While the financial crisis has made the FHA-insured Home Equity Conversion Mortgage (HECM) the only reverse mortgage in the market, the HECM has been strengthened by higher loan limits and new options. More options is a good thing, but it makes shopping a greater challenge. This article is a guide to seniors who want to shop for the best deal on a HECM.
I have been doing some informal HECM shopping recently, and found that HECMs are grossly over-priced! In early June , fixed-rate HECMs with rates from 4.25% to 5.06% could be sold in the secondary market at a premium of 7.625%. This provides an originator margin 4 to 5 times as large as the margins in the forward market. Some HECM loan officers are making commissions of 3-4% of the loan amount. HECM originators will pay 4 or 5 times as much for a lead as they would pay for a lead on a forward loan of the same size.
The problem is that HECMs are sold, not purchased. Salesmanship and advertising rule the market. Celebrities who become seniors extend their careers by becoming spokespersons for HECM lenders.
The focus of interactions between seniors and originators is how HECMs might help the borrower. Most seniors evidently assume the price is what the originator says it is, and the possibility that they might do better with another originator doesn’t enter their minds.
The web sites of HECM originators are not designed for shoppers. I visited the sites of 42 HECM lenders in California who belong to NRMLA, the trade group. Only 7 showed HECM prices without requiring me to identify myself, and on 6 of the 7, the data was incomplete and user-unfriendly. Only All Reverse Mortgage Company provided data that was both complete and readily understandable.
To shop effectively, you should know the loan option you want. Borrowers have four options: standard and “Saver” versions of both fixed-rate (FRMs) and adjustable-rate (ARMs) HECMs. The Saver option is for borrowers with short time horizons who want to minimize the loss of equity in their home. Those who plan to stay in their house indefinitely should opt for the standard HECM.
FRMs are for borrowers who want to draw as much cash as they can as quickly as they can. Those who intend to retain a significant part of their borrowing power as an unused credit line should select an ARM. A fuller discussion of these options will be found in New Options For HECM Borrowers.
A potentially confusing feature of HECMs is that they use 2 interest rates. The “expected” rate is used at the outset to determine the Net Principal Limit (NPL), which is the maximum amount the borrower can draw. The loan rate is applied to the loan each month to calculate the interest that is added to the balance each month.
This is not a problem on
FRMs because the loan rate is the expected rate. Because a higher rate
and higher fees reduce the NPL, borrowers can shop the NPL – the HECM
offering the largest draw is the best.
Unfortunately, there is an
important exception to this rule. HUD does not recognize expected rates
below 5%, so that an FRM at 4.5% and at 5% that are otherwise identical,
have the same NPL.
Hence, the simplest way to
shop for an FRM is to seek the lowest loan rate. If you are faced with a
choice between lender A who has a lower origination fee and lender B who
has lower rate, choose the one with the lowest future loan balance in
the year that is your best guess as to how long you will have the
On ARMs, the expected rate is a published rate selected by HUD but the lender sets the loan rate margin – the amount added to a rate index to generate the loan rate. Margins now range from 2.25% to 3%. Lenders also set the origination fee subject to a ceiling set by HUD. Most lenders charge the ceiling amount except where they are running a promotion, in which case they will tell you about it.
Shopping ARMs poses a quandary for borrowers because a higher loan rate increases the rate at which the borrower’s debt rises, but it also increases the rate at which the unused portion of the credit line increases. Further, a higher loan rate increases the size of the lifetime annuity the borrower can draw. Since a higher-rate HECM commands a higher price in the secondary market, originators make more on higher rate loans unless they pass the benefit on to the borrower in the form of lower fees. If seniors decide that they do better with a higher rate because they are looking to the future, they should nonetheless expect the lender to reduce origination fees.
Under no circumstances allow yourself to be solicited by a loan provider, which requires that your name not appear on lists of reverse mortgage leads. Compiling leads and selling them to lenders is a thriving business. You avoid becoming a lead by not responding to teaser ads, such as “Great New Government Program, See How Much You Qualify to Receive.”
It is very hard to get into trouble if you initiate the HECM. When someone else initiates it and you go along with the solicitation, the likelihood of a bad deal for you escalates dramatically. If the soliciting party ties the HECM to an annuity or house purchase, you are almost certainly going to be scammed.