaus.
▪ Payment histories on property taxes, homeowners association fees and hazard insurance premiums.
▪ Income from regular and part-time employment, Social Security, pension funds, regular draws on IRAs and 401(k) accounts, plus any earnings on investments.
▪ Recurring household debt obligations. The FHA wants lenders to find out what debts borrowers already are carrying, such as for credit cards or medical bills, in order to come up with a cash flow and residual income analysis.
If applicants look weak or marginal on these tests, lenders will be allowed to take into account any “extenuating circumstances,” such as an unexpected hospitalization or illness that temporarily cut off income and led to late payments. But if applicants appear unlikely to make regular on-time payments for property taxes or hazard insurance premiums, lenders can reject them or “set aside” potentially large chunks of their loan amount for later payments by the servicing company handling the loan. These impounds, in turn, will reduce the effective cash many borrowers will be able to obtain from their reverse mortgage.
How is this all going over? Some veteran loan originators say not so well. Maggie O’Connell of Danville, California, who originates reverse mortgages for the Federal Savings Bank, says the new rules “are going to hurt” applicants with less than pristine credit and limited post-retirement incomes. Up until now, she says, they have been the program’s traditional core borrowers and simply need the extra money from their home equity to live on. John A. Smaldone, executive vice president of Hanover Financial Services in Maryville, Tennessee, worries that FHA is turning reverse mortgages “into a middle-class or upper-class program.”
But Lori Trawinski, a senior policy adviser at AARP, the seniors lobby, has a different take. While her group is still studying FHA’s latest changes, AARP supports the broad concept of financial assessments. Though some seniors won’t make the cut, she acknowledged, “there’s always a balance between access to credit and responsible credit.”
Bottom line: Maybe for the long run it’s more responsible for borrowers — and the taxpayers who pick up the bills — if the government restricts reverse mortgages to people who can actually handle them and stay out of foreclosure.
Kenneth Harney is executive director of the National Real Estate Development Center.