Reverse mortgages have a relatively short history in the United States, beginning in a bank in Maine in 1961. The 1987 Housing and Community Development Act saw the federal government systemize reverse mortgages through the Home Equity Conversion Mortgage (HECM) program under the auspices of the US Department of Housing and Urban Development (HUD).
I intend to focus only on HECM reverse mortgages, which are tightly regulated and represent the bulk of reverse mortgages. I will not be discussing programs such as those offered through local governments to provide liquidity for a more limited purpose, or proprietary reverse mortgages, which may appeal to those with homes worth more than the $679,650 FHA lending limit on home values (as of January 1, 2018, and subject to change). (A HECM can be obtained on homes worth more than $679,650, but the funds available through the reverse mortgage will be based on the lesser of the home’s appraised value or $679,650.)
For more information, download our Reverse Mortgage 101 Cheatsheet.
In recent years, HUD has frequently updated the administration of the HECM program to address various issues and ensure that reverse mortgages are used responsibly. As a result, descriptions of the program can quickly become outdated, even if they are only a couple of years old. While older materials may explain the concepts adequately, they might be missing key changes. Most recently, important program changes that went into effect on October 2, 2017, mean that anything published before that date do not reflect important characteristics of the program for loan applications made since that date.
Lender standards have tightened, and the number of new reverse mortgages issued has declined after peaking around 110,000 per year in 2008 and 2009. Many borrowers at the peak were financially constrained and unable to keep up with taxes, insurance, and home maintenance. Among those who borrowed, many opted to take out the full available initial credit amount as a lump sum. After spending this down quickly, they were left with no other assets, which led to a number of foreclosures. On top of that, falling home prices meant that many loan balances exceeded the value of the homes being used as collateral when repayment was due, which put greater pressure on the mortgage-insurance fund.
Many older resources on reverse mortgages describe two versions: the HECM Standard and HECM Saver. The HECM Saver was introduced in October 2010 as a contrast to HECM Standard and in response to increased foreclosures. It provided access to a smaller percentage of the home’s value, substantially reducing borrowers’ mortgage-insurance premiums. It represented a step toward encouraging less up-front use of reverse mortgage credit, but it went largely unused by borrowers.
By September 2013, the Saver and Standard merged back into a single HECM option. The newly merged program provided an initial credit amount that was slightly larger than that of the HECM Saver but substantially less than the HECM Standard. Principal limit factors were recalculated to lower available borrowing amounts.
The government also sought to encourage deliberate, conservative use of home equity by implementing penalties and limits. If more than 60 percent of the initial line of credit was spent during the first year, the borrower was charged a higher up-front mortgage-insurance premium on the home’s appraised value (2.5 percent instead of 0.5 percent). For a $500,000 home with a $237,500 principal limit, the initial mortgage-insurance premium jumped from $2,500 to $12,500 if more than $142,500 was spent from the line of credit in year one—a $10,000 incentive to lower spending. In addition, borrowing more than 60 percent of the principal limit was only allowed for qualified mandatory expenses like paying down an existing mortgage or using the HECM for Purchase program.
Before September 2013, the HECM Standard mortgage had an initial mortgage-insurance premium of 2 percent of the home value, so the up-front costs for opening a reverse mortgage dropped significantly for those who could stay under the 60 percent limit after HECM Standard and Saver merged. Yet it still paled in comparison to the HECM Saver, as the new 0.5 percent up-front mortgage premium was considerably higher than the previous 0.01 percent value. So, while the new rules were designed to encourage more gradual and deliberate HECM use, the costs for setting up this opportunity relative to the HECM Saver increased.