HECMs are FHA insured reverse
mortgages that allow homeowners 62 years of age or older to
withdraw cash from their home while retaining the right to
live there until they die, sell the home, or move out of it
A major problem with the HECM
program is that an increasing number of borrowers are in
default -- 8% of the total in the most recent count. While
HECM borrowers don’t have required mortgage payments, they
must pay property taxes and homeowners insurance premiums,
and maintain their property. Most of those in default
have not paid their property taxes. This problem was never
anticipated by policy-makers.
On forward mortgages, borrowers
are generally required to make monthly payments for taxes
and insurance into an escrow account, out of which the
lender makes the required payments when they come due. The
rationale is that the lender needs assurance that the
borrower has the capacity to meet this additional payment
burden. Since a HECM borrower does not assume a mortgage
payment obligation – on the contrary, a reverse mortgage is
a source of additional cash – there seemed to be no need to
escrow taxes and insurance.
But this inference was based
solely on financial capacity and ignored financial
incentives. On a forward mortgage, the borrower has a strong
incentive to pay taxes because the failure to do so would
result in a lien on the property which would prevent the
mortgage from being refinanced, or the property from being
sold. In contrast, many HECM borrowers have no refinance
option to lose and no concern about the size of their
estate, which gives them a financial incentive not to
pay property taxes. The only significant deterrent is the
threat of foreclosure and eviction, which most HECM
borrowers realize won’t happen.
Lenders must give HECM borrowers
2 years to repair a default, and FHA must approve the
transition to foreclosure status. FHA has not released any
figures on HECM foreclosures but if there have been any they
have been very few. Further, foreclosures don’t necessarily
result in evictions, and those would hit the news wires if
When HECM borrowers who fail to pay their property taxes or insurance bills have unused capacity to draw more funds, their servicers have been advancing the funds required and adding the amounts to their loan balances. The problem arises when the borrower’s loan balance is maxed out. Last year FHA issued guidelines on how lenders should deal with this problem.
The lender must offer “loss mitigation options” designed to cure the deficiency, including repayment plans and free counseling. All such options must be exhausted before the lender asks FHA for permission to foreclose.
Nowhere does FHA say that if everything else fails and the lender requests permission to foreclose, that FHA will grant it and allow eviction. Throwing elderly homeowners out into the street would be a public relations disaster for FHA.
Potential new HECM borrowers
should not be deterred by the default problems of existing
borrowers. However, new borrowers will face a different set
of rules designed to prevent them from defaulting.
HECM lenders will soon be evaluating
whether HECM applicants have the capacity to pay their
property taxes and insurance premiums, and whether their
credit history indicates a willingness to do so. If the
answer is “no”, the lender must either reject the
application or (more likely) accept it with a mandatory
set-aside for payment of property charges. To fortify lender
resolve, lenders who pay property charges on behalf of a
HECM borrower who is maxed out will be stuck for part of the
It is likely that rather than
turn down applicants, HECM lenders will offer deals with a
set-aside, which reduces the amounts borrowers can draw. The
set-aside leaves borrowers responsible for paying taxes and
insurance, acting as a reserve account to protect the lender
and FHA in the event that the borrower defaults. The
set-aside of a borrower who always pays property charges
will pass to the estate.
An alternative is to require escrow accounts, which would also reduce draw amounts but would be far better for borrowers because it largely relieves them of the obligation to pay taxes and insurance. Implementation would require that every HECM include a rising lifetime annuity that would fund the escrow account required to meet all future payments. Because the required annuity cannot be precisely determined, the borrower may still be required to pay small additional amounts. Nonetheless, it is far more attractive than a set-aside in which the borrower is obliged to pay the full amount every month.