REVERSE MORTGAGES. What is a reverse mortgage?

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1 REVERSE MORTGAGES THOMAS N. HERZOG FEDERAL HOUSING ADMINISTRATION WASHINGTON, DC What is a reverse mortgage? Under a reverse mortgage the bank sends checks to the homeowner. A reverse mortgage allows elderly homeowners to turn their real estate equity, often their only asset, into cash. The reverse mortgage is repaid when the borrower dies or moves out of the house. 1

2 WHY GET A HECM? PENSION PLANNING/STRATEGY NO GOOD **************************************** MEDICAL/HOSPITALIZATION EXPENSES EVERYDAY EXPENSES (FOOD/MEDICINE) HOME REPAIRS/IMPROVEMENTS LONG-TERM CARE INSURANCE PAY BILLS/CREDIT CARDS WHO IS DOING REVERSE MORTGAGES? FEDERAL HOUSING ADMINISTRATION (FHA) HOME EQUITY CONVERSION MORTGAGE (HECM) FEDERAL NATIONAL MORTGAGE ASSN. (FNMA) HOMEKEEPER MORTGAGE FINANCIAL FREEDOM SENIOR FUNDING CORP. JUMBO REVERSE MORTGAGES (California) 2

3 Reverse Mortgage Risks for Lenders Collateral Risk is the risk that the loan balance will exceed the property value at payoff. Interest Rate Risk with fixed rate mortgages this is the risk that interest rates will rise. If rates decline, this is the risk that the borrower will pay off the loan via a refinance. Term Risk is the risk that lenders will have to extend the maturity data of the reverse mortgage, thereby increasing the time lenders are subject to collateral risk and interestrate risk. Reverse Mortgage Risks for Borrowers Tenure risk is the risk that the borrower(s) will have to move because their mortgage has become due. Interest-Rate Risk pertains (1) if the contract interest rate is adjustable or (2) if the contract includes a risk premium on a fixed rate loan. Equity Risk is the risk that the property value of the home will not increase enough. 3

4 HECM Payment Options Tenure Term Line-of-credit Combination of (1) line-of-credit and (2) either tenure or term feature Payments are based on Age of the youngest borrower The interest rate Lender s share of house appreciation, if any, up to a maximum of 25%. The maximum claim amount which is the lesser of (1) appraised value of property and (2) maximum FHA-insurable mortgage on a one-unit residence in the geographic area. 4

5 HECM Premium Structure An upfront charge equal to 2% of the maximum claim amount plus A periodic charge of ½ % per year of the outstanding balance of the loan *************************************** For refinancings, the upfront charge is 2% of the increase in the maximum claim amount. Insurance Options of Lender: Assignment or Shared Premium Under the assignment option, FHA collects all of the premiums and lenders can assign the loan to FHA when the balance reaches the maximum claim amount. Under the shared premium option, lenders retain a portion of the periodic premium and are liable for losses that exceed the maximum claim amount. 5

6 How much can be borrowed? Based on principal limit which is the maximum amount that can be borrowed at closing and is calculated from a payments model. This model has as its basic constraint that (1) Present value of expected premium income is set equal to (2) Present value of losses resulting from future loan balances exceeding their collateral values. FEATURES OF HECM MODEL (May & Szymanoski [1989]) Annual house price appreciation is assumed to have a normal distribution with mean of 4% and s.d.of 1. Mortality rates are assumed to follow US female table increased by 3 to account for voluntary move-outs. 6

7 Estimated Principal Limits $100,000 appraised value, no shared appreciation, 1 interest rate (including servicing fee) Age of Borrower Months After Origination of Loan $24,700 $41,659 $54,102 $70,262 $28,000 $47,225 $61,331 $79,650 $34,200 $57,682 $74,911 $97,286 $41,600 $70,163 $91,120 $118,337 $50,000 $84,330 $109,519 $142,231 $58,900 $99,341 $129,013 $167,549 Estimated Maximum Mortgage Payments Selected Term Mortgages versus Tenure Mortgages $100,000 appraised value, no shared appreciation, 1 interest rate (including servicing fee) Age of Borrower Term in Months $452 $338 $ Tenure Mortgage $

8 HECM Features HECM program (1) reduces tenure risk to homeowners because they can not be forced to move and (2) allows homeowners to alter payment schedules to fit changing circumstances. HECM program provides insurance to lenders against both term risk and collateral risk. HECM Refinancings In 2004, HUD reduced the premium for HECMs that refinanced. This increased the number of refinancings as follows Over the period FY1990 thru FY2004, only 2,256 (2%) of the 115,472 HECMs insured thru 9/30/04 refinanced. During FY2005 and FY2006, 6,338 (3.7%) of the 236,500 HECMs insured thru 9/30/2006 refinanced. 8

9 Securitizing Reverse Mortgages Lehman Brothers 1st RM securitization SASCO 1999-RM1 deal by Lehman Bros Aug 1999 (rated by Moody's) $317m notes with $185m loan principal Lehman 4-5 RM securitizations from 1999 to 2006: seasoned RM loans Lehman reverse mortgage securitization RM1 named MBS deal of the year - $598m notes with $522m loan principal Private transactions MECA Securitization of HECMs 1st HECM securitization MECA 2006-SFG1 by Mortgage Equity Conversion Asset Corp Aug 2006 (rated by Fitch) $221M notes with $135m loan principal Sold to single investor, 10 AAA notes because HUDinsured (low risk) 2nd HECM securitization MECA 2006-SFG2 by Mortgage Equity Conversion Asset Corp Sep 2006 (rated by Fitch) $215M notes with $128m loan principal 3rd HECM securitization MECA 2006-SFG3 by Mortgage Equity Conversion Asset Corp Nov 2006 (rated by Fitch) $456M notes with $256m loan principal Private transactions 9

10 Planned GNMA Securitizations of HECMs 1st securitizations announced Oct 2006, issue planned for Summer 2007 Home Equity Conversion Mortgage Mortgage-Backed Security (HECM MBS) First non-private transaction Number of HECMs Originated (SelectedYears) Fiscal Year HECM Originated Total thru 1/31/2007 Number of HECMs Originated 157 4,166 6,637 13,049 37,789 76, ,475 10

11 Who is getting HECMs? Single females, single males, couples? Fiscal Year of Origination Proportion of HECMs Originated Gender of Borrower Single Female Single Male Couples* 57.3% 16.6% 26.1% 56.5% 13.5% % % 51.3% % 48.5% 15.1% 36.1% 44.2% 16.5% 38.6% How old are the people who are getting HECMs? Fiscal Year of Origination Average Borrower Age

12 HECM Property Values Fiscal Year of Origination Average Property Value $108,700 $124,800 $141,700 $178,000 $219,400 $289,700 Average Maximum Claim $84,200 $105,400 $124,600 $151,300 $182,200 $235,600 How Long Do HECMs Last? Median Term of a HECM Single Female Borrowers Age at Loan Origination (in years)

13 HECM MODELS SZYMANOSKI AND MAY [1989] DIVENTI AND HERZOG [TSA ] ABT Associates [] DIVENTI & HERZOG STOCHASTIC SIMULATION MODEL KEY FEATURE IS USE OF TWO-STAGE MODEL TO SIMULATE HOUSE PRICE APPRECIATION RATES FIRST STAGE (MULTIVARIATE NORMAL) -- SIMULATES ANNUAL MEAN PRICE APPRECIATION RATE SECOND STAGE (UNIVARIATE NORMAL) -- SIMULATES PRICE APPRECIATION OF INDIVIDUAL HOUSES WHERE MEAN IS RESULT OF FIRST STAGE OF MODEL 13

14 Abt Interest Rate Transition Matrix Probability of Change in Interest Rate Given Current Level Current Change in Interest Rate Level <3.5% to -4% -.5 to -1.25% 1% -0 to -1.25% 18% 0 58% 0 to.5% 23%.5 to 1.25% 1% 1.25 to 2% 3.5 to 5.25% 3% 2 48% 27% 1% 5.25 to 6.5% 1% 29% 38% 31% 2% 6.5 to 8% 5% 34% 27% 29% 5% >8% 5% 14% 22% 18% 25% 9% 7% Abt House Appreciation Rate Transition Matrix Current Level <.5% Shock (in addition to correlation with interest rate change) -2.5 to 1.5% -1.5 to -.5% 6% -.5 to 13% 6% 0 to.5% 19%.5 to 1.5% to 2.5% 6%.5 to 1% 11% 32% 11% 26% 16% 5% 1 to 1.5% 22% 22% 22% 28% 6% 1.5 to 2% 17% 17% 25% 33% 8% 2 to 3% 14% 5% 33% 1 33% 5% >3% % 15% 5% 15% 14

15 OUTLOOK FOR HECMS 15