A roadmap for HECMs.
One year after Congress expanded the number of Home Equity Conversion Mortgage (HECM) loans that the Department of Housing and Urban Development (HUD) could insure from 2,500 to 25,000, there is much progress to report. The volume of HECM loans originated each year has been increasing steadily, and a growing number of lenders are applying for commitments from HUD to insure HECM loans. As originally authorized, the Home Equity Conversion Mortgage Insurance Program (HECM program) allocated only 50 loans each to 50 lenders chosen through a lottery system. This limited access and the initial hurdles that had to be overcome in setting up the new program resulted in many lenders, even some of the selected pilot lenders, not participating. Because of the expansion of the HECM program, the apparent demand by our nation's seniors, the ironing out of programmatic kinks, and the development of a secondary market HUD-approved lenders can now readily originate an unlimited number of HECM loans.
In addition to HUD, there are several other key players that have allocated resources and manpower to the development of the HECM program and who are committed to its success and expansion. These players, as well as the legal and operational tools necessary for lender participation in this complex but valuable program, are the focus of this article.
The HECM loan program
The HECM loan is a reverse mortgage loan available to borrowers 62 years or older who own their homes free and clear or nearly free and clear. There is no income restriction imposed on borrowers, but all borrowers must be on the title to the property. Repayment of the loan is not required until the property is no longer the principal residence of any of the borrowers. The noteholder may only look to the property for repayment of a HECM loan.
The borrower can choose to receive advances under four different plans: (1) a "term plan," under which the borrower receives monthly payments for a set number of years chosen by the borrower, (2) a "tenure plan," under which the borrower receives monthly payments for as long as the borrower maintains the property as a principal residence, (3) a "line of credit plan," which allows the borrower to draw advances at any time and in any amount and (4) a "modified term" or "modified tenure" plan, which combines a line of credit with scheduled monthly payments under either a term or tenure plan. Borrowers may freely switch from one payment plan to another at any time during the loan term.
The HECM program permits both fixed- and adjustable-rate loans, but only adjustable-rate loans have been originated, primarily because Fannie Mae will only purchase adjustable-rate HECM loans. Annually adjusting HECM loans must include 2 percent annual and 5 percent lifetime rate caps. The initial interest rate is set at closing based on the U.S. Treasury securities rate adjusted to a constant maturity of one year plus a margin which Fannie Mae has currrently set at 1.6 percent.
The HECM loan requires the execution of two notes, each of which is secured by a separate mortgage or deed of trust on the borrower's principal residence. The first note and mortgage are given to the lender; the second note and mortgage are given to HUD for those situations in which the HECM loan is assigned to HUD or HUD must assume payments under the HECM loan. Lenders originate the loans and HUD insures them, thereby effectively removing the risk that lenders will not be repaid.
This risk is further diminished by the assignment option, under which the lender or subsequent noteholder assigns the loan to HUD, files, a claim for insurance and is reimbursed for the entire outstanding balance. This option is available when the outstanding principal balance reaches 98 percent of the maximum claim amount, which is the lesser of (i) the appraised value of the home or (ii) the maximum principal limit set by HUD under Section 203(b)(2) of the National Housing Act for single-family homes in the county in which the property is located. Lenders are always protected by the HUD insurance feature up to the maximum claim amount even if the outstanding balance exceeds proceeds of a sale of the property. HUD repays lenders out of the mortgage insurance premiums (MIP) collected under the HECM loan, which are comprised of an initial 2 percent MIP at closing and .50 percent monthly MIP.
An additional simplification over forward mortgage lending is the absence of any underwriting. As long as the borrower meets the age requirements, owns his or her home outright or has an existing first mortgage that can successfully be paid off with an initial advance under the HECM loan, and does not have any delinquent federal debts that cannot be cleared up at closing, the borrower will be approved by HUD.
The untapped market
In evaluating their participation in the HECM program, lenders initially need to understand the market for HECM loans. The HECM market, which includes 11 million eligible seniors today, 73 percent of whom own their own homes outright, continues to grow as the U.S. population ages. A recent study done by the American Association of Retired Persons (AARP) indicates that 86 percent of senior citizens desire to remain in their homes as they are rather than sell their homes and move to a warmer climate, as conventional wisdom assumes. A HECM loan often is the only means by which seniors in need of cash can remain in their homes and tap the equity that they have built up over time.
Lenders who have begun originating HECM loans have found that a pent-up demand exists. New lenders are finding they cannot originate HECM loans fast enough to meet demand. Approximately 1,300 HECM loans were originated as of the end of December 1991.
In addition to the existing demand and interest by potential borrowers, there are other reasons to participate in the HECM program. Favorable community involvement and providing assistance to an often overlooked segment of the borrowing population--elderly community members typically of low or moderate income--contribute to good public relations and can also contribute to a better rating under the Community Reinvestment Act.
The players and the hurdles
In originating HECM loans, lenders are best served by designating a small, self-contained staff to deal with the HECM program. HECM personnel must put aside their knowledge of forward-mortgage FHA procedures and focus on the HECM-specific materials that HUD provides in Handbook 4235.1 on Home Equity Conversion. Because of the uniqueness of the HECM product, lenders who are not yet HUD-approved need not think that their lack of knowledge of FHA procedures puts them at a disadvantage. Those lenders who are not Fannie Mae-approved can originate loans and sell them to a Fannie Mae-approved lender.
HUD is still in the process of training all of its field offices for participation in the HECM program. Although some lenders have encountered inexperienced or untrained HUD personnel in earlier loan deliveries, the HUD regional offices are gaining knowledge through training and experience as additional HECM loans are delivered. HUD anticipates designating a person in each office who will deal solely with HECM loans. In connection with this effort, AARP has been instrumental in developing training programs for HUD personnel and the counselors who provide the required counseling to the HECM applicants.
Each borrower must attend a counseling session and provide a certificate of counseling as a prerequisite to approval for a HECM loan. The counseling process, although imperfect, is a valuable aid to lenders in (1) helping borrowers determine whether a HECM loan is right for them and overcome fears of incurring debt and possible foreclosure, (2) answering the myriad of questions that an unfamiliar product can generate, and (3) serving as a prescreening function. Currently, counselors are in place in each state, but not necessarily in all the local areas where lenders have already started offering HECM loans. HUD and AARP continue to train additional counselors to eliminate the scarcity of counseling services in certain areas.
In addition to these origination-side participants in the HECM program, there are several secondary market members whose participation has been critical to the program's growth and expansion. Fannie Mae, as part of its $10 billion affordable housing initiative, has committed to purchase the HUD-insured HECM loans, thereby creating a secondary market for originators who do not want to maintain and continually fund HECM loans in their own portfolio. As of the end of the fourth quarter of 1991 (the latest statistics that were available when this article went to print), Fannie Mae has purchased approximately 900 HECM loans. The numbers do not reflect the significant increase in the pace of loan originations in recent months; Fannie Mae purchased almost twice as many loans in the third quarter of 1991 as it did in the second quarter and saw an increase of 65 percent in the fourth quarter of 1991 over the third quarter. Although Freddie Mac has announced its participation in the HECM program and has promulgated guidelines for purchasing HECM loans, it has not yet purchased any loans.
Some lenders may have originally been hesitant to get involved with the HECM program because of the complex servicing operation that is required by certain features of the HECM program. The borrower's ability to switch payment plans at any time (requiring new calculations), the lender's disbursement of monthly payments to the borrower and to HUD for the monthly mortgage insurance premiums (instead of processing payments from the borrower to the investor), the sending of periodic Truth-in-Lending disclosure statements and annual statements and dealing with the disposition of the collateral at the end of the loan cause the servicing of HECM loans to be more complicated than servicing forward mortgages.
While a few lenders, such as Unity Mortgage Corp., Atlanta, Executron Mortgage Network, Inc., Bloomington, Minnesota and Prudential Mortgagee Company, Inc., Hempstead, New York, are servicing their own HECM loans, Wendover Funding, Inc. in Greensboro, North Carolina is purchasing HECM servicing from, or is subservicing HECM loans for, most other HECM originators across the country. Wendover has also set up a correspondent program through which lenders originate in their own name and then sell the HECM loan to Wendover; Wendover then sells the loan to Fannie Mae and retains servicing for the life of the loan. Through this correspondent program Wendover provides training, document preparation and a streamlined method for lenders to originate HECM loans without experiencing many of the administrative costs or burdens. Wendover also serves as an available conduit for those HUD-approved lenders which have not received Fannie Mae approval.
The legal environment
Having mastered the essential elements of the HECM program, lenders must turn their attention to the legal issues involved in offering HECM loans before they can lawfully begin origination. The HUD HECM Handbook sets out the basic requirements that lenders must follow at each phase of the HECM loan from application, through loan approval, closing, servicing, assignment to HUD and processing due and payable mortgages. It also contains model HECM loan documents that lenders must use as a basis for their own HECM forms. HUD does not provide any of the Truth-in-Lending disclosures required for the program.
Although HUD does provide lenders with the model loan documents, the documents must be conformed to satisfy state law requirements. In adapting the model documents to state law, it is important for lenders to carefully review HUD mortgagee letters that provide updates to some of the model documents, relevant Federal Register sections, and state statutory and regulatory materials, which will be discussed in more detail.
In addition to the model loan documents, the HUD HECM Handbook contains several notices that must be provided to the borrower at various stages of the loan process and certain other documents that the borrower must execute, such as the payment plan agreement. These documents should not require any modification and are ready for copying and use by lenders.
RESPA and Truth-in-Lending requirements
The HUD HECM Handbook references the Real Estate Settlement Procedures Act (RESPA) and the Truth-in-Lending Act (TILA) and requires compliance with both statutes. It is in this area that lenders must use the most caution because the HUD HECM Handbook contains requirements that vary from what is normally required under RESPA and does not accurately reflect the applicable TILA requirements.
Although most sections of RESPA do not apply to HECM loans because HECM loans are not purchase-money loans, lenders must nonetheless comply with certain RESPA requirements prescribed by the HUD HECM Handbook. HUD requires that two RESPA disclosures be provided to borrowers under the HECM program. The HECM Handbook instructs lenders to provide borrowers with a good-faith estimate of settlement costs within three business days of providing an application to the borrower. This timing requirement differs from that under RESPA, which requires that the good-faith estimate of settlement costs be mailed, or provided, to the applicant within three business days of receipt of an application. A copy of the good-faith estimate signed by the borrower must be submitted with the application package for HUD review. Allowable settlement costs are generally the same as those allowed in HUD Handbook 4155.1 Rev-3, Mortgage Credit Analysis for Single-Family Properties, with certain exceptions. These costs are discussed in the sidebar.
The HUD-1 Settlement Statement must also be provided under the HECM program. The lender must prepare the HUD-1 at least one business day before closing for the borrower's inspection if requested, and it must contain a special addendum with borrower and settlement agent certifications of truth and accuracy. The HUD-1 must be provided to the borrower at closing.
Note also that RESPA now requires lenders to provide borrowers with the prescribed servicing transfer disclosure at application and with a notice of transfer of servicing either at loan closing or at least 15 days prior to the time that the servicing is actually transferred.
The TILA requirements that apply to HECM loans are more complex than the RESPA requirements imposed under the HECM Handbook. The Federal Reserve Board has opined to HUD that the HECM program is open-end credit because the line of credit feature may be accessed at any time and, to the extent the borrower repays the outstanding balance, the borrower can re-borrow additional funds. Accordingly, open-end credit Truth-in-Lending disclosures are required and, because HECM loans are secured by the borrower's residence, the home equity line of credit (HELOC) disclosures and substantive rules also apply. Open-end rescission rules apply, and periodic statements must also be provided by the HECM servicer. Because the requirements for open-end credit differ significantly from those for closed-end credit, the characterization of the HECM program as open-end credit may cause some problems if lenders are otherwise unfamiliar with the open-end credit requirements of Regulation Z.
It is critical that lenders understand the Truth-in-Lending requirements when going forward with the HECM program because the HELOC rules are somewhat complicated when applied to HECM loans, and there can be compliance violations and automatic statutory penalties if the Truth-in-Lending requirements are not satisfied. To complicate the task, the HUD HECM Handbook incorrectly requires that an ARM disclosure, which is applicable only to closed-end credit, be provided and includes an ARM disclosure as an appendix. A subsequent HUD mortgagee letter instructs lenders to ignore this appendix and provide the appropriate open-end disclosure.
The HELOC disclosure rules require that disclosure be provided twice in the loan process. Full HELOC disclosures, signed by all borrowers, and the HELOC brochure, must be provided when an application form is first provided to the consumer. The HELOC disclosures include payment terms, conditions under which the lender may terminate the plan and accelerate the outstanding balance, limits on transactions, tax implications, fees imposed by the lender and third parties and a statement that negative amortization may occur. The content of the HELOC disclosures requires tailoring to fit the HECM program. The commentary to Regulation Z allows for certain assumptions and special rules for reverse-mortgage loans such as HECM loans, but does not exempt them from coverage.
The general open-end credit disclosures must be provided before the first transaction, which typically occurs at closing. These disclosures required at closing include information about the finance charges and how they are determined, balance computation methods, periodic and annual percentage rates, other charges imposed, security interests and a statement of billing rights. In addition, as long as the borrower is given the HELOC disclosures at application in a form he or she could keep, only certain HELOC disclosures need be redisclosed at closing. Otherwise, a complete set of HELOC disclosures is required at closing.
The variable-rate disclosures required for HELOCs are similar, but not identical, to the ARM disclosures that apply to closed-end credit. The required variable-rate disclosures include: (i) the index and a source of information about it, (ii) a statement that the rate, payment or term may vary, (iii) a disclosure of the frequency of rate changes and an explanation of how the rate will be determined, (iv) a statement that the annual percentage rate does not include costs other than interest, (v) a minimum payment example for a $10,000 balance and (vi) a 15-year historical example.
Other disclosure requirements
Pursuant to the Cranston-Gonzalez National Affordable Housing Act, HUD now also requires two additional disclosures regarding borrower liability and cost to the borrower. Lenders must disclose that the homeowner has no personal liability under the HECM program and that repayment of the debt may be enforced only through the sale of the property. The lender must also disclose the projected total cost of the HECM loan to the homeowner, expressed as a single, average annual interest rate based on the projected total future loan balances, for at least two loan terms and two different appreciation rates. The HUD HECM software package has been amended to automatically produce these total cost disclosures.
Post-closing disclosure requirements
After closing, the TILA and the HUD HECM Handbook require that certain disclosures be provided to the borrower. HUD requires an annual statement to the borrower by January 31 of each year summarizing the loan's activity during the previous year. The HUD HECM Handbook also requires a statement to the borrower after each line of credit payment, if the borrower has chosen this feature, setting out the remaining funds available under the line of credit.
Under Regulation Z, the lender must provide periodic statements to the borrower either monthly or quarterly, depending upon the servicer's procedures, as well as an annual statement summarizing the account activity during the previous calendar year. The periodic statement requirements and billing-rights error-resolution requirements must be modified somewhat to take account of the reverse mortgage aspects of the loan program. The HUD HECM Handbook also requires a notice of interest rate adjustments at least 25 days prior to adjustment; however, this is a closed-end Truth-in-Lending requirement and, therefore, is not appropriate and need not be provided.
As previously mentioned, the servicing of HECM loans is somewhat more complicated than the servicing of a forward mortgage. The servicer is responsible for disbursing to the borrower, by electronic funds transfer or by check, scheduled monthly payments under the term or tenure or modified term or tenure plans and advances under a line of credit plan upon the borrower's request. Late charges are imposed on the lender if the scheduled monthly payments are not sent to the borrower on the first business day of the month or if a line-of-credit payment is not made within five business days of receiving the borrower's request.
The servicer is also responsible for changing the borrower's payment plan at any time during the life of the loan upon receiving a borrower request for change in payment plan, or if the payment plan must be changed due to unexpected property expenses. HUD permits the servicer to charge the borrower up to a maximum of $20 for each plan change.
The servicer is also required to ensure that any repairs required to be made to the property are completed before funds for repairs are disbursed and must make sure that payments for taxes, insurance, special assessments or ground rents are paid, if the borrower has chosen to give the servicer responsibility for making these payments. If the borrower has chosen to retain responsibility for paying taxes and insurance, the servicer must ensure that these payments are properly made and must make these payments upon the borrower's failure to do so. In addition, the servicer is responsible for remitting the borrower's payments for monthly MIP to HUD. The servicer must also accept and process prepayments and must issue a repayment notice to the borrower or the borrower's estate when the mortgage is due and payable. If payment is not made within 30 days of the issuance of a notice of repayment, the servicer must begin foreclosure within three months.
In exchange for servicing these loans, lenders or servicers may impose a monthly servicing fee, which generally has been ranging between $25 to $35 per month. This fee must be established at loan closing and the amount necessary to pay the fee throughout the life of the loan must be calculated and set aside from the principal limit at closing. The amount of this fee is then added to the borrower's outstanding balance each month.
State law compliance
The HUD HECM Handbook specifically advises lenders to seek counsel's opinions to assure that state law has been reviewed and that the documents satisfy state law requirements. State law may require certain disclosures at the time of taking an application, at closing, or on the actual loan documents.
In addition to disclosure requirements, there are other state law issues that are crucial to the permissibility of the HECM program in each state. HUD does not have the authority to pre-empt state law requirements that might restrict or prohibit offering HECM loans or other reverse mortgages. These requirements include statutory or public-policy prohibitions on compounding interest or negative amortization, other usury laws, limitations on lien priority of future advances or restrictions on adjustable-rate mortgages. In states that impose such restrictions, lenders may be able to take advantage of the federal usury pre-emption under Section 501 of the Depository Institutions Deregulation and Monetary Control Act of 1980, the federal pre-emption of restrictions on alternative mortgage transactions under Title VIII of the Garn-St Germain Depository Institutions Act of 1982, or the state, itself, may exempt FHA-insured loans from certain state limitations.
There is also a lack of uniformity among the states with regard to reverse mortgage lending. Some states do not address reverse mortgage lending at all, and, therefore, many issues
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|Title Annotation:||home equity conversion mortgage|
|Author:||Axelson, Arthur B.; Moliken, Cheryl S.|
|Date:||Feb 1, 1992|
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