An Alternative to Fannie Mae’s Higher Reverse Mortgage Margins

March 31st, 2009 | by Jim Veale Published in Commentary, News, NRMLA, Reverse Mortgage | 27 Comments

While the immediate increase in the number of investors buying HECMs is a good and noble goal, the way Fannie Mae has chosen to achieve that objective will result not only in human suffering and financial costs but also potential long-term damage to the reputation of the HECM program. In a comment on March 28^th, Mike Gruley stated: ‘Peter Bell recently described the price hike by Fannie Mae as “Draconian.”’ Whether Peter Bell said it or not, “draconian” is an appropriate description of this Fannie Mae decision.

There is no question that if a financial instrument is an acceptable investment and yet one single investor is only begrudgingly willing to buy it, something needs to change. No doubt yield is the key issue. However, there are two conspicuous ways to increase yield, either increase the inherent yield in the instrument as is currently being done or hold the inherent yield constant and discount the price to the investors. An obvious compromise is to increase the inherent yield slowly while carefully adjusting the discount until the right inherent yield has been reached that will result in more long-term investors.

HECMs are an important financing alternative for senior homeowners and for government policy yet HECMs form an insignificant portion of the investment market. Profit margins to lenders and even Fannie Mae remain relatively low. So how can either lenders or Fannie Mae be expected to suffer losses from discounting? Moreover, can the discount losses be recovered?

The first question to answer is if more investors were purchasing HECMs, would the current margins go down? If the answer is no, there is no need to go further. Let’s take the lumps and get it over with now. But if the answer is yes or maybe, then we should look for an alternative solution.

While the following ideas are not novel or little more than intuitive, it seems they should have been fully vetted and the reasons for their rejection made public:

Allocate some TARP monies to a fund administered by FHA (or some third-party only tangentially involved in the secondary market) sufficient to suffer losses from discounting for a period of up to one year.
Price HECMs to yield the equivalent of a 3.75% margin.
At the same time raise the margin by 0.167% monthly. Hopefully, long before the end of the year, investor yield will have reached equilibrium with HECM interest rates.
Over the next few years, a 0.167% (or a similarly low rate) could be tacked onto the margin so that HECM sales into the secondary market will yield small profits that will allow the proposed fund to recover its previous losses.

While the suggestion has flaws, it is clearly preferable to what senior homeowners and we will experience in the near term and the loss in reputation to the product and the industry that many believe might happen.

Assume Fannie Mae and Treasury cannot get this done. What is the matter with FHA using some of the HECM MIP assets for this purpose? While there is some question if HECM MIP assets are sufficient to pay off all of the losses that might be inherent in the current HECMs outstanding, the need for all of the assets to cover losses is most likely several years away at the earliest. Surely this is a reasonable use of a small portion of the HECM MIP assets in the interim.

If Fannie Mae, Treasury, and HUD all work for the same government (although one wonders at times), it seems that for the sake of policy, helping senior homeowners, and eliminating this current “draconian” policy some alternative such as the ones presented could be achieved. But then ….

James E. Veale, CPA, MBT
SVP of Tax and Government Affairs & Director of Originator Recruiting for Security One Lending

Technorati Tags: Reverse Mortgage,News,HECM,FHA,HUD,Fannie Mae,NRMLA

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http://www.ahbreverse.com Mark Burton

One of the topics this discussion doesn’t raise is the fact that HUD does not permit the use of discount points to raise a below-par sale to par when the loan is sold to the secondary market. Maybe that’s so obvious as not to need to be said, but this is clearly what makes the transition to higher margins so difficult. The fact that investors want a higher yield as indices approach zero – that’s to be expected, so let’s get over that. The real question is consumer choice. By HUD not allowing discount points, consumers essentially have no choice of a lower margin. Think about this for a second: as margins go up, the borrower loses about 8% of value in principal proceeds for every 100 pbs of rate or margin increase. 100 bps is worth, let’s say, 300 bps in asset price give or take. If your average maximum fully drawn loan is 70% of home value (likely to be far lower for all those loans not fully drawn), 3% of 70% is only 2.1% of related expense. In other words, for 2.1% of loan balance, the borrower gets 8% additional proceeds. And it will be far cheaper for LOCs and fixed payments. That’s the proper kind of choice, and it finally aligns HECMs with the rest of the lending marketing.
http://www.ahbreverse.com Mark Burton

Let me edit my math (still working on my first cup of coffee). The borrower gives up approximately 3% on loan balance (give or take, depending on the actual loan price at a lower rate), which on a fully drawn loan averaging 70% of Principal Limit, would be about 2.1% of home value (versus additional proceeds of 8%), not loan balance as I previously said. If the loan were a line of credit, the closed loan balance sold in the secondary might be say, 5% of home value. 3% of 5% is 15 bps of home value, which is an insignificant cost. What’s not clear is how the secondary market would actually price a deeply discounted mortgage, but this is worth understanding better, and it’s worth exploring the pros and cons of permittinf discount points to provide more consumer choice and to permit negotiated transitions in volatile markets.
Anonymous Reverse Guy

Call me stupid but in this current economy why aren’t there more “private” or Wall Street investors for this product? It appears to me to be an extremely safe investment. If it goes upside down, the loan can be turned over to HUD or the investor can wait for the loss and then get indemnified by MIP. What other investment is earning rates of return of 3.00 over the CMT or the 1 month LIBOR with the safety net that reverse mortgages provide? Are there CD’s available right now that have this type of safety?

On a slightly different subject, why can’t the benefits be based on a 5.5% Expected Rate even with rates moving up? Why does the Expected Rate have to move?
Anonymous Reverse Guy

meant to say: are there CD’s with this type of yield
JMHO

I know that the changes that Fannie Mae are implementing are not controlled (or able to be controlled) by HUD. However, HUD should pay attention to this issue – as it has an impact on them down the road.

If the initial margin is up to 3-4 times higher than it was even a year ago, the long term effect is that the total interest accrued, over the life of the loan, will (obviously) be 3-4 times higher.

Years down the road, the additional accrued interest will erode the remaining equity in the home. With less equity remaining, it will make it more difficult for the borrower (or their heirs) to sell the home when the time comes.

The end result is that the borrower (or their heirs) will be faced with two options when they cannot sell the home to cover the loan balance:

1) Complete a HUD-approved short sale
2) Let the home go back to the investor (either through a foreclosure or a deed in lieu)

Both options above will more than likely result in a significant increase in the filing of HUD claims to recover losses – generating a greater hit to the MIP insurance fund.
http://Thereversemortgageschool.com Kevin

You know I like to go “real world”…
“so Ms borrower, yes today your rate starts at 5%, and when the market gets to where it is going, your high margin product could be at 8,9 or even 10%!!!

I am very happy for all of the seniors who’s timing allowed them to lock in a 1.5 or similarly low margin.
JIM WARNS

“With less equity remaining, it will make it more difficult for the borrower (or their heirs) to sell the home when the time comes. ”

Given the non-recourse nature of a HECM, the amount of equity in the home at the time of sale will have no effect on the difficulty of making the sale. The sale price will be based on the value of the home at that point in time, whether there is little, no or even negative equity.
JMHO

Jim –

Yes, you are correct – the loans are non recourse, which is a huge benefit of the HUD insurance. But in the past, borrowers (or their heirs) have typically been able to voluntarily sell their home to cover the loan balance – or more (which would give them some money in their pocket).

In both of those cases, the HUD insurance fund is not tapped – as there are no losses and therefore no claims filed.

If there is not sufficient equity in the home – there is either a decreased incentive for the heirs to sell the home (they won’t make any money through the sale) or a complete lack of effort to sell the home.

Regardless, the borrower or their heirs have no personal liability for the debt. That is true.

However, if the home is not sold (or the loan paid in full in some other method) and is either foreclosed on or is sold through a short sale – a HUD claim would more than likely be filed, to recover any losses for the investor. These claim funds are paid out of the HUD MIP fund. As has been discussed at recent industry events, HUD is evaluating whether they need to re-structure the MIP rates so that the MIP fund can remain viable – with the lowest possible cost to the borrower.

By potentially increasing the number of claims against the MIP fund (as a result of the significantly increasing margins), it does not help the industry’s plea to HUD in trying to convince them that they should reduce the MIP rate or keep them the same – rather than increasing it to account for current and future losses.
Treverse

When the heirs inherit a $300,000 home with a $400,000 loan balnce what incentive do they have to do anything but walk away like many are doing today with their upside down mortgages. We all read the stories of people leaving the keys in the door and just leaving.

In several years HUD will be owning alot of real estate.

I don’t know where this is all heading but it doesn’t look good.

As for the article above:
1- I really could care less what Peter Bell has to say at this point!
2- Why would we want TARP money? So Obama could reign over us also?
3- If and when any new investors come into the market I will bet my house margins will never come down!

P.S. Has anyone seen the new mortgagee letter on new counseling requirements? You can read it on HUD or NRMLA Website. This business is getting tougher by the day!
matt

The LAST thing the RM industry needs to do is to go looking for TARP money. With T-bill returns moving to zero,are we surprised that the the secondary market is weak to non-existent? Increase margins is the solution to the problem the government created. The problem IS the government.
http://www.reversemortgagevalue.com John A. Smaldone

Good day,

A lot of the suggestions have Merritt. One main problem is the expected rate. We must find a way to lock the expected rate in regardless if the margin goes up prior to closing. Remember, these seniors are signing the “Expected Principal Lock Disclosure”. We must realize how they are perceiving this. I have much more to say about this and other suggestions mentioned in this issue, I will put my two cents in later. I felt this one on the expected rate needed to be brought up now.

Thanks,

John A. Smaldone
http://www.ahbreverse.com Mark Burton

Dear Mr. Critic:

That’s correct, whatever the loan balance is, is saleable at a price – but that price, with a margin that is below a par-priced margin, will by definition be sold at a discount. HUD won’t permit the charging of discount points to the borrower, so lenders are left either eating the discounted price or changing the margin to a level where they will be paid par or above for the loan balance sold. This creates a lose-lose. If discount points could be charged, this would leave the original expected rate/principal limit lock in place, the necessaity of which my friend Mr. Smaldone astutely observes. This creates a win-win.
http://www.ReverseMortgageLiving.NET Frank Simplicio

What angers me is that this product is suppose to be a benefit to the retired community. It is getting ruined by the powers that be because they seek their interests, wall street’s interests, and so forth. They are not the ones that go before a 75 year old woman and try to offer such things. We have to look at their faces, we have to see the tears. One lender told me well the rising margins should not effect the front side, they still get what they would have gotten with the lower margin. YET, on the back end the equity has seriously disappeard in greater chunks, or lasting less years. And the kicker is they think seniors don’t notice this or they hope that the desperation for money now out weighs ths serious equity loss on the back end. I CARE ABOUT MY CLIENTS. They are being victumized by Fannie Mae, Wall Street, and so forth. The product was GOLDEN 3 years ago. 100 margin, stable rates, etc. The retired community like stability and SERVICE. The old saying is true, if it ain’t broke don’t fix it. And I am not talking about the creative reverse mortgages here, but the traditional HECM’s. I don’t consider my job a business but a SERVICE to the retired community. My mind set is to help, not make a commission and the powers that be only think of it as a product with no regard to the retired community. I don’t care if what I say upsets people. It is SHAMEFUL. I agree totally with Peter Bell of NRMLA (Of which I am a member). It is no less a CRIME against the retired community what they are doing. Those who are responsible or no less criminal than those who brought the mortgage industry down on the forward side. Again here Wall Street outweighs Main Street???? Reverse Mortgages are a NOBLE product to help retired folks live and enjoy their later years. It was easy to offer and easy for a senior to accept before. Now it is being questioned and frustration is rising if your product changes during the process and you have to redisclose AFTER they have already gotten counseling at $125, AFTER they have had an appriasal done at $400, AFTER all other fees that may come, only to find they have to take a higher margin or nothing. That is strong arming someone. That is criminal. I have had to do this a few times now and it makes my job increasingly miserable. And I LOVE being a Reverse Mortgage Specialist.
MONEY is now the drive of our industry and NOT SERVICE to the Seniors who deserve so much more than that. They deserve respect, honor, dignity, and most of all support and a helping hand from all parts of our government and reverse mortgage industry. I once was very proud of this industry, but I see the CANCER of GREED killing a GREAT product for our retired folks. Shame on you who have the power to stop this and don’t.
James E. Veale, CPA, MBT

JMHO and “Jim Warns”,

Risk of loss in the current HECM pool is a difficult subject. First one must stratify the outstanding debt by year and then by region of the country. There is little doubt that any HECMs that originated before 2000 pose much of a threat to the HECM MIP fund since there were less than 44,000 in total HECMs originated during that era and many of those HECMs have been paid off. Assuming most HECM originations terminate within 7 years and knowing how few originations took place in those years, there is little threat from the 2000, 2001 or 2002 originations.

The most critical problems should come out of the 2006 and 2007 originations because of their size, the peak appraised valuations, the high percentage of those HECMs still outstanding, the high concentration of those HECMs in states with the greatest home value declines, etc. It is doubtful if the home values will recover to 2006 and 2007 in the areas of high concentration by normal termination and any financial advisor “worth his salt” will advise most seniors to clear out their HECM credit lines before termination. No doubt the net assets of the total HECM pool will still be growing as these losses begin hitting in mass but what if the losses the HECMs originated in 2006 and 2007 strip out most of the net assets from the HECM fund, will FHA then be paying losses from HECMs originated in other years from MIP collected in that year much like Social Security is doing today? Current MIP collected paying off “legacy” losses?

Yes, higher margins now pose large concerns for the future of the HECM fund but by 2014, the HECM fund may be under tremendous stress from HECMs originated in 2006 and 2007 if home values do not quickly recover.
http://AmericanSeniorFunding.com HECM Dude

Monthly adjustable, CMT-indexed HECMs have had a margin of 1.2 (later increased to 1.5) for most of the history of the HECM program. Before the nation entered its current financial crisis, some lenders found alternative markets to Fannie Mae, with a few even offering CMT-indexed HECMs with a margin of 1.0. Today, Fannie Mae is sole purchaser of CMT-indexed HECMs, and it has increased its margin requirement in order to obtain an acceptable yield. The unfortunate consequence is that the same margin must be applied to the 10-year CMT index in order to obtain the expected rate.

Nobody complained about higher margins and the interests of the poor homeowner as long as the expected rate was 5.5 or below. In the current environment (we have a normal, positive yield curve which I believe will steepen as our economy recovers and inflation again becomes a concern), the spread between the two indexes is such that the expected rate will be greater than 5.5. Now, everyone is concerned about the homeowner’s best interests.

As our economy recovers and the credit markets return to normal, we’ll probably see higher index values, but we’ll also see the margins shrink as more investors develop an interest in purchasing HECMs or securities backed by HECMs. We originators may then have an opportunity to help our customers refinance out of those high-margin HECMs into low-margin or fixed-rate HECMs.
http://www.ahbreverse.com Mark Burton

Dear Mr. Critic:

This is precisely why HUD has banned it. As I said in my first post, we need to discuss the pros and cons of such a move, and you’ve put your finger on exactly the cons (no pun meant) I had in mind. The pros are quite evident – but regulating the cons would be the trick, and it would do HUD no harm to analyze this and seek industry input.
http://www.reversemortgagevalue.com John A. Smaldone

Dear Critic,

Good to see your responses and Mr. Burton, thank you for the compliment, it goes both ways. Ctitic, you are exactly right about the “Expected Principal Lock Disclosure”. However, this is not a disclosure we can arbitrarily throw away. This is a required disclosure that we must show the borrower and have the borrower acknowledge.

Your assessment is logical, however, we are not dealing with logic when it comes to this issue. I can’t understand why legal action has not been taken on the validity of this disclosure up to now. However, today going forward may be another story?

If we do not at least have a method of assuring the borrower of what they can expect to receive, VIA the “Expected Principal Lock Disclosure” we are putting the senior in a very vulnerable position. When the disclosure first came out it was a great tool and a good thing for our seniors. The markets and the agencies found a way to even make something good like this tainted. I am very saddened over all I have seen and heard over the past five days and I am sure most of you are as well.

Good night all,

John A. Smaldone
Pingback: Your Government At Work: FHA Troubles?, FN Portfolio, GAO on AIG, HECM Damage?, PPIP & Banks = Toxic?, Barney Speaks, NCUA Conservatorship | Home Mortgage Guide
http://n/a Joe Advocate

For those of you who claim that the new margin increases have done extreme harm to seniors, especially those who have begun their reverse mortgage process already, how many do you think have actually been extremely hurt by these changes? Is it dozens, hundreds, thousands…?
http://www.reversemortgagevalue.com John A. Smaldone

Joe Advocate,

Those who have made application over the past couple weeks prior to the 27th of April are the ones tat are going to be affected. Those loans that are a month old and have not been locked in are in serious trouble.

How many, I don’t know, I would just be guessing. However if you looked at a four week period, we could be talking about thousand of seniors being affected.

The problem is not only the margin. The problem the seniors will be facing at closing today is the Expected rate. When the margin goes up, so does the expected rate. When the expected rate goes up, guess what? The amount of money they were expecting, goes down! That is it in a Nut Shell folks.

Have a good day,

John A. Smaldone
http://www.ReverseMortgageLiving.Net Frank Simplicio

To Joe Advocate,
In my opinion, 100% of the Seniors are being hurt. They all loose more of the equity in their homes on the back end. In other words, the house is worth much less in 10 or 20 years than if they had decent margins. The margin just erodes the equity on the back end. On the front end, they don’t see much difference, but it is on the back end. This also causes the homes to go upside down MUCH faster therefore bringing the HUD insurance to play much sooner. There are a lot of savvey Seniors. They also do care what they leave behind to their heirs. So it does hurt all of them one way or another.
http://www.reversemortgagevalue.com John A. Smaldone

Frank Simpicio,

Well said sir. You couldn’t of said it better. The erosion of equity is going to reduce the equity in the home so much quicker. Wait till the index values start going up and up? It is all relative, unfortunately. I wonder how much we are being heard and taken serious?

Have a good day,

John A. Smaldone
Joe DeMarkey

Mr. Smaldone (and all RMD readers),

A couple of facts here for all of us to better understand:

There is no required disclosure for Principal Limit Lock (as correctly stated by The Critic). The disclosure was created by some industry participants in a time when FHA first allowed the Expected Rate Lock/Principal Limit Lock feature – in a market where we had one investor with one index and one margin which was offered by all industry participants.

As the secondary market expanded a few years ago, and we started to see multiple margins offered by multiple investors, and then multiple indices as allowed by FHA in late 2007, the concept of Expected Rate/Principal Limit Lock changed dramatically.

In fact, FHA published very clear, specific guidance regarding changing margins and indices in Mortgagee Letter 2007-13. I encourage all RMD readers to review those provisions. They specifically address the scenario where a borrower or a lender chooses or offers a different margin and/or index at the time of closing than that chosen or offered at the time of application.

Lastly, to all NRMLA members, I would direct you to a Best Practice recently published on February 10th. You will see that there is a recommendation to eliminate the Principal Limit Lock Disclosure and add suggested language to the Loan Comparison Disclosures that most industry participants currently use in their application and closing packages.

Most importantly, please realize that the Best Practice does not impact the lender’s ability to offer borrowers a Principal/Expected Rate Lock.

I hope this information is helpful to all RMD readers……

Joe
Treverse

Frank,

You are absolutely correct about the diminished equity. I had stated this from the begining! But on the front end their is a big difference in many circumstances.
I had a 75 y.o borrower with a $650,000 home who will get $40,000 less with the new margin due to the increase in the expected rate.
It is hurting the seniors on both ends especially if they have mortgages they have to pay off and need the extra money
http://www.ReverseMortgageLiving.Net Frank Simplicio

Treverse,

Yes, that is true. You’re correct. That blew past me when I was writing. Absolutely correct. It makes it even a bigger shame and crime. I hope this ends well. I am also finding that Seniors compare notes. I have had them come to my office and say something to the effect of, “Hey, you got my friend a much better rate just 2 months ago, why am I paying so much more?” Yes rates do go up and down. But so much, so fast? In a product that is suppose to have the seniors best interest in mind. That once was stable like a ROCK. They remember this. Just like they remember when Reverse Mortgage were a terrible product in the early 80′s before 1989 when they revised it. In the early 80′s there was equity sharing and the borrower was not the only one on title. I can’t tell you how many bring that up to me. People wrongfully underestimate the retired folks. It was bad enough getting over the “BAD Reverse Mortgages” of the early 80′s, now we have to watch we don’t put another bitter taste in their mouths with these unstable and out of control margins. And you are very correct in mentioning the index. OMG, what will these people think when they get their statements (and they read them) and see that now they are paying 6 and 7 % interest??? Who do you think they are going to call. HUD? FHA? Fannie Mae??? NO. They are going to call us the Specialists who originated the loan. This is what aggrivates me. We are the direct contact to these people and their reverse mortgages. Not HUD, FHA, Fannie Mae in most cases. And they trust AARP and they write to them. I have had the honor of being at a few NRMLA events where AARP’s president was there. This man has a fierce and genuine concern for the wellfare of the Senior community as we all should. Including the government, lenders, and all involved. Therefore, it is a serious concern to us all, to write, speak, share our concerns with all the powers that be. It won’t fix itself. Everyone should be writing Senators, Congressmen, NRMLA, even President Obama. I am. I want everyone to know. I believe in the squeeky wheel theory. Imagine how loud it would be if everyone writes the powers that be who can do something. I don’t believe for a moment my voice is not heard. And if there are many, how much more?
http://www.reversemortgagevalue.com John A. Smaldone

Cynic,

Good to see you on the site, hope things are well with you. I appreciate your correction of the date I used, I meant March 27th, thank you.

What a week, comments all over the Board, new things being learned and old one’s in doubt. This is not good, not good at all. I am sure their are may insecure loan officers out in the field today?

Good to hear from you, have a great evening.

Best regards,

John Smaldone
http://www.reversemortgagevalue.com John A. Smaldone

Critic,

I stand to be corrected on the mandatory use of the “Expected Principal Lock Disclosure”. Various lenders are still requiring it to be used. I find nothing in HUD guidelines that say the disclosure is required. However, when one reads HUD mortgagee letter 2006-22 it seems to be very clear about the 120 day lock period and the advantage to the borrower.

Wouldn’t a lender want to use a disclosure that would be giving the borrower a degree of comfort knowing what they can expect. Remember, in 2006 this mortgagee letter addressed good news for the senior, an extension from 60 days to 120 days on their expected rate lock. All lenders went to using the disclosure, it helped with the sale but it was a great benefit to the borrower.

A lot has gone wrong since 2006, hasn’t it? We did not doubt the advantage to our borrower then, but today, it sure is a different subject. Look, regardless if a disclosure is required or not, most of the industry for the past couple of years have been using the disclosure and the tool in confidence. The Reverse Mortgage industry has been pushing and trying from a secondary market stand point to go toward the forward way of doing business for the past four years. They are starting to succeed, unfortunately. Thank you once again for correcting me. You have a good evening.

Best regards,

John A. Smaldone

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