Where is the reverse mortgage industry today and where is it headed? To answer these questions, one should first look at the history of the reverse mortgage industry and the underlying “drivers” that could spur future growth, as well as expected “drags” and potential unexpected obstacles.
ABSTRACT AND OVERVIEW
In this article I will review, briefly, the more recent history of reverse mortgages, particularly FHA-insured HECMs. I will outline where the industry stands today and provide some thoughts as to where I think the industry might be headed in the near and foreseeable future.
In summary, the industry continues to face headwinds (and I submit that the most significant of these obstacles are not specific to reverse mortgages, but are based on broader economic or forward mortgage industry issues). Despite the downturn several years ago in the broader forward mortgage market, the reverse space is thriving as the senior population continues to increase exponentially. Seniors are living longer and have higher rates of homeownership, but they have not saved enough for retirement and a significant amount of their net worth is tied up in home equity. Public sources of retirement support will increasingly become strained.
Thus, the current and future need for reverse mortgages as part of broader retirement planning and as a way to finance the senior population’s increasing longevity could not be more compelling. However, demographics do not equal destiny, and there are steps that reverse mortgage lenders (and the reverse mortgage industry as a whole) can take, not only to better serve this need, but also to protect themselves from unwanted and unwarranted threats to their professional reputation. Furthermore, trends in home prices, regulatory rulemaking and the return of a viable secondary market for all mortgages (not just reverse mortgages) will determine the future growth and profile of the reverse mortgage industry.
BRIEF HISTORY OF THE FHA HECM PROGRAM AND REVERSE MORTGAGES
Authorized by Congress and started as an FHA pilot program in the late 1980s, the origination of reverse mortgages remained dormant until the early 2000s. Almost 8,000 HECM loans were originated in HUD’s fiscal year 2001. However, annual volume of HECM loans reached approximately 112,000 in HUD’s fiscal year ending September 2008. [Additionally, in 2007, conventional (or so-called “proprietary” or jumbo) reverse mortgages accounted for approximately 16 percent of the reverse mortgage market on a dollar volume basis.]
If one were to advise a business leader that his or her market would increase by more than 1,200 percent in six years, certainly that would garner attention and interest. Nonetheless, HECM loan volume declined to 73,000 loans for HUD’s fiscal year ending September 2011. And while HECM volume is expected to be lower than 73,000 in 2012, as discussed below, in my view, the fundamentals for, and thus likelihood of, a significant increase in reverse mortgage volume beyond 2012 are well entrenched.
THE SENIOR POPULATION
As of 2010, there were 40.4 million seniors (aged 65 or older). At that time, this number represented 13.1 percent of the U.S. population. This is 1 in every 8 Americans. Since 2000, the number of U.S. seniors increased by 5.4 million or 15.3 percent, compared with an increase of 8.7 percent for the under-65 population. However, the number of Americans aged 45-64 who will reach 65 over the next two decades increased by 31 percent during this period.
Since 1900, the percentage of seniors more than tripled (from 4.1 percent in 1900 to 13.1 percent in 2010). That is an increase by a multiple of approximately 13 (from 3.1 million to 40.4 million). In 2010, the 65-74 age group (20.8 million) was 10 times larger than in 1900. In contrast, the 75-84 group (13.1 million) was 17 times larger and the 85+ group (5.5 million) was 45 times larger.
In 2010, there were approximately 57 million persons in the U.S. aged 60 and above, out of a total U.S. population of 310 million (or 18.4 percent). By 2020, that number is expected to increase to 76 million out of 341 million (or 22.2 percent).
In 2009, the average life expectancy of a person reaching age 65 was 18.8 years (20.0 years for females and 17.3 years for males). From 1990 to 2007 the death rates for the 65-84 age population decreased. In 2010, approximately 2.6 million persons reached and celebrated their 65th birthday, while in that same year, approximately 1.8 million persons 65 or older passed away, resulting in an annual net increase of 814,406.
In summary, seniors are living longer and the number of seniors is increasing.
HOMEOWNERSHIP RATES OF SENIORS
In 2009, 23.1 million households were headed by a senior. Eighty percent of these persons were homeowners. In 2009, 48 percent of senior households spent more than one-third of their income on housing costs (42 percent for owners). Furthermore, home equity has been and continues to be a major contributor to the net worth of seniors.
In 2009, approximately 65 percent of seniors (or more than 15 million people) owned their homes free and clear. In 2008, at its height, the annual HECM volume was approximately 112,000 loans, or roughly 0.7 percent of those potentially eligible reverse mortgage borrowers (factoring in an assumption that 500,000 seniors already had obtained a reverse mortgage). This does not include seniors who did not own their homes free and clear.
In summary, senior homeownership rates are much higher than the general population and many seniors have a significant amount of their net worth tied up in home equity.
REGULATORY, PROGRAM AND OTHER HEADWINDS
Today, if you are in the reverse mortgage business, you are in the FHA lending business. That means you are either an FHA-approved mortgagee or you work with an FHA-approved entity that sponsors your company. Therefore, you are subject to FHA HECM program requirements and administration. We have heard our share of criticism about HUD, but one must remember that the department is both an insurer and program administrator of HECMs, and as such has created and maintained a viable and important foundation for our industry. As a business partner, HUD has generally attempted to be responsive to industry needs. However, further program maintenance and innovation is needed. From accounting issues to continued funding of HUD-approved reverse mortgage counselors, the need for a hybrid HECM program and limited underwriting rules or guidelines, there is still some work left to be done. HUD cannot do all of this work on its own. It needs input, support, comments and feedback from the reverse mortgage industry.
The reverse mortgage industry’s increased dependence on HUD since 2008 is very much tied to broader trends and the downturn in the secondary and structured finance markets of the forward mortgage industry. In fact, for better or worse, the reverse mortgage market is somewhat tied to the forward mortgage market. Since the market downturn in 2008, the federal government has come to dominate the overall mortgage industry (including the reverse mortgage industry). Currently, a robust secondary and structured finance market has yet to return to the forward mortgage market. The return of forward mortgage securitizations is not transpiring quickly. The return of a viable market could be further stymied by regulatory uncertainty, particularly and more directly in the area of risk retention rules for securitizations, and indirectly?(at least for reverse mortgages) by the bureau’s finalization of the Qualified Mortgage definition under the Ability to Pay rule, as mandated under the Dodd-Frank Act. By year end, we should have more information on the contours and details of the bureau’s Qualified Mortgage rule. However, the mortgage industry may not have a clear picture of risk retention requirements until 2013.
Under those rules, issuers of securitizations could be required to retain 5 percent of the risk of any pool issued (which could be an impediment to all but the largest issuers), unless loans in the pool are Qualified Residential Mortgages. (Pools comprised solely of FHA-insured as well as Ginnie Mae-guaranteed loans will be exempt from the risk retention rules.) The definition of a Qualified Residential Mortgage must be finalized through coordinated rulemaking by several federal agencies (including HUD, the Federal Housing Finance Agency, the Federal Reserve Board and the SEC). These agencies proposed a Risk Retention rule in April 2011, but that rule has yet to be finalized. Due to hyper-technicalities in the Dodd-Frank Act, a Qualified Residential Mortgage as it applies to the Risk Retention rule can be no broader than a Qualified Mortgage in order to comply with the Ability to Repay rule. The bureau has announced that it will?issue an Ability to Repay rule by year?end, and the whole mortgage industry awaits the issuance of that rule with bated breath. That rule will affect the final definition of “Qualified Residential Mortgage” under the Risk Retention rule and will determine the characteristics of reverse mortgages that are not insured by the FHA but may be securitized, as well as the necessary financial wherewithal of those entities able to do so, for years to come.
In summary, while HUD supports and maintains the reverse mortgage industry today, further improvement and honing of the HECM program is needed. And there is a need and desire on the part of the industry to be able to begin private securitizations again. However, depending on ongoing rulemaking related to the Dodd-Frank Act, the ability to undertake private securitizations of reverse mortgages not insured by the FHA may be limited to larger and more financially viable institutions. In addition, the pricing of such private securitizations will have to compete with the “full faith and credit” guarantee provided by Ginnie Mae for FHA-insured, HECM-backed pools. In this regard, ironically, the hyper-technical twists of the Dodd-Frank Act (and required rulemaking) may directly conflict with the majority’s stated policy goal of reducing the government’s role in mortgage lending.
WE NEED A NEW ANCHOR TENANT
Shopping mall businesses use marketing strategies that are based on attracting and maintaining so-called “anchor tenants.” With the exit of Bank of America, Wells Fargo, and most recently, MetLife Bank, the reverse mortgage industry is currently in need of larger lenders to step up and take the place of these large bank lenders. That process was well under way since the exits of Bank of America and Wells Fargo. With the recently announced exit of MetLife Bank, that process needs to be adjusted. Of note is that these large bank exits were primarily driven by issues that were not related to the reverse mortgage business. The downturn in the overall mortgage market placed a great deal of pressure on Bank of America, primarily due to its acquisition of Countrywide just prior to the downturn. And, in a more recent side effect of the Dodd-Frank Act, Snoopy no longer wished to be a bank-holding company.
In my view, replacements for these large banks may begin to appear as early as the third quarter of 2012, and they should certainly be in place before the end of 2012.
SHORT-TO-CLOSE NO MORE: PROPERTY VALUES SHOULD CONTINUE TO RECOVER IN THE NEAR AND LONG TERM
Another current headwind to increased HECM production has been the challenge that some HECM applicants face with short-to-close situations. In some instances, the current amount of a senior’s outstanding forward mortgage lien is greater than the value of the property (i.e., the property is underwater). It is not possible for such a senior to obtain a HECM unless their current forward mortgage lender is willing to take a short payoff.
However, there are indications that some forward mortgage servicers are willing to accept short payoffs or accept a principal reduction through a loan modification. Furthermore, a more recent and strong trend of investors purchasing REO properties in bulk, and renting them out, should have the effect of stabilizing neighborhoods and home prices (especially in locations such as Southern California, Las Vegas, Nevada, Arizona and Florida). These trends, and the overall continued recovery of the housing market, should substantially reduce the number of seniors facing a short-to-close scenario, and thus become another driver of increased reverse mortgage production over the next few years.
RED INK RISING: FEDERAL BUDGET DEFICITS AND THE COST OF LONG-TERM HEALTH CARE FOR SENIORS
The U.S. federal government will continue to face budget and deficit challenges over the next 10 years and beyond. In 2011, the budget deficit was projected to be more than $1 trillion, and the federal debt had reached $15 trillion. Based on projections, federal budget deficits will continue for the next 10 years at a minimum of $700 billion per year, potentially reaching as high as $1 trillion a year. That will add an additional $7 trillion-$10 trillion to the current $15 trillion national debt. These trends are not sustainable over the medium or long term. The four primary drivers of budget deficits are defense spending, entitlements (such as Medicare, Medicaid and Social Security), interest on the federal debt and so-called “tax expenditures” (i.e., tax breaks under our complex tax code). Entitlements and interest on the debt are not discretionary. Defense spending and tax expenditures are discretionary. In order to correct this unsustainable trajectory and ensure that the United States does
not become a super-sized version of Greece, all areas of the federal budget will need to be reviewed and adjusted. Very difficult choices will have to made, including cuts to defense spending (such as ending undeclared “foreign wars” and high-priced weapons procurement programs), elimination of tax expenditures (including items such as the home mortgage interest deduction), and “welfare” reform (i.e., a leveling off or even reduction in benefits for Medicare, Medicaid and Social Security). The interest on the debt will not be reduced until the debt is reduced, and that will not occur for the next 10 years. As outlined above, the federal debt could nearly double over the next decade.
Add to these federal budgetary strains the distinct likelihood that health care costs will continue to rise and the public benefits used to assist seniors in paying for health care could become severely ??strained, the net result being a?reduction in federal health care provisions and a need for alternative sources for payment. One source of funding may be seniors’ available home equity. In my view, the availability and utilization of seniors’ available home equity as a source for long-term health care funding will increasingly become a larger part of the public policy budget debates.
As seniors move into the transitional “retirement red zone,” that period in one’s late 50s when one starts to take stock of their retirement profile and planning, some seniors will discover a shortfall or retirement funding gap created by merely relying on a combination of Social Security and retirement savings. Home equity, to the extent it exists, will have to be considered. Indeed, the well-documented publications of the Sacks brothers and Professor Salter prove and make clear that home equity must be considered in retirement planning and financing seniors’ longevity.
NEW (OR UNDERUTILIZED) PRODUCTS AND INITIATIVES
In 2008, Congress amended the HECM statute to provide for the HECM for Purchase program. Then, in 2010, HUD created the HECM Saver program. In my view, these programs have not been sufficiently marketed and are underutilized. Additional
HECM production appears to be there for the taking. Furthermore, we continue to see persistent interest in conventional reverse mortgages and other equity release programs. As described above, one of the main impediments to the introduction or reintroduction of these types of programs is the lack of a secondary market. In the shorter term, one would expect consumer need and investor demand to create a whole loan market in this area, and once the risk retention rules are clarified, I expect to see the reintroduction of some conventional reverse mortgage securitizations.
Notwithstanding recent, short-term and intermittent headwinds, everything works out in the end. If things do not appear to be working out, then it is not yet the end.
The demographics of the growth and trend lines of the senior population, their profiles, needs and related metrics, are compelling. Seniors are living longer, health care costs continue to rise, and many seniors own their homes free and clear but have a significant amount of net worth tied up in their homes. Despite a downturn in the overall mortgage market, and other challenges facing the reverse mortgage industry, I believe that the industry is poised to grow exponentially over the next five to 10 years.
This article is based on the personal views of Jim Milano and does not represent the views or opinions of the law firm of Weiner Brodsky Sidman Kider PC, or its clients.