The alterations, which include a reduction in the size of loans, fewer loan options, tweaks to closing cost amounts, and a more thorough vetting process for potential borrowers, are meant to make HECMs more financially sound.
Smaller amounts, fewer options
Reverse mortgages allow homeowners age 62 and older to borrow money against the equity in their home.
The maximum amount a person can borrow is determined by the value of the house, current market interest rates and the age of the youngest borrower. A high house value, low interests rates and older age all increase the amount of an HECM applicant can borrow, though these loans are capped at $625,000.
There used to be two types of HECM, the "standard" and the "saver," but the Federal Housing Administration (FHA)—the government-based backer of the majority of reverse mortgages—is doing away with these distinctions, combining elements from each into a single loan option.
Once approved, a borrower can choose to receive the loan amount via monthly installments, a one-time lump sum or an ongoing line of credit. The money is tax-free and can be used for everything from medical bills to paying for home care.
Another drastic change to HECMs comes in the form of new limits on how much money a homeowner can withdraw during the first year of the loan.
Most borrowers will only be able to access 60 percent of the total loan amount during those initial 12 months. Individuals who need more than that 60 percent in order to pay off "mandatory obligations"(i.e. property liens and current mortgages), can take out the funds necessary to cover these costs, as well as an additional ten percent of the maximum amount of the loan.
Changes to closing costs
While a reverse mortgage doesn't have to be paid back until the borrower dies, sells, or moves out or their home, there are other expenses that he or she will be responsible for, including the one-time closing costs on the loan, as well as the ongoing housing fees (insurance premiums, real estate taxes and utility bills) that must be paid for as long as the home is occupied by the borrower.
Another new HECM rule ties initial mortgage insurance premiums (a significant contributor to closing costs) to how much money an older homeowner chooses to take out at closing. Those who elect to receive 60 percent or less of their allowable limit will only have to shell out .05 percent of the total loan amount for their first mortgage insurance payment at closing, while those who take more will be subject to a 2.5 percent initial insurance charge.
Analyzing applicants
In the past, the attraction of reverse mortgages was that they offered aging adults a loan option that didn't require them to undergo a credit check or have a regular source of income.
But then the 2009 housing crisis hit, wreaking havoc on home values and resulting in a slew of default across all types of mortgages. By tightening the rules for reverse mortgage qualification, the FHA hopes to cut down on the number of older homeowners who find themselves unable to meet their financial obligations.
Starting in January 2014, applicants for reverse mortgages will be required to undergo a thorough screening process to determine whether they have the ability to pay the costs associated with a reverse mortgage. "Since borrowers cannot incur a loss on an FHA insured loan, much of the risk comes in the form of not being able to pay mandatory property costs and not being able to manage loan proceeds over time," says Bob Stammers, CFA, Director of Investor Education at CFA Institute, a nonprofit organization of investment professionals.
Under the new rules, individuals may be denied a loan, or required to designate ahead of time a specific portion of the loan that will be used to cover homeowner's insurance and taxes.
Borrowers will also have to attend mandatory financial counseling sessions to ensure they understand the fiscal ramifications of taking out a reverse mortgage.
Factors for considering a reverse mortgage
Retirees often seek a reverse mortgage as a source of much-needed income, even though it may not be the best way for them to obtain the extra money.
"For many people the reverse mortgage becomes the last opportunity for income in retirement, regardless of whether it is an appropriate financing vehicle for them," says Stammers.
A reverse mortgage is, at its core, a form of debt—a financial instrument not inherently good or bad, but one that needs to be properly wielded.
Stammers encourages aging homeowners to analyze their family's unique financial situation before deciding whether a reverse mortgage could be beneficial. Among other considerations, there are two key issues to take into account:
- What you want to do with the house: Taking a reverse mortgage out on a house means that after the borrower (and their spouse) dies or moves out, the property will be sold to pay back the loan. The bank doesn't own the house per se—the borrower's name remains on the title—but they will not be able to sell the home to pay for retirement or bequeath the property to their heirs unless the reverse mortgage is paid off first.
- Medicaid eligibility will be affected: Since Medicare does not cover extended nursing home stays, many turn to Medicaid to cover their long-term care costs. Qualifying for Medicaid is a complex process that often involves spending down an individual's finances until they have no more than $2,000 in liquid assets (some assets, such as a car, a home, a pre-paid funeral and personal belongings, are exempt from this rule). While a home without a reverse mortgage on it is an exempt asset, reverse mortgages can affect Medicaid eligibility.
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