October 22, 2017

Banks Exit FHA Reverse Mortgage Program As Defaults And Losses Skyrocket

The FHA’s reverse mortgage program, known as the Home Equity Conversion Program, (HECM) has been very popular with retired borrowers.  The program allows homeowners 62 years of age or older to withdraw some of the equity from their homes without having to make a mortgage payment.  The money obtained under the HECM can be in a lump sum, a line of credit or a fixed monthly amount.

The FHA has easy qualification standards for reverse mortgages.  There is no verification of either income or credit.  In order to be eligible for a reverse mortgage, the borrower must be 62 years of age or older, cannot have delinquencies on any type of federal debt, the property borrowed against must be the primary residence and the borrower must complete a counseling course from a HUD approved reverse mortgage counselor.

Many retired elderly homeowners would not qualify for a conforming mortgage due to insufficient income.  Many others would not qualify due to poor credit.   The FHA program was established to allow elderly homeowners with equity to remain in their primary residence without having to worry about being able to make the monthly mortgage payments associated with a conforming mortgage.

Although the reverse mortgage borrower does not have to make monthly loan payments, there are other obligations a borrower must meet.  The reverse mortgage borrower is required to remain in the home, properly maintain the property,  and keep payments up to date for homeowners insurance, property taxes and/or common charges on the property.

The FHA reverse mortgage program was extremely profitable for lenders and they eagerly promoted the program when property values were booming.  Elderly borrowers loved the program since they could benefit from future property appreciation.  Many retired people decided that a reverse mortgage was better than downsizing despite the fact that their income was much lower in retirement.  Lenders wrote about 100,000 reverse mortgages a year when property markets were booming, compared to less than 80,000 this year.

Trouble started as housing values declined.  Many reverse mortgage borrowers defaulted after failing to make payments for property taxes and homeowners insurance.  Although insufficient income may be the root cause of many defaults, there is also the possibility that some borrowers are strategically defaulting due to negative equity.

According to HUD, the amount of delinquencies has skyrocketed by almost 200% over the past two years.  Out of a total of 600,000 FHA insured mortgages, more than 30,000 loans (5%) are in technical default and up to 20% may not be in full compliance with loan terms.

Banks that previously promoted the reverse mortgage program are now exiting the business entirely.  Although banks are technically insured against losses by the FHA, they must pay all delinquent taxes and insurance payments from their own funds.  In addition, some of the losses on reverse mortgages may not be covered by FHA insurance if the lender did not properly follow underwriting guidelines in approving the loan.   Banks, already overwhelmed with foreclosures, do not want to be put in the position of having to foreclose on elderly borrowers.

Bank of America exited the reverse mortgage business in February and Well Fargo announced it would stop taking applications after June 30th.  Both banks cited falling home values, high default rates and regulatory uncertainty over loss exposure as reasons for exiting the reverse mortgage program.

Reverse mortgages have become unprofitable and problematic for the banking industry as evidenced by Bank of America and Wells Fargo exiting the business.  More lenders are expected to pull out of the FHA reverse mortgage program.  Banks that continue to write reverse mortgages are likely to impose much stricter standards for future borrowers.  The FHA recently instituted much stricter guidelines on borrower education including a budget analysis to ensure that borrowers fully recognize their financial obligations.

The FHA is not going to terminate the reverse mortgage program, but going forward, borrowers will find it more difficult to find a lender that will approve their application.