(This story is based on a transcript of an actual counseling session, but names, locations and other details have been changed to protect the privacy of the participants.)
A FEW MINUTES BEFORE 11 AM, DOROTHY BROWN opens the file of information provided by Anna Fox. Dorothy, a former banker, decided two years ago that she preferred providing help over selling products to clients. So she participated in a five-day reverse mortgage counselor training program run by Neighborworks, studied the 77- page HECM Handbook and 197-page HECM counseling protocol, passed the Department of Housing and Urban Development’s 100-question exam and was hired by Blue Sea Credit Counseling in her home town of Tampa, Florida.
Blue Sea (fictional name) is accredited by HUD as a national intermediary agency, which means it can provide counseling all across the country. Dorothy primarily counsels by telephone, and in addition to her required annual continuing education courses, has taken classes in engagement via telephone at a local community college.
Anna Fox and her husband divorced two years ago, just prior to her retiring from the art department at an ad agency in Jacksonville. As part of the settlement, Anna maintained sole possession of their home (since her ex-husband planned to relocate) and a portion of their savings. But even with social security, some earnings on the savings and freelance design work, she struggled to meet her monthly expenses. A neighbor suggested she explore eliminating her mortgage balance by taking a reverse mortgage. So Anna called a reverse mortgage lender she had learned of through an advertisement in the local paper and had a preliminary conversation with a loan originator. The lender told her that third-party, independent counseling was a requisite for obtaining the loan and gave her a list of 10 counseling agencies to choose from. Anna went online to the websites of the agencies on the list, starting with Blue Sea. She was impressed with what she read and filled out an online application for the appointment. She received an online confirmation for the appointment and a few days later received a package of preparatory materials in the mail.
The package included two booklets, “Preparing for Your Counseling Session,” published by HUD, and “Use Your Home to Stay at Home,” published by the National Council on Aging. Anna also obtained loan comparisons of different options, a loan amortization schedule and a Total Annual Loan Cost (TALC) document from the lender.
At 1 pm, when the phone rings in the kitchen of her one- story, ranch-style home, she feels prepared for her counseling session with Dorothy.
“Good morning, Ms. Fox, this is Dorothy from Blue Sea Credit Counseling.”
“Oh, thank you for calling, Dorothy, and please call me Anna.”
“Let me begin by telling you that my company, Blue Sea, is a HUD-approved nonprofit housing counseling agency authorized to do reverse mortgage counseling. We are not affiliated with any lender. And by going through this session you are not committing to the loan or any other services that we offer. Okay?”
“I understand,” Anna says.
“My role is not to tell you what to do,” Dorothy explains.
“My job is to make sure you have all the information you need so you can decide whether or not a reverse mortgage is appropriate for you. Would you like to proceed?”
“I definitely would,” Anna replies.
To guide her through the conversation, in addition to Anna’s documents, Dorothy has a checklist of topics to cover on her desk. The checklist includes, among other items:
- Determine the client’s needs and circumstances.
- Explain the features of a reverse mortgage.
- Explain the client’s responsibilities under a reverse mortgage.
- List all costs to obtain a reverse mortgage.
- Explain the financial/tax implications of a reverse mortgage.
- Point out the financial or social service alternatives to a reverse mortgage.
- Provide warnings about potential reverse mortgage/insurance fraud schemes and elder abuse.
Dorothy first verifies the information she has about Anna’s circumstances and needs.
Between her social security, earnings on her savings and an average of $600 per month in earnings from her design work, Anna brings in just about $3200 per month, pre-taxes.
Her expenses – mortgage payment, real estate taxes, home- owner’s insurance, utilities, car insurance, gas, phone, cable, Internet and community association dues – leaves her with little cushion. But by eliminating her $700 per month mortgage payment, she will give herself some breathing room and prevent her from needing to draw from her savings. And if, and when, she decides she no longer wants to do free-lance work, she can then dip into her savings.
Though Anna has loan comparisons from the lender, Dorothy walks her through each of the reverse mortgage payment options once again: explaining the borrower responsibilities, including timely payment of taxes, and insurance and upkeep of the home. Then she goes through the costs one-by-one, including the various interest rate options.
“Now, to be eligible, you must be at least 62. The house must be your primary residence, which means, if you have two homes, you spend the majority of the year – at least six months and one day – in this particular home. Any and all liens on the property, such as a mortgage, must be paid, as there are no in- come qualifications to qualify right now.
“FHA-prepared tables determine how much you can receive, based upon your age, the expected interest rate, the program you’ve chosen and the value of the home.
“There’s going to be an appraisal done by an FHA-approved appraiser. And that will be the final arbiter of the value. Is all of that clear, or do you need further explanation of eligibility and proceeds?”
Anna confirms she understands.
“Now, we’re going to take a look at the comparison of loans the lender provided you. As you can see, you have choices.”
Reverse mortgages are sometimes criticized for being complex, but what they really are is a bit quirky. “Counter intuitive,” is the way NRMLA president Peter Bell characterizes them. They do require some time to learn the specifics. But the reward for investing that time can be greatly enhanced financial security in retirement.
What makes them quirky? As Dorothy explains to Anna:
- With a traditional mortgage, as you make payments your loan balance decreases. Since there are no payments on a reverse mortgage until the end of the loan, as a result of interest, the loan balance grows. You can think of a traditional mortgage as a balloon that loses air. A reverse mortgage is a balloon that gains air.
- There are a variety of ways you can receive the proceeds on your loan: lump sum, line of credit, monthly payments, or a combination. And if you wish, you can change this at any time.
- There are various interest rate options to choose from.
- Though you are not making monthly payments on your balance, you must stay current on your real estate taxes and homeowner’s insurance policy and maintain the condition of the home.
- Closing costs are similar to those on any other mortgage, but in addition to interest there is an annual mortgage insurance premium. The premium can be paid out of the loan proceeds, which adds to the balance.
- But there is a great benefit to a reverse mortgage: At the end of the loan, you never have to pay off more than the current value or sales price of the home.
Anna has read the booklets and other documents she received prior to the counseling session and is well prepared. As Dorothy goes through the specifics as spelled out in the excellent and thorough HUD counseling protocol, Anna has few questions. When the counselor and client turn to the loan options prepared by the lender, Anna is leaning toward one particular scenario: a combination of an upfront draw to pay off the balance on her current forward mortgage, together with a line of credit for the balance that she can access if, and when, needed.
As Dorothy has said, an appraisal still must be done. Anna has been observing sales of homes like hers in the area and estimates her home value at $300,000.
“Now, using a home value of $300,000, your age and the expected interest rate, the principal limit you have avail-able is $164,700. How does that sound?” Dorothy asks.
“Okay,” says Anna.
“And then you’ve got three fees coming out of proceeds that are authorized by HUD. First is an origination fee. The formula for that is 2% of the first $200,000 in value, and 1% of the remainder, with a maximum of $6,000. So, per HUD’s formula, your origination fee would be $5,000.
“Then we have the initial mortgage insurance premium. And that is one-half percent of your home’s value, or $1,500.”
“And then you have your other statutory and customary closing costs as you would have with any mortgage. We’re approximating those for your area at $5,908.50. So from the principal limit we subtract out the fees. And then we have to pay the mortgage off for you. Remember, we said the reverse must be the only mortgage on the property.”
“I’m aware of that,” Anna confirms.
“So they’re going to pay the mortgage off for you. And what you have left after the payoff and the fees is $77,291.50. If you choose the credit line option, you would have access to $11,050 during the first year from the funding date. After 12 months you would have an additional $65,880 available.
“Meanwhile, any unborrowed money in the credit line will grow – at the same total rate that you’re going to be charged on what you borrowed. The growth is tax-free. Okay?”
“Fine,” says Anna.
“Insofar as the variable-rate options are concerned,“ Dorothy continues, “you can do it as a monthly variable or an annual variable. One would change monthly, the other annually.
“Both interest rates are based on an index. The index would be tied to the London Interbank Offered Rate, or LIBOR, which is an internationally recognized lending index.
“If you choose the monthly variable, it’s going to use the one-month LIBOR; today it’s approximately 0.154 percent. If you choose the annual adjustable, it would use the one- year LIBOR. Right now, that’s about 0.554.”
“Okay,” Anna says.
“And to those they add a fixed margin. Margins vary anywhere from 2¼ up to 3 percent. That’ll be something you’re going to discuss with your loan officer. So LIBOR, either a monthly or an annual, will be added to the margin. And that total will be your initial interest rate.
“And then you have the mortgage insurance premium of 1.25%. So every month, depending upon which option you’ve selected, you’re going to have a charge for interest, based on LIBOR plus the margin. You’re also going to have a separate charge for FHA’s mortgage insurance at the annual rate of 1.25% per year.
“One of the documents the lender sent you is called an Amortization Schedule. And that will show you these estimated charges on an annual basis.”
“I’ve reviewed that,” Anna says.
“And you understand that everything we’re going over today is based on estimates? Because what we don’t know right now is the actual value of the home. Okay?”
Anna nods and then asks, “Once the equity increases, can I apply for an extra loan? Let’s say the price of the house increases.”
“Yes. You can always apply for another reverse mortgage in the future. It’s still your property. You retain all your rights, just as we said earlier.”
“Okay,” Anna replies. “So let’s say I’m approved and I decide to do some renovations in the house, like changing the kitchen cabinets. Do I need to get approval from the lender after I already have the loan? Or will I have to pay a penalty if that exceeds the value of the house? How does that work?”
“No, no, no. The property is yours to enjoy as you wish. You understand?”
“I do. Thank you.”
“Your obligations are to keep the taxes and insurance up- to-date, your association fees up-to-date, keep the home in good condition, occupy it as a principal residence and live a long, long, long, happy, healthy good time.”
“That’s certainly my intention,” Anna says with a smile. Then Dorothy moves on to end-of-loan concerns. “Now, as you’ve been informed, this loan is due and payable if you sell, if you change the title, if you’re absent from the home for 12 consecutive months or, heaven forbid, pass away. When the home is sold to repay the loan, if the loan balance exceeds the value of the property at that time, FHA’s mutual mortgage insurance fund covers that, so there would be no debt or liability to you or to your heirs. Okay?”
“Once the reverse mortgage is in effect, you’re going to be dealing with the servicer of the loan. They’ll send a statement every month with a full accounting of the loan. And this is very important: When a reverse mortgage recipient passes away, the loan is due. The home would go to your heirs, who can be granted six months with two possible three month extensions if they are actively trying to refinance or sell. If they choose to keep the home, they’re going to repay the lower of the balance of the loan at that time, or 95% of the fair market value at that time, whichever is the lower of the two. Okay?”
“Okay. I understand.”
“If the heirs don’t wish to keep the property, they would sell it. Do you have any questions on that?”
“I think I’m clear on everything. I’ve got a bunch of in- formation written down,” Anna says, “and I want to digest it all. To be honest, I thought it would be a lot more complicated. But the way you explained to me, it’s all pretty straightforward.”
As required in the protocol, Dorothy then suggests alter- natives to a reverse mortgage that may be available to Anna: a home equity line of credit, selling the home and downsizing, and other senior living arrangements. Dorothy also spends a few minutes describing some elder abuse and fraud schemes that have appeared in the press.
The women have been on the phone for close to 90 minutes by now. Dorothy has a strong sense that Anna does have a clear understanding of her options and obligations.
“Now that we’re wrapping up, it’s going to be my chance to ask you some questions, if you don’t mind; a little quiz. All right?” Dorothy says.
“With a reverse mortgage, who owns the home?”
“Me. I do.”
“With a reverse mortgage, are you required to make payments?
“Correct. With a reverse mortgage, if you choose to make payments voluntarily, without a penalty, can you do that?”
“Yes I can.”
“Exactly. Okay, now, what are your obligations as a homeowner? What must you keep current at all times?
“I have to keep up-to-date with my real estate taxes, my homeowner’s insurance, and my homeowner’s association dues.”
“Now, the last and most important question: When the property is sold and the reverse mortgage is repaid, either by the borrower or by the borrower’s heirs, what happens if the balance of the loan at that time is higher than the value of the property?
“Can you ask that question again?”
“When the reverse mortgage is repaid through the sale of the property, whether by the borrower or the borrower’s heirs, what happens if the balance of the loan exceeds the value of the property at that time? Who covers that shortfall?”
“That’s what my insurance is for, right?”
“You got it.”
“Thank you,” Anna says.
“And I just want you to know, I am here and always available to you,” Dorothy declares. “I’m going to email you a Certificate of Counseling. Actually, I’m going to mail you two originals. If you elect to continue the reverse mortgage process you will need to give one to the loan officer you have chosen. Okay?”
“Okay,” says Anna.
“Keep the other one for your records. The Certificate of Counseling that we issue will be good for six months from today’s date. I will check in with you again to see what you decided and if you have any other questions.”
“Thank you so much,” Anna says. “I’m really excited. And this is going to be such a relief.”