Skirting reverse mortgage guidelines and falling through cracks
Two topics kicked around in hotel lobbies and coffee shops at the recent National Reverse Mortgage Lenders Association Western Regional Meeting & Expo in San Diego were how to sidestep a new restriction and how to solve an owner-occupancy issue that surfaces a few times a year.
The new restriction, in play since October, limits the amount of cash a borrower can take from a reverse mortgage in the first year. This number is known as your initial principal limit.
Typically, a borrower can take out up to 60 percent of the initial principal limit in the first year. If the amount owed on an existing mortgage (or other required payments) is more than 60 percent of this limit, the borrower can take out enough to pay off the mortgage (and any other required payments, including upfront loan fees) plus cash of up to 10 percent of the initial principal limit.
If borrowers choose an adjustable rate line-of-credit or monthly payout as their reverse mortgage program, they can access the remaining funds (the 40 percent left over) after the first year. But if they choose a fixed-rate, lump-sum loan, they are only able to access the amount permitted under the first-year withdrawal limits. The remaining loan potential is forfeited.
While lump-sum loans have been the preferred option, borrowers can qualify for more total cash if they choose a monthly draw or a line of credit. That’s because there is less risk of default if the money is doled out over time.
However, some lenders are “indirectly” informing borrowers that by waiting until the 13th month (eclipsing the first year restriction), they can tap into the remaining funds, essentially creating not only a larger pool of funds but a lump sum option in month 13.
The reason for the first-year cap on cash is because HUD discovered that loans where all, or a substantial portion, of the available funds are disbursed at closing have a higher tendency to end in default. Most seniors who took out reverse mortgages as a lump-sum, last-ditch effort simply spent the cash too quickly.
The loans are best used in concert with Social Security payments, pensions and other assets. HUD’s new guidelines were made to ensure that consumers can financially sustain themselves for longer periods of time in retirement.
Reverse mortgages are available to seniors 62 years-old and older with significant home equity. They are designed to enable elderly homeowners to borrow against the equity in their homes without having to make monthly payments as is required with a traditional “forward” mortgage or home equity loan. Lenders calculate how much borrowers are authorized to borrow overall, based on the age of the younger spouse, the interest rate, and home value.
How much can you borrow? A rough rule of thumb to estimate your maximum reverse mortgage loan amount is to use your age, minus five years, as the percentage you can take from your net equity depending upon how you take the distributions – lump sum, monthly draw, line of credit or combination of those.
For example, if you are a 75-year old person with a $200,000 home owned free and clear, the maximum reverse mortgage line of credit you could expect to receive would be $137,000 before closing costs. (Seventy percent – 75 minus 5 – of $200,000 gives you an approximate initial principal amount of $137,000).
The second topic of note discussed in San Diego was the percentage of condominiums that are owner occupied in order to receive a reverse mortgage. According to the Department of Housing and Urban Development, at least 51 percent of the units in a condo association must be owner-occupied in order for any unit to qualify for a FHA-insured Home Equity Conversion Mortgage (HECM).
In one example, a woman owned a home in a small development with 17 condominiums comprised of three different owners’ associations. That’s because the original builder put the buildings up in phases. The woman owned one of five units in the second phase.It turned out that only two of the five units were owner occupied, so the woman’s home did not qualify for the HECM.
As with just about any industry, some borrowers seek ways to work the system while others fall through the cracks.
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